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Irina Slav

Irina Slav

Irina is a writer for the U.S.-based Divergente LLC consulting firm with over a decade of experience writing on the oil and gas industry.

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OPEC’s Biggest Fear: A Full Blown Trade War

oil storage

The escalating trade spat between China and the United States has started to worry Middle Eastern oil producers, who expect the dispute to hurt China’s oil imports alongside a rising U.S. dollar. Yet the trade spat is by far not the only cause for worry when it comes to China’s oil demand.

"Obviously the trade issue is going to impact demand in a negative fashion if it continues and persists,” the Oil Minister of Bahrain told CNBC this week.

"There is a danger that the demand will be impacted as well. People often focus on the supply side—what happens if Iran stops supplying—but what happens if China reduces its consumption?” Oman’s top oil man chimed in.

What Middle Eastern producers might not like to admit is that this may already be happening. Earlier this year, Beijing introduced a new tax reporting system for independent refiners in a bid to improve tax collection and transaction monitoring. This has affected teapots’ profit margins and pressured their import rates.

Teapots have over the last three years since their emergence become instrumental in China’s oil demand growth, accounting for around one-fifth of the country’s total crude imports. Yet things are changing because of the tax regime overhaul, which has closed the door to paying taxes locally. Previously, the teapots enjoyed tax breaks from local governments aimed at stimulating employment in the region, but now all monies are going into the central government and there are no more tax breaks.

And that’s not all. According to a Wood Mackenzie analyst, China’s oil demand will slow down thanks to the growth in alternative energy adoption and improving freight system efficiency. Research director Sushant Gupta last month told CNBC that electricity and natural gas will increasingly displace crude oil as fuel sources while efficiency gains in the Chinese freight transport system will reduce the demand for diesel.

On top of these longer-term trends, short-term demand will likely be affected by the Iran sanctions, which are expected to push prices higher, even though China has no intention of suspending its intake of Iranian crude, using Iran-insured tankers to avoid penalization from Washington.

Related: Oil Nears $80 Per Barrel

However, there is one possible silver lining for Middle Eastern producers. Although they worry that the trade spat with the United States could hurt China’s oil demand because the tariffs may slow down its economic growth, there is also a chance for higher imports from the region if Beijing decides to impose tariffs on U.S. crude—a possibility that has garnered a lot of attention in the media since May, but has for now remained only a possibility.

Over the longer term, Middle Eastern producers would likely need to turn to India as it replaces China as the world’s second-largest oil importer after the United States. India’s middle class is growing and so are car sales; China is further down the renewables road; and India does not have a lot of domestic production. Wood Mac expects Indian oil demand to grow by 3.5 billion bpd between 2017 and 2035, accounting for one-third of the global oil demand increase in the period. So, even with a slowdown in Chinese demand, there will still be a place for Middle Eastern oil.

By Irina Slav for Oilprice.com

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