Shale 2.0 vs. OPEC 2.0

IN St. Petersburg’s international economic conference last week, the leading US oil historian Daniel Yergin stated that the shale oil industry now has moved into what is defined as “Shale 2.0.” The main feature of this next phase is that most producers from shale oil plays in the US are now able to operate with a lower cost structure. What does this mean for the Organization of the Petroleum Exporting Countries (OPEC)? And will there be an upgrade for OPEC to OPEC 2.0 as well?

Starting with the first question, Shale 2.0 means that OPEC is now up against a very competitive US industry where producers can survive for longer despite low oil prices, which can even be below the threshold needed to balance and sustain many OPEC members’ fiscal budgets.

Kuwait, for example, would need an oil price of $43 per barrel in 2017 and $44 in 2018 to balance its books, according to the projections of the International Monetary Fund (IMF). That is the lowest oil price needed to balance the books among all OPEC members.

On the other hand, some shale oil producers in the Permian Basin in the US can operate with oil prices in the $30s, Bob Dudley, the chief executive of BP, told Bloomberg TV in an interview at the St. Petersburg conference on June 1.

So, with current prices of around $50, US crude oil production — excluding natural gas liquids (NGLs) — is expected to grow this year, averaging 9.31 million barrels per day (bpd), and it may climb to a record 9.96 million bpd in 2018, the Energy Information Administration (EIA) said in its monthly Short-Term Energy Outlook in May.

Frankly, no one could have thought of this situation three years ago, when OPEC first implemented its strategy to protect its market share in the face of growing production from outside of the group. But the upgrade to Shale 2.0 was not as easy as it may sound.

Shale oil producers have used many ways to stay in production during the past three years. From tapping drilled but uncompleted wells to drilling in the best areas of the reservoirs known as “sweet spots” and cutting costs, the shale oil producers have done almost everything to stay in business. Despite all these efforts, it is not clear for how long US shale production can grow at healthy rates. BP’s CEO said in the interview on Bloomberg TV that not all shale oil basins in the US are the same, and that the Permian is an exception in that it can continue production for longer at lower oil prices. He also said that some shale oil producers are not generating enough cash so their “economic model is not crystal clear.”

Dudley’s message is not different than what US shale pioneer Mark Papa told OPEC officials in Vienna on May 19. He said that they ought not to fear shale oil, as most of the increase in the future will come only from the Permian, people who attended the meeting said.

Even some OPEC ministers such as Saudi Energy Minister Khalid Al-Falih believe that the shale revolution will slow. He said in St. Petersburg that drillers might run out of sweet spots and their cost inflation will pick up in a “major way.”

Yet Shale 2.0 is still a pressing reality, and to answer the second question above, there is an OPEC 2.0 in the making that will be based on the alliance with Russia and other major producers. How long will Shale 2.0 and OPEC 2.0 last? Only what happens in 2018 will tell us. Wael Mahdi is an energy reporter specializing on OPEC and a co-author of “OPEC in a Shale Oil World: Where to Next?” He can be reached on Twitter @waelmahdi