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Our Next Energy Crisis
By Dr. Anas Alhajji, Industry Expert
MARKET IMBALANCES FORCE PARTICIPANTS
on all sides to take defensive measures to protect their interests. While such behavior is normal, and is to be expected, it can also cause a crisis.
The U.S. shale revolution, which propelled America’s energy industry to new heights in the last decade, at the same time wreaked havoc on other oil markets around the world. As U.S. politicians have boasted of our nation’s new "energy independence" and "energy dominance," other foreign producers have been forced to consider how to approach their own policies to react to the detrimental impact posed from America’s shale revolution. Though many in the United States may not support decisions coming from these other oil-producing nations, it does not come as a surprise.
Shale is not only about crude oil, but U.S. politicians failed to see that. It is also about petrochemicals, refining, liquified natural gas (LNG) and natural gas liquids (NGLs). Officials in other countries have had to respond to all of the shifts, hence their efforts to stall further growth of U.S. shale. The more recent crisis in the oil market will reduce North American oil production by a significant amount, at least for the foreseeable future. On the other hand, other oil producing countries are looking at the longterm impact of shale, and threats like electric vehicles and renewable energy. Hyped or not, these countries are not taking any chances and have adopted long-term policies to maintain oil demand. But if shale and others do not deliver, there will be oil shortages. Between market reactions to the short-term and the long-term events, it is clear that we are heading for a period of deficiencies. Given the interconnection between oil, natural gas, LNG and electricity, crude shortages might lead to a global energy crisis.
How did the shale revolution affect OPEC and the global oil market?
Revolutions turn everything upside down. For this reason, it is fitting to classify the growth of America’s unconventional oil and gas production as the "shale revolution." For those who have any doubts, consider the substantial international impact of this uprising by domestic energy producers. Their success hit every strategic objective of the major oilproducing countries, especially in the Gulf region. Since the mid-1970s, these countries, led by Saudi Arabia, took several strategic decisions that include:
Focus on energy-intensive industries, especially petrochemicals, since they have a comparative advantage in energy supplies: cheap and abundant methane and ethane. Most members of the Organization of the Petroleum Exporting Countries (OPEC) built petrochemical plants. Saudi Arabia became among the world’s top exporter of petrochemical products. The use of cheap ethane and other NGLs gave the Saudi petrochemical industry a comparative advantage relative to other countries that use the expensive naphtha. Naphtha is a petroleum product and its prices rose as oil prices increased.
Focus on refining to benefit from the value-added of exporting petroleum products instead of crude. Saudi Arabia, in particular, adopted this policy.
Focus on NGLs since they are not included in the OPEC quota and fetch a high margin in Asian markets.
Build a massive LNG industry to benefit from cheap natural gas and export products to the rest of the world. While there are few OPEC members that export LNG such as Algeria and the UAE, Qatar becomes the world’s top producer and exporter.
Shift crude oil sales to Asia, especially China, where most of the growth is in demand. This applies to all Gulf states.
All these strategic investments paid off handsomely until the shale revolution took place. The first phase of the shale revolution in 2005, led by development of natural gas in U.S. basins, brought online massive amounts of methane, ethane and NGLs. Then prices crashed. After which point came the shale oil revolution in 2010 that brought in additional amounts of associated methane and NGLs as associated byproducts, which includes ethane. The Saudi’s ethane advantage evaporated as U.S. ethane sources became abundant and cheap. The global petrochemical industry started coming back to the U.S. in order to take advantage of opportunities for abundant and cheap energy and feedstock. Hence, the shale revolution hit the first strategic objective of OPEC members, especially the Gulf States.
Before lifting the U.S. crude export ban in late 2015, U.S. refiners had a feast on cheap U.S. crude, courtesy of the rising production from the shale revolution and an export ban preventing oil from being sold to foreign nations. The price differentials between U.S. crude and international crudes became too large and reached about $20 at one point. U.S. refiners strategically purchased domestic crude and exported all kinds of petroleum products, since those products were not subject to the export ban. As a result, exports of U.S. petroleum products increased substantially. Since the increase in exports was much higher than the increase in global oil demand, it meant that U.S. refinery exports gained market share at the expense of others, including OPEC members, especially the Gulf states. Hence, the U.S. shale revolution hit the second strategic objective of these states.
The shale revolution produced massive amount of NGLs. LPG exports soared. Again, since the increase in LPG exports was way higher than the increase in global demand for liquified petroleum gas (LPG), the increase in U.S. market share came at the expense of others, mainly Saudi Arabia. U.S. producers took market share from Saudi Arabia, especially from buyers in Central and Latin America, and changed the global pricing mechanism of LPG. Here we see how the shale revolution hit the third strategic objective of the Gulf States.
The shale revolution, first natural gas and then oil, also had profound impact on the global LNG industry. It was a strategic decision by Qatar to invest in joint ventures with the oil majors to build the largest LNG capacity in the world. The objective was to take advantage of the growing demand for natural gas in the U.S. where prices were more than $14 a unit. Qatar also made investment in regasification terminals in the U.S. to ensure a long-lasting market share. By the time these receiving terminals were ready, the shale gas revolution happened and flipped the market upside down. The U.S. is now awash with natural gas and does not need to import as much LNG. Qatar LNG exports to the U.S. plummeted. The receiving terminals are still idle today. To add insult to injury, the U.S. is now among the top global exporters of LNG. It is competing with LNG sourced from OPEC members, especially with Qatar, in Asia and Europe.
The bigger hit was the U.S. pricing of LNG: Unlike the rest of the world where LNG prices are linked to oil prices, U.S. LNG prices are based on Henry Hub, the natural gas price marker. Henry Hub has been declining for years and decreased significantly in recent months. The decline in U.S. natural gas makes U.S. LNG more competitive worldwide. Here we see how the shale revolution hit another strategic objective of the Gulf States.
The start of the shale oil revolution did not pose any "direct" threat to the oil producers in the Gulf region. Under the U.S. export ban, America’s shale oil production replaced crude imports of the same quality: light sweet from Algeria and Nigeria. The only way for those two countries to sell their oil in other regions is to compete directly with other OPEC members. Yes, the shale revolution created OPECon-OPEC competition, which might explain what happened in late 2