U.S. presidents have long been made by their advisers to understand the dangers of benchmark oil prices staying above the US$75-80 per barrel (pb) level for extended periods of time. As the Brent and West Texas Intermediate (WTI) benchmarks continue to spike back above that level – and threaten a sustained move even above US$90 pb – there will be renewed pressure on President Joe Biden to act to bring oil prices down to below the ‘danger’ levels. The danger for a U.S. president in oil prices being above these levels for any prolonged period is twofold. Firstly, there is the damage that is done to the U.S. economy. As analyzed in-depth in my new book on the global oil markets, and the recent disconnect between the oil and gas markets aside, historical precedent highlighted that every US$10 per barrel change in the price of crude oil results in a 25-30 cent change in the price of a gallon of gasoline. The corollary longstanding rule of thumb is that for every one cent that the U.S.’s average price of gasoline increases, more than US$1 billion per year in discretionary additional consumer spending is lost.
Secondly, there is the damage done to the re-election prospects of the sitting U.S. president and his party by the negative economic effects of sustained high oil prices and also by the negative public reaction to sustained high gasoline prices. The ‘danger zone’ for U.S. presidents starts at around US$3.00 per gallon and at US$4.00 per gallon they are being advised to pack their bags in Pennsylvania Avenue or start a war to divert the public’s attention. The point was underlined by Bob McNally, the former energy adviser to the former President George W. Bush, who said: “Few things terrify an American president more than a spike in fuel [gasoline] prices.”
Specifically, as also analyzed in-depth in my new book on the global oil markets, it is a matter of historical fact that since World War I, the sitting U.S. president has won re-election 11 times out of 11 if the U.S. economy was not in recession within two years of an upcoming election. However, presidents who went into a re-election campaign with the economy in recession won only once out of seven times (Calvin Coolidge in 1924, although strictly speaking he had not won the previous election but had rather taken up the position on the death in office of Warren G Harding). Although President Biden is not facing another presidential election for four years, he does face critical mid-term elections within the next two years - November 2022, in fact - when his Democrats could lose their narrow majority in the House of Representatives.
There are those who say that Biden is content to see the prices of traditional fossil fuels rise in order to narrow the pricing differential between them and their more costly ‘green’ alternatives. However, underlining how often and how quickly such lofty principles disappear in the cold light of hard political self-interest, the U.S. Land Administration Committee released data at the beginning of 2022 showing that Biden in his first year as president issued 35 percent more permits for drilling oil and gas wells than his predecessor, Donald Trump, in his first year.
Given that there is evidently no ideological reason precluding Biden from acting against rising oil prices, what are the options available to him to do so right now? Some believe that taking the sort of robust approach to OPEC producers through its de facto leader, Saudi Arabia, would prompt a flood of new oil into the market. The regulation of oil prices in an effective band between a US$35-40 pb floor (the breakeven price of U.S. shale producers) and a US$75-80 pb cap (the level above which the prospect of economic damage to the U.S. looms) was a significant achievement of the Trump presidential era. Even for Trump, though, the floor price was easier to manipulate, as it was reached only when Saudi Arabia and OPEC were actively pumping everything they could – most notably during the 2020 Oil Price War - and could easily be reversed by cutting back production to more historically average levels. Forcing Saudi to do this was achieved by Trump directly telephoning Crown Prince Mohammed bin Salman (MbS) on 2 April 2020 and telling him that unless OPEC started cutting oil production he would be powerless to stop lawmakers from passing legislation to withdraw U.S. troops from Saudi Arabia.
Trump’s administration was successful also in controlling the cap on the price through similar tactics, as evidenced during the only time that oil prices rose and stayed persistently above the US$75 per barrel of Brent level during his presidency – April to October 2019. Trump publically Tweeted about Saudi Arabia’s King Salman that: “He would not last in power for two weeks without the backing of the U.S. military.” Privately, moves were being made to finally push through the ‘No Oil Producing and Exporting Cartels Bill’ (NOPEC), the threat of which also hung over the mooted initial public offering of Saudi Aramco that was vital for MbS’s prestige among senior Saudis at the time. The NOPEC bill, when enacted, would immediately remove the sovereign immunity that exists in U.S. courts for OPEC as a group and for its individual member states. This would leave Saudi Arabia open to being sued under existing U.S. anti-trust legislation, with its total liability being it's estimated US$1 trillion of investments in the U.S. alone, and Saudi Aramco being broken up into constituent parts.
So, would either of these tactics work right now for Biden’s administration? Although genuine figures for the global oil market are difficult to ascertain, as seen most recently with export numbers for Iran and China and for even official International Energy Agency (IEA) numbers, the genuine oil production capacity and spare capacity numbers for OPEC’s principal producer, Saudi Arabia, are much lower than the official Saudi figures, as analyzed in-depth as long ago as 2015. The difference between 2019 – when Trump told MbS to start pumping more into the market – and now is that this deficit between genuine and imagined spare capacity is shared among a much wider range of OPEC oil producers than just Saudi.
This is partly a consequence of originally exaggerated claims over oil reserves, production capacity, and spare capacity from some of the producers for geopolitical purposes and partly due to the negative effects on the oil industry's financial and operational infrastructure because of the long-running COVID-19 pandemic. With Omicron, the newest pervasive strain of COVID-19, clinically assessed as being less deadly than its predecessors for those with the necessary vaccinations against it, and the world economy likely to register a growth of over 4.5 percent this year, the IEA currently estimates that world oil demand will rise by 3.3 million barrels per day (bpd) in 2022. This surpasses the pre-pandemic level of 99.7 million bpd in 2019. In short, OPEC’s genuine spare capacity, and Russia’s as well as part of the ‘OPEC+’ producer group, looks extremely limited, regardless of whatever inducements or threats Biden might use.
In reality, this leaves the U.S. president with three options to bring oil prices down quickly. The first is to announce another drawdown of oil from the U.S.’s Strategic Petroleum Reserve (SPR), and – vitally – an accompanying statement that further releases will be done as and when required. When this was done on 23 November 2021 with just 50 million barrels – a paltry amount in global oil supply terms - the shock value (it had only previously been done in periods of physical supply disruptions) helped to push benchmark oil prices down by around US$12 pb in the same week as the announcement.
The second option would be to encourage the U.S. shale sector producers and – again, vitally – their financing banks, to ease up on the currently super-strict focus on paying down debt and returning cash to shareholders rather than increasing shale oil production. This has led to the situation in which although average oil prices were much higher in 2021 than they were in 2018, the capital expenditure of U.S. shale producers last year was only 65 percent of what was spent three years earlier, according to industry figures. According to industry analysis, at US$100 pb, under no capital discipline, an additional 1.2 million bpd of extra oil could be expected to come from the U.S. shale sector, requiring an additional 270 rigs year on year.
The third option is that Biden’s team finally signs a new version of the Joint Comprehensive Plan of Action with Iran, and removes sanctions. This, as highlighted recently by OilPrice.com, could release an additional 1.7 million bpd of oil (including 200,000 bpd of condensate and LPG/ethane) in a six to nine-month period from when sanctions are lifted, resulting in at least a 5-10 percent likely fall in the oil price.
By Simon Watkins for Oilprice.com
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