Risky Oil-Price Play By Saudi Arabia
Comment of the Day

October 24 2014

Commentary by David Fuller

Risky Oil-Price Play By Saudi Arabia

Here is a brief section of this topical article from Bloomberg Businessweek:

A foreign diplomat based in Riyadh suggests that while the Saudis are most comfortable with $100-a-barrel oil, current prices are no cause for alarm because of their strong fiscal position. The diplomat adds that one reason Saudi Arabia cut prices was its awareness that global economic growth is fragile and that cheaper crude could help its customers grow faster. Every 10 percent drop in oil prices spurs 0.15 percent more consumption in the global economy. That consumption sets up additional demand of almost 500,000 barrels of oil a day, Goldman Sachs (GS) estimates. Oil that’s 20 percent cheaper than the average price of the past three years amounts to a $1.1 trillion annual stimulus to the world economy, Citigroup (C) says. The diplomat asked not to be identified because his embassy doesn’t want to comment publicly on Saudi oil policy.

The kingdom has sterling credit and about $735 billion in financial reserves, so it’s better positioned to withstand a prolonged downturn than its rivals, says Bruce Jones, a senior fellow at the Brookings Institution in Washington. A price war could do serious damage to nations already on the ropes. Iran, whose exports are still constrained by Western sanctions, needs $153.40 a barrel to break even, according to the IMF. “Knowing that Iran is going to struggle, that’s something Saudi Arabia would certainly enjoy,” says Reva Bhalla, vice president for global analysis at Stratfor, which advises companies on political risk. Russia counts on $100 a barrel: Its budget loses about $2 billion for every dollar drop below that price, says Maxim Oreshkin, head of strategic planning at Russia’s Finance Ministry.

David Fuller's view

We can only surmise the Saudis’ reasons for maintaining a high level of oil production while prices are trading in the $80 region, and they have no need or inclination to explain their logic to the rest of the world.  However, as the most cost effective producer, it does help the Saudis to regain some control within OPEC, while also affecting high cost producers everywhere else.

The more important point for most of us is the Citigroup assessment above:

Oil that’s 20 percent cheaper than the average price of the past three years amounts to a $1.1 trillion annual stimulus to the world economy, Citigroup (C) says.

  That is another tailwind for global GDP growth and also stock markets, some of which have been roiled by various concerns in recent weeks.   

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