Friday 20 July 2018

Oil states left looking down the barrel

Oil is in the midst of its most sustained sell off since 1986
Oil is in the midst of its most sustained sell off since 1986
Peter Flanagan

Peter Flanagan

The collapse in oil prices is causing havoc across the Middle East and other oil producing regions, with few signs of any respite.

Wealthy oil states such as Saudi Arabia are churning through their cash reserves in an effort to shore up their economies, while poorer states such as Venezuela are under severe pressure with growing protests against the government.

The geopolitical issues arising out of oil's slide bring home the urgency for clarity in a market that has ramifications far beyond the cost of filling up the family car.

Oil is in the midst of its most sustained sell off since 1986. The price of West Texas Intermediate - one of two benchmark prices globally - has fallen 30pc since June. It now stands at just over $40 a barrel.

The reasons for the collapse are two fold. Demand from China is tumbling, as that country's economy slows down sharply, while Opec - the cartel of oil producing nations that has traditionally controlled supply - has maintained high levels of production as it seeks to wipe out competition from the higher cost shale oil producers in the United States.

Opec is effectively led by Saudi Arabia but its tactic of keeping up production is putting huge pressure on the kingdom. By some estimates Saudi Arabia is spending as much as $2bn (€1.75bn)a week of its cash reserves in an effort to shore up the domestic economy.

Saudi Arabia's ruling family's huge wealth has acted as a buffer over the years against popular dissatisfaction with how the country is being run. In 2010, when the Arab Spring threatened to engulf the entire Middle East, King Abdullah handed out two months' extra salary to government employees and spent $70bn alone for 500,000 low-income houses.

That tactic of huge payouts has been ramped up over the last year. So far, it has worked for Saudi Arabia.

Not every oil producer has been so lucky, however.

Venezuela, a country that has long had to deal with crime and poverty, is threatening to come apart at the seams. The country has the biggest oil reserves on the planet but the flipside is that the economy is overwhelmingly reliant on the commodity.

Under the firebrand president Hugo Chavez, Venezuela used oil revenues for social projects and dispensed cash to the poor. In turn, it used the tactic of selling cheap oil to other countries in order to build international allies.

Now though, the geopolitical gains are gone since countries have more options than Venezuela if they want cheap oil. Domestically, the population is struggling with hyper inflation - an iPhone costs about €41,000 - and rising crime. President Nicolas Maduro now seems likely to lose presidential elections later this year.

Perhaps the biggest worry though is Russia. The country derives 75pc of its export revenue from oil. By some estimates, every drop of $1 in the price equates to a $2bn loss for Russia.

Analysts expect president Vladimir Putin to continue to ramp up anti-western sentiment and nationalistic fervour to deflect attention from the struggling economy.

And there is no respite in sight. Analysts at Citi expect it to slide to close to $30 a barrel later this year.

Other nations such as Nigeria and Iraq may be even more vulnerable, but even Saudi Arabia is not out of the woods yet.

The kingdom raised $5bn on the bond markets this month for the first time in eight years. It may have to raise more before the current storm has eased.


Irish Independent

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