The Big Picture

Prices Revive Old-School Energy Diplomacy

Copyright © 2021 Energy Intelligence Group
  • Rising oil and gas prices serve as a stark reminder that for all the effort expended on climate diplomacy, policymakers and diplomats cannot yet ignore traditional ideas about securing carbon-based energy supplies.

  • The priorities for Washington and Riyadh — long the linchpin relationship when it comes to oil security — don’t match.

  • Washington is concerned about higher prices at the pump today. Riyadh sees a potential supply overhang next year if producers rapidly add more barrels to the market.

    After months of US officials publicly urging Opec and its allies to ensure oil prices don’t undermine economic recovery, the White House launched into full swing last week to tackle high energy costs, hosting a cabinet-level meeting on supplies and reaching out to industry.

    Crude prices have been on the rise for months, driving politically-sensitive prices at the pump higher. Nationwide, US consumers have been paying an average of more than $3 per gallon of gasoline — a threshold viewed by the Trump White House as something of a red line — since May, according to the Energy Information Administration. The agency expects home heating prices to jump this year. Pandemic-related stimulus spending that helped cushion households from increased energy costs ran out last month, as inflation across sectors continues rising — even if at a slower rate. Concerns that rising oil and gas prices could undercut a fragile recovery are coming from the National Economic Council Director Brian Deese, sources say, a one-time climate coordinator for former President Barack Obama who worked on investment giant Blackrock's transition strategy.

    Riyadh, which presides over the bulk of global spare capacity, doesn’t see high prices that way. The Saudi leadership is understood to be happy with rising prices, a boon to its own economic recovery after the pandemic dramatically cut oil demand in 2020. Making additions beyond the 400,000 barrels per day of monthly increases that Opec-plus has planned through April 2022 could lead to an overhang next year, the thinking goes. "The issue is not availability of crude oil," Saudi Energy Minister Prince Abdulaziz bin Salman told the India Energy Forum on Wednesday. “We keep telling people that we should be looking beyond the tip of our noses. If you take 2022 into account, you will end up with huge amount of stocks by the end of 2022,” he said a week earlier.

    Strategic Play

    The US maintains emergency crude stocks, and Energy Secretary Jennifer Granholm pointed out this month that a release is always a potential tool. But analysts believe price reactions to a strategic stocks release would likely be short-lived, although it might temporarily quell markets or be seen as chipping into Opec-plus' control of supplies.

    The problem is the US is just one producer and Opec-plus represents the largest collection of production. “Even with an SPR [Strategic Petroleum Reserve] release, the US is still ‘dwarfed’ by Opec — it’s still David and Goliath here,” says Patrick DeHaan, an analyst at GasBuddy, which tracks the prices consumers pay at the pump. The effect could be more dramatic if others join in, however: Europe has 278 million barrels in strategic stocks, and Asia, 39 million bbl. A coordinated action could ease supplies in a market that is essentially more short of refined products than crude oil.

    At the Margins

    In addition to strategic stocks, the Biden administration may have a few levers to pull, even if they sit awkwardly with its focus on climate. US refiners, for example, are arguing that federal requirements to blend biofuels into gasoline stocks are proving too costly. Easing blending requirements could knock a bit off the gasoline price, independent refiners say.

    Granholm also acknowledged recently that the US has authority to restrict crude exports, although it’s not clear that the administration is seriously considering doing so. In any case, the effect of reinstating limits on crude exports would only go so far because of limited refining capabilities, DeHaan said.

    Ultimately, the fastest route to a reduction in prices at the pump are lower crude prices brought on by additional supplies — something Washington can’t effect. The handwringing in Washington over prices has provided ammunition —
    and not a little schadenfreude — to those in the industry who have chafed at the administration’s focus on the energy transition. But it remains the case that in the US, decisions about whether to increase oil and gas output are made by private companies and investors. It is the emphasis on capital discipline, after investors lost money in the years of high shale production, that is limiting output growth from shale producers.

    “If [US Interior Secretary] Deb Haaland stood up next week and said ‘we're removing all restrictions on drilling on federal lands’… none of that results in barrels on the market the day after. The only thing that sees barrels on the market the day after are the Saudis and the other key [Mideast] Gulf partners” changing position, an economist at a large oil company said.

    Room for Growth?

    Opec-plus certainly has the room. Energy Intelligence reckons spare Opec capacity sits above 4 million b/d, with its non-Opec allies providing about another 1 million b/d. The Biden administration’s diplomatic overtures have so far not born discernable fruit. The relationship is considerably more distanced than under former US President Donald Trump who, while periodically berating Opec over Twitter for oil prices, nevertheless embraced Riyadh’s leadership and its view of the region.

    But complaints are coming from Opec’s core customers in Asia, adding to pressure on the group to respond in some way. Some Opec watchers have concerns about demand destruction with prices heading above $85 per barrel. So far, however, there is no consensus on a shift in the group's strategy. Russian Oil Minister Alexander Novak, for example, seemed to echo Prince Abdulaziz’s comments, saying the market is not overheated.

    Some Opec-plus states might start supporting the idea of adding more production, especially because not all members are producing at their allocated quotas. There’s recent precedent, too, of support within the group for higher output. The United Arab Emirates, which has about 1.4 million b/d of spare capacity, in July held up an Opec-plus agreement over its desire to raise its production quota. There is also a higher chance of compliance slippage with prices at current levels, with some members routinely flouting their targets in the past to earn additional revenues. Then there is Iran, which, for all the concerns about the stalled nuclear negotiations, could yet do a deal with the US that brings 1 million b/d back to the market in just a few months.

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