“Oil prices getting lower. Great! Like a big Tax Cut for America and the World. Enjoy! $54, was just $82. Thank you to Saudi Arabia, but let’s go lower!” President Trump tweeted a few days ago.
Trump is a bit confused on the specific figures – perhaps he was mixing up Brent and WTI – but the message to Riyadh was clear. The American president is pleased with the collapse in oil prices and wants them to go even lower, although he’s light on specifics. “It would probably be incorrect to think that Trump has any particular oil price target other than ‘lower’, or a view on what would be a sustainable or even ‘fair’ oil price,” Standard Chartered wrote in a note on Wednesday. “The aim is simply to maximise the gain to consumers.”
The recent meltdown in oil prices is indeed impressive, but for prices to fall even more, OPEC+ would need to take a pass on a production cut. The problem is that the lower prices go, the more likely the group will agree to curb output.
Russia has been coy in recent weeks about where they stand on a production cut. The thinking in Moscow is a bit more cautious than in Riyadh – engineering a price increase, while good for the budget, also risks sparking more production from U.S. shale.
Moreover, Russia’s currency tends to weaken when oil prices fall, cushioning the blow to Russian oil producers and to the Russian economy. Russian firms can pay expenses in weaker rubles, while making oil sales in stronger dollars. Saudi Arabia, with its fixed exchange rate, doesn’t have this luxury. That makes the Saudis a bit more squeamish on lower prices.
However, Brent crude dipped below $60 per barrel on Friday, a level that starts to make even the Russians uncomfortable. As a result, the pressure is on OPEC+ to cut production.
A cut remains the most likely outcome, but Trump’s pressure complicates the calculus. It’s a bit of a flip of the script compared to the June OPEC meeting. Six months ago, several OPEC members – namely, Iran – accused Saudi Arabia of doing Trump’s bidding. Boosting output to lower prices, especially since it was set to come at the expense of Iran due to American sanctions, all at the behest of Washington, was a bad look for Saudi Arabia. Riyadh needed the political cover of having other nations go along with the production increase, and the Saudis went to great lengths to bill the increase as part of an effort at bringing OPEC+ back into compliance after over-cutting. Related: Trump’s Impossible Decision Over Saudi Arabia
Now, the situation is reverse. The glut has reemerged and Saudi officials want a cut to boost prices. But, whereas Riyadh was wary of being seen carrying water for Trump back in June, now there is a bit of a risk raising the ire of the American tweeter-in-chief by pushing up prices. Weakening Saudi leverage is the blowback from the U.S. over the murder of Saudi journalist Jamal Khashoggi. Saudi Arabia’s friends in Washington are dwindling, with the remaining few left in the White House.
As such, Saudi Arabia might think twice before spearheading a major OPEC+ production cut, even as most analysts think that some sort of cut is the most likely outcome. “We expect that OPEC will manage the market in 2019 and assess the probability of an agreement to reduce production at around 2-in-3. In that scenario, Brent prices likely recover back into the $70s,” Morgan Stanley wrote in a note to clients.
Meanwhile, Trump’s interests are not entirely in one direction either. He is boasting about lower oil prices as a gift to American motorists, but there is a bit of danger in demanding OPEC+ let prices fall even more. Lower prices would complicate matters for the U.S. shale industry, which has been growing at a blistering rate this year. Lower is better for consumers, but bad for producers.
“[I]n our view the US oil industry will not be able to sustain output growth at current prices, which, allowing for regional differentials, are close to USD 45/bbl in the heart of the Permian Basin,” Standard Chartered wrote in a note. “Lower prices from here risk the health of the Texan geese that are currently laying golden eggs.”
By Nick Cunningham of Oilprice.com
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