Oil: The Unlikely Deglobalizer
Our supposedly globalized world is fragmenting at an astounding pace. Each week brings bizarre new mixes of climate catastrophe with economic, political and social splits in the seamless World Interior of Capital that was supposedly built with enduring strength over the centuries and completed with the collapse of the Soviet Union.
The latest surprise is the emergence of the oil and gas industry as an active agent in breaking up the big-is-better globalized trading system that grew up in such harmony with fossil fuel exploitation. I and many others long expected renewables to be the unchallenged lead player in turning energy into a regional or even local affair. Big Oil would be merely the deserving victim of climate policy and trade feuds. It seems we were wrong.
This amounts to a turn towards self-destruction by the oil industry. It’s geopolitically driven and will weaken the fabric of fossil fuel markets — hardly what the oil and gas industry would have chosen.
First Russia…
The initial move in this direction was the painful, ongoing break between fossil fuel giant Russia and its most profitable customer, Europe, that followed Russia’s invasion of Ukraine. The cost to Europe’s economy is still incalculable and may yet include much of the industrial base that has made Germany the rich core of the EU.
The cost to Russia will include leaving in the ground much more of its coal, oil and especially natural gas reserves than would have been the case minus this war. The cost to the Western oil industry is also great: Virtually every big oil and gas major is having to write off enormous investments in Russia, with BP in the lead.
… then Saudi Arabia
Now a big, nasty, public feud has broken out between the US and Saudi Arabia. Unlike past tiffs, this is not about “the Kingdom,” as it’s known in oil circles, murdering journalists or bombing Yemen. This time it’s about the important stuff in the relationship: Oil.
An American/Saudi alliance premised on keeping Saudi oil readily available in exchange for US military and political protection of an antiquated hereditary monarchy with absolute power has been the keystone around which the global oil industry has stood firm, ever since President Franklin Roosevelt met with Saudi regime founder Abdul Aziz Ibn Saud aboard a US battleship in the Suez Canal in 1945.
The relationship broke down briefly in 1973 when the Saudis and other Arab producers cut off oil sales to the US in retaliation for Washington’s support of Israel in the Yom Kippur War, setting off the First Oil Crisis and contributing mightily to a near decade-long bout of stagflation that helped usher in neoliberalism.
But the Saudi-US relationship was quickly repaired and strengthened with the 1974 “petrodollar” agreement, in which the Saudis promised to price their oil only in dollars and hold in Treasury bonds much of the surplus they earned from newly inflated oil prices. In return, the US agreed not just to protect Saudi Arabia but to buy its oil.
The relationship has been fraying since the Obama presidency, as fracking put US oil production back on an upward track that meant it no longer needed Saudi oil. What politicians think the US does still need, though, is cheap gasoline, at prices under $4 per gallon, if not lower. Unless or until Washington is willing to reimpose price controls, which went out of fashion with the rise of neoliberalism, $4/gallon or lower US gasoline requires international crude oil prices to stay under $100 per barrel.
What the Saudis did last week — at a meeting of Opec plus Russia and a few other oil exporters, known as Opec-plus — was not just openly side with Russia against the US in geopolitical terms, they made clear they will act to keep crude oil prices in the vicinity of $100/bbl. They effectively spit in President Joe Biden’s eye after he had buried his human-rights scruples and paid a call on Saudi Crown Prince Mohammed bin Sultan to beg for lower oil prices.
Goodbye Global Oil Market
Two of the world’s top three oil producers, Russia and Saudi Arabia, are now lined up against the third — the US. What’s more, the top growth engines of oil demand over the last two decades, China and India, are basically on the Russian-Saudi side.
Neither bothered to complain about the Opec-plus move, and neither is likely to go along with US attempts to cap the price they will pay for Russian oil. Both are already getting discounts and paying for Russian crude in their own currency or in rubles, effectively throwing out the exclusive reliance on dollar pricing for oil that goes back to the petrodollar settlement of 1974.
The Russians — like the Iranians — sell oil in currencies other than dollars at prices that are at a steep but variable discount to the widely-cited dollar price. The dollar price has risen 15%-20% since hints of the Opec-plus policy turn emerged. That price is still what US producers, and the Saudis and their Opec buddies, get for their oil. But it’s 30% or so more than the Chinese, Indians and others pay for Russian crude, which helps explain why no one with access to Russian oil complained about the Opec-plus move.
A silent but substantial majority of countries resent almost as much as the Russians do the US’s fast-and-loose use of sanctions to try and retain control of a world in which Washington is no longer respected as a legitimate hegemon — as the world’s single “super-power.”
Europe Pays More
European and US refusal to buy Russian oil means not only that Russia will sell less fossil fuel in the future, it means they themselves have less oil and gas now and pay more for it, while the rest of the world gets discounts.
This will not change much in the next year or two: Western companies won’t come up with much new supply because they know the end is nigh for oil, and they are investing mostly in small fossil fuel projects with a quick payback. The transition makes long-term oil projects too uncertain.
This mismatch between Europe’s immediate need for more non-Russian natural gas and oil and the long timeframe required for profitable production, especially of natural gas moved across oceans as LNG, is evident on the consumer side, as well. As desperate as Germany is for natural gas to heat homes and power factories over the next winter or two, the government has held off signing the 10–20 year contracts that US developers and their bankers demand before committing to spend billions that they can earn back only over many years — by which time Germany will likely be generating electricity mainly with solar and wind, using batteries as backup.
Interest Rates Go Up
All of this is contributing to the inflation that is spurring the US Federal Reserve Bank to raise interest rates, forcing other countries’ central banks to follow suit or watch the exchange-rate for their currencies fall through the floor. The result will be a big, bad recession that will probably be deepest in Europe and the US — a recession that is unlikely to end inflation and very likely to further weaken US leadership in the world.
The Fed is pursuing orthodox anti-inflation policy in a highly unorthodox situation. It is holding its finger in a dike, trying to keep at bay prices that are rising not because oil costs too much, or there’s too much money around, or even because demand for goods exceeds supply. It’s due to higher underlying costs not only for energy but also other raw materials, food, and labor. Behind those higher costs lie disruptions in international trade, some still Covid-related but many due to deliberate US attempts to disrupt the Chinese economy; droughts, floods, and other climate impacts affecting particularly food; and a decline in the quality of available resources now that the best have been used.
These are not problems amenable to a Fed fix. They are a change in the way the world works. We humans need to respond with a change in the way we work.
