Will the GCC and the US be masters of the new world energy order?

A new world energy order may be emerging where the masters will be the GCC, the world’s biggest energy exporters, and the US, the world’s largest energy consumer.

In an interview with Middle East Economic Survey (MEES) in December, Saudi Arabia’s Minister of Petroleum & Mineral Resources Ali al-Naimi told MEES that: “We want to tell the world that high efficiency producing countries are the ones that deserve market share.”

It’s a sentence that defines the new era. The winners will be those that produce energy cheapest.

GCC states produce energy cheaper than anyone else. Their oil and gas reserves are immense and secure; production assets are in place or are being built; they have global oil and gas distribution networks and their record as reliable suppliers is unrivalled.

Saudi Arabia has sustainable oil production capacity of 12 million b/d. That means it should be able to lift output to that level and hold it indefinitely. Kuwait’s investing in sustainable capacity of 4 million b/d and Abu Dhabi’s going for 3.5 million b/d. By 2020, the six GCC states could be in the position to produce 21 million b/d.

Why should GCC producers invest tens of billions of dollars in capacity they won’t or, because of quantitative OPEC restrictions, can’t use?

The answer since 1973/74 has been that it allowed GCC OPEC states to meet global demand at times of supply interruptions elsewhere and to adjust exports in support of OPEC price targets.

Supply risks remain but they are now much lower. Consuming nations have increased strategic reserves, diversified away from potentially unreliable oil and gas sources, boosted domestic energy production and promoted renewables. The ultimate solution, nuclear power, remains below its full potential, but this might change.

The question GCC oil producers are now putting to consuming nations is this: why risk relying on unreliable or expensive energy sources when you can with confidence depend upon us?

Al-Naimi’s words, therefore, constitute more than a tactical declaration of intent to maintain market share. It rationalises a GCC campaign to increase output by as much as one quarter by the start of the next decade.

There are good reasons for the GCC radically to raise production and exports.

If we are entering an era where production efficiency rather than control of reserves will be decisive, neither Saudi Arabia nor OPEC will be unable to prevent a secular and structural decline in global energy prices. Their ability to isolate oil prices from those of other energy forms is also evaporating. If the GCC wants to maintain its oil and gas income, the source of its unprecedented economic and political influence, it will have to increase hydrocarbon exports.

The second is the continuing expansion in domestic GCC oil and gas consumption. In Saudi Arabia, it is averaging about 1.7 million b/d and rising by about 5 per cent annually. If the GCC countries cap production at present levels, they will see oil exports fall by 200,000 b/d every year indefinitely. Even if the spot market price is $50 a barrel, that’s $3.7bn lost next year and another $3.7bn the following year and the same the year after.

Concern about this trend inspired plans for Saudi Arabia’s King Abdullah City for Atomic & Renewable Energy (KA CARE) to develop 54GW of renewable energy and 18GW of nuclear power capacity. The case for this programme was strong when oil was $100 a barrel. But it’s hard to justify when it’s below $80.

A debate about the kingdom’s renewables strategy has been won by al-Naimi who argued Saudi Aramco shouldn’t pay $100, then the spot market price, for each barrel of oil KA CARE saved. A new renewables strategy is being defined and is expected to involve a radical reduction in targets.

Efforts are being made to increase domestic energy efficiency. But it will take time and politically-sensitive domestic energy and water price increases to contain consumption. To keep exports growing, the GCC will need to produce more for the foreseeable future.

The third reason is intra-OPEC competition. Getting GCC oil production above 20 million b/d by 2020 will be impossible if Iraq manages first to achieve its own objective of 8 million b/d that year compared with about 3.4 million b/d in November last year. And then there is Iran which will – eventually — reach a nuclear agreement that will end oil export sanctions.

There is a fourth reason. Much is said about Saudi Arabia’s concern about Russia, but the US always looms largest in the minds of Saudi policymakers.

US crude production rose 16 per cent in 2014 to 8.6 million b/d. The US Energy Information Administration forecast in December that it could reach 9.3 million b/d in 2015. Lower oil prices will cut the production growth rate, but it’s likely US crude output will hit 10 million b/d in 2016.

Saudi Arabia and GCC OPEC states can win the market share battle with other OPEC states and most non-OPEC ones too.

But can it take on the US? More to the point, should it?

After 1945, the US developed a dependence upon Saudi Arabia oil that had profound implications for the kingdom, the region and the world. A period of rivalry emerged after 1973/74. The result was America’s quest for an end to reliance on Middle East oil. Its progress towards that goal in the past five years has been startling.

High oil prices have been great for America’s oil and gas industry. But their fall since June last year has been good for the US economy. Most Americans have been made better off. And Russia’s been squeezed, Iran’s been hurt and America’s friends have been helped.

It’s a solid foundation for the next step which is closer energy co-operation between the US and the GCC.

If Saudi Arabia and the GCC lift production as much as possible, US-GCC combined production will exceed 30 million b/d by 2020. This is a figure higher than OPEC’s 2014 production and would be equivalent to about 30 per cent of forecast world oil demand that year.

It would be enough to ensure the GCC working with the US for a generation and more will able to shape the structure and direction of the global energy.

And not just that.