23 May 2020
Countries around the world slowly are beginning to open back up again, as the coronavirus pandemic begins to abate. The revival of economic activity means that, after a disastrous period in the first quarter of 2020 that shut down businesses and industry almost everywhere, pent up demand for goods and services finally is being met with growing availability on the supply side. The global oil market is a key indicator of that revival and is starting to rebound in a significant way. If, as expected, this trend continues into the third and fourth quarter of 2020, the U.S. is poised to make a solid economic comeback. Likewise, the Saudis should be able to begin easing off austerity measures and perhaps even revive their ambitious Vision 2030 plan. The Russians, on the other hand, will face some tough decisions about continuing foreign adventures in places like the Middle East.
We’ll recall that the oil price war that broke out between Russia and Saudi Arabia in early March 2020 could not have come at a worse time. Triggered by an abrupt decision from Moscow to break off a three-year-long agreement with Riyadh to limit oil production in order to prop up prices, the ensuing Saudi decision to boost production and cut prices coincided with a severe drop in world demand as the coronavirus pandemic spread. The Russians, trying to preserve market share vis-à-vis the Saudis and destroy the bourgeoning American fracking industry, were playing a reckless game of brinkmanship that has not turned out well for them. Oil prices plunged and supply outpaced space to store it all. Economies everywhere dropped into recession, wreaking havoc with budgets in both Moscow and Riyadh. As it turns out, however, Putin’s efforts to inflict economic damage on Saudi Arabia and the U.S. are not turning out to be as damaging as Moscow perhaps had hoped.
Oil prices per barrel finally rose above $30 per barrel in early May, for the first time since March. Contributing to that rebound are OPEC (Organization of Petroleum Exporting Countries) production cuts of nearly 10 million barrels per day (bpd) along with serious cutbacks in U.S. production as well. When we consider that oil prices actually registered in negative territory just weeks ago, this is an encouraging trend. Still, there remain large volumes of oil in storage around the world, which means that oil price rises likely will remain relatively modest in the near term, even as demand begins to pick up again, but should surge going into the fall and winter of 2020.
This situation could redound to the overall benefit of U.S. producers by hovering for now in a price range that will help them open up closed oil wells and resume expensive fracking drilling while still remaining low enough to help American consumers get back on their feet. For example, after plunging during the early 2020 lockdown, gasoline consumption in May 2020 has begun a slow climb back up again as people get back in their cars to venture forth.
The Saudis also are making some shrewd decisions geared not only to benefit its economy going forward, but to shore up the all-important bilateral relationship with the U.S. On 10 May 2020, Saudi Finance Minister Mohammed al-Jadaan announced austerity measures that tripled the Value Added Tax (VAT) to 15% and cut cost of living payments to Saudi citizens. Nevertheless, the Kingdom also has been taking advantage of the decline in value of companies worldwide to make some strategic investments. Saudi Arabia’s sovereign wealth fund has been acquiring a financial stake in key industries including aviation, banking, entertainment, and social media that will support economic growth and recovery in coming months. At the same time, the Saudi-U.S. partnership, anchored in the strong personal relationship between President Donald Trump and Saudi Crown Prince Mohammed bin Salman, offers positive incentives for both to confront the Russians and their increasingly troublesome Iranian allies.
As we’ve noted here before, the coronavirus pandemic and world oil glut has compelled the Saudis to make tough decisions that fall largely on its domestic development ambitions. Russia, on the other hand, depends on oil revenue for a full 40% of its budget and has to draw down its National Wealth Fund to make up for shortfalls. In the Middle East, Moscow cannot continue funding its endless commitments to Bashar al-Assad’s murderous regime in Damascus as long as Iran and Hizballah (both under sanctions) continue to destabilize things there (as well as in Iraq). Nor will Europeans or others be willing to pitch in for reconstruction, which Russia is in no position to pay for itself. This puts Moscow in a difficult position, both economically and with its foreign policy, in a way that cannot be exactly unwelcome to either the Saudis or the U.S.
For the moment at least, it is in the best interests of both the U.S. and the Saudis to reaffirm our joint partnership. By working together to stabilize world oil markets, we assist our own economies to emerge stronger from the COVID-19 pandemic while promoting mutual regional objectives that set back the aggressive policies of Russia, Iran, and Damascus.