I have often commented that it is not easy to call the international oil market because it is subject to not just the fundamentals of demand, supply and geopolitics, but also the non-fundamentals of exchange rates, financial speculation and human psychology. This said, had I been asked in recent weeks to predict the movement of oil prices, I would have unhesitatingly jerked my thumb upwards to signal a sharp increase. The Middle East has conflagrated yet again and my prediction would have been based on past precedent. Every time there is trouble in the region the markets tighten. I would have been proved wrong, at least as of the writing of this article. The price of oil (Brent) on October 6, the day before the Al Qassam brigade unleashed its attack on Israeli civilians, was $84.5/barrel. It was $81 on December 1.
The fundamentals of supply and demand can offer an explanation. Israeli bombs have not triggered a disruption of supplies. There has also been a spate of new discoveries in Brazil and Guyana, and US shale oil production is trending upwards. Further, demand has slowed down principally because of the slackening Chinese economy.
But is this a sustainable market condition? Might we not be experiencing the deceptive calm that precedes a volatile storm? I ask because, as I see it, the dominant drivers of market conditions today are not the fundamentals of demand and supply, but the non-fundamentals, the psychology of Prime Minister Benjamin Netanyahu, President Joe Biden and Crown Prince Mohammed bin Salman.
These individuals would have a bearing on the market at all times. For, they are leaders of countries that sit at the cross-section of the geopolitics and geoeconomics of the international oil market. But today it is not this systemic position that is of significance. It is their state of mind. It is a fact that they are each facing particular challenges. PM Netanyahu is hanging onto his job by a thread; President Biden is entering an election year and Crown Prince MBS is driven by economic nationalism and his vision to turn Saudi Arabia into a regional economic power. The trajectory of the petroleum market may well be determined by how these personal factors influence the mindsets of these leaders as they decide how to respond to the turmoil in the Middle East.
Readers may well accuse me of engaging in idle parlour games. How can one enter into the psyche of global leaders? But then, I aver, it is the game, not the result that matters. Playing it may better prepare everyone to handle the unexpected. Imagine a fly on the wallpaper of the war rooms of the Israeli military and Hezbollah. What might it hear?
In Israel, the conversation amongst the leaders who know that 1,500 or so Hezbollah rockets are targeted at Israel will most likely be whether to preempt the deployment of these rockets through a preemptive strike. In Lebanon, the conversation amongst the Hezbollah leaders will be whether to preempt the preemptive by deploying their rockets.
Imagine another scene. This time the fly is on the armrest of President Biden’s favourite sofa in the Oval Office. His senior-most military advisers are gathered around him. They have just been told that US troops have been killed in Syria and Iraq by presumed proxies of the Iranian theocracy. They are debating whether to bomb Iran. The elephant in the room is Biden’s declining poll numbers.
Around the world, including in Iran, where the de facto masters of Hezbollah reside, the hope is that the conflict will be limited to Gaza. No one really knows, however, how Netanayu or the Hezbollah leaders will respond to this variant of the “prisoners’ dilemma”. Nor whether President Biden will approve the bombing of Iran in the hope a muscular response will bolster his electoral prospects.
What is known, of course, is that action would broaden the conflict and trigger potentially catastrophic political, military, economic and humanitarian consequences. It would most likely result in the destruction of oil infrastructure and the disruption of supply lines including the choke of the Straits of Hormuz through which pass 21 million barrels of oil every day (approx 20 per cent of global demand). Oil prices would, in consequence, ratchet upwards.
Were the fly now to find itself in the palace of MBS, it might hear a different conversation. MBS’s overriding interest is to maximise revenues to fund his Saudi Vision 2030. Because of that, the conversation is centred around the question: Would Saudi be better off financially over the medium to long term by keeping oil prices high, but risking in the process market share or by driving down prices and pushing high-cost producers to the wall, thereby establishing long-term dominance of the energy market? Which of these two options would generate a higher net present value?
I am not suggesting Saudi is contemplating the latter. On the contrary, they have just last week put their imprimatur on keeping prices high through production cutbacks. I am simply throwing out a counterfactual. After all, if they did indeed go for market share it would not be a first. They opened the oil spigot in March 2020 even as markets were collapsing because of Covid-19. The result was a dramatic drop in prices so much so that MBS had to reverse course within days. Something similar could be tried again. The fact is that whatever the rhetoric, Saudi Vision 2030 rests on earnings from oil and gas exports.
My parlour game describes two scenarios. One in which oil prices head towards triple digits; another where they drop like a stone. These are not forecasts; simply descriptions of logically plausible alternative futures. If nothing else, I hope the game will stretch decision-makers mentally. But if more, I hope it will prompt them to contemplate contingency actions. In anticipation of the former, India should build up its strategic petroleum reserves; in anticipation of the latter, it should streamline trading norms to capture arbitrage opportunities.
The writer is Chairman and Distinguished Fellow, Centre for Social and Economic Progress
MBS’s overriding interest is to maximise revenues to fund his Saudi Vision 2030
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05.12.2023
I have often commented that it is not easy to call the international oil market because it is subject to not just the fundamentals of demand, supply and geopolitics, but also the non-fundamentals of exchange rates, financial speculation and human psychology. This said, had I been asked in recent weeks to predict the movement of oil prices, I would have unhesitatingly jerked my thumb upwards to signal a sharp increase. The Middle East has conflagrated yet again and my prediction would have been based on past precedent. Every time there is trouble in the region the markets tighten. I would have been proved wrong, at least as of the writing of this article. The price of oil (Brent) on October 6, the day before the Al Qassam brigade unleashed its attack on Israeli civilians, was $84.5/barrel. It was $81 on December 1.
The fundamentals of supply and demand can offer an explanation. Israeli bombs have not triggered a disruption of supplies. There has also been a spate of new discoveries in Brazil and Guyana, and US shale oil production is trending upwards. Further, demand has slowed down principally because of the slackening Chinese economy.
But is this a sustainable market condition? Might we not be experiencing the deceptive calm that precedes a volatile storm? I ask because, as I see it, the dominant drivers of market conditions today are not the fundamentals of demand and supply, but the non-fundamentals, the psychology of Prime Minister Benjamin Netanyahu, President Joe Biden and Crown Prince Mohammed........
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