Who is fixing the Oil Price? Dr. Bobby Srinivasan and Dr. Sudhakar Balachandran

January 9, 2015 | Posted by bobbysrinivasan << back to blog

The price of the WTI Crude in the last few days, has crashed below the 50 dollar mark a barrel, arising concerns as to how low will the prices go before any recovery could take place. A number of related questions also arise with regards to who is responsible for the current price collapse. The obvious answer seems to be Saudi Arabia since they are the largest producer of the crude oil in the world. In the past, when prices fell, they used to reduce their production to bring back up the price. Now their oil minister Mr. Naimi says that he doesn’t care even if the price drops to 20 dollars a barrel. This is a conversation between a student and his finance professor.

Student: Professor, what is happening in the oil market is crazy. By allowing the oil prices to crash what are the oil producers trying to achieve?

Professor: There is a difficult question to answer. I will of course try

By allowing the prices to go lower, the marginal players in the oil market namely Russia, Iran, Iraq and Venezuela will be put into serious financial difficulties to say the least. They are all cash hungry and if the oil drops to say 20 dollars a barrel, their economies will take a heavy toll. Saudi Arabia, the biggest player in the market, sitting on a 700 billion US dollar reserve, can withstand this downswing in prices. With over time and continued lower prices, their competitors’ oil fields will close down sine die.
Why should Saudi Arabia reduce production? They are a low cost producer and why should they help the high cost producers to survive? Let them disappear in competition.
The new development in the production of oil in the US by the fracking technology seems to have unlimited capacity to produce oil relatively cheap prices. Currently they are producing 10 million barrels a day and they are flooding the market. In fact they are just too many of them.
Currently in the global market there is an excess supply of 1.3 million barrels a day. It has to be sold immediately as the existing oil warehouses are full. So this excess oil is forced to be sold at rock bottom prices. Currently this excess oil is loaded into ships without any specific destination and is sold in the high seas at a price of what the market can bear.
The ISIS Levant is pumping oil from the captured oil fields in Iraq and Syria and is selling them in the global market at rock bottom prices. They need the money to buy weapons for their noble cause of creating a caliphate in the Middle East.

So you see it is hard to pin point the responsibility on any country for the current situation. One thing is certain. There are just too many players in the market currently. The oil prices will recover only when some of the players get out of the market.

Student: All along I have been given to understand that energy market played a very critical role in the global economic growth. Now am I to understand that oil is just another commodity with specially no country is enjoying and superior status?

Professor: Possibly yes. There are very many conspiracy theories about the current oil market. I have no evidence to support them. Anyway, let me say it.

The US and Saudi Arabia together produce more than 20 million barrels a day. They control more than half the oil market. They have common enemies in Iran and Russia. By pumping high quantities of oil at low prices, they have been able to push the value of rouble from 32 to 70 a dollar. Similar damage is also inflicted on Iran’s currency and its economy.
The ISIS Levant is currently near the Saudi Arabia’s door step. They get now more than a million dollar a day from the oil sales. By pushing the oil price down Saudi Arabia believes that it can make them weak as they won’t have money to buy sophisticated weapons which they plan to use against their enemies.

Student: Professor thanks. By listening to you I feel I am watching a thriller movie.

Professor: Let us hope for the good ending.

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