The recent drop in world oil prices — from more than $100 a barrel in June to about $80 a barrel now — will benefit the global economy, American consumers and a beleaguered U.S. foreign policy. And there are reasons to think oil could remain in the $75-to-$95 range for the next two years.
But it’s important to understand why oil is suddenly cheaper, and to consider what international ramifications the price drop will have.
One reason for the plunge is the global economic slowdown, and another factor is the surge in U.S. production from the “shale revolution.” But the biggest force driving it is that OPEC’s largest producer, Saudi Arabia, which pumps 9.7 million barrels a day, has made it clear that it can live with lower prices.
What are the Saudis up to?
The International Energy Agency recently lowered its estimate of world oil demand for 2014 by 250,000 barrels per day. Lower demand means that if the Saudis and other gulf oil producers want to maintain or increase their market share, they will have to provide incentives, which is why they started discounting oil, first to their European and Asian customers, and now to the U.S.
Another Saudi aim appears to be to slow the North American shale boom — even at the cost of undermining OPEC. Shale extraction has helped boost U.S. oil production to about 9 million barrels a day, which some analysts say puts the country on track to surpass the Saudis by 2016. But getting oil from shale is expensive, and the Saudis know that a big drop in oil prices could de-incentivize investment in U.S. shale projects. When prices fall to $80 or below, shale is a less attractive oil source.
The picture gets even more complicated when you consider the effect of lower oil prices elsewhere in the world, especially how they will affect troublesome petrostates and their clients. Russia and Iran compete with Saudi Arabia in the international oil market, and both need oil prices to be at roughly $110 a barrel in order to balance their budgets. If oil prices remain at $80 a barrel, the strategic ambitions of Tehran and Moscow could be severely undermined.
Not that Saudi Arabia would mind that. Russia and Iran have backed Syrian President Bashar Assad’s regime in the Shiite-Sunni proxy war now roiling the Middle East, while Saudi Arabia is backing the rebels.
But the lower prices are also likely to cause internal disruptions, particularly in Russia, which is already having to deal with a range of problems, including Western sanctions, the flight of capital from the country (an estimated $100 billion this year alone) and a steady brain drain. Russia’s expected growth for 2014 is an anemic 0.5%, and similar growth has been projected at least through 2016. With sharply diminished oil revenue, Russian President Vladimir Putin would be hard-pressed to find money to spend on boosting pensions and government salaries or to fund other measures to keep Russians happy.
It’s unclear what effect $80-a-barrel oil will have on Russian expansionist behavior in Ukraine and elsewhere. Some analysts believe that Putin is so animated by a desire to restore what pieces he can of the former Soviet Union that he won’t let cost stand in his way.
Elsewhere in the world, low oil prices are likely to put additional pressure on the communist regime in Cuba. The island nation has been kept afloat in recent years by oil subsidies from Venezuela, which sends 115,000 barrels a day worth some $3 billion.
Cuba has been toying with limited market reforms as its economy has faltered. But it’s unclear what a cutoff in cheap oil from Caracas would mean. The Castro regime might decide to live with serious economic stagnation, which would impose even more hardship on its citizens. But it might also move toward more Chinese-type market-oriented reforms.
As for Venezuela’s horrendously mismanaged socialist regime: It must be very nervous about facing the Venezuelan public without the cushion of $110 oil, and it may also have to rethink its gift to Havana.
Here at home, the news, other than for shale investors, is mostly good. Americans will see an immediate benefit, with gasoline at $3 a gallon or less, a boon not just for drivers but also for the businesses that serve them. Lower prices are likely to spur both consumer spending and the overall U.S. economy.
The oil crisis of the 1970s brought long lines at U.S. gas stations and high prices. Today we have a new oil crisis, but its negative effects are primarily being felt in other parts of the world. This time, the U.S. is largely a winner, both at home and abroad.
A former State Department official, Robert A. Manning is a senior fellow at the Brent Scowcroft Center for International Security at the Atlantic Council.
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