Global Oil Implosion: Ripple Effects, & All…Peter Ogudo

Global Oil Implosion: Ripple Effects, & All…

We can, with all certainty, state that the primary causative factors for drop in oil prices are inherent in the following: (a) demand decreases, (b) supply increases, & (c) the fall of monopoly power of oil producing nations. According to a Hoover Institution article, between March 4^th& March 9^th, 2020 the Brent Crude (international benchmark), fell from $51.13 to $34.36 per barrel (a drop of 32.8%). Also, the West Texas Intermediate Crude, (the standard measure of US oil price) fell from $46.78 on March 4^th to $31.13 on March 9^th, 2020 (a drop of 33.5%). And, keen observers believe that both benchmarks have seen their worst day since 1991.

Demand Decreases

Basic economics dictate that the law of supply & demand surely will affect oil prices to change. When supply exceeds demand, prices will fall & vice versa, just like when demand outpaces supply, prices will rise. However, the principle of supply & demand when it comes to oil prices is superseded by oil Futures contract. A Futures contract is a binding agreement that bestows upon the buyer of oil to buy at a set price in the future, & both the buyer & seller are obligated in law to abide.

Unlike stocks & bonds, oil has the tendency to fluctuate back & forth, but we will look at oil’s contributory factor to slowing down world economy & same time look at the contemporaneous increase in demand for other substitute products. The main alternatives to oil & gas energy are nuclear power, solar power, ethanol, & wind power.  According to Investopedia, in the spring of 2020, oil prices collapsed amid Covid-19 pandemic & economic slowdown that ensured.

When it comes to oil production & prices, OPEC is a big influencer. OPEC is an organization of petroleum exporting countries made up of: Algeria, Angola, Congo, Equatorial Guinea, Gabon, Iran, Iraq, Kuwait, Libya, Nigeria, Saudi Arabia, the United Arab Emirates & Venezuela. By 2018, statistics show that OPEC controls almost 80% of the world’s supply of oil reserves. The cartel sets production levels to meet global demand & can affect prices of oil & gas by increasing or decreasing its oil production.

So, the twin contributory factors of Covid-19 pandemic & implosion from OPEC & its struggles with some outside forces are largely part of the causative forces that created decrease in demand. And, that begs the question, what are the outside forces?

Saudi Arabia, an OPEC member & Russia, a non-OPEC member formed a so called OPEC+ alliance in 2016 after oil prices plunged to $30 a barrel. As per latest CNN updates, since 2016 the two leading exporters have both agreed on supply cuts of 2.1 million barrels per day (bpd), but Saudi Arabia wanted to increase the number to 3.6 million bpd through 2020 to take account of weaker consumption. However, Russia fearing not to cede ground to American oil producers (known as Shale companies), refused & then stated that countries should produce as much as they please from 1^st April.   Meanwhile, US has become the number 1 oil producer in the world (China is the number 1 guzzler of oil in the world with roughly 10 million bpd) & is expected to pump about 13 million bpd in the first quarter of 2020. In retaliation, Saudi Arabia decided to slash prices in the range of $4-$7 a barrel, & is also planning to lift production to over 10 million bpd. Therefore, amid Covid-19, & in combination with variables such as closure of international trade, cancellation of flights, idling of factories in China, plus the goings-on inside OPEC cartel & OPEC+ alliance, a decrease in demand becomes inevitable.

Supply Increases

A weak dollar favors commodities & emerging markets, while a strong dollar favors US stocks & bonds, leading to drop in prices for commodities, including oil & natural gas. According to Investopedia, the economic recovery that followed global recession in late 2000’s sent oil prices back over $100, & it hovered between $100 & $125 until 2014. And, from then on it experienced another steep fall, due in part to stronger US dollars in 2013 & also oil glut that followed in 2014.

Unfortunately, China that used to be the #1 consumer of oil, due to its economic expansion & growth in 1^st decade of new millennium, began to scuttle. Ditto for many other large emerging economies that have all started demanding less oil, & hence more glut ensured. And, from the sidelines both US & Canada joined the fray by increasing their production. In US, private companies began extracting oil from Shale formations in North Dakota using a process known as Fracking. And Canada not wanting to be outdone, started extracting more oil from Alberta’s oil Sands (3^rd largest crude oil reserve in the world). Therefore, both activities from US & Canada put more downward pressure on world prices. And yet, Saudi Arabia (holds the world’s largest oil reserve) not wanting to be the biggest loser in all of this, in addition to producing oil at cheaper cost than US & Canada, decided that low oil prices brings more long term benefits than giving up market share. Saudi Arabia, therefore ramped up its production hoping to force out US & Canada due to their high costs.

As a consequence, as of September 2019, storage capacity to accommodate oil glut has reached 50% in Cushing Oklahoma & ditto for other storage capacities in countries with excess oil. Another potential contributory factor to supply increases could have beenthe impact of interest rates which are slightly correlated to oil prices. Increasing interest rates could have led to consumers & manufacturers spending less, & hence drivers spending less time on the road & leading to drop in prices.

OPEC & Allies

OPEC is hoping that nations outside the OPEC +, including US, Canada & Norway will also cut back on production in attempt to shore up prices. A CNBC article details how, as at early April 2020 OPEC & its allies have agreed to cut production by 9.7 million bpd. The cut, according to the article will start taking effect early 2020 & taper to 7. 7 million bpd from July to end of 2020, & 5.8 million bpd from January 2021 through April 2022. The 23-nation group will meet again June 10, 2020 to determine if further measures are needed. Even President Trump who was involved in brokering a deal between the two countries ( that together control one-quarter of global oil production, namely Saudi Arabia & Russia) , has hailed the agreement as havingthe potential to save thousands of jobs in the energy industry.

