Saudi Arabia Refuses To Learn From Its Two Failed Oil Price Wars

Yves here. Aside from the occasional Trump-driven Middle Eastern development making the headlines, a lot of important Middle Eastern developments haven’t gotten the attention they warrant due to Covid-19 dominating the news. Yet the Middle East remains a geopolitical flashpoint, and arguably more wobbly than ever due to the fragile state of Saudi Arabia. Experts were already worried about the danger of political instability when the former king, Abdullah, died; the old king was well liked and all of his successors were seen as problematic. Without belaboring the details, in a development alarming to the West, the new king’ designated Mohammad bin Salman (MbS)as Crown Prince, and a series of changes in portfolios resulted in MbS having unprecedented power.

MbS has managed to validate concerns about his leadership, from a costly and unproductive war with Yemen, to imprisoning fellow members of the Royal Family, apparently to extort them, to delusional grand schemes (diversifying the economy away from oil, not a bad idea in the abstract, on an wildly unrealistic timetable, particularly given the lack of other domestic capabilities) to the assassination and dismemberment of Jamal Khashoggi. Saudi Arabia not understanding how little sway it has in a world awash with oil, and nevertheless considering self-destructive action, seems par for the course.

By Simon Watkins, a former senior FX trader and salesman, financial journalist, and best-selling author. He was Head of Forex Institutional Sales and Trading for Credit Lyonnais, and later Director of Forex at Bank of Montreal. He was then Head of Weekly Publications and Chief Writer for Business Monitor International, Head of Fuel Oil Products for Platts, and Global Managing Editor of Research for Renaissance Capital in Moscow. He has written extensively on oil and gas, Forex, equities, bonds, economics and geopolitics for many leading publications, and has worked as a geopolitical risk consultant for a number of major hedge funds in London, Moscow, and Dubai. In addition, he has authored five books on finance, oil, and financial markets trading published by ADVFN and available on Amazon, Apple, and Kobo. Originally published at OilPrice

Having failed to achieve the slightest semblance of success in the two oil price wars that it started – the first running from 2014 to 2016, and the second running from the beginning of March to effectively the end of April this year – it might be assumed that key lessons might have been learned by the Saudis on the perils of engaging in such wars again. Judging from various statements last week, though, Saudi Arabia has learned nothing and may well launch exactly the same type of oil price war in exactly the same way as it has done twice before, inevitably losing again with exactly the same catastrophic effects on it and its fellow OPEC members. At the very heart of Saudi Arabia’s problem is the collective self-delusion of those at the top of its government regarding the Kingdom’s key figures relating to its oil industry that underpins the entire regime. These delusions are apparently not discouraged by any of the senior foreign advisers who make enormous fees and trading profits for their banks from Saudi Arabia’s various follies, most notably oil price wars. It is, in the truest sense of the phrase, a perfect example of ‘The Emperor’s New Clothes’, although in this case, it does not just pertain to Crown Prince Mohammed bin Salman (MbS) but to all of the senior figures connected to Saudi Arabia’s oil sector. One of the most obvious examples of this is the chief executive officer of Saudi Arabia’s flagship hydrocarbons company, Saudi Aramco (Aramco), Amin Nasser, who said last week – bewilderingly for those who know even a modicum about the global oil markets – that Aramco is to go ahead with plans to increase its maximum sustained capacity (MSC) to 13 million barrels per day (bpd) from 12.1 million bpd.

Quite aside from the sheer pointlessness of this posturing in a world already awash in oil as a result of the negative demand effect of the COVID-19 pandemic and the output overhang from the oil price war just ended, this comment from Saudi Arabia’s third-ranking oil man (after MbS, albeit by the loosest possible definition, and Energy Minister, Abdulaziz bin Salman al Saud), is extremely misleading. As such, it feeds into the oil market’s collective understanding since the 2014-2016 oil price war that anything that Saudi Arabia says about its oil industry is not to be taken as true, without a lot of additional fact-checking. Regarding the ‘maximum sustained capacity’ statement, to begin with, this term is one that has been repeatedly used by Saudi Arabia since the first oil price war disaster to cover for two other long-running delusions relating to the real level of its crude oil reserves and to the real level of its spare capacity.

