While Saudi Arabia is busy pursuing a covert alliance with Israel, the “oil war” it has started with other producers, including the US, is already impacting the kingdom and the rest of the world.
What Riyadh is doing on the oil front will create more repercussions as the war drags on into next year, most of them economically bad for Saudi Arabia.
The Saudis are certainly not happy with the US due to the Iran nuclear deal. This is adding to their eagerness to ensure that US shale oil companies go bankrupt. However, Saudi policy seems to be falling short of its “grand” objectives, Salman Rafi wrote for Asia Times.
The scenario that appears to be developing goes something like this: Production of shale oil is on the rise in the US, and with Washington maintaining current levels of production, the Americans would be in a position to further cut its dependence on Saudi oil imports and other OPEC countries.
Hence, the US will surely be able to follow a more relaxed financial policy and much more relaxed foreign policy, especially with regard to the Middle East.
According to the data provided by the US Energy Information Department, US oil imports from OPEC have already fallen to a 28-year low. The US is pumping more oil and relying less on OPEC imports than at any time since 1987.
While the US imported 45.62 million barrels of oil every month from Saudi Arabia in 2005, the figure dropped to as low as 25.42 million barrels in January 2015. In June 2015, the import figure went slightly high again, reaching 32.32 million barrels of oil per month.
The overall trend for oil imports is certainly showing a heavy decline, thanks to the extra pumping of crude oil as well as increased production of shale oil.
With OPEC not ready to cut production and with low oil prices not affecting the US economy as much as Saudi Arabia’s, it seems that the Saudis are walking straight into the very trap they set for the non-OPEC oil countries, including US shale oil companies.
Saudi's Oil-Dependent Budget
There’s no way the Saudis could have directly manipulated oil production in the US. The only way they could make an impact was to increase production and knock oil prices further down.
With the Saudis depending on 90% of their budget collections on revenue collected from oil production sector, low prices were eventually going to hurt them.
Notwithstanding that the cost of Saudi Arabia’s oil production is the lowest and that oil shipments are much more convenient because of close proximity of seaports to oil wells, the low prices have already started to blowback on them.
With oil prices continuously falling, Saudi Arabia’s national budget is certainly going to suffer because of a high reduction in the annual revenue.
For instance, the kingdom earned almost 1.05 trillion riyals in 2014. The 2014 budget was prepared based on an estimated oil price of $103 per barrel. However, the 2015 budget was based on an oil price estimated at $80 per barrel.
Hence, the total revenue earned in 2014-15 stood at 715 billion riyals. With this fall in revenue, Saudi Arabia’s budget deficit may rise this year to 20% of GDP, or $140 billion. Highly reduced oil revenues have already forced the Saudi authorities to issue two series of government bonds in a row this summer.
Falling Prices
With global oil production set to increase following the lifting of sanctions against Iran, oil prices are expected to fall by another 21% from their current level next year, according to World Bank.
With Saudi Arabia set on pursuing its key strategy and unwilling to reduce its spending, especially on defense, it seems that its foreign exchange reserves will soon run out. This would cause Riyadh to fall a victim to the trap it was preparing for its two main rivals: Iran and US shale oil producers.
According to Saudi Minister of Petroleum and Mineral Resources Ali al-Naimi, lower oil prices in the short run will lead to higher prices in the long run because of reduced investments in the sector.
However, instead of driving producers of expensive oil from the market and feasting on a recovery in oil prices, the expected addition of Iranian oil to the market will knock prices down further. This will create a “between the devil and deep sea” situation for the Saudis. As a result, their economic situation will deteriorate further.
Costly Wars
Due to Saudi Arabia’s direct and indirect involvement in various wars across the Middle East and beyond, its defense spending is also reaching an all-time high. Saudi Arabia is now the world’s largest importer of defense equipment. Its spending is expected to reach $9.8 billion in 2015.
The Saudis are also keen on maintaining their expenditures in other sectors outside of defense areas. Despite the catastrophic decrease in oil revenues, they will not cut government spending on domestic sectors and will continue to subsidize healthcare and education.
If the trend continues, which all indications suggest, the Saudis will soon see their $672 billion in foreign reserves begin to evaporate.
To recapitulate, this is due to Saudi Arabia’s miscall about how non-OPEC oil producers would react to low oil prices. With the contract price of the US crude oil for delivery in 2020 still set at almost $62 per barrel, OEPC countries face hard times ahead.
The fear of the oil war backfiring was also clearly stated by a recent Saudi Central Bank stability report. It said: “It is becoming apparent that non-OPEC producers are not as responsive to low oil prices as had been thought, at least in the short run.
“The main impact has been to cut back on developmental drilling of new oil wells, rather than slowing the flow of oil from existing wells. This requires more patience.”
It is not clear what the Saudis can do to make “patience” a worthwhile policy option.
The one thing the Saudis also cannot afford to do at the moment is reduce their own oil production. If they cut production, shale oil producers from the US will replace them, dealing them a huge loss. A further loss to the Saudi economy will also have serious repercussions for Saudi adventurism in the Mideast and beyond.
With time running out, the Saudis are running out of options. The question is how long can they continue to play the “oil game”?
