Coronavirus and the almost total shutdown of public life in many countries is affecting most sectors, but few as much as oil. What we have seen unfold over the past few weeks is worse than the perfect storm — it is a hurricane of epic proportions. Last week alone Brent lost 14 percent amid huge volatility.
Oil is the premier fuel of transportation. With most flights grounded, borders closed and road transport at a standstill, except for some freight, the result has been colossal demand shock.
Nobody has a handle on the extent of the decline in demand. The International Energy Agency’s March flagship report cut global demand by 900 barrels per day (bpd) for the year and by 2.8 million bpd for the second quarter. Some analysts and oil companies have flagged a decline of 12-13 million bpd. In reality, information from consumer countries trickles in slowly and unreliably. There is no idea of the eventual demand decline. An educated guess would be that it will far exceed the 10-12 percent of global production predicted by the gloomiest forecasts.
Saudi Arabia and Russia failed to reach an agreement at the OPEC+ meetings on March 6 to increase December production cuts of 2.1 million bpd by another 1.5 million bpd. The Kingdom reversed gear and said it would increase production to 12.3 million bpd and Russia is viewing increases of 500,000 bpd. Overnight markets went from OPEC+ providing stability by balancing markets to an all-out war for market share.
The Kingdom’s about-turn is understandable in the light that since OPEC collaborated with its 10 allies led by Russia under the framework of OPEC+, the Kingdom took the lion’s share of every cut in oil production. This led to loss in market share from which Russia and the US producers benefited most. Russia, for instance, replaced Saudi Arabia as the No. 1 supplier to China, arguably one of Saudi Aramco’s most pivotal markets.
US President Donald Trump is under increasing pressure to engage with Saudi Arabia from the shale industry, which fears decimation.
This all-out war for market share combined with devastation of economies by coronavirus resulted in a simultaneous supply and demand shock, which can best be described as Armageddon as far as oil markets are concerned.
There are big budgetary implications for economies depending on oil. Saudi Arabia announced budget cuts to the tune of $13.3 billion, slightly north of 5 percent of total expenditure. Russia will suffer, too, as indicated by the slide in the rouble. However, Russia is the biggest supplier of gas to Europe and has become increasingly concerned about US LNG deliveries to European markets. The US shale space is hard hit by the decline in the oil price. It will lead to bankruptcies and an eventual consolidation in the industry, which Russia hopes will lead to dwindling LNG exports to Europe. The future will tell whether these expectations will materialize.
Back to the Saudi-Russia standoff: At some stage cooperation between the world’s largest exporter and the second-largest producer of oil may resume. The coronavirus pandemic will lead to the biggest economic downturn in peace time since the depression, which is why the framework of OPEC+ may be a good collaborative network. However, there are no indications that Saudi-Russia talks will resume any time soon.
Last week OPEC Secretary-General Mohammed Sanusi Barkindo attempted a dialogue with the Texas energy regulator and US shale producers, which led nowhere. US President Donald Trump is under increasing pressure to engage with Saudi Arabia from the shale industry, which fears decimation. At this point all bets as to who will seek collaboration first are off.
These are unprecedented circumstances and nobody knows how long coronavirus will paralyze the global economy. In the meantime, we should not expect the oil price to recover substantially. Brent stood at 28.5 in early European trading, which is the lowest in 17 years and down around 60 percent from its January highs.
• Cornelia Meyer is a business consultant, macroeconomist and energy expert.