The place for crude oil in this globalized world By Dr. Bobby Srinivasan and Dr. Sudhakar Balachandran

January 2, 2015 | Posted by bobbysrinivasan << back to blog

The New Year 2015 has started with multiple challenges for oil producing countries. Should I continue to produce the same quantity or not is a question that is running through the minds of the oil producing countries. If they cut production, should it necessarily create scarcity so that the price of crude oil will bounce back? Who is currently determining its price? Is it the producer, consumer or the commodity market? This is an ongoing discussion between a student and his professor.

Student: Prof, the volatility in the crude oil price is very hard to understand. The West Texas Intermediary (WTI) is currently trading at $ 54 a barrel. I read in the paper that Mr. Naimi, the Saudi Arabian oil minister says that even if the price of oil touched $ 20 a barrel, they will not cut production and reduce their market share. Does he really mean that?

Professor: I am the wrong person for you to ask this question. Nevertheless let me address the issue, Saudi Arabia has the lowest cost of production probably a few dollars a barrel. It is a country with a small population sitting on US 700 bln dollar as its national reserve. The current drop in oil price may somewhat puzzle them but nothing will shake their fighting status as the king of hydrocarbons. They need to maintain their leadership position is not only crucial to their economy of the kingdom but also its role as the Gulf powerhouse and the west’s main strategic Arab ally. So come what may Mr. Naimi will stick to his guns.

Student: It’s OK for Saudi Arabia. What about the rest of the oil producing countries?

Professor: As regards other oil producing countries, will they crumble economically. Only time will tell. You see Saudi Arabia is telling the oil producing countries that survival in this collapsing oil market means that only the fittest will ultimately improve their market share.

Student: Prof, do you see any political overtone to this Saudi Arabian’s attitude?

Professor: It is not clear as to whether Saudi Arabia is either unwilling or unable to arrest the slide in oil prices. On the other hand, it appears to me that the mighty US is joining hands with Saudi Arabia to economically bankrupt Iran and Russia. Does this sound like a theme for a block buster movie?

Student: Prof, in all seriousness I am asking you “tell me where the price of oil is heading to and how it will affect the oil producing countries economy?”

Professor: You sound like a commodity and currency trader. The traders are selling both the crude oil and the Russian rouble. They have already pushed the oil from 110 $ to $ 55 a barrel and the Russian rouble from 32 to 70 to a dollar. It is already sending shock waves across the world. The new player namely the US is producing 10 million barrels a day from the shale. If the trading in oil becomes free for all then oil could indeed go down to much lower price. Already trillions of dollars of oil revenue have disappeared. For countries like China and India it is celebration time. But this celebration will come with a heavy price. We have several million Indians working in the Middle East. If the reduced oil prices, make them loose their jobs, our unemployment problem will assume a different proportion. I am confused as to who will win in this scary “price war”.

Student: Thanks professor for your thought provoking analysis. Personally, I have a Maruthy 800 cc. I am excited about the prospects of lower prices. But then who knows. India may not pass on the benefits to its citizens.

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