Context: The global economy, grappling with the COVID-19 pandemic, is now faced with an energy war, resulting in crashing of crude oil prices in the international market.
- OPEC and Russia have postponed a meeting until later next week.
- Finally, OPEC and Russia agreed upon a huge production cut amounting to 10% of Global Oil supply.
- The Organisation of the Petroleum Exporting Countries (OPEC) and its alliance partners failed to reach any consensus on cutting back production to levels in order to keep prices stable.
- The U.S., as the largest oil producer today, has stayed away from the OPEC-plus arrangement,in a hope that production cuts by OPEC-plus countries will lead to increase its market share.
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- The International Energy Agency (IEA) has scaled down global demand for oil, an unprecedented move since 2009.
- Demand for oil had already weakened owing to the global economic slowdown, and further COVID-19.
- Saudi Arabia and Russia have ended their tussle by finalising a deal to make the biggest oil production cuts in history.
- The cuts would be more than twice those made by the cartel during the global financial crisis of 2008-09.
- OPEC said it would cut 9.7m barrels a day in Oil production in May and June,
- Another 5 million barrels were expected to be cut by other nations outside the group with the likes of the US, Canada, Brazil, and Norway.
- This is an unprecedented agreement because it’s not just between OPEC and OPEC+, but it also found support among the U.S. that is the biggest Oil supplier in the world, and other G-20 countries too.
It is a permanent, intergovernmental organization, headquartered in Vienna, Austria.
- Founder Members: The Organization of the Petroleum Exporting Countries (OPEC) was founded in Baghdad, Iraq, with the signing of an agreement in September 1960 by five countries namely Islamic Republic of Iran, Iraq, Kuwait, Saudi Arabia and Venezuela. They were to become the Founder Members of the Organization.
- Currently, the Organization has a total of 14 Member Countries.
- OPEC’s objective is
- to coordinate and unify petroleum policies among Member Countries, in order to secure fair and stable prices for petroleum producers;
- an efficient, economic and regular supply of petroleum to consuming nations; and
- a fair return on capital to those investing in the industry.
- OPEC membership is open to any country that is a substantial exporter of oil and which shares the ideals of the organization.
- OPEC+ refers to the alliance of crude producers, who have been undertaking corrections in supply in the oil markets since 2017.
- OPEC plus countries include Azerbaijan, Bahrain, Brunei, Kazakhstan, Malaysia, Mexico, Oman, Russia, South Sudan and Sudan.
- The Opec and non-Opec producers first formed the alliance at a historic meeting in Algiers in 2016.
- The aim was to undertake production restrictions to help revive a swinging market.
Nord Stream 2
- It is a gas pipeline project with a purpose to bring Russian gas under the Baltic Sea direct to Germany.
- The decision to build Nord Stream 2 was taken after the success of building and operating the first Nord Stream gas pipeline.
- It will also facilitate reliable supply of Russian gas to Europe.
Russia’s opposition to production cuts
- Russia didn’t agree to any production cuts, thus entering into an Energy war with Saudi Arabia.
- It has led to a massive fall of around 30% in crude oil prices.
- Russia’s decision to reject any production cuts is driven by its strategy of denying market share to American shale oil producers.
- Russia is also resentful of sanctions imposed on Rosneft, a Russian Petroleum refining company which is building the gas pipeline project Nord Stream 2 across the Baltic Sea, carrying Siberian gas to Germany.
- This pipeline was delayed due to opposition from environmental activists across Denmark and then USA sanctions.
Impact of Saudi-Russia tussle on U.S.
- The cost of extraction which is influenced by factors such as the terrain of oil field location determines the profit accruing to Companies engaged in extraction.
- Although a staggering quantity of oil is left for exploration, on the other hand, the cost of extraction is increasing.
- For example, fracking, which facilitates extraction of oil from rocks,is a costly affair.
- The cost of production of a barrel of shale is higher than that of production of oil for Russia or West Asia and the strategy was to reduce the price of oil to a level that pushes shale producers out of the market.
- Saudi-Russia tussle has driven down oil prices,by supply outweighing the demand.
- Given the cost of fracking, beyond a certain limit, U.S. producers may not be able to sustain declining oil prices.
Benefit to importing countries
- Saudi Arabia has agreed to supply crude oil at lower rates to refiners in India and China, two primary customers.
- For India, it comes as a respite given the fact that it is the world’s third-largest importer of crude oil and the fourth largest importer of LNG.
- India saves ₹10,700 crores for every $1 drop in prices.
- THis may help manage the Current Account Deficit.
An insight into Indian Oil Prices
- The oil bill of India may have fallen and could remain low if Saudi Arabia and Russia fail to reach upon a consensus.
- As far as benefits to the customers are concerned, retail prices of petrol and diesel have remained steady in India.
- Going by the data, between March 2014 and April 2020, the price per barrel of the Indian crude basket fell from $107 to $21.
- On the same pedestal, the average retail selling price of petrol in Delhi has fallen by ₹1.82 from March 2014, to ₹69.59 per litre in February 2020.
- Out of this amount, the portion that goes to the Centre in the form of duties has more than doubled from ₹10.38 to about ₹23.
Excise duty hike and fiscal deficit issue
- With the declining prices of international oil, the government has banked upon the opportunity to keep end-user fuel prices stable at the same time increasing revenues.
- With the falling consumer demand owing to a looming slowdown, demand for more money at public disposal started gaining currency and also expectations of bringing down tax rates.
- The Centre came up with an optional tax structure.The Central government reacted to declining international oil prices by raising excise duties by about Rs. 3 per litre on fuel sold in India.
- The recent duty hike would give the Centre ₹43,000 crore for the fiscal year 2020-21.
- With consumer inflation being largely resting on the shoulders of Food items, and not on fuel, the government has chosen to keep Indian end-user fuel prices stable.
Caveats to be taken care Of
- Saudi Arabia has refused to supply to other refiners in Asia, a move that will impact India’s oil procurement from the U.S.
- Further, India will benefit from lower Crude oil prices only if this cost is passed on to consumers/
- Then only it will reduce transportation costs and boost demand.
Impacts and Sustainability of low priced Oil
- A possibility of negative oil prices loom over as there will be paucity of space on land and at sea to store all the oil being produced presently.
- With imposition of lockdown and reduced usage of fuel, oil producers may be forced to curtail production.
- Such rock bottom prices are not sustainable for long. Going down the line,there will be some agreement on production cuts in the wake of feasibility of production.
- It will adversely affect West Asian countries and low oil prices will hamper their ability to make adequate investments to diversify their economies beyond Oil production.
Source: The Indian Express
Image Source: MarketRealist