Why Saudi Arabia and OPEC can dissipate Biden

Washington is on fire the day after the OPEC+ oil cartel’s Oct. 5 decision to cut oil production for the foreseeable future. OPEC+ includes 13 members of OPEC and 11 other nations, including Russia. Saudi Arabia is the group’s largest energy producer and its de facto leader. Russia is the group’s second largest energy producer.

Saudi Arabia appears to be doing Russia’s bidding by keeping oil markets tight and pushing up prices. Oil exports are the Russian government’s biggest source of revenue and a crucial source of funding for its diabolical war in Ukraine. Most of the Western world backs Ukraine, including tough sanctions meant to strangle the Russian economy. President Biden has called on Saudi Arabia to pump more oil, stabilize energy markets amid wartime disruption. The Saudi rebuke is a victory for Russian President Vladimir Putin and a political embarrassment for Biden ahead of the midterm elections. It also means that consumers in all countries supporting Ukraine will pay more for gasoline and other petroleum products in the coming months.

Biden said there will be “consequences for what they did with Russia“, without specifying what it could be. But Saudi Arabia, like it or not, retains tons of sway in U.S. and global energy markets, even as many countries strive to reduce fossil fuel use and stimulate renewable energies.

“We’re still going to have to make demands of these countries when we need more oil,” Helima Croft, head of global commodities strategy for RBC Capital Markets, told a conference. October 12 Columbia University Energy Conference. “Who is going to sit on the spare capacity? It will be a small number of Gulf producers and a handful of national oil companies that will continue to invest on a massive scale. This means that we will have to continue to dialogue with these countries.

Saudi Energy Minister Prince Abdulaziz bin Salman walks during a meeting with Russian Deputy Prime Minister Alexander Novak at the Saint Petersburg International Economic Forum (SPIEF) in Saint Petersburg, Russia, on 16 June 2022. REUTERS/Maxim Shemetov

Saudi Arabia has been an ally of the United States for decades, but Washington’s outraged heavyweights now feel shunned and vindictive. Democratic Sen. Joe Manchin of West Virginia, who chairs the Senate Energy and Natural Resources Committee, wrote Biden a open letter calling OPEC’s decision “reckless” and demanding that the United States increase its own energy production to counter OPEC. Senator Bob Menendez, a Democrat who chairs the Senate Foreign Relations Committee, wants “immediately freeze all aspectsof U.S.-Saudi cooperation, including U.S. arms sales to the kingdom. There is growing support in Congress, among both parties, for ““NOPEC” legislation it would give the US Department of Justice more tools to deal with OPEC price hikes.

Saudi Arabia, for its part, issued an unusual rebuttal on Oct. 13, saying the OPEC+ production cut was based on the economy, not political support for Russia. Saudi Arabia also said the US-Saudi relationship “is a strategic relationship that serves the common interest of both countries.” But the decline in production holds.

The slow abandonment of fossil fuels

Many Americans hear that the United States is the largest oil and gas producer in the world – which it is – and think there must be something wrong with government policy if we can’t. not keep domestic energy prices low. For the most part, however, the problem is not government policy. It’s the rapidly changing nature of global energy markets and the risks investors face if they make the wrong bet.

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The world is moving away from fossil fuels towards renewables, and government policy can only affect how quickly this happens. Consumers are demanding this change, as the ravages of climate change become more apparent. Innovative companies like Tesla give consumers what they want and make billions. Many companies, sensing the next big thing, aim to follow. Government incentives, such as those in the recently passed Inflation Reduction Act, will be a powerful force attracting private capital to renewables and accelerating the pace of innovation.

Elon Musk attends the opening ceremony of the new Tesla Gigafactory for electric cars in Gruenheide, Germany, March 22, 2022. Patrick Pleul/Pool via REUTERS

Elon Musk attends the opening ceremony of the new Tesla Gigafactory for electric cars in Gruenheide, Germany, March 22, 2022. Patrick Pleul/Pool via REUTERS

Fossil fuels, on the other hand, are an activity that is still profitable, but which seems destined to decline in the next 20 or 30 years. We will need oil and natural gas for a long time to come. But less and less. This argues poorly for large investments that could increase supply, such as new wells or refineries.

Americans tend to forget that the US energy industry is largely a private sector enterprise driven by profit motives and capitalist dynamics. Energy companies have shareholders and investors and contractual obligations, which means they must deploy capital where they get the highest returns. They don’t produce extra power just because consumers or politicians demand it. One of the biggest concerns for fossil fuel companies now is the risk of “stranded assets” – large projects that could quickly lose value as the market for fossil fuels dries up. In this type of environment, no one wants to invest in assets that may become obsolete before they generate a return.

The advantage of public companies

This is where OPEC+ countries have an advantage. These countries usually have nationalized oil companies that are basically run by the government. The largest is Saudi Aramco in Saudi Arabia, followed by Rosneft in Russia. Other major producers include the national oil companies of Kuwait, Iraq, Iran, Qatar, United Arab Emirates, Brazil and Mexico. China does not export much oil, but it does have two giant state-owned oil and natural gas companies.

State-run energy companies don’t have to worry about shareholder returns, and sometimes they don’t even have to worry about profits. Rather, they operate as levers of government policy and can make investments to increase capacity if this is consistent with government objectives. In many cases, this is the case. Saudi Arabia is diversifying its economy beyond energy, but Saudi Aramco said earlier this year that it increase capital spending up to $50 billion this year, and in similar proportions until 2025 or 2026. This could make Saudi Arabia an even more important “rotating producer”, able to increase or reduce production according to the wishes of the government.

In the United States, high prices are inflating the profits of energy companies, just like at Aramco. But oil companies are cautious about investments, and US production is increasing only gradually. No one in the oil and gas industry wants another boom-bust cycle driven by oversupply that will eventually drive prices down. There is more enthusiasm to take advantage of the growing demand for renewable energy.

There are ways Biden could impose some pain on Saudi Arabia. Democratic Senator Chris Murphy of Connecticut wants Biden move US Patriot air defense missiles that are currently in Saudi Arabia to Ukraine or to NATO allies in Europe, and to redirect an upcoming sale of air-to-air missiles from Saudi Arabia to Ukraine as well. The Saudis face a militant enemy across the Persian Gulf, Iran, and could feel vulnerable without US weaponry. Of course, the Saudis could also retaliate by cutting off the oil supply even further.

Manchin, in his letter to Biden, listed a series of things Biden could do, some involving congressional legislation, to encourage more oil and natural gas production in the United States: accelerated approval for pipelines and other types of infrastructure, fast oil and gas leasing, staffing all federal energy oversight agencies. Even if he did all of this, it wouldn’t change much of the financial risk of investing in a declining industry.

What could really ease America’s reliance on undemocratic countries like Saudi Arabia is a sharp reduction in the use of fossil fuels. It’s coming, as more people drive electric cars and install solar roofs, and efficiency measures improve. But the transition to renewable energy will take time and will face many obstacles, such as the difficulty of building high-voltage transmission lines capable of moving electricity quickly across the country. For the years to come, we will still need energy from producers that we don’t like and who have fewer constraints than at home.

Rick Newman is a senior columnist for Yahoo finance. Follow him on Twitter at @rickjnewman

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