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Page added on November 14, 2015
The Looming Bankruptcy Of Saudi Arabia
There’s two interesting little stories in this idea that Saudi Arabia is going to go bust in a couple of years as a result of the sagging oil price. Both are more general economic ideas than just the story of that oil price. The first is that mono-anything in economics is something we don’t really like. We certainly don’t like either monopolies or monopsonies, but we should also be very careful of an economy that relies on any one product or even supplier. The perils of resting an entire economy on the production of just the one commodity should be obvious here. But the same could and should be said about reliance upon any one supplier in an economy as well. We want diversity, always, of producers and suppliers. The second is that this is an object lesson in why most economists don’t really believe in the idea of predatory pricing. Sure, it’s possible for a dominant supplier to try to lower prices and drive others out of the marketplace. The idea is that once they’ve bankrupted those others then they can sweep back in, raise prices and thus enjoy monopoly profits having killed the competition. There’s an element of Saudi having tried this, trying to kill off shale. And it’s not working: and economists have never really seen anyone making this tactic work. Which is why they don’t really believe in it as anything other than a theoretical possibility.
So here’s Ambrose Evan Pritchard: and it should be said, love him dearly though we do, he can be just a little over enthusiastic about his latest idea:
If the oil futures market is correct, Saudi Arabia will start running into trouble within two years. It will be in existential crisis by the end of the decade.
The contract price of US crude oil for delivery in December 2020 is currently $62.05, implying a drastic change in the economic landscape for the Middle East and the petro-rentier states.
The Saudis took a huge gamble last November when they stopped supporting prices and opted instead to flood the market and drive out rivals, boosting their own output to 10.6m barrels a day (b/d) into the teeth of the downturn.
Bank of America BAC +0.00% says OPEC is now “effectively dissolved”. The cartel might as well shut down its offices in Vienna to save money.
If the oil market had had its old structure, where projects take a decade or more to even bring into production and then produce for decades more, at vast capital cost, then the sort of tactic that Saudi used might have a chance of working. If by flooding the market for a year or two Saudi can cast doubt on the financing of the next wave of such large projects then they might be able to enjoy a decade or more of high prices. Those high prices more than making up for the lost income in that period of undercutting those projects. Maybe.
But fracking is a very different production method, as I suggested back here:
In the past, observers and analysts viewed resource production as an extraction business in which costs
and prices rise over time as the better low-cost prospects tap out. Fracking has changed the situation
completely. Fracking is manufacturing or, perhaps better, “manufRacturing.” It is not resource
extraction. Historically, manufacturing is characterized by increasing productivity and falling costs.
Furthermore, manufacturing typically begins in more advanced industrialized nations and then spreads
over time to other countries. Cotton ginning started in the United States after Eli Whitney invented the
first modern mechanical gin in 1793. The practice then spread to other countries. Advanced steel
production began in the US after World War II and then took hold in Germany, Japan, South Korea, and
China. Industrial revolutions move from high-cost countries to low-cost nations. We expect crude oil
manufacturing to do the same.
The point being that a fracking well just isn’t a high capital cost operation. Nor is it something that you need long term high prices to justify. We’re down to single digit millions to drill one these days, the vast majority of the return comes in the first couple of years. This thus moves us away from the traditional resource production financial model over to something much more resembling manufacturing. And as AEP points out, the costs of this are dropping all the time:
The problem for the Saudis is that US shale frackers are not high-cost. They are mostly mid-cost, and as I reported from the CERAWeek energy forum in Houston, experts at IHS think shale companies may be able to shave those costs by 45pc this year – and not only by switching tactically to high-yielding wells.
Advanced pad drilling techniques allow frackers to launch five or ten wells in different directions from the same site. Smart drill-bits with computer chips can seek out cracks in the rock. New dissolvable plugs promise to save $300,000 a well. “We’ve driven down drilling costs by 50pc, and we can see another 30pc ahead,” said John Hess HES +0.00%, head of the Hess Corporation.
It was the same story from Scott Sheffield, head of Pioneer Natural Resources PXD +0.00%. “We have just drilled an 18,000 ft well in 16 days in the Permian Basin. Last year it took 30 days,” he said.
