Credit...
Chinatopix, via Associated Press
A week ago, at an emergency meeting of the OPEC’s Joint Technical Committee, Russia refused
to agree to the cartel’s proposal to reduce production by an additional
600 000 barrels per day (bpd). Explaining Russia’s position, Energy
Minister Alexander Novak said that in order to make such a decision, it takes time to evaluate the effect of coronavirus on the oil market.
An Elusive Asian Market
However,
even if the coronavirus turns out to cause more damage than the most
pessimistic estimates, Russia should still not further reduce its oil
production - on the contrary, it’s time to start preparing for a phased
exit from the OPEC+ deal. This is first of all, due to increasing
competition in the Asian market, where Russian companies have redirected
exports in recent years. According to BP, from 2016 to 2018,
Russia reduced oil supplies to Europe by 14 percent (from 177.4 million
to 153.3 million tons), while increasing exports to China and India
by more than a third (from 52.8 million to 73.8 million tons). A
similar strategy was employed by Saudi Arabia, which over the same
period managed to compensate for the reduction in supplies to Europe (by
1.7 million tons) with their total increase to India and China (by 4.7
million tons). The same applies to the United States, which last year
reduced its exports to China by more than twice their original value due
to trade war (5.8 million tons compared to 12.6 million tons in 2018,
according to Refinitiv). In the next couple of years, the U.S. will
inevitably increase exports, as a result of the Phase 1 trade deal, in
which China pledged to purchase $52.4 billion worth of oil, liquefied natural gas (LNG), and other energy products from the United States by the end of 2021.
The
increasing competition will complicate entry into Asian markets for
Russian companies that intend to monetize East Siberian oil reserves
through exports. This is not only the Kuyumbinskoye field of Gazprom
Neft and the Yurubcheno-Tokhomskoye field of Rosneft, but also the
Lodochnoye, Tagulskoye, Vankorskoye and Payakhskoye fields, which are
the basis of the Vostok Oil project, which in itself is worth 10
trillion rubles (over $157 billion), which will increase Russian GDP by
2% annually, according to the estimates
of Rosneft CEO Igor Sechin. The increase in production at these fields
will inevitably lead to non-compliance with the OPEC+ output cut deal,
which the cartel hopes will keep oil prices above $60 per barrel.
However, such a price level is disadvantageous for the Chinese and
Indian economies, which in 2019 showed the lowest growth rates over the
past 30 and 11 years, respectively (6.2% and 4.8%), according to data
from IHS Markit. This, in turn, slows down oil demand - the
International Energy Agency predicted a quarterly decline for China back
in December (from 13.84 million bpd in Q4 2019 to 13.53 million bpd in
Q1 2020), when the coronavirus had not yet affected the commodity
markets.
The US Market: A Dangerous Alternative
In this regard, the fall in oil prices will certainly spur
demand in India and China, and may therefore be beneficial for Russia,
for which the Asian market is the only reliable alternative to supplies
to Europe. The American market can hardly claim the role of being such
an alternative in the long run, even if in 2019, Russia entered the top
three largest suppliers of oil and petroleum products to the United
States, increasing exports from 9.9 million bpd in January to 20.9
million bpd in October, according to the US Energy Information
Administration (EIA). This jump in exports can be credited to the U.S.
sanctions on Venezuela, which since July 2019 has not delivered a single
barrel of oil or petroleum products to the United States. The same
applies to Iran, whose crude exports fell from 1.2 million bpd in
January 2019 to 0.1 million bpd in January 2020, according to Refinitiv.
If
the geopolitical situation changes, traditional suppliers will surely
return to the American market (which is a risk for Russian companies),
and at the same time they will face a decrease in US dependence on
commodity imports. In reality, this is already happening: in September,
American exports of oil and petroleum products exceeded imports for the
first time since 1973, when statistical observations began. In November,
net exports (exports minus imports) reached 771 000 bpd in the United States - in 2020 it will increase to 790 000 bpd, according to the February forecast
by the EIA, and in 2021 this number is expected go up to 1.16 million
bpd. It is likely that the actual figures will exceed forecasts, as
consolidation has already begun in the American shale industry, which
will in turn contribute to its financial recovery. This is evidenced not
only by the acquisition of Anadarko by Occidental ($57 billion), which
agreed to take over the debt of its former competitor, but also by the
recent transactions
between relatively small oil-producing companies in the Permian basin -
Callon and Carrizo ($2.74 billion), WPX and Felix ($2.50 billion), as
well as Parsley and Jagged Peak ($2.27 billion).
Coronavirus as a Catalyst for Change
Improving
financial stability will not only support the growth of oil production,
but also future exports. Besides consolidation in the shale patch,
increasing investment in the U.S. Gulf Coast export facilities is
expected to boost exports to 8.4 million bpd by 2024, according to last
year’s IEA forecast. This will help the United States come closer to
Russia and Saudi Arabia in terms of export volume (5.5 million and 7.2
million bpd, according to the BP data for 2018). For OPEC and Russia, it
is better to prepare for such a turn ahead of time than to wait for the
moment when the policy of reducing production will finally lose its
economic meaning. In this context, the coronavirus is just a catalyst
for processes that have been taking place in the market for a long time.
It is self-evident for Russia that it should move towards a phased exit
from the OPEC+ deal in order to prevent losing market share to its
competitors.
For OPEC, this is nothing new. It has seen its share
in global oil production fall from 38.6 percent in Q4 2016 (when the
first OPEC + agreement was signed) to 34.1 percent in Q4 2019, according
to Refinitiv, while the share of OECD countries grew from 27.6 percent
to 32.4 percent. A further decrease in market share will inevitably
reduce the cartel's influence on oil prices. Therefore, it is reasonable
for Russia to shift the responsibility for reducing oil production
entirely to Saudi Arabia, which, within the framework of existing
agreements, can expand its own quota for reducing production by 400 000
bpd (up to 900 000 bpd to the level of October 2018).
Such a
decision could be a first step towards a gradual suspension of the
agreements, which will allow Russia to compete in the global oil market,
and not just remain a passive witness.
By Dr. Fares Kilzie for Oilprice.com
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