‘Stick or twist’ sums up the changes of political power in America and China in November 2012. President Obama won another four year term in Washington, while Xi Jinping assumed stewardship of China. This intricate ‘Chimerican’ relationship is fundamental to the global outlook anywhere you care to look, and nowhere more so than the Middle East. External security provision is still provided by the West, while economic pull has shifted to the East. Sounds a simple division of labour, but the ‘roles’ actually become very mixed up once you take a closer look. Squaring this awkward ‘Chimerican’ circle is going to be a tough ask for Gulf States to get right, but it’s absolutely critical to their geo-economic and geopolitical future to do so over the next four years.
From the U.S. perspective, the old mantra has always been that a threat to Middle East oil supplies correlated to a direct threat to American national security. This was explicitly spelt out in the 1980 Carter Doctrine that’s been the cornerstone of Washington’s role in the Gulf ever since. But times are now rapidly changing, and doing so, precisely because the U.S. has seen enormous hydrocarbon production growth on home soil. The initial energy ‘revolution’ was in natural gas, making America the world’s largest single (651bcm) producer, and’s now shifting towards liquids. U.S. oil production growth has been 500,000b/d over the past four years, with total liquids output expected to hit 11.4mb/d next year and onto 13-15mb/d towards 2020. That will make America the largest single liquids player in the world, surpassing even Saudi production numbers, with the obvious upshot that Washington no longer sees MENA oil as the valued prize it once was. Whether you’re like the International Energy Agency and fully signed up to the ‘U.S. energy independence’ narrative or not doesn’t really matter: The Obama Administration believes it has sufficient ‘hydrocarbon’ space to pick and choose what it does or doesn’t decide to do to underwrite global energy supplies in future. That’s exactly what it’s going to do over the next four years.
Libya was the first warning shot where the U.S. took a back seat in ousting Colonel Ghaddafi in 2011, while in Iran, America has deemed on-going nuclear containment as a higher political priority than oil market stability. Extreme Syrian instability sits uncomfortably somewhere in between. In a new age of American priorities, securing global oil supplies no longer axiomatically tops of the list, in what’s been coined the ‘Kuwait Question’: Namely, would America step in to shore up a major oil producer in the region if things go wrong? The answer is not just highly uncertain, but extremely pertinent when we consider the core threat to Gulf State stability in the coming years is the prospect of falling oil prices. And you’ve guessed it; the main ‘supply side shock’ traditional producers face, comes directly from American liquids supply growth creating downwards pressures. Look at it like that, and Washington’s position comes full circle in the Gulf. It’s still paying billions of dollars on external security to maintain open sea lanes from the Middle East, only to see OPEC states internally implode under the weight of (U.S. inspired) lower oil prices. Contradictory stuff, at best.
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Yet the ‘contradictions’ run far deeper when you bring US-Chinese relations into the equation, and does so on two strategic levels. First, America is busy strengthening its military presence in South Asia and Australasia in what’s been coined an American ‘pivot’ as a direct affront to growing Chinese regional interests in the South Pacific / South China Sea. The Gulf is merely the secondary line of naval defence that Washington holds over Beijing, and one that gives America a useful bargaining chip to exact political concessions in China’s backyard. Everyone knows America hasn’t needed Middle East oil for years; it now imports less than 12% of its oil from the sand. But its position on the map still makes the Middle East an important geopolitical asset for the State Department to maintain. Stay planted in the Gulf, and America can make its presence felt more acutely in Asia-Pacific and Eurasia. What was once a game of oil has turned into one of power for Washington.
That raises our second, deeply ironic strategic factor: The only reason America can maintain this position in the Gulf is thanks to Chinese purchase of U.S. debt. In geo-economic terms, China holds the aces. It’s entirely Beijing’s call as to how long Washington plays an overlord regional role, letting America have its geostrategic cake and eat it. Outgoing President, Hu Jintao, was perfectly happy to keep a low profile, ‘free riding’ on the back of U.S. military muscle to quietly build up Beijing’s supply side links. MENA states account for more than half of China’s 5.6mb/d total oil imports, and Hu wasn’t particularly picky about where he’s done business. Kuwait, UAE, Qatar, Yemen, Oman are all on the list, as are Saudi Arabia, Iraq and Iran. But as the Iranian ‘supply option’ highlights, the lines are becoming increasingly blurred for China between purely commercial relations and political imbroglios in the Gulf. At some point Beijing needs to reconcile where its political preferences rest between the vast bulk of Arabian oil production and Persia’s predilection for proliferation. Just as Beijing needs to decide how engaged it’s going to be in regional political reform and how much maritime muscle it’s willing to invest in the region. The more China plays a central economic role in the Gulf, the more Beijing will be expected to take up some of the security slack. Regional players all know the U.S. can no longer be categorically relied on to cover their backs beyond conveniently sticking their finger in the Hormuz dyke. The Arab flag will inexorably follow China’s trade. Beijing needs to be ready.