Far from that traditional resource model of projects becoming ever more expensive we’re now in a low capital consumption and highly reactive world. Any resumption of high oil prices is just going to see those fracking wells increase in number and thus production to come into the market. In effect Saudi is no longer the swing producer and no longer the price determinant on the upside. If Saudi did restrict production to raise prices the major beneficiaries would be those shale drillers.
So, Saudi Arabia opened the pumps to try to kill off shale: the end result is that shale keeps working and any price rise will be met by increasing production from them.
As I say, economists tend not to believe in predatory pricing as being a useful real world technique for exactly this reason: it doesn’t so far as we’ve ever seen, lead to a profit for the predator. And, as AEP points out, this is going to cause terrible problems for Saudi Arabia in the near future. To balance their budget they need oil at $106 per barrel. And it’s extremely unlikely ever to reach that level again, given that fracking has transformed the industry into something much more akin to manufacturing than resource extraction.
Some of this is of course detail about the oil industry. But the real story here is, well, what does an economy do when 90% of it is indeed oil based and the price of oil has more than halved and looks as if it will never recover?
Quite, diversity in an economy is to be desired.
My latest book is “The No Breakfast Fallacy, why the Club of Rome was wrong about us running out of resources.”Amazon and Amazon.co.uk. $6.99 and relevant prices in other currencies.
16 Comments on "The Looming Bankruptcy Of Saudi Arabia"
Davy on Sat, 14th Nov 2015 8:47 am
Here you go for an intro from the end of the article to get a jist of the message: “My latest book is “The No Breakfast Fallacy, why the Club of Rome was wrong about us running out of resources.”Amazon and Amazon.co.uk. $6.99 and relevant prices in other currencies. Forbes”
More fallacies from the Ugly American mouthpiece of fallicies “Forbes and friends”
Tim Worstall
Tim Worstall is a British-born writer and Senior Fellow of the Adam Smith Institute. Wikipedia
Born: March 27, 1963 (age 52), England, United Kingdom
Books: Chasing Rainbows: How the Green Agenda Defeats Its Aims, 20 Economics Fallacies
Saudi Arabia is too big to fail period. If Saudi Fails and fails badly we fail. You cannot remove the contribution of Saudi oil from the global oil markets and not see the global system collapse within a month. This contribution could never be made up and the loss of it would cause cascading failures to vital networks especially food and fuel.
It is not just the looming bankruptcy of Saudi Arabia it is the looming bankruptcy of the global system we all rely on in all our delocalized locals. Most of us here on this board are in a state of consumption overshoot and woefully dependent on a global that is in decay and in danger of collapse. Forbes and Tim Worstall want you to believe Capitalism and the west have the answers. They don’t and they are part of the problem.
forbin on Sat, 14th Nov 2015 9:03 am
” But the real story here is, well, what does an economy do when 90% of it is indeed oil based and the price of oil has more than halved and looks as if it will never recover?”
Well that is the real story – I doubt the book will tell me anything useful or new
Forbin
BobInget on Sat, 14th Nov 2015 10:23 am
Not a single hint of a Syrian or Yemeni drag
on KSA’s economic and spiritual existence.
One tiny hint about oil wells being overstressed. No mention of a terrorist supporting, Saudi police state being tolerated only because of their oil.
Saudi failure is inevitable. Whatever group
takes over will still need to sell oil.
Fact:
ISIS gets most of it’s income from selling oil.
Fact:
Everyone knows exactly where this oil is
located. By everyone, I’m referring to 30 odd
nations flying sorties over Iraq and Syria.
Time and time again the US and UK SAY they
are going target those sites, but as it happens, ‘everyone’ never does.
Why?
A seventy one million dollar Saudi PR campaign keeps beating the glut drum.
KSA keeps bombing Yemen, supporting ISIS in Syria, and over stressing key oil fields.
What’s going wrong?
ISIS, supported by KSA is also showing great weakness attacking France, Russia, Lebanon,
?????, all in the same month.
(weakness, by reverting to suicide bombings)
(Russia’s losses 220 dead, almost double that of Paris)
Sectarian Disaster Looms as ISIS Strikes at the Heart of Hezbollah in Lebanon, 44 dead.
Hezbollah is supported by Iran.
Saudi Arabia and Iran are in a war to to the death.
All that crap one reads how KSA is after America’s shale is exactly that.