Before the 2014-2016 oil price war, Saudi had stated for decades that it had a spare capacity of between 2.0-2.5 million bpd. This implied – given the widely-accepted (but also wrong) belief that Saudi Arabia had pumped an average of around 10 million bpd for many years (it actually pumped an average of just over 8.162 million bpd from 1973 until 2020) – that it had the ability to ramp up its production to about 12.5 million bpd when required. However, even as the 2014-2016 oil price war dragged on and wreaked new heights of economic devastation on Saudi Arabia and its OPEC colleagues, the Kingdom could produce on average no more than just about 10 million bpd. Crucially here, the Energy Information Administration (EIA) defines spare capacity specifically as production that can be brought online within 30 days and sustained for at least 90 days, whilst even Saudi Arabia has said that it would need at least 90 days to move rigs to drill new wells and raise production by an additional 2.0-2.5 million bpd.

Instead, from that point onwards, Saudi Arabia began to attempt to obfuscate this spare capacity lie by semantic trickery. Senior Saudis spoke of ‘capacity’ and of ‘supply to the market’ rather than of ‘output’ or ‘production’ and these two groups of terminology mean very different things. ‘Capacity’ (or its synonym, as far as the Saudis are concerned, ‘supply to the market’) relate to the utilization of crude oil supplies held in storage at any given time in the Kingdom plus the supplies that can be withheld from contracts and re-directed into those stored supplies. It can also mean oil clandestinely bought in from other suppliers (notably Iraq in the last oil price war) through brokers in the spot market and then passed off as its own oil supplies (or ‘capacity’). Exactly the same semantic trickery was used to cover up the actual supply shortfalls in the aftermath of the September 2019 attacks by the Iran-backed Houthis on Saudi Arabia’s Khurais and Abqaiq facilities, with the Energy Minister talking of ‘capacity’ and later of ‘supply to the market’, which are absolutely not the same thing at all as actual production at the wellheads.

The reason why Saudi Arabia seeks to obfuscate its real production and also spare capacity figures is that oil has been the only true foundation-stone of the Kingdom’s geopolitical power since its discovery in the late 1930s and this is also why it lies about its crude oil reserves. Specifically, at the beginning of 1989, Saudi Arabia claimed proven oil reserves of 170 billion barrels but only a year later, and without the discovery of any major new oil fields, the official reserves estimate somehow grew by 51.2 percent, to 257 billion barrels. Shortly thereafter, it increased again to just over 266 billion barrels, a level that persisted until a slight increase in 2017 to just over 268 billion barrels, with, again, no major new oil field finds made, a figure which – depending on who you believe – has increased yet again. At the same time, as highlighted, Saudi Arabia took out of the ground an average of 8.162 million bpd from the beginning of 1973 to the beginning of 2020, which totals over 2.979 billion barrels of crude oil every year, or 137.04 billion barrels of crude oil taken out of the ground over that time period. Given this tangible and proven production, with no major new field finds (and declining production at many of its core oil fields as well, including Ghawar), it is mathematically very difficult to see how it is possible that Saudi Arabia’s crude oil reserves are not actually around 120 billion barrels (and that is using the highly-dubious 257 billion barrels base figure) and not the stated 268+ billion barrels.

Given the wider public realization that the core figures upon which Saudi Arabia’s remaining geopolitical and economic power is based are essentially nonsense, Aramco’s share price might – in the normal circumstances of a correctly functioning market – be regarded as vulnerable. However, such was the absolute desperation on the part of MbS not to lose personal credibility by allowing the omni-toxic Aramco IPO to be seen to fail – at least in Saudi Arabia – that very few of the share purchasers have much to lose. In order to even sell the 1.5 percent stake finally offered (cut down from the initially-mooted 5 percent), Saudi banks were ‘encouraged’ to offer to lend money to retail customers at a 2-to-1 ratio for every riyal they would invest in Saudi Aramco (compared to average leverage ratio limit for loans of 1-to-1). Additionally, the IPO’s international adviser banks were there to take up any slack in the offering left after the sovereign wealth funds of neighboring states were equally ‘encouraged’ to participate on the offering, as were various senior Saudis fearful of a re-run of their treatment in the Ritz Carlton in 2017.