Winners & losers

Around the world, consumers will benefit from drop in global oil prices with abundance of cheap gasoline & travel as well as lower prices of the manufactured goods.  Obviously, Oil & gas prices have effect on macroeconomics’ bottom line, but oil price increases generally have increased inflation & reduced economic growth. In areas such as production, transportation, heating & others, costs tend to get high making producers to pass on the costs to consumers. And, this will in turn affect supply & reduce demand. Conversely, lower prices of oil & gasoline products can mean less drilling & less exploration due to higher cost of production per barrel. However, this will in turn lead to layoffs.

Note that because US is a barely a net exporter, most nations are still net importers. As per US Energy Information Administration, Net petroleum trade is calculated as the total imports of crude oil petroleum products minus the total exports of crude oil & petroleum products. But, US became a net petroleum exporter for the first time since records began in 1973. Now, let’s look at how other countries are faring so far as detailed by Oilprice.com

Canada is going through its worst recession where 5% of economic activities come from oil & gas sector. Canada’s oil industry which contributed US$77.4 billion (C$108 billion) in direct real GDP to the economy in 2019, or 5.6 % of Canada GDP was hit hard by the double ongoing supply-demand global shock wave over the past two months. Canada’s economy shrank by 9.8 % annually in 1^st quarter & is set for a 37.5% plunge in 2^nd quarter, making the economy to contract by 9%. Additionally, more than one million people lost their jobs in March 2020 with employment rate down by 3.3 % to 5.8% -the lowest since April 1997. Companies in oil sector are bound to slash capital expenditure & curtail production as demand crashes & storage is filling up. Even in spite of recent agreement to end global oil price war, there is still going to be liquidity issues as triggered by these market manipulations.

In the US, Marathon Oil has laid off over 200 employees. Overall, in the Texas oil industry over 2500 people have lost their jobs from a total of 13 companies due to rigs getting idled or wells getting shut in. Even the Norway’s Rystad Energy sounded a warning that as many as 533 US oil companies could go bankrupt if oil stays around $20 per barrel.

Latin America was also hit the hardest with a loss of 80 rigs. Colombia & Argentina made up the bulk of the losses –the rig count in Colombia fell by 21, & in Argentina by 38. Meanwhile, Venezuela is still struggling, &production has been in decline due in part to US sanctions. And, the global oil meltdown has exacerbated Venezuela’s problem in addition to Trump administration’s recent pressure on Chevron to wind down its entire operations in the country. Overall, Latin America’s refineries are aging & were operating below capacity levels even prior to the global pandemic & oil market meltdown. The region has a total refining capacity of 7.5 million bpd, but are now operating at about one-third of that capacity, according to Argus.

Unfortunately, for Nigeria where oil wealth can both be a curse due to twin evil of lack of diversified economy & mismanagement; & alsodue to dependency on oil as the central pivot to its mono-product economy, things are not looking really well either. The potential economic collapse could be so dire, destructive & untoward when it begins to unravel. According to a USA Today article, Nigeria has a proven oil reserves of 37.5 billion barrels (2.2% of world total) with daily production of about 2 million barrels where petroleum accounts for over 90% of the country’s $46.8 billion in exports. A Cleantechnica article entitled, “Africa Oil Curse, the example of Nigeria”, details how Nigeria is struggling with its oil curse.

Nigeria is about the size of state of Texas in US. Nigeria with over 200 million people, is a member of OPEC & largest producer of oil in Africa, &also the 13^th largest oil producer in the world. And, yet Nigeria cannot get its house together, financially, economically & politically. The few refineries in Nigeria are basically mismanaged, lack maintenance & upgrade & filled with endemic corruption but merely refine a measly 10% of Nigeria’s needs. That means Nigeria exports its oil & then re-imports same oil back once It has been refined. What a bummer, to say the least. And, it would be sort of remiss for us to talk about Nigeria’s oil without mentioning, well, the ongoing pollution in the oil-producing region in the Niger Delta with some offshore rigs going through ruptures, carnage, environmental degradation & attendant poverty in the areas –not to mention lack of infrastructural developments.

Corruption at the top is so endemic, widely distributed to a pandemic & pestilential level that it has eaten deep into Nigeria’s collective consciousness. Corruption is so predictable in Nigeria that it has almost become a cultural way of life. This is made possible with the crass collusion of the three branches of government as the worst culprits, in cohort withother office holders scattered in all nooks and crannies. It is sad that the emoluments & remunerations overpaid to the three branches of government in Nigeria could be enough to provide basic infrastructure such as roads, power, water, safety, health care, etc. Nigeria’s leadership has forgotten what time it is in this 21^st century,for not knowing that every society needs basic infrastructure to function, enable productivity, inspire innovation, encourage growth &basic quality of life for its citizens. Until Nigeria is blessed with quality, selfless, & visionary leadership things are no going to normalize soon.

And, for lack of patience for bad leadership, lack of structure, lack of vision & focus from those responsible for Nigeria’s growth, I shall call it a day for now with a soothing quotefrom Jose Micard Teixeira, “I no longer have patience for certain things, not because I’ve become arrogant, but simply because I reached a point in my life where I do not want to waste more time on what displeases me or hurts me. I have no patience for cynicism, excessive criticism & demands of any nature. I lost the will to please those who do not like me…I no longer spend a single minute on those who lie or want to manipulate…I do not tolerate selective erudition nor academic arrogance…and on top of everything I have no patience for anyone who does not deserve my patience”.

By Emeka P. Ogudo, Esq. Educator & Freelance Contributor
Los Angeles, California, USA
Ogudo_Peter@lacoe.edu