I have been involved with the petroleum industry for over four decades. I do not recollect a more combustible, contrarian and confusing complex of forces bearing on it than those today.
It has never been easy to call the timing and rate of change of oil prices. This is because they are influenced by the non-fundamentals of geopolitics, exchange rates, speculators and the predilections of corporate and political leaders. The direction of change has, however, been easier to foretell because it was driven by the fundamentals of demand and supply. Now, these fundamentals have also been tossed into the cauldron. As a result, policymakers in import-dependent countries like India face a challenge: How to manage and mitigate the consequential uncertainties?
A tour d’horizon of the international petroleum market is revealing.
Venezuela has the largest reserves of oil in the world. The US has reimposed sanctions on the country for breach of the government’s commitment to hold “free and fair elections”. It has done so with a self-interested twist. The US company, Chevron, has been allowed to continue the joint venture with the national oil company in Venezuela, PDVSA, and to sell crude oil to refineries in the US. The reason is, in part, to keep a lid on US petrol prices and, in part, to protect US commercial interests. President Joe Biden wants to burnish his democratic credentials and safeguard his electoral prospects.
Production of shale oil and gas is surging. The US is the largest producer of petroleum liquids in the world and the biggest exporter of LNG. It has also allocated more money than any other government (approximately $400 billion, through the misnamed Inflation Reduction Act) to reduce carbon emissions. This presents a dilemma. At some point, the economics of fossils may have to give way to the politics of clean energy.
The US also continues to back the Ukrainian war effort — and for good reason. Unprovoked aggression should be resisted. It should be noted, however, that the conflict has boosted the profits of US petroleum companies. They have (predominantly) filled the vacuum created by the sanctions on exports of Russian gas and petroleum products into Europe. Here, the principles of global security clash with corporate commercial interests.
Russia’s petroleum industry has been degraded by sanctions, drone attacks, financial constraints and poor technology. Yet, it is generating sufficient revenue to finance its war machine. China and India have replaced Europe as their major overseas markets. Last month, these two countries absorbed 62 per cent of Russia’s crude oil exports. Prima facie, this would suggest the bark of Western sanctions is stronger than its bite. And deliberately so. Were Russian oil taken off the market, the price would ratchet up sharply and hurt the electoral prospects of leaders facing elections this year. The point is, here too, there is no walking a straight line.
The Middle East is facing a witch’s brew of warfare, racism and radicalism but also houses 55 per cent of the world’s petroleum reserves. It was convulsed on October 7 when Hamas attacked Israel and Israel retaliated with genocidal ferocity. The conflict entered a new phase on April 13 when Iran launched 300 plus missiles against Israel directly rather than through its proxies (Hamas, Houthis, Hezbollah). The impact was minimal. All the missiles were destroyed before they reached their intended target. That did not lower the inevitability of an Israeli response. The world was on edge. The question was how and when, not whether. In the end, perhaps because of international pressure, the retaliation was relatively muted. As of the time of writing, it appears all parties have walked back from the brink of a regional conflagration. The sword of Damocles, however, continues to hover over the region. One misstep could result in the closure of the Straits of Hormuz through 30 per cent of internationally traded oil passes.
The international petroleum majors have recently declared solid profits, all because of higher production (and price) of oil and gas. Consequently, the bulk of their investable capital is directed towards fossil fuels. But they must reconcile this investment strategy with their net zero carbon emission targets.
Western sanctions on Venezuela, Iran and Russia have fragmented the petroleum market. Trading relations are predominantly regional, not global. The US is the major supplier of LNG and products in Europe; Russia is now the largest supplier of crude to India. Iran exports predominantly to China, who care little about Western sanctions (It earned approx $35 billion in 2023 despite the sanctions). The fragmentation will most likely deepen as European demand falters, China (and to a lesser extent, India) switches from coal to gas and Middle East gas producers concentrate on increasing their market share in Asia. Qatar, for instance, will double its LNG capacity from 77 mt pa to 142 mt pa by 2030.
The AI industry will need enormous amounts of electricity for its data centres, cloud storage facilities and crypto mining. Renewables will not be able to meet this requirement. People like Bill Gates and Sundar Pichai are, however, committed to net carbon-zero emissions. As such, they will face a conundrum. Should they slow down their growth plans or turn to gas-based power generation for their requirements?
The tour reveals that governments and industry (in particular, oil companies and AI) are on the horns of multiple dilemmas. It suggests that aside from geopolitics, exchange rates and Wall Street speculation, analysts should consider net zero carbon emission commitments and the AI industry’s demand for electricity as two additional non-fundamental factors that will bear on the international oil market. The tour also reaffirms the hard truth; the petroleum market will be volatile.
The lesson for oil import-dependent India is clear: Do not overread the market. Instead, hedge against volatility. Build up strategic oil reserves, increase the share of natural gas in the energy basket, invest in smart infrastructure, intensify R&D on clean energy, encourage public-private partnerships and scale up renewables.
The writer is chairman and distinguished fellow, Centre for Social and Economic Progress
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