Now, in addition to these levers, Aramco has also reassured this small cadre of investors that it will meet the minimum US$75 billion dividend payout that it was forced into promising in order to ensure that it sold even 1.5 percent of the company. As Aramco’s share price is now intimately connected to MbS’s standing at home, Aramco has little choice in the matter, despite the announcement last week that its net profit plunged by 73.4 percent in the second quarter of this year. This was entirely due, ironically, to Saudi Arabia’s starting yet another oil price war to destroy the U.S. shale sector by crashing prices through overproducing at a time when demand was already annihilated by the COVID-19 pandemic. Such figures, of course, will become entirely meaningless if Saudi Arabia embarks on yet another oil price war in the not-too-distant-future, as is the clear implication of the announcement that it will increase its MSC to 13 million bpd from 12.1 million bpd, as the result for Saudi Arabia next time could be the end of the al-Saud dynasty in the Kingdom.

Print Friendly, PDF & Email


  1. The Rev Kev

    Poor Saudi Arabia. So close to Mecca, so far from Allah. That is the problem with too much wealth. When things start to fall apart, you think that you can keep on throwing money at your problems until they go away. But with Saudi Arabia stacking up more problems for itself than it can resolve, it is not looking good for the Kingdom. The futile war to win in Yemen is costing it several billions per month. They have had to triple their VAT and stop monthly allowances to citizens – the same ones that buys these citizen’s loyalty. Now with low oil prices they want to do an Oil War redux to get themselves out of their troubles. The same ones that were caused by their last oil war several months ago.

    They tried to raise money by doing an Aramco IPO but when overseas investors found that half their contacts were suddenly relocated to the Ritz Carlton, then nobody had faith in the rule of law in that country in case there were disputes involving local courts. Come to think of it, if things start to fall apart, then Saudi Arabia might find that all those Jihadists that they they been funding over the decades will all start to converge on that sorry country turning it into a worse version of Syria. Will American troops be sent there to help secure the Kingdom? Depends on the situation at the time. What should happen is that the US turns to Venezuela and makes a deal. We won’t attack you if you sell us a secure supply of your oil. If that happens, then Saudi Arabia is toast as Washington may have little further use for them.

    1. drumlin woodchuckles

      A lot of Venezuela’s “oil” is really just tar in tar sands, just as in Alberta. I wonder how much oil Venezuela even really has any more.

      Here’s a whole bunch of images of ” Orinoco Tar Sands” Every image has an URL. Some of the URLs link to surprising little sites of genuine interest. One could go ” image URL wormhole searching” to see where an image’s URL takes you. ( Did I use the word ” URL” right?);_ylt=AwrEk5ena0BfDhQAxlpXNyoA;_ylu=X3oDMTEybTVsMjNsBGNvbG8DYmYxBHBvcwMxBHZ0aWQDQzAxNjBfMQRzZWMDc2M-?p=orinoco+tar+sands+images&fr=sfp&guce_referrer=aHR0cHM6Ly9zZWFyY2gueWFob28uY29tL3NlYXJjaDtfeWx0PUF3ckUxOTVSYVVCZmJ0RUE2UzVERFdWSDtfeWxjPVgxTURNVEU1Tnpnd05EZzJOd1JmY2dNeUJHWnlBd1JuY0hKcFpBTmtlVkJEVFY5bVVGTnlRMnhhYldaaWVHSlJZbVpCQkc1ZmNuTnNkQU13Qkc1ZmMzVm5ad014Qkc5eWFXZHBiZ056WldGeVkyZ3VlV0ZvYjI4dVkyOXRCSEJ2Y3dNd0JIQnhjM1J5QXdSd2NYTjBjbXdEQkhGemRISnNBek13QkhGMVpYSjVBMjl5YVc1dlkyOGxNakIwWVhJbE1qQnpZVzVrY3lVeU1HbHRZV2RsY3dSMFgzTjBiWEFETVRVNU9EQTFOek00TXctLT9mcjI9c2ItdG9wLXNlYXJjaCZwPW9yaW5vY28rdGFyK3NhbmRzK2ltYWdlcyZmcj1zZnAmaXNjcXJ5PQ&guce_referrer_sig=AQAAAK5668yzEBepTyaJfh1i8XKLqsgV8xEvZiXBaYY4XLMRbj7JLxyKXn_9r1lGzUAXhQcUfkt3QRFeSNEYAhMm1oWCD7d4p5dRn9vZOMK67krd-kcs1eiX2UiQtMwGji6TyMkm91eO2XJu2sAW6tRfomTnu7C9ak6m6aIgVKVwTLKA&_guc_consent_skip=1598057415

  2. PlutoniumKun

    Thanks for this. In all the distractions of the last few months its been easy to forget that SA is ruled by a hot headed incompetent, with multiple potential impacts worldwide. Plenty of people were predicting he wouldn’t last this long, but he seems to have cemented himself into place for the short to medium term at least.