But that’s Xi Jinping’s entire problem. It’s not that China has been throwing its weight around too much in the Middle East, but that it still sees the Gulf largely in commercial terms. For all the hype around China’s ‘String of Pearls’ strategy spanning from the Persian Gulf to the Chinese mainland via the Strait of Hormuz to the Malacca Straits, this amounts to little more than a maritime insurance policy should the U.S. 5th fleet in Bahrain haul anchor too quickly, not a blueprint for ensuring global oil supplies. Internal dynamics across the Gulf are no different. Sure, China consumes a vast amount of Gulf oil, but it remains highly unlikely to do any heavy lifting rebuilding states such as Iraq, Yemen or Libya beyond narrow confines of energy infrastructure. When you strip Chinese external energy policy down to its essentials, you get three core aims. ‘Security of supply’, ‘diversity of supply’ and ‘reducing price risk exposure’ through equity deals. That doesn’t mean meddling in the internal affairs of producer states, nor does it mean dropping the façade of ‘business is business’ ‘politics is politics’ line. But it does mean keeping as many supply side options open for as long as possible, irrespective of the political costs. Xi isn’t about to change that formula anytime soon. Military bulk and political swagger in its own backyard is one thing, but China will remain a consumer of geopolitical stability, not a provider when it comes to the ‘big, bad, energy world’.
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Obviously none of that sits particularly well for the Middle East’s security posture, but where the picture turns particularly ugly, is that China’s also working very hard to avoid structural dependency on MENA oil thanks to global unconventional gains elsewhere. Beijing is under no illusions that it needs OPEC to fill its incremental supply gaps in the years the come (the vast majority of oil demand growth is going to come from the MIC markets (Middle East, India & China)), but one of its key hydrocarbon investment targets is the Americas. Not just in Venezuela, Argentina, Ecuador, Brazil and Bolivia, but North America as well, deep into Canada and America. The economic rationale is simple; China has no compunctions supporting North American supply growth, even to the point of investing in uneconomic fields, so long as it hedges China’s upstream energy portfolio, and in the long term, continues to provide downward pressures on benchmark prices. Cynics could even argue that China is looking to repeat the U.S. shale gas experience that’s made gas a perennial buyer’s market and apply it to oil. The true prize is shifting liquids from a price based game to one of volume, with America acting as the lightening rod. Achieve that, and Beijing has secured nothing short of an ‘import’ miracle: with supply dependency set to run at 80%, China still gets to drive through its industrial revolution on the cheap, rewriting the rules of the energy game as they go. Play to Washington’s energy independence dreams, all while working towards Chinese interests.
Obviously it remains to be seen how far that narrative will stick given rampant Asia demand side growth, but if nothing else, it brings our ‘Chimerican’ relationship full circle. The U.S. is slowly winding down its position in Middle East on the back of American liquid supply growth; investment for which will increasingly come from China. The Gulf is left holding the incremental oil baby, with Washington and Beijing not merely unwilling to underwrite security arrangements, but inadvertently working towards an oil market based on volumes, not price.
To say that would be a disappointing outcome for Gulf States would be an understatement. Back in the real energy world where OPEC – and more specifically – Gulf States, are fundamental to the functioning of world energy markets, it would be remarkably helpful if Mr. Obama and Xi Jinging sat down to work out who should be doing the geopolitical heavy lifting for what (and where) in the Gulf. Iraq massively reduced U.S. stock in the Middle East, as much as Libya has raised serious questions over American resolve. Put the American ‘energy independence’ narrative into the mix, and it’s abundantly clear that vacuums need to be filled. Instead of fighting China for geopolitical primacy in the Asia-Pacific, America should be pro-actively bringing China into the international security fold: A shared division of geopolitical labour in the Middle East would be a perfect place to start given China’s economic significance in the region. Beijing has to start filling inexorable American gaps, not just with ongoing treasury purchases from the Fed, but with military hardware to boot.
But leave this all to chance by playing narrower ‘Chimerican’ games, and things are going to end very badly. Not just for Gulf States struggling to maintain political stability in a lower price environment, but more explosive issues on Iran where no common approach has been agreed. When the political powder kegs explode, it’s only then that markets will realise how crucial Gulf States remain to balancing oil markets on a daily basis. Everything else will prove to be hot air; U.S. energy independence rhetoric won’t match supposed pricing power with market practice. Scorched earth. Scorched markets. Everyone loses out.
Despite the long odds, there could still be a final twist in the tale for the Gulf here though. If Washington and Beijing end up passing the Middle East buck in favour of their own perceived interests, as brutal as that might be for the region, once we finally enter a volumes based energy world thanks to U.S. supply growth, OPEC will almost certainly come out on-top. Middle East oil vs. the U.S mid-West? The sand wins hands down in a utilitarian race to the ‘bottom of the barrel’, with OPEC not just reclaiming, but enhancing its share of global production to over 50% by 2030. That’s something that Mr. Obama and Xi Jinping would do very well to bear in mind in the years ahead. The Middle East might be stuck between two hopeless ‘Chimerican’ claimants right now, but writing the Gulf off full stop, would be a very big mistake for the energy world indeed.
By. Matthew Hulbert