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OpEdNews Op Eds    H4'ed 3/10/20

Behind the Turmoil: Russia Provoked Oil Price Fall to Protect its Markets from US Frackers, which could now Collapse

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Last weekend, OPEC Plus, an expanded cartel of petroleum exporters, considered a plan for members to cut back on their oil production so as to support prices in the face of a slowing world economy owing to the novel coronavirus. The Russian Federation rejected the plan put forward by OPEC, insisting on continuing to export around 5 million barrels a day and on retaining its market share. The Saudi leaders, furious at Moscow's intransigence, decided to flood the market by cutting prices for favored countries like China and announcing a production increase to over 10 million barrels a day beginning April 1. That is the date that the current OPEC agreement on production quotas runs out.

The Russian resistance appears to have derived from fears that if they cut back exports and OPEC managed to keep the price high, US petroleum firms using hydraulic fracturing (fracking) would simply rush in to grab Russian markets in Europe.

BBC Monitoring translated the statement of Mikhail Leontyev the press secretary of the Russian oil giant, Rosneft, to the RIA Novosti news agency. He said Sunday after the OPEC Plus talks failed,

    "From the point of view of Russia's interests this deal is simply senseless. We are relinquishing our own markets, removing cheap Arab and Russian oil from them, in order to clear a space for expensive American shale oil and ensure the effectiveness of its production. Of course, even in the current conditions it could have been possible to reach some sort of agreement with partners. But the proposal that was made was not partner-like. Our volumes are simply replaced by the volumes of competitors. This is masochism."

So the theory that Russia provoked the price fall to harm US fracking companies is incorrect. They provoked it to avoid being harmed by the American producers, as they saw it.

Russia seems to have felt that the Saudi-OPEC proposal for production cutbacks was just too severe, and would only benefit the Americans. Fracking oil is relatively expensive, involving pumping water underground under high pressure. Infopedia explains that the average fracked well seems to have a production cost of $60 a barrel, although some fields can be exploited for as little as $40 a barrel. Fracking is an environmental disaster, leaving behind pools of polluted water and contributing to global heating by releasing masses of methane and by providing further petroleum to the world market. When burned, it releases heat-trapping carbon dioxide into the atmosphere. New York state has banned fracking.

In contrast, Saudi production costs are about $2.80 a barrel. So when Saudi Arabia sells a barrel of oil for $70 a barrel, it is making way more money than Occidental Petroleum, which has the upfront costs of $40 to $60 a barrel. Still, if you sell a million barrels at a $10 a barrel profit, that is $10 million, which is better than a kick in the head.

But at Monday's closing price of $36 a barrel, very few if any American fracked fields are making money, as Alexander C. Kaufman at HuffPost shows. Moreover, petroleum extraction has not been attracting much investment because a) it is embarrassing for investors to be known to be putting money into wrecking the planet's climate and b) European and American car companies are selling loads of new lines of electric vehicles starting in September, which don't use gasoline. As people buy and drive them they will throw petroleum prices off a cliff.

In part because of low investment funds coming in, some companies engaged in fracking, like Chesapeake Energy Corp. and Whiting Petroleum Corp., have had to take on a lot of debt. Their stock prices cratered on Monday, which will add to their woes.

Many fracking firms will go bankrupt if petroleum prices stay low for a year or more. Those that are highly leveraged and which have seen the value of their collateral much reduced may also have loans called in. Others will be more resilient because of deep pockets (ExxonMobil) or because they hedged for 2020. If $36 a barrel becomes the new normal the next couple of years and if this price point intersects with the EV onslaught, then fracking as an industry could be over with during the next decade.

Fracking allowed the United States to bounce back as a petroleum producer from 2006. Many ordinary oil fields had been depleted in the US, so that production was down to about 5 million barrels a day in 2009. The US uses about 21 million barrels a day of petroleum, mostly to fuel transportation. Now, with fracking, the US produced 12.1 million barrels a day in 2019. Although fossil fuel boosters keep saying that the US is now a net exporter of petroleum, that is ridiculous. It still imports about 9 million barrels a day more than it uses. And while it does export some oil, that is because it is cheaper to send Alaskan crude to, say, Japan, than to send it to New York. But then an equal amount is imported from places like Nigeria and Saudi Arabia. Also, there is a difference between petroleum and "petroleum products" such as distillate fuel and jet fuel. That is a minor part of the market, and in that small niche, the US did in December export slightly more than it imported. But the US is still very much dependent on imports for crude petroleum. If fracking ceases being profitable because of sustained oil prices of $36 a barrel, US production will shrink significantly.

In any case, the extra US production of some 7 million barrels a day over what was possible 15 years ago has contributed to keeping oil prices much lower than their 2014 high of $110 a barrel. Moreover, the US firms have horned in on the market share of other producers, creating resentments all around. And the US is increasing production by a million barrels a day, so if that goes on it really will be reducing both price and market share for Russia and Saudi Arabia.