Up to Paris, IS oil fields have been sacrosanct. Up to the downing of the Russian airliner, KSA oil fields were sacrosanct.
Hezbollah vows revenge.
Putin has been ominously silent.
President Hollande of France declared War on IS… (as if France hadn’t already been bombing IS in Syria)
America needs to detach from KSA or suffer world condemnation.
Oily blood stained gloves, on all sides are coming off.
Boat on Sat, 14th Nov 2015 11:02 am
Bob,
Both ISIL and ISIS have claimed credit for Paris. Which one did it.
Boat on Sat, 14th Nov 2015 11:15 am
Most countries are deep in debt. The Saudi are one of the few that have a massive surplus. Might be a little early to call them bankrupt. LOL The Saudi are also one of the countries still making a decent profit from their oil while increasing production.
Iraq on the other hand is in deep financial dodo but still finding a way to increase production while conflict is still going on inside their country.
Low oil prices affect the amount of money received for a product but as long as you can get it to market and make a profit over development/shipping it makes sense to grow production. And grow production is whats happening currently.
apneaman on Sat, 14th Nov 2015 11:48 am
Creditors squeeze oil, gas companies
http://www.thestarphoenix.com/business/creditors+squeeze+companies/11516704/story.html
joe on Sat, 14th Nov 2015 2:42 pm
Traditionally the position of the rulers in the Arab peninsula has been of religious significance.
https://en.m.wikipedia.org/wiki/Custodian_of_the_Two_Holy_Mosques
It’s likely that even an impoverished Saudi Kingdom will remain in order to maintain the stability for people wishing to make the hajj. Even ISIS would never disrupt the flow of pilgrims because that would make them the enemy of God. Oil is not as important to the Saudis as having Mecca and Medina in their Kingdom. America would do well to recognise that to a billion people who still use the Moon to set the time that modern reality is not relevant.
BobInget on Sat, 14th Nov 2015 5:49 pm
You Can’t Understand ISIS If You Don’t Know the History of Wahhabism in Saudi Arabia
http://www.huffingtonpost.com/alastair-crooke/isis-wahhabism-saudi-arabia_b_5717157.html
One of the main tenets of Abd al-Wahhab’s doctrine has become the key idea of takfir.Under the takfiri doctrine, Abd al-Wahhab and his followers could deem fellow Muslims infidels should they engage in activities that in any way could be said to encroach on the sovereignty of the absolute Authority (that is, the King). Abd al-Wahhab denounced all Muslims who honored the dead, saints, or angels. He held that such sentiments detracted from the complete subservience one must feel towards God, and only God. Wahhabi Islam thus bans any prayer to saints and dead loved ones, pilgrimages to tombs and special mosques, religious festivals celebrating saints, the honoring of the Muslim Prophet Muhammad’s birthday, and even prohibits the use of gravestones when burying the dead.
“Those who would not conform to this view should be killed, their wives and daughters violated, and their possessions confiscated, he wrote. ”
Abd al-Wahhab demanded conformity — a conformity that was to be demonstrated in physical and tangible ways. He argued that all Muslims must individually pledge their allegiance to a single Muslim leader (a Caliph, if there were one). Those who would not conform to this view should be killed, their wives and daughters violated, and their possessions confiscated, he wrote. The list of apostates meriting death included the Shiite, Sufis and other Muslim denominations, whom Abd al-Wahhab did not consider to be Muslim at all.
There is nothing here that separates Wahhabism from ISIS.
theedrich on Sun, 15th Nov 2015 2:50 am
Yes, diversity is to be desired.
However:
Forbes’ new book is titled, The No Breakfast Fallacy: Why the Club of Rome was wrong about us running out of minerals and metals.
In response, in a 1-star review of the book on Amazon, Graeme P Maxton, Secretary General of the Club of Rome, says the following:
“The Club of Rome did not say we would run out of resources in The Limits to Growth (it is only the internet conspiracy theories that say this). The Club of Rome did not say we will run out of anything. It said, and says, that we are using SOME of the world’s resources too quickly for this to be sustainable for future generations and that the quality of what remains will gradually decline while the price (and energy required) to access them will rise. We will have to spend progressively more on some raw materials, in other words, leaving us less to spend on consumption.”
