Feb 04 2014
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Oil prices: Challenges and responses
This year could be another time for testing the abilities of oil producers led by Saudi Arabia on how to manage the volatile market.
High on the list of challenges is the growing supply not only from outside OPEC but also from non-conventional sources such as shale and sand oil coupled with timid economic recovery.
And accordingly oil prices are expected to hedge lower than last year putting more pressure on finances of oil exporting countries.
A Reuters' market survey by the end of December expects that the price of a Brent barrel, one of the main benchmarks, will average $104 in 2014 against $108.70 in 2013.
One of the 30 analysts, quoted by the survey, summed up the conclusion saying that, "oil will be caught in the crossfire of rampant growth in US oil supply capping the price upside, with continuing supply-side risk and OPEC supply management providing a price floor."
Though domestic supplies in the US are rising, mainly from shale oil, thanks to the new fracturing technology, still many doubts surround the lasting impact of this new venture and how it could sustain its upward growth rate and, more important, whether it could be copied in other countries including, ironically, Saudi Arabia, which hopes to free as much as it can its non-associated gas reserves.
The performance of shale oil and gas using fracturing technology over the past five years has shown some characteristics that they perform well in an environment where there is excess of drilling hardware operated by trained manpower in the business. That seems like a uniquely American phenomenon not copied anywhere else.
Moreover, an average well pumps out up to 150 barrels a day of shale oil with a high depletion rate, which will put a cap on the potential future growth of such supplies in a meaningful way.
This is not the first time OPEC is facing challenges from other producers.
The main case to remember was that of growing supplies from the North Sea, Alaska and other producers in the early 1980s, which was made possible because of high oil prices.
Over the years OPEC managed to wither that challenge, reconfirm its position as a residual supplier and is now faced by a new one that became possible because of high oil prices.
Fracturing technology has been around for some four decades, but only after oil prices surpassed $60 a barrel, it became possible to consider putting that technology into commercial operation.
It is not clear how long such a challenge will last but given the past experience the geopolitical tension that affect supplies inside and outside OPEC there is great chance to go through this challenge as well.
Political instability in Iraq, Libya, Iran and Nigeria, for instance, is reducing supplies from these countries and if it is not for the Saudi decision to compensate for any shortfall in supplies, oil prices would have shot to unbearable levels damaging the chances of the fragile economic recovery.
Still the big question is whether oil exporters can tolerate a drop in oil prices and how far that drop can go?
Countries of course vary, but the case of Saudi Arabia puts it into a different block given its close to 3 million barrels per day excess capacity that enables it to step in and compensate for any interruption of supplies.
Besides, it has built up an impressive foreign reserves portfolio that can be easily tapped in a rainy day.
According to data from Saudi Arabian Monetary Agency (SAMA), those reserves rose to SR2.7 trillion ($725.5 billion) by the end of last year registering a new historical record.
This means an increase of 10 percent over the same period a year earlier and some 0.5 percent growth over the previous month, that is November 2013.
However, more important than having such a cushion to fall on is the rich experience gained over decades on ways of dealing with such tough times.
The mid 1980s was a show case when the oil market entered into what is known as the price war with great volatility to the extent that nobody was able to predict any price.
That was the time when Riyadh opted not to issue a budget and operated on the principle of spending when it wants to spend.
It is this experience that will enable it overcome expected oil price downturn and market volatility.
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