This is a potentially huge story that is not being adequately investigated by the financial press.
The future of world oil depends critically on what happens in Saudi Arabia. The country’s importance comes not just because it accounts for more than 10% of global production, but moreover from the fact that it produces almost a quarter of the oil globally available for export. Furthermore, nearly a third of the increase in global production by 2010 that is assumed in the EIA’s reference case forecast is supposed to come from Saudi Arabia.
And the Saudis are once again in the news this week. From last Monday’s Wall Street Journal (subscription required):
The world oil market is in “much, much better health and balance” now and, if trends hold, there will be no need for further production cuts or increases in supply when members of the Organization of Petroleum Exporting Countries meet next month, Saudi Arabian Oil Minister Ali Naimi said yesterday.
In an interview, Mr. Naimi said the kingdom’s production is now 8.5 million to 8.6 million barrels a day, confirming its reduction by one million barrels a day from its output about six months ago.
The reduction is part of a push by OPEC to shrink stockpiles of oil that climbed sharply last year as demand growth stumbled. The U.S. benchmark crude price fell through the turn of the year to a 20-month low in mid-January of $49.90 a barrel. It has since rebounded to settle Friday at $59.89 a barrel….
Data sources: Jan 04 through Nov 06:
Dec 06 and Jan 07: estimates from
Feb 07: latest
statement from Ali Naimi
“If you are asking me are we going to take additional cuts or increase supply, I do not know,” said Mr. Naimi, the oil cartel’s de facto leader. “But, most probably if the trend is like what it is like today, with the market getting in much, much better health and balance, there may not be any reason to change.” He added that the situation can still change: “I would not be surprised to see different figures and a different situation on the 15th of March. That is the benefit of getting together with 12 other oil ministers to review the data.”
Saudi Arabia’s one-million-barrel-a-day reduction, reported in The Wall Street Journal last month, is nearly double what it agreed to under two OPEC output cuts hammered out by the cartel at meetings in Doha, Qatar, in October and in Abuja, Nigeria, in December.
The Wall Street Journal’s assumption that these production cuts represent a deliberate effort by the Saudis to stabilize the price is a reasonable one to make. But one problem with that hypothesis is that the trajectory followed by prices really doesn’t jibe with the story:
That price doesn’t look to me like it’s being stabilized by the Saudis or by anybody else. In particular, the cuts in Saudi production began in October 2005, when oil was selling for $62 a barrel, and those cuts continued as oil rose to a new high over $75 last summer.
For that matter, the Saudi production numbers themselves don’t look to me like they’re under the precise control of anybody. Up through the first half of 2005, the Saudis hit 9.5 mbd or 9.6 mbd month after month. I interpreted the stability of those numbers as signaling that the Saudis could hit any target they wanted, and they happened to be picking 9.5 or 9.6. By contrast, the erratic path since is much harder to view as the outcome of some careful manipulations.
We do know that concomitant with this decrease in Saudi production has been a huge increase in the effort they’re making to find and produce new oil, as evidenced by the number of oil rigs the Saudis are employing:
We also know that the decrease in production has coincided with a deterioration in the quality of oil that the Saudis are trying to sell and develop. For example, there was this story from Reuters last summer:
China will extend a 50,000 barrel per day (bpd) cut in Saudi crude oil imports into July and August after some refiners struggled to cope with new higher-sulphur supplies, industry officials said.
China contracted to buy 500,000 bpd of Saudi crude in 2006, but cut that back by 10 percent in the second quarter after refiners ill-equipped to handle the kingdom’s mainly heavy-sour oil were forced to slow production after running the grades, the officials said.
As another example, an important part of the Saudi’s new production plans evidently involve the Manifa oilfield, which the Saudis had discovered in 1957, but up to now had decided not to try to develop because existing refineries were unable to process its high-sulfur oil ,
There’s some fascinating speculation as to what this all means at the
Peak Oil News & Message Boards in a discussion thread that’s now been running for a year and a half. Here are the two possibilities that I find most plausible.
The first possibility is that the Saudis could still pump 10 mbd or more today if they wanted to, but they are cutting back production and exploring like mad because they put an extremely high value on having 2-3 mbd of excess capacity. If so, the recent price behavior suggests that the reason they would seek such capacity is not because they want to stabilize the price, but because it puts them in an incredibly powerful negotiating position. For example, the ability at any time to flood the market could be used at an opportune moment to undercut expensive alternatives such as oil sands that require an oil price over $50.
The second and more natural interpretation is even more disturbing: the mighty
Ghawar oil field is already in decline, and the Saudis don’t want anyone to know.
Now this would be a simple enough hypothesis for anyone to test, if the Saudis published field-by-field numbers for production and water cut. But instead, those numbers are a closely guarded secret, leaving people like me simply to guess as to what the truth might be.
But, if you’ll indulge me in a bit of cloak-and-daggerism, there are others who must know. This data cannot be something that would be that difficult for American or Russian intelligence operatives to collect. So, I find myself wondering the following– suppose that someone in the CIA knew for a fact that Ghawar was in decline– what would we be observing out of Washington? The ramifications are so enormous, many, many decision-makers would surely need to be informed. It’s hard for me to imagine that something so widely disseminated could remain a secret in Washington. According to this reasoning, perhaps we should read the fact that the story hasn’t yet been leaked as an indication that it hasn’t yet happened.
Unless the spooks don’t understand the full implications of the facts they are sitting on. Perhaps not unlike the Wall Street Journal.