    A key point about the power of SA is not just the quantity of oil they possess in reserve and in production – its that their oil has always been so very cheap to produce. As reserves run down, inevitably they will have to turn to less productive fields, or use energy intensive methods to keep failing fields producing. This will end up having a serious impact on Aramco’s profitability and, of course the balance sheet of the country. Another point is that SA is a major producer of bulk chemicals from gas – this market is also grossly oversupplied thanks to frack investments in the US. But without wads of cash to push around the House of Saud is just a pyramid of cards that will collapse. This might not matter for some countries, but SA does not have any real institutional debt beneath the layers of patronage. I wonder if the country would even survive the fall – there are far too many downtrodden tribes and minority groups with a hell of a grudge who would want to grab a slice of whats left of the pie. The results will not be pretty.

    Its pretty clear now that the economic impacts of Covid will last for years. With everyone else determined to keep production up, only a war I think can keep oil from rock bottom prices. The tin hat wearing side of me wonders if the US oil industry is beginning to wonder if its only possible saviour is a collapse in Middle East production caused by problems in SA (i.e. a civil war). Of course, a pro-Saudi element is very strong in Washington, but I wonder how long this would last if influential people decided that cutting the House of Saud loose would be the best way to protect US oil interests. MBS is such an idiot that he could well be talked into doing something stupid (maybe involving Iran) to accelerate the process.

  3. orlbucfan

    “…that SA is ruled by a hot headed incompetent,….”
    Sounds sadly too familiar.

  4. km

    I would think that the last thing that the Saudi tyrants would want is to demonstrate to the entire world just how little leverage their status as swing oil producer really gets them.

  5. Jeremy Grimm

    At this moment the world markets for oil are flooded with supply beyond demand, probably for the next several years. The Corona Depression has and will dampen demand for oil. But beyond the noise around a ‘Green’New Deal and some uncomfortable suggestions of some Big Money explorations of the profit potentials of ‘Green’-ness — what planning is there anywhere to cutback on how much and how fast we burn up fossil fuels? The plan seems to be catch-as-catch-can. If and when the economy starts to come back our economic system and societies are still inclined to extract and burn as much fossil fuel as possible as quickly as possible and the future supply of fossil fuel will be damaged by the price drops now — even assuming nothing happens to the Saudis.

    The US fracking ‘boom’ is crashing, Saudi is working toward greater instability, and the US Government seems devoted to do everything it can to threaten and antagonize Venezula, and alienate other petroleum and natural gas producing nations. In response to the initial signs of the Corona Depression the US Government has fostered a restructuring of its economy that promises great suffering of the Populace and far greater social instability for its future. I think many other nations are being a little more helpful to their Populace but all the help appears to hope some magical turnaround will make everything better when Corona goes away. The help to Populace I am aware of is or has been like the rent and mortgage postponement … postponement without a plan for what happens when postponement ends as it has in the US.

    Our Society was already on several roads toward collapse. Why are our Elites working so hard to get there faster?

    1. drumlin woodchuckles

      One could speculate endlessly. Perhaps they have already decided to close the books on America and are just letting it run down as they prepare to go to their next base of operations.

      Perhaps they somehow sense that their own position is burning down in ways the rest of us can’t see, and they hate the thought of America outliving them, and so they are going to burn down America along with themselves.

      The possibilities are many for people like them.

  6. RBHoughton

    Its a nice question whether extracting and selling a million barrels of oil is more profitable than playing the Fed and Wall Street’s financial jiggery-pokery game. At least with the money handouts, SA still has the oil

  7. Francesco

    Oil consumption is down just 10% or less and even if it will remain there, production will crash much more in the coming years. Last time new discoveries were enough to cover yearly consumption was about 20 years ago. I believe we’re already well within a secular stagflationary cycle where purchase power will continue do trend down 1% a year on average for at least 40-50 years. For the green revolution Tad Patzek wrote extensively in the past. To have a chance we need to build so many new green infrastructures with old technologies that we need much more hydrocarbons consumption. Lot of time to have a self supporting green energy world, time that we don’t have. It perfectly fits with the secular cycle theory as studied and described by Peter Turchin and Sergey Nefedov in their magnum opus ( 2009). At the end the real bubble is not the financial one, it’s just a side effect. We have met the enemy and he is us, we’re the bubble.

Comments are closed.