Interview: Changing Contours of Global Energy Geopolitics

Interview: Changing Contours of Global Energy Geopolitics


Mehmet Öğütçü

Energy Review: The price of crude oil has recently touched below $10 per barrel, sending fears across the global energy market about the potential damage to the petroleum industry’s operations. Could you please throw some light on the demand slump and the politics that is driving the industry to this scenario?

Mehmet Öğütçü: The global energy industry is at a historic juncture, having experienced comprehensive transformation, technology revolution, geopolitical competition, climate change disruption, investment bottleneck, price and market warfare. This process has started even before the outbreak of the corona crisis which has slowed our planet and further destructed nascent demand growth, not only in oil and natural gas but also in power consumption.

We are sailing towards a new world, marked by less certainty and predictability and more risks because there is an absence of global leadership to unlock the great potential our prospects offer.

We have a world population of7.8 billion people and global economy at $80 trillion. Synergies among nanotechnology, biotechnology, information technology, and cognitive science have dramatically increased the availability of energy, food, and water and connected us anywhere, anytime.

Therefore, let’s not worry much about the future demand growth down the road as it will come with people and industries needing more energy to be deployed. But, energy efficiency too will increase and we will need less energy to produce more, particularly now that so many nations are moving from industrial to post-industrial societies. Furthermore, poorer countries will grow faster than richer countries.

The collapse in global consumption this year because of the coronavirus pandemic will likely wipe out a decade of growth. There is no likelihood soon of demand picking up that will lift the prices and demand to the pre-crisis period.

Energy producers are throttling back their output, drivers are returning to the road and U.S. oil prices are roughly twice what they were a week ago, raising hopes—but not confidence—that the mounting glut will not overwhelm the world’s capacity to store oil.

The onset of a new US-China Cold War, triggered long ago but now accelerating prior to the US presidential elections in November 2020, will not help to the efforts to revive global economy and energy demand growth. I believe that the struggle to capture greater share from international oil and gas markets will continue to be waged, particularly by the US.

ER: Many major oil producers have not been able to make remarkable cuts in the production due to their domestic economic considerations, and are continuing to pump oil into the market. To what extent do you think a substantial production cut is possible which may lead the price back to pre-COVID levels?

MÖ: True, for certain producers it is like an economic and political suicide to further cut back production as called for by the OPEC+ deal. Remember that some depend on oil revenues up to 90 percent of their budgets. Iraq cannot pay civil servants’ salaries next month if the prices remain the same level and production will not increase. Iran cannot meet its budget objectives even if the prices rocket up to $200 per barrel. Venezuela has already bankrupted.

Producers’ cuts are unprecedented in size, but still not big enough to counter the destruction in demand for energy products caused by the pandemic. Crude prices have fallen more than our imagination this year as countries restrict work, travel and public life.

Some producers can still survive because of diversification in their economies and their sovereign oil funds which may provide a breathing space. However, if the depressed prices stay too long, they too will have hard time keeping afloat.

Apart from fragile OPEC producers, I think that the US shale producers and Gulf nations will suffer most from the low price environment. Russia, already under the US sanctions, knows how to survive under such dire circumstances and has a sizeable state fund to mitigate the risks to its economy for a prolonged period.

The real risk for the Gulf economies, where youth unemployment is very high, is the social and political disturbances to grow and cause regime changes. I believe that as OPEC+ output reductions begin, compliance to cuts will be high.

My estimation is that demand destruction in oil markets is in the range of 30-35 percent, meaning that the OPEC+ production cut of 9.7 mbpd is far below what’s needed to redress the huge demand-supply imbalance. Another 20 mbpd should be wiped out from the market torestore the market fundamentals - this is of course impossible as many producers have already done their utmost.

This demand distress comes on top of the already painful transition from fossil fuels to renewables, growth of electrical cars and significant productivity increase curbing fuel consumption - these are signals that the prospects for any noticeable demand growth are not going to be so bright.

ER: The shale industry has already been witnessing serious challenges in the current demand slump scenario. How is the shale industry in the United States shaping their strategies to overcome the energy geopolitics that locks its horns with the conventional oil producing countries?

MÖ: Historically the US has been happy with the goal of being self sufficient in oil and gas. Yet, under Trump, Washington is more ambitious, aspiring to “global energy dominance”. This is not far from reality because in the pre-corona crisis, the U.S. has become the world’s largest crude producer (mind you that not exporter).

Federal forecasters predict that domestic oil production might still grow through 2020 despite the plunge in prices at an average of 10.6 mbpd at the end of 2020. US crude futures dropped as low as minus $37 a barrel on 20 April 2020— their weakest level unheard in the oil industry.

The U.S., which is not part of the OPEC+ alliance, will see production drop by over 2.0 mbpd over time.” The number of active U.S. rigs drilling for oil has dropped to 325 this week, implying further declines in domestic production.

Virtually unlimited borrowing allowed U.S. shale companies to dramatically ramp up production, whether that oil was needed or not. Getting locked out of the junk bond market will tip the weakest players into bankruptcy, risking countless US jobs along the way. That's what happened during the last oil crash that began in 2015.

The oil crash is blocking American frackers from accessing the cheap credit that fuelled their prolific rise. That reversal of fortunes could prove fatal for over-leveraged shale oil companies. However, medium to long term and with support from DC, I am confident that shale producers will make a come-back given that the fundamentals are still there.

