Saudi Arabia's Oversupply of Oil Has Little to Do With Economics and Everything to Do With Politics
Saudi Arabia drilled deep into its wells over the course of the past two years, driving oil prices down as a result. Was this a commercial decision? Did Saudi Arabia benefit economically from its oversupply into the oil market? Not at all, since Saudi Arabia now faces serious balance of payments problems given the reduced rents from oil and the continued demands on the Saudi exchequer for loyalty payments to its population. Discussions about decreased payments to the population, the possibility of tax demands on the rich and sale of parts of the Saudi oil company are indicators of the poor health of the Saudi exchequer. The Saudi reserves have now dropped below $600 billion, a four-year low.
Plainly, the Saudi oversupply of oil had little to do with economics and everything to do with politics.
What was the political gain for Saudi Arabia in forcing the price of oil to drop to perilously low levels for the oil producers? The squeeze was felt by its adversary, Iran, which is now ready to come out of its sanctions regime. But Iran had already produced its own exit from the oil squeeze. China and India continued to buy oil despite the sanctions regime, and both countries worked out innovative ways to settle payments outside the confines of the Western banking system (and the SWIFT wire networks, which had been closed off for Iran).
Low oil prices mainly struck the adversaries of the West; namely Russia and Venezuela, both of which had been busy creating alternative political worlds outside the tentacles of the West. The blow to Venezuela has been considerable, since its leftist government relied on oil revenues to finance its continental ambitions. Russia could cushion itself with increased oil sales to China, but even Russia’s exchequer suffered the decline of oil revenues and the sanctions as a result of the conflict over the Ukraine.
The deal, struck in Doha, Qatar, between Qatar, Russia, Saudi Arabia and Venezuela to freeze production levels is its own cessation of hostilities. It means oil prices will likely not slip further, and indeed might begin to rise. But this deal will be meaningless if OPEC does not go along with it at its summer meeting in Vienna. Indications suggest that if Saudi Arabia is committed to the deal, others will go along with it. Iran was initially uneasy about this deal because it wants to increase its own market share rather than freeze to present day (sanctions affected) levels. But voices in Tehran now make it clear that Iran will not block a deal of this magnitude, given that it is one more sign of a partial rapprochement between Iran and Saudi Arabia. This is not the beginning of a Grand Bargain toward a drawdown of animosity, but it is certainly a step backward from the shades of conflict.
Saudi Arabia finds itself caught in a bind. It denominates its oil profits in dollars (so-called petro-dollars). These petro-dollars are essential for the US Treasury, since they provide a great buffer against inflation within the United States. Saudi Arabia, therefore, would find it difficult to make novel payment agreements with its focus markets, such as China. China has been eager to denominate payments of big ticket items, such as energy imports, into its own currency (the Renminbi). Last summer, Russia accepted the Renminbi denomination rather than the dollar for its own oil exports into China. Angola, which is China’s second largest source of oil, has already agreed to adopt the Chinese Yuan as its second currency for domestic purposes. Both Russia and Angola, then, will do business with China outside the dollar network. Saudi Arabia cannot do so at the scale desired by China.
Saudi exports to the US have not increased as a result of the low oil prices. In fact, US oil production has increased in this period, despite the fears that low oil prices would destroy the economic prospects of oil from shale. Rumors that the Saudis had plunged oil prices downwards in order to break the shale oil and green energy industries now seem overblown. Saudi oil minister Ali al-Naimi said recently, “I welcome additional supplies, including shale oil.”
This is not a Saudi surrender to shale. The Saudis recognize the reality that the US market is no longer going to absorb additional Saudi oil. Even if Saudi Arabia cuts production, it is US shale that will increase for the US market. Saudi Arabia cannot rely on the US to buy Saudi oil, but the US continues to insist that Saudi Arabia denominate its oil profits in dollars.
If China begins to rely increasingly on Russia for its oil, and if those two Eurasian countries develop currency protocols for their trade that are outside the dollar, this will put Saudi Arabia in a very perilous position. Indications that India, which the Saudis see as a focus market, would join in this Asian network are worrisome for Riyadh. India already bought Iranian oil throughout the sanctions period, paying for this in Rupees and not dollars. New deals with Russia increase, as the Russians observe volatility in the Chinese market. All of this sets Saudi Arabia to the side.
The only silver lining is that Saudi Arabia has been aggressively trying to acquire stakes in oil refineries in China, which would guarantee access to the Chinese market. But would this refining capacity be sufficient if the Chinese are adamant that they would like to pay for oil with their own currency? Will the Saudis be able to disappoint the US Treasury by shifting its oil business from petro-dollars to petro-renminbi?
Major geopolitical shifts are in the offing. All eyes are on the cessation of hostility in Syria as an indicator of the drawdown of tension. There is no such conversation about Yemen. Meanwhile, beneath the drama of war is the infrastructure of reality, with quiet meetings in Doha and Vienna to settle a dispute that has deeply impacted the oil producers. The Saudis are caught between the old architecture of US unipolar power—with the United States military and dollar as the main pillars of stability—and the slowly emergent pillars of multipolarity. Its miscalculations in Syria and Yemen as well as in the Great Oil Civil War are a result of the Kingdom’s inability to see the continental shifts that are at work. Cessations of hostility are a realization that matters are no longer as they are.