Much Less Expensive Oil: Boon for U.S., Bust for Middle East

When prices fall by more than half over six months, well, that’s a big savings for most people, and a large stimulus to the economy. Falling oil prices hurt some oil-dependent governments and oil industry companies, but the great majority of people and companies benefit.

Gretchen Morgenson in the New York Times asks “What’s So Bad About Cheap Oil?” The recent stock market downturn reflects fears of economic decline in Europe and Asia, rather than concerns about the U.S. economy. U.S. oil firms will be hurt, along with financial institutions whose loans fueled the shale boom of the last five years. But the upside overwhelms the downside. Morgenson cites an investment analyst:

… the economic output among oil companies and related businesses could decline by as much as $150 billion this year because of the oil price collapse. But an increase of about $400 billion is expected in other areas of the economy, he said. The net effect is double the annual value of the two percentage point payroll tax cut in 2011 and 2012, which provided a big increase to consumer spending.

If the President in his State of the Union address had announced a three-year 1.2 trillion dollar “stimulus program,” conservatives would be upset and Keynesians would cheer. Government stimulus programs require borrowing that later has to be paid back with interest. Plus government “stimulus” is politically-influenced spending that tends to benefit connected contractors more than the public. Let people spend their own money, say conservatives and libertarians.

Oil prices falling by half offers an ideal boost to everyday people and the overall economy. People choose how to spend money they save at the pump. No borrowing is required. Everyday people will purchase more goods and services and will likely pay down debt and save more. Many goods and services will cost less to produce, since transportation costs are dropping as gas and diesel prices fall.

Lower-income workers who often end up living further from work, and often drive older, less-fuel efficient cars, will save the most on their longer commutes. And housing prices should recover in distant suburbs.

A short-term challenge and cost from oil prices falling so far so fast is disrupted plans of people and firms who expected higher prices, and now have to adapt. Oil exploration and drilling companies are laying off thousands of workers. And car companies that have spent billions developing high-mileage hybrids and electric cars will have trouble recovering their investments with gas prices so much lower.

Solar and wind-power companies and enthusiasts expected to compete with $80-$100 a barrel oil, and now prices have dropped over half. Natural gas prices are down too. Solar and wind (and ethanol) companies have long relied on state and federal subsidies and mandates. Innovations and economies of scale lowered solar and wind prices significantly, but not nearly as fast as oil prices have fallen over the last six months.

So… in the U.S. energy and alternative energy companies will lose money and lay off workers. Those workers will have opportunities in other industries where lower energy prices encourage expansion and create new jobs.

In the Middle East, the dynamics are different, where mostly autocratic government rule, plan, regulate, and subsidize much of their economies. The U.S. Energy Information Agency (EIA) reports OPEC oil revenues in 2013 and 2012 were the highest ever:

Organization of the Petroleum Exporting Countries (OPEC) earned about $826 billion in net oil export revenues in 2013. This was a 7% decrease from 2012 earnings.. [Source.]

Of this, Saudi Arabia’s share in 2013 was $274 billion. The Saudis have ramped up government spending dramatically on various projects that may or may now yield enough to cover funds invested.

The next paragraph in the July, 2014 report is now way off:

Based on projections from EIA’s July 2014 Short-Term Energy Outlook (STEO), EIA estimates that OPEC (excluding Iran) could earn about $774 billion in net oil export revenues in 2014 and $723 billion in 2015 (unadjusted for inflation). These declines from the 2013 level are the result of projected declines in the call on OPEC crude oil production because of the large increases in non-OPEC production for 2014-15, as well as expected crude oil price declines that are also the result of declines in the call on OPEC crude oil production. 

Update EIA revenue projections for OPEC, published December 17, 2014:

$700 billion in revenue from net oil exports in 2014…  revenues for OPEC (excluding Iran) in 2015 are expected to fall further, to $446 billion, 46% below the 2013 level. Brent crude oil is projected to average $68 per barrel in 2015, down from $100 per barrel in 2014 and $109 per barrel in 2013.

So 2014 estimated revenue dropped from $774 to $700, and 2015 revenue estimates dropped from $723 to $446. and, this 2015 OPEC revenue projection is based on Brent crude oil prices averaging $68 a barrel. Yet the prices yesterday (January 20) dropped further to $46.47.

Recent U.S./Middle East policy has assisted in an unexpected way, thanks to Islamic State violence. Iraq’s Shia military dissolved and ran away from Sunni Islamic State fighters. The Kurdish military and Peshmerga fighters have been able to stop Islamic State, even without modern arms or the legal ability to export oil.

U.S. policy supported the Iraqi government in barring Kurdish forces access to modern weapons, and barred oil exports from Kurdish oil fields. The deeply corrupt Iraqi government wanted Kurdish oil revenue, and even claimed taxes due on overstated Kurdish oil production.

Kurdish battlefield success led to a December agreement allowing Kurdish oil exports:

 The central government reached an accord last month with the Kurds to allow increased oil exports through Turkey. The deal allowed for as much as 550,000 barrels a day of oil to be shipped through Turkey from northern Iraq, including 250,000 a day from the Kurdish region. [Source.]

An earlier post discusses U.S. policy toward Iraqi Kurdish territory, “Tough Times for Iraqi Kurdistan, and for U.S. Middle East Policies“

Iraqi and Kurdish Iraqi oil output is growing rapidly and Platts.com reports:

Iraq’s crude oil exports reached 2.94 million b/d in December, a new record high, taking the country’s 2014 monthly average to 2.517 million b/d, as the recent deal with Kurdish authorities begins to bear fruit.

The exports include 2.76 million b/d from southern Persian Gulf terminals, along with 180,000 b/d shipped from the Turkish port of Ceyhan, well-informed Iraqi oil sources confirmed to Platts Monday, January 5. 

Based on these figures, Iraq’s production during December is estimated at 3.4 million b/d, including 150,000 b/d of Kurdish crude.

Lower oil prices mean less oil income for the Iraqi and Iraqi Kurds governments. But with growing output, income has been growing.

The Bloomberg article quotes Iran’s oil minister on oil prices:

“If the oil prices drop to $25 a barrel, there will yet again be no threat posed to Iran’s oil industry,” Zanganeh told reporters on Jan. 19 at a conference in Tehran, according to the state-run Fars news agency. 

Similar claims came from the Saudi Oil Minister in late December:

Saudi Arabia’s oil minister, Ali al-Naimi, has said oil producers’ cartel Opec will not cut production even if the price falls to $20 a barrel. [Source.]

While it is true that the oil industries in most OPEC countries could survive $25 and even $20 a barrel oil, it is less than clear that their governments could.

The mostly-authoritarian OPEC governments relied on oil revenue to placate reformers during the Arab Spring. The Saudis are spending a large and unsustainable amount building various cities and petrochemical plants across the country. These were to provide jobs to the young Saudis (managing immigrant workers and operations).  More on OPEC petrochemical project in future posts.

It’s worth noting though that at prices over $80 a barrel, too many new oil production projects were profitable. Not only shale oil across the U.S. and oil sands in Canada, but various very deep water and arctic oil reservoirs looked attractive enough to attract billions of new exploration and development dollars.

Claims that OPEC will maintain production at $25 or $20 a barrel are likely made to shut down these very expensive long-range oil projects.