Coro­n­avirus threat­ens oil pro­duc­ers with dou­ble whammy

Muscat Daily - - BUSINESS - ELLEN R WALD

The coro­n­avirus out­break is al­ready threat­en­ing oil mar­kets. The fear of lower de­mand - from a dis­ease-stricken China and even­tu­ally glob­ally as the eco­nomic im­pact widens - has desta­bilised prices, send­ing crude to its low­est lev­els in more than a year. For ma­jor oil-pro­duc­ing coun­tries, the de­clines, com­ing at a time of cur­tailed out­put, threaten eco­nomic shocks that if long-last­ing could lead to the kind of po­lit­i­cal and re­gional in­sta­bil­ity that was avoided dur­ing the last steep drop.

China is the largest oil im­porter in the world by far, and its big­gest sup­pli­ers are Saudi Ara­bia and Rus­sia. In De­cem­ber, China’s Gen­eral Ad­min­is­tra­tion of Cus­toms re­ported oil im­ports of nearly 11mn bar­rels per day. With the virus still yet to be con­tained, peo­ple with in­side knowl­edge of the Chi­nese en­ergy in­dus­try es­ti­mate that oil de­mand in the coun­try has dropped by about 3mn bar­rels a day, or 20 per cent of to­tal con­sump­tion.

We don’t yet know what toll the virus will take on global oil de­mand, es­pe­cially if an eco­nomic slow­down spreads be­yond China; es­ti­mates from BP Plc and OPEC put po­ten­tial losses in the 200,000 to 600,000 bar­rel-per­day range. As con­tain­ment ef­forts fall short and quar­an­tine mea­sures be­come more se­vere and wide­spread, mar­kets need to con­sider that the worst-case sce­nario might be more re­al­is­tic than pre­vi­ously as­sessed, and be mind­ful of the pos­si­ble re­ver­ber­a­tions.

A cat­a­strophic sit­u­a­tion for the oil in­dus­try might see prices drop­ping into the US$30-to-US$35 per-bar­rel range for Brent, and last­ing for sev­eral months. This sit­u­a­tion presents a par­tic­u­lar prob­lem and threat for oil pro­duc­ers that would be sig­nif­i­cantly more se­vere than they faced when Brent prices last dipped into the low US$40s and mid-US$30s in 2015 and 2016. Then, the price of oil fell be­cause pro­duc­ers were pump­ing as much oil as they could. But if prices were to fall that much now due to the coro­n­avirus out­break, it would hap­pen at a time when most pro­duc­ers have tem­pered their out­put.

OPEC and its part­ners in OPEC+ are lim­it­ing pro­duc­tion, and even con­sid­er­ing fur­ther cuts to com­bat the de­mand de­struc­tion. So, in the feared coro­n­avirus sce­nario, pro­duc­ers such as Saudi Ara­bia, Rus­sia and the United

Arab Emi­rates would face low prices in con­junc­tion with lower pro­duc­tion. This would se­verely cur­tail their rev­enue. If, for ex­am­ple, Saudi Ara­bia ex­ports 6.85mn bar­rels per day (which it did in Jan­uary 2020, ac­cord­ing to data from TankerTank­ and the price of Brent dropped US$20 per bar­rel with­out any in­crease in pro­duc­tion, its sta­te­owned oil com­pany Aramco would lose al­most US$4.2bn per month.

Should this low-de­mand/low-pro­duc­tion sce­nario come to pass, coun­tries such as Saudi Ara­bia, Rus­sia, the United Arab Emi­rates and oth­ers would face di­rect hits to their cof­fers. Their deficits would rise; the ser­vices pro­vided by their gov­ern­ments to sat­isfy the pop­u­la­tions might be re­duced; and their economies would suf­fer. If the sit­u­a­tion lasted long enough, eco­nomic in­sta­bil­ity could have po­lit­i­cal con­se­quences.

The US, cur­rently the world’s largest oil pro­ducer, wouldn’t be im­mune; pro­duc­ers there would face harsh busi­ness con­se­quences but for dif­fer­ent rea­sons. Un­like OPEC+ coun­tries, US oil firms, par­tic­u­larly shale firms, are pro­duc­ing at record rates. How­ever, most com­pa­nies pro­duc­ing in the shale-oil patch have higher break-even points than big oil pro­duc­ers else­where.

If prices drop sig­nif­i­cantly and don’t re­cover quickly, the US could see an­other oil bust, re­sult­ing in bank­rupt­cies and lay­offs. And while coro­n­avirus might bring lower gaso­line prices for Amer­i­can con­sumers, it is equally likely to strike the US econ­omy in one of its most suc­cess­ful sec­tors.

The worst-case sce­nario may well be avoided and cer­tainly that’s to be hoped for, in the name of world health and eco­nomic sta­bil­ity; but with the cri­sis still rag­ing and so many un­knowns, it’s pru­dent to con­sider all pos­si­bil­i­ties.

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