Saudi Arabia's past oil price wars in 2014–2016 and 2020 backfired, as U.S. shale producers became leaner and more efficient.
Riyadh drained hundreds of billions in reserves and faced rising fiscal deficits without achieving its goal of crippling U.S. shale.
The low breakeven cost resilience of the U.S. shale sector is not quite the same as it was before.
It is highly unlikely that anyone with even a modicum of intelligence has lost money in the past ten years or so by trading against the predictable thinking of those in charge of Saudi Arabia’s oil policy. Quite the reverse, in fact, with enormous profits available from the failures of the enormously well-flagged and exceptionally predictable strategy of the 2014-2016 and 2020 Oil Price Wars -- launched by the Kingdom with the intention of destroying or disabling the U.S. shale oil sector, as analysed in full in my latest book on the new global oil market order. As OPEC members and their toxic companion in the OPEC+ formation, Russia, mull keeping oil production on the high side of recent historical averages, the key question for the oil markets is -- surely they are not going to launch another oil price war using the same strategy as failed twice before?
It is apposite here to recall the reasons for the failure of the two previous oil price wars since 2014. The first (2014-2016) was based on Saudi Arabia’s belief – shared by many in the oil market at the time, it must be said -- that U.S. shale oil producers had a breakeven price point of US$70 per barrel (pb) of for the West Texas Intermediate benchmark. Therefore, the Saudis reasoned, if the price of oil was pushed below that level for long enough -- by it and its fellow OPEC members dramatically increasing production while demand in the global market was predicted to remain around the same level for some time -- then many of the new U.S. shale oil producers would go bankrupt. Any others would have to cease production at such uneconomic price levels and shelve future investment plans aimed at boosting their production even more. So confident was Saudi Arabia of the success of its strategy that shortly after the onset of the 2014-2016 Oil Price War, senior figures in its government and oil ministry it held a series of private meetings in New York to tell them in detail about the strategy it was to use and how well it would go, as also detailed in full in my latest book. At these meetings, the Saudis revealed that, far from looking to keep prices high – as had also been the usual inclination of OPEC for many years to boost the prosperity of member states – it was willing to tolerate “much lower” Brent prices “of between USD80-90 pb for a period of one to two years or even lower prices if necessary”. According to several sources at the New York meeting exclusively spoken to by OilPrice.com at the time, the Saudis made it clear that it aside from destroying the then-nascent U.S. shale sector, the Oil Price War also aimed to re-impose a degree of supply discipline on other OPEC members.
In terms of the first objective, the initial signs augured well for a Saudi victory. The U.S. oil rig count in January/February 2015 saw its biggest period-on-period fall since 1991, and the gas rig count fell substantially at that time as well. According to industry figures as at the end of the first quarter of 2015, around one third of the 800 oil and gas projects (worth US$500 billion and totalling nearly 60 billion barrels of oil equivalent) scheduled for final investment decisions in that year were unconventional and were subject to possible postponement or cancellation. Over the year as a whole, output from the U.S. shale producers typically fell by by around 50%, forcing them to cut investment to approximately US$60 billion over the year, compared to the US$100 billion or so spent in 2014. Crucially, though, from around that point the U.S. shale sector reorganised into a meaner, leaner, lower-cost production machine that could – at that time – broadly survive and profit at WTI prices above around US$35 pb from above US$70 pb previously. They managed to achieve this mainly through the advancement of technology that enabled them to drill longer laterals, manage the fracking stages closer and maintain the fracks with higher, finer sand to allow for increased recovery for the wells drilled, in conjunction with faster drill times, as industry experts old OilPrice.com back then. These operations gained further cost benefits from multi-pad drilling and well spacing theory and practice. During this period, Saudi Arabia had moved from a budget surplus to a then-record high deficit in 2015 of US$98 billion and it had spent at least US$250 billion of its precious foreign exchange reserves over that period that even senior Saudis said was lost forever. Moreover, according to International Energy Agency estimates, OPEC member states collectively at least US$450 billion in revenues during the 2014-2016 Oil Price War.
The 2020 Oil Price War – using exactly the same overproduction strategy as before -- failed less through the long-term effects of misjudging the effectiveness of the U.S. shale producers and more through the direct political intervention of its then first-term President Domald Trump. Given the potentially disastrous economic and political consequences for the U.S. and its sitting president of sharp and sustained rises in oil – and crucially, gasoline – prices, as also analysed in full in my latest book, Trump began by warning Saudi Arabia repeatedly that the U.S. would not tolerate any sustained threat to its shale oil sector (and, by extension, to its economy and its domestic political landscape) – in speeches and tweets and in the increasingly close-run legislative passage of the ‘NOPEC Bill’. He also directly warned Saudi Arabia’s King Salman bin Abdulaziz Al Saud that the U.S. might withdraw U.S. military support for the Al Sauds, and by extension to Saudi Arabia, with the additional observation that: “He [King Salman] would not last in power for two weeks without the backing of the U.S. military.” With no sign by the end of March 2020 that the Saudis were going to cease the war, Trump clearly and specifically told de facto Saudi ruler Crown Prince Mohammed bin Salman over the telephone on 2 April that unless OPEC started cutting oil production – so allowing oil prices to rise above the danger zone for U.S. shale oil producers – that he would be powerless to stop lawmakers from passing legislation to withdraw U.S. troops from the Kingdom, according to a very senior source in the White House exclusively spoken to by OilPrice.com a the time. Oil production consequently came back down again, and the 2020 war had ended.
As of now, the low breakeven cost resilience of the U.S. shale sector is not quite the same as it was before. The recent Dallas Fed Energy Survey suggests that it is around US$65 pb for new wells drilled, although for existing wells it is significantly lower. It is also true that the lifting cost of oil in Saudi Arabia has also risen since 2014 from around US$1-2 pb, but it is still only about US$3-5 pb now. However, the Kingdom’s 2025 fiscal breakeven price per barrel of the Brent crude benchmark is a minimum of US$90.9, according to IMF figures. Consequently, it can no better afford a major, sustained fall in oil prices now than it could in either 2014-2016 or in 2020. With Trump back in the White House, it is also no better off politically either. Indeed, with Republicans majorities in both houses, it is worse positioned to deal with the likely threats and actions that Trump would use against it if it went head-to-head with the U.S. again. Instead, according to a senior energy source who works closely with the U.S. Presidential Administration, Washington believes the Saudis will take a modulated approach to further oil production increases, in tandem with the U.S. “Oil prices at the lower end of recent historical averages suit the U.S. from an inflationary perspective, as long as they don’t go too low, and Washington has made this clear to the Saudis,” he said. In fact, these conversations were part of the dialogue that U.S. officials had with their Saudi counterparts during Trump’s visit to Saudi Arabia on 13 May to sign a broad-based economic agreement between the two countries. “There are longer-term financial and security benefits for the Saudis in taking this softer approach, even if oil is below the number they want for their budget in the shorter-term, and to bridge the gap they will have no problem in borrowing more in the capital markets,” he concluded.
