Presidential Oil Tweets, Oil Prices, and the Cycle
U.S. presidential jawboning about oil prices has continued to grab headlines this week, with President Trump telling Fox News on Sunday that the Organization of Petroleum Exporting Countries (OPEC) is manipulating the oil market and “better stop it.” The statement followed a previous tweet explicitly confirming a phone call with King Salman of Saudi Arabia regarding the kingdom’s agreement to put even more oil on markets than announced last week to counter turmoil inside Iran and Venezuela. The U.S. president’s unconventional approach contributed to an almost $2 drop in the price of international benchmark Brent crude Monday, as market psychology appeared to shift. That will likely be viewed favorably from the White House. But the transactional discussion offered on U.S. television that oil producing allies should offer accommodative oil export policies because “we are protecting them” laid bare a quid pro quo that could be problematical down the road given recent escalation of regional proxy wars. The United States may be encouraged by ongoing protests in Iran but turmoil can be unpredictable, and U.S. national interests can vary in certain respects from those of its allies.
Close study of recent pernicious effects of cyclical swings in oil prices lends itself to sympathy for President Trump’s frustration. Given the circumstances of the financial turmoil and oil price collapse that followed the oil price spikes in 2008 and 2014, it should be pretty unnecessary to have to remind kings, presidents and emirs that an unstable oil market is bad for everyone, including their own people. For all the talk about resource wars, no shots were fired over oil when prices were rising in 1973, nor when prices hit $147 in 2008. That’s probably because for all of the handwringing about the oil “weapon,” commodity prices eventually correct themselves naturally like gravity, even in the face of politically inspired cutoffs. For OPEC, history seems not to be a teacher. Fuel switching, new drilling techniques, and structural destruction of long run demand reassert themselves when oil prices go up. That was certainly the explanation of the price collapse in 2014 to 2016. Moreover, in the future, countries like the United States and China are increasingly more likely to invest in alternatives rather than go to battle over resources either diplomatically or literally, especially in today’s digital revolution, where the potential for success is so high. The fact that few countries are willing to spend a trade chit on Iranian oil is a sign that times have changed.
Oil producing countries are under budgetary pressure but, at least in the case of the Gulf countries and Russia, not enough to reverse course on high military spending and foreign adventurism. Venezuela should be the poster child for what could go wrong when governments raid the coffers of their national oil companies. The sad truth is that such suffering doesn’t actually seem to lead to regime change, just more repression. U.S. neoconservatives don’t seem to be learning that lesson either.
That said, I believe oil prices have entered a new phase where the traditional features like business cycles and geopolitics that normally dictate the ups and downs of oil prices are now intersecting more integrally with structural technological change. Digital disruption could bring a long run downward trend in energy costs over the coming decades, but that doesn’t necessarily mean “lower for longer” oil prices will be true for any particular month or year. If anything, digital innovation could be making the swings of the oil boom and bust cycle worse by shortening the time scale between up and down oil price phases. Private oil companies can bring new oil fields online with a rapid pace. Demand saving technologies are also readily available. To the extent that digital innovation does both simultaneously and seals a negative fate for individual national oil companies that cannot compete effectively in this new global context, it could bring higher oil prices at sharp intervals as oil supplies get disrupted from places where new investment is lagging, like Angola and Venezuela.