ER: You have done some of the remarkable strategic research works on China's global energy search in the past. From your observation, how far would you see a China’s imported petroleum consumption may change in the years to come, and what would be the impact if such a change happens in the global energy market?

MÖ: China has been on its way to global prominence to challenge the US-dominated world order including in energy, investment, technology and safety of shipping routes. China is right now by any standards an energy superpower.

The “Middle Kingdom” remains the world’s top crude oil importer, having surpassed the US in 2017. Its new refinery capacity and strategic inventory stockpiling, combined with flat domestic oil production, are the major factors contributing to the increase in its crude imports. Its annual crude imports last year increased to an average of 10.1 mbpd - equivalent to almost total Saudi production.

55 percent of these imports came from OPEC countries with Russia remaining the largest non-OPEC source, averaging 1.6 mbpd, or 15 percent of total crude oil imports. Brazil overtook Oman as the second-highest non-OPEC source of China’s crude oil imports, increasing to an average 0.8 mbpd last year. China’s imports from the US declined, primarily as a result of trade negotiations that imposed tariffs on many goods, including crude oil.

A slow recovery in China’s economy following the coronavirus outbreak has prompted a rebound in oil demand, but that will not be enough to soak up a global glut that has resulted in a collapse in crude prices.

Chinese petroleum consumption has plummeted as the pandemic, which locked down swaths of industrial supply chains and closed businesses in the country, severely hit the world’s second-biggest economy. The international spread of the virus has resulted in a global recession, which has piled more pressure on oil prices. What we saw in China is one of the steepest falls in oil demand we have ever seen.

Rush-hour traffic in some big Chinese cities has recently reached levels comparable to the average across 2019. I expect the demand to rise to about 12 mbpd soon but that is still below the levels of about 13.7mbpd in December 2019.

However, in my opinion, it will take more than a recovery in China’s economy to support global demand for crude. A collapse in global oil consumption following the spread of coronavirus into the US, Europe and elsewhere will easily dwarf China’s demand recovery in the same period.

Oil investors have pinned hopes on China taking advantage of low prices to top up its huge crude reserves in another move that could increase demand. China does not fully reveal details of its strategic petroleum reserves, but including state and commercial stockpiles they could possibly reach 1.15bn barrels in 2020, or 83 days’ worth of oil based on current demand levels.

China’s oil companies have reduced investment dollars. PetroChina, the biggest oil and gas company by assets, plans to cut its capital expenditure by around 30 percent to $28.33 billion in 2020 from the actual spending last year. This capex cut is the heaviest so far flagged up by the large state-owned oil and gas companies. Sinopec will reduce capex by 20-25 percent while the cash-rich CNOOC latest budget is more or less flat to 2019.

If geopolitical tensions, trade frictions and risks for the Belt and Road initiative increase, these are not good news as they will be automatically translated into less economic and thus energy demand growth.

ER: To what extent would you see that the ongoing geopolitics surrounding the petroleum industry could eventually lead to alternative energy gaining more popularity and investment confidence, and eventually taking a higher share of global energy supply?

MÖ: Fossil fuels will not go away easily - they still represent over 80 percent of total energy supplies, but the trend towards new energy sources is clear in the future. Coal production has basically remained stable for the past two decades mostly due to environmental considerations. China is still the largest producer and consumer of coal, but forecasts indicate a future decline in power plants, regardless of the existing huge coal reserves for almost two centuries.

Oil has maintained an annual growth slightly below 2 percent - just below the average world energy growth. In fact, there is still plenty of oil yet to be produced: the first trillion billion barrels of oil was produced by 2000, and the second trillion will be produced before 2030. Nonetheless, there are still close to four trillion barrels of additional oil including regular conventional oil, deep water oil, super deep oil, enhanced oil recovery, Arctic oil, heavy oil and oil shales.

By 2020, gas production has indeed caught up with oil production. Supply of gas doubled between 2000 and 2020, overtaking coal production in 2016. Now, other energy sources will catch up in the 2030s with gas and oil, both declining relatively.

The era of fossil fuels does seem to be reaching its zenith and might end in the following decades. The energy “waves” will be seen soon in most of the world, showing a clear “decarbonization” trend going from hydrocarbon fuels to those with more hydrogen and solar energy.

I believe that whether we are at the conservative or aggressive end of the spectrum, there is a compelling clean-power option facing the energy industry players.

But the coronavirus crisis is not only battering the oil and gas industry, it is also drying up capital and disrupting supply chains for businesses trying to move us toward cleaner sources of energy.

Despite the economic turmoil, I am convinced that the pandemic could be an opportunity to make drastic shifts in the energy landscape. Governments around the world should help fund renewable energy and use the turmoil in energy markets to remake the industry and slash carbon dioxide emissions, which we expect to tumble 8 percent this year.

While global energy demand has fallen significantly in the first quarter of this year, renewables are the only source to post an increase in demand, rising 1.5 percent thanks to new renewable power plants, low operating costs and priority on some electricity grids.

The European Union has its own Green New Deal, and China is expected to support wind and solar to get the economy moving more quickly. Big oil companies don’t have to wait for government stimulus. The price of oil is so low that they would be better off investing in wind and solar. The returns on these renewable projects are better than what they can do in the oil and gas industry.

Mehmet Öğütçü is an internationally recognized authority on energy diplomacy, finance and investment, Mehmet has built significant knowledge, experience and network with particular geographic focus on Europe, Turkey, Central Asia, Russia, Africa, the Middle East and China.