December 18, 2014
TSG IntelBrief: Oil, Power, and Geopolitics
Since June, the price of crude oil has virtually halved, from about $115 per barrel to below $60. A key cause of the dramatic oil price decline has been a deliberate decision by the major actors within the Organization of Petroleum Exporting Countries (OPEC), particularly Saudi Arabia and its key Arab Gulf allies, to maintain current levels of oil production.
With economies in China and Europe slowing or stagnating, and U.S. crude oil production soaring, the oil supply exceeds demand. U.S. production is the highest it has been in more than 30 years, primarily because of the use of new technologies to extract crude oil from shale deposits through a process called “fracking,” and U.S. imports of oil have declined significantly. Maintaining a high oil price would require an OPEC production cut, and Saudi Arabia and its allies have prevailed within OPEC to refuse production cuts championed by OPEC “price hawks” such as Iran and Venezuela. Non-OPEC oil exporters such as Russia are not organized into a formal grouping and generally have failed to coordinate their production decisions.
Saudi Arabia, Kuwait, Qatar, and the United Arab Emirates are members of both OPEC and the Saudi-led alliance of Arab Gulf countries called the Gulf Cooperation Council (GCC; the two other members are Bahrain and Oman). These four Gulf countries, and particularly Saudi Arabia, are able to use their leverage in OPEC to try to achieve a wide range of shared strategic objectives.
A key Saudi and Gulf state objective in allowing oil prices to fall has been to strategically contain their regional nemesis, Iran. Saudi Arabia and its Gulf allies see Iran as aspiring to regional hegemony through support of Shi’a opposition movements in Bahrain, with its Shi’a majority, and Yemen, where the Houthis, from the Zaydi branch of Shi’a Islam, took control of the capital, Sanaa, in September. In the Gulf states’ view, lower oil prices deprive Iran of the revenues it needs to support such groups and to prop up pro-Iranian leaders in Baghdad and in Damascus. In Iraq, Iran has been instrumental in reviving Shi’a militia movements to try to blunt the offensive by the Islamic State organization. Defeating the terror group is an objective the Gulf states and Iran share, but the Gulf states see the Shi’a militias as rogue elements that are committing atrocities against Iraqi Sunni civilians. In Syria, the Gulf states see Iranian support to the Assad regime as the main factor enabling him to remain in power despite a four year old Sunni-led armed uprising there.
There is reason to believe the Saudi/Gulf strategy will have the intended effect. The financial obligations Iran is incurring, particularly in Syria and Iraq, are considerable. Iran is funding much of the operations of the Shi’a militia fighters who are assisting the Iraqi and Syrian government forces. Even as Iran’s financial obligations increase, international sanctions have denied Iran access to most of its hard currency held abroad. And, the interim nuclear agreement in place since November 2013, caps Iran’s oil exports at 1 million barrels per day. Iran cannot export more oil to compensate for falling prices, as the Gulf states can. Iran is thus harmed far more deeply and immediately by low oil prices than are the Gulf states, which have small populations and copious financial resources.
The Gulf states see the fall in oil prices as also restraining the ability of another Assad regime supporter—Russia. Oil accounts for about 75% of Russia’s exports and falling prices have led to a collapse in the value of the ruble. The economic difficulties in Russia will pressure Moscow to reduce support for Assad—in particular its generous resupplies of tank and combat aircraft spare parts. The United States and its allies perceive that falling oil prices—coupled with sanctions—will reduce Russia’s ability to support armed separatists in eastern Ukraine. However, the Ukraine issue is not a priority for the Gulf states and not likely a main factor in the decision to allow oil prices to fall.
Beyond strategic regional objectives, Saudi Arabia and its Gulf allies seek to achieve practical energy market goals with their recent oil production decisions. The Gulf states see booming U.S. oil production as a threat to OPEC’s ability to control oil prices. By allowing prices to fall, Saudi Arabia and its allies are hoping to make U.S. production less economical and drive many of the small U.S. producers out of business. Saudi Arabia and its allies also see lower prices as undercutting the burgeoning U.S. and European development of alternative energy sources and of vehicles such as electric cars.
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