That is to say, Forbes ignores the fundamental issue of diminishing returns, demand overload, and the inability of increasing complexity to overcome the pressures of civilizational existence.
Does Forbes consider Tainter out of touch?
Or does he really just need a little more cash by selling another book?
It takes no special expertise to see that the world, despite its historically unparalleled complexification on all fronts, is entering an increasingly perilous state due to systemic limits. The U.S., with its trans-administrational lunge for global conquest through overt and covert subversion; the explosion of international crime on all fronts; environmental degradation almost everywhere; the migration of the Third World into the First; not to mention the bizarre retention of antique religious “values” and mythologies to muddy the pie — all these things and more portend a future quite opposed to Forbes’ idea that the COR was wrong.
BobInget on Sun, 15th Nov 2015 9:18 am
Meanwhile KSA still has a 900 Billion dollar foreign currency reserve.
Not to mention a giant, but quickly depleting
oil reserves worth treble that.
Dats a ton of riches outfits like al Qaeda and IS, posing as ‘saviors of the true faith’ would love to get their mitts on.
I’m guessing. While IS takes most of the heat
smaller well organized ‘palace plotters’ will
gain control from within the existing power structure. These MEN won’t be much different then current rulers, just younger, better educated and ever so slightly more democratic.. That new regime will have Washington and London’s seal almost
at once.
penury on Sun, 15th Nov 2015 11:07 am
You may not have noticed but, it is not just S,A which faces bankruptcy, it is the whole world. Wars are expensive and the U.S. is fighting what 7 of them? Fantasy makes for great stories, but it is not possible to build a nation or a state on fantasy. The wheels are coming off the bus/ U.N estimates what 60 million people to move from South to North in the next few years. Paris was a small warm-up,
theedrich on Mon, 16th Nov 2015 3:05 am
Right on, Penury. Planetary bankruptcy is our near future. It is also masked by political correctness in all Western governments controlled, as they are, by the international oligarchs and their “Open Society” (à la Georg Sörös) ideology (derived from anti-White hyperJew Karl Popper). PC itself is justified with “Judeo-Christian” mythology about Original Sin, etc. The pervasive spread of the effects of this mythology is seen in the gross hypocrisy which dominates the U.S.
A queer non-political example can be seen in the fact that the Federal Communications Commission severely penalizes (with huge fines, denial of licenses, etc.) even the display of the female nipple on TV. In trinket shops everywhere, the establishments sell figurines of mermaids which have brassieres on them! Why? Allegedly to “protect the children” from porn or Satanic pictures. But in fact to cave in to the idiotic Christian (especially Protestant) religious absurdities.
I mention this not to campaign for more “sexual freedom” (à la Hugh Hefner), but to demonstrate how thoroughly the American deep unconscious is controlled by the religious idiocies of the ancient past, especially those of the insane Puritans. The combination of religiously founded Righteous Indignation (justifying, e.g., genocide of one’s fellow European Whites) and the conviction of Limitless Horizons bestowed on Americans by Yahweh is slowly coming home to roost. The lethal offspring of that combo is now the fanatical belief in boundless “rights” for all sentient beings.
Nature, however, has other ideas.
peakyeast on Mon, 16th Nov 2015 4:56 am
Fucking love you theedrich… Purely platonic, of couse – not in the hefner way. 😉
Boat on Mon, 16th Nov 2015 8:17 am
theedrich,
So you like the N Korean system better? Those are the rights anyone should want and expect?
makati1 on Mon, 16th Nov 2015 7:35 pm
theedrich, most Americans don’t even realize how thoroughly they have been brainwashed. It starts at birth just like religious indoctrination and is deeply embedded by the time they are smart enough to have made their own decision. Freedom? Hah!
Phil on Mon, 16th Nov 2015 8:08 pm
Actually, running the price down to run competitors into the ground HAS been done. In fact this example is a textbook read. John Rockefeller pioneered the concept and in actuality the Saudis are really only copying his example. For the facts of this claim read “The History of the Standard Oil Company: Briefer Version” http://www.amazon.com/History-Standard-Oil-Company-Briefer/dp/0486428214/ref=sr_1_2?s=books&ie=UTF8&qid=1447725970&sr=1-2&keywords=the+history+of+the+standard+oil+company