In countries like Russia and Saudi Arabia, petroleum underpins their economies. Oil and gas constitute 30 percent of the Russian gross domestic product; for Saudi Arabia they are 50 percent of GDP. They are thus in a 15-year race to make as much money off their petroleum as they can before its value declines precipitously with the electrification of transportation and the shift to wind and solar.

That is the reason for which market share is more important to Moscow and Riyadh than simple profits per barrel, which are in a long-term downward spiral anyway. Say you had a million widgets that cost you a dollar each, which you had been selling at $10 a widget. Let's say you know that widgets will be worthless in 15 years. And lets say someone came along who would sell the widgets for $8 apiece, but couldn't go lower because they make them for $7 apiece. So what would be a logical move? Sell your widgets for $6 apiece, take the $5 profit on each, and drive out the competition so that you can sell all million widgets quickly before anyone realizes how worthless they are about to become.

Boom.

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Juan Cole is an American academic and commentator on the modern Middle East and South Asia.  He is Richard P. Mitchell Collegiate Professor of History at the University of Michigan. Since 2002, he has written a weblog, Informed Comment (more...)
 

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Fred W

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Lots of good information! But, and it's a bit of a quibble, but I wouldn't quite call Russia's refusing to support an OPEC production cut is "provoking" the price fall, especially when it was Saudi Arabia that really opened the floodgates. Cole uses that word several times, but that just seems like a bit of Russia bashing, although I understand why Russia may benefit from the falling price.

Submitted on Tuesday, Mar 10, 2020 at 7:39:51 PM

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shad williams

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Russia Just Told the World, "No." By Tom Luongo

Offers explanations that are opposite from Mr. Cole's article. I certainly don't know what the truth is, however Mr. Luongo's, Russia Just Told the World "No" might have been more to the point of substituting the US and the West in the title in place of word "World."

I think Mr. Cole's analysis is missing a several components that make it less likely to be a reflection of what is really going on. Google YouTube's, Keiser Reports for his long running critique of US wall street/Federal Reserve support for US fracking. Although the fed currency printing scheme may be able to prop up wall street investments in dry well fracking gone bad, no industrial is going to continue to buy overpriced low grade oil, especially when they may have to begin paying for it in gold.

So the theory that Russia provoked the price fall to harm US fracking companies is incorrect. They provoked it to avoid being harmed by the American producers, as they saw it.

The statement is illogical. If the world economy is about to recession with the silly Corona thrown in, low oil prices are not going to make a difference, especially since the Chinese are not going to prop up the west by buying its "cheap" oil. The Chinese have a strategic alliance with Russia and Iran. They were working on one with Italy, which may explain the Italian Corona Virus virility.

Also, the repugnant House of Saud should be leery of any austerity measures such as cutting production while the heads of its population are at risk of being bombed off their bodies by the Yemenis...so a potential drop in oil production is still in the offing, something the US military is powerless to stop unless it wants to go with stupid low yield nuclear. Seriously? Low yield nuclear? What other county is going to chase the US down that path? Low yield...another money grabbing boondoggle by the murderous insane elites.

Mr. Luongo other serious point is that the Russians have extricated their economy from the US dollar denominated sanctions racket and are in a position to attract investment.

I don't understand the Russian fascination for nuclear power, given Chernobyl.

Have you noticed that gasoline prices are already starting to tank? If the 16-wheelers stop rolling what difference does it make with a glut of oil production? Can the US balance its economy on cheap oil and fake money? Nyet, mofo. However the powers that should not be will continue their balancing act using fiat dollars stuffing the dollar fatted oligarchs with ttrillions of of their piggy bank paper fiat that they cannot unload before the music stops and they run out of chairs for their fat asses.

How in the F have we allowed such a**holes to take over "America"? Maybe it is not too late for us. John Whitehead is scary as usual.

Perhaps it will now be the people's turn...if we want to step up.

Submitted on Wednesday, Mar 11, 2020 at 8:21:57 PM

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shad williams

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My apologies for misunderstanding your points about market share. The frackers would be gone in a flash if oil settlements switched to gold...no more fiat bank loans hiding in the barrel price. Strangely the Saudis are proposing to increase production which is the opposite of their original plan to prop up prices. This would seem to be a concession to Russia which would kill off the frackers. We might see the Fed go negative very quickly...

Are solar and wind's life cycle infrastructure costs low enough to replace oil and gas significantly in 15 years? I would like it if it were so. Then there are the sourcing of raw materials, lithium, cobalt, platinum, gold...will the breakeven point of the various alternative energy sources be competitive with oil and gas' builtout pollution controls?

Submitted on Thursday, Mar 12, 2020 at 5:34:45 AM

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