Oil price: what is behind the descent?


The corona crisis has caused the price of oil to collapse. Behind this development, however, there is also a price war between Russia and Saudi Arabia to force US competitors out of the market. A battle from which all states could emerge as losers.

Flights are being cancelled, transport chains are being cut, industrial production is being cut back: The Corona pandemic has unprecedented economic consequences and is also driving down oil prices. At the beginning of the year, a barrel of North Sea Brent still cost just under USD 70. In the meantime the price has fallen below 40 dollars.

However, the current development is only part of the explanation, as it overlaps with a price war being waged primarily by Russia, Saudi Arabia and the USA. “The trend has been reinforced by the corona crisis, but it started much earlier,” says Heike Buchter. The business journalist lives in New York and has published the book “Oilquake”, among other things.

What is behind the price war?
Saudi Arabia is the most powerful state within the Organization of Petroleum Exporting Countries (OPEC), which is also an oil cartel that agrees on production volumes and thus helps to determine prices. The OPEC states produce about 40 percent of the world’s oil. Another important player in the market is Russia, which has so far coordinated with the OPEC states.

For some years now, the USA has also been involved. In the meantime, the Americans are even the largest producers worldwide – thanks to fracking technology, which is used to extract oil and gas from shale layers that are difficult to access.

“The Achilles’ heel of fracking is the cost,” explains Heike Buchter. “It is intricate and expensive per se.” But since the price of oil hit a record 143 dollars a barrel in July 2008, it has been worth it. Suddenly, hundreds of billions of dollars flowed into the new oil fields, even from Wall Street.

The new competitors quickly came under OPEC’s suspicion. In 2014, Saudi Arabia tried to force the American frackers out of the market with low prices: If oil is cheap worldwide, the expensive fracking technology is hardly worth it.

But at the latest since the economic consequences of the corona pandemic, OPEC itself has come under pressure. Countries such as Saudi Arabia, but especially Iran and Venezuela, are dependent on the Chinese market.

In the course of the corona crisis, OPEC therefore actually wanted to cut back oil production in order to stabilise the price. However, Russia did not go along with this. “The Russians did not want to give the American frackers a helping hand by cutting back their own production and thus keeping the price stable. They want to try much more to practically flood the American frackers away,” explains Heike Buchter.

“Flame-dangerous” strategy
When this strategy became clear at the OPEC meeting in Vienna at the beginning of March, Saudi Arabia also changed its mind. The Kingdom announced that it would increase production volumes, thus causing a further drop in prices. The investment bank Goldmann Sachs expects that the oil price could soon fall to 30 dollars a barrel.

“Saudi Arabia and Russia have declared a price war on each other,” says journalist Buchter. But this could backfire for both countries. “It is highly dangerous to be completely dependent on oil and then drive the price down.”

The governments of both countries are also under domestic political pressure because of the economic situation. For example, the Saudis depend on a barrel price of 80 dollars to keep their budget stable. “They have bought social peace in the country by exporting oil.”

Discussion about “bail out” in USA
But it is above all the already badly shaken oil exporters Iran and Venezuela that are coming under pressure. And the USA: Pioneer, one of the largest companies in the industry, says that 50 percent of frackers could go bankrupt as a result of the drop in prices.

In the USA there is therefore a discussion about a “bail out” – a rescue operation for the industry. Whether such a step would be sensible is highly controversial in the country: “It is difficult when governments focus on specific industries,” the chief economist of MUFG Union Bank told the Washington Post.

“I think it’s very possible that Trump is now helping the frackers,” Heike Buchter said in contrast. The billionaire’s presidency has already been a major support measure for oil and gas.

Fracking is now an important economic factor, particularly in states that could have a say in the presidential election in the fall: the swing state of Pennsylvania, for example, or the large state of Texas.

Hardly any improvement in the economic crisis?
The question remains: Who will benefit from the low oil price? Won’t it ultimately benefit the economy and citizens worldwide? In the past, this assumption was very widespread, says Heike Buchter:


About Author

Mette Frederiksen is a The Washington Newsday correspondent. With her coverage of general science, NASA and the interface between technology and society, Frederiksen has been in the Science Desk's Technology Beat since joining Washington Newsday in 2018.

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