In recent years, many important national oil companies (NOCs) have found themselves a victim of deteriorating budgets or violence—industries in Libya, Yemen, Syria, and Venezuela have been decimated. NOCs in Mexico, Brazil, and China have succumbed to localized corruption problems. The list is likely to expand over time. During periods when a major oil supplier goes down, OPEC (or some other group of oil exporters) are bound to find themselves with market power. That is why a volatility thesis based on the idea that producers can no longer interfere in markets is also likely incorrect for the time being, and the U.S. administration is smart to think about how to handle manipulation. Volatility can still come from exporter consortium attempts to goose prices. It may just be lumpy as technology continually improves to make itself felt and more frequent as digitization of everything from oil well development to energy efficiency gains pace. But if and when another major producer goes down (this time likely Iran), those left standing may attempt to garner some short-lived revenue as OPEC just did on the backs of Venezuela’s collapse. In the current upward business cycle, which has been stronger than expected, OPEC has certainly been able to jack up prices temporarily, unfortunately in all likelihood ensuring current global economic prosperity won’t last for long. For Russia, a culture that experiences long suffering of everyone together, instituting a downward global economic cycle could feel cathartic. For Iran’s hardliners, the temptation to push prices too high through acts of violence is likely a reflex to proving to others (read, American neocons) that they are still a force to be reckoned with. In the grand scheme of things, blowing things up to raise the price of oil will hasten the return of low oil prices which hurts the Iranian economy. Iran’s government has been preaching solidarity towards a resistance economy, albeit that message is looking increasingly uphill.
Still, exigencies being what they are, the United States needs to be prepared to consider policies beyond calling upon Saudi Arabia, whose oil industry has struggled in recent years to add extra capacity. It is yet another reason why the United States should stay the course on advanced automobiles and other energy efficiency policies as well as modernizing the U.S. Strategic Petroleum Reserve. Rising U.S. oil production is not the same quality of oil as that of the Middle East, Venezuela, and Mexico so net flows in and out of the United States are necessary based on the current equipment in the U.S. refining industry which was designed to run imported oil. Sadly, recent consolidation of the SPR has left the United States in a worse position to help U.S. Gulf coast refiners. That problem needs to be revisited next time oil prices cycle down.
By the way, I am not conceding that the structural lowering of energy costs through digitization won’t be material. But it could entail a multi-year process. Every time oil prices go up, as they inevitably will repeatedly in a cyclical fashion, the deployment of new advanced technologies will accelerate accordingly, not only because we are in a period of revolutionary technological change, but also because other imperatives, like climate change and energy security, will give forward looking governments even more compelling reasons than the oil cycle to diversify away from oil. The United States needs to take that on board in considering its long run economic competitiveness. The U.S. Department of Energy’s new program for regional energy innovation, while underfunded, is a good start.
Energy producing countries are starting to consider this digital structural change in their official thinking because the higher oil prices go, the more likely China and India are going to hasten policies to eliminate future oil demand, raising the chances of lower oil demand by the time 2025 or 2030 arrives. Governments are putting the infrastructures in place to ban the sales of internal combustion engines. European populations and their capitals care about climate change but renewable energy has also lessened the exposure to Russian energy. China is considering a ban on gasoline cars as part of its industrial policy. OPEC officials can say officially that they don’t believe in the peak oil demand narrative but a rise in oil prices above $100 now makes it all the more plausible than a drop to $20. At $100 a barrel, a ride sharing app that calls forth an electric ride will increasingly make sense in a world where new technologies are driving down the costs of solar, batteries, and even natural gas and clean coal.
I am guessing that Saudi leaders understand this long run oil cycle threat. That is why they keep talking about decadal agreements with Moscow to stabilize oil prices. That’s good news for Vladimir Putin. But not because he believes he can ameliorate the oil cycle. He is just guessing that being the senior partner in an OPEC-like grouping will restore Russia to the stature it deserves. He is likely correct about that. It’s getting him yet another reset summit with the United States as energy has done several times before.
The bad news for U.S. jawboning on the price of oil is this: There are two ways to get out of this painful pattern of oil price shock repetition and neither is likely to happen any time soon. Oil producers could start by spending more of their oil cycle windfalls on economic reforms, education, food and water security, and not buy as many armaments. For its part, the West, China, India, and ASEAN could make sure digital innovations like advanced and autonomous vehicles, drones and online shopping lower the oil intensity of their economies instead of the opposite effect so that economic growth does not promote as sharp an upward oil price cycle as in the past. I am not optimistic about either of those two things happening right away. For the time being, it will be hard for any of the parties concerned, to eliminate the oil cycle, including the U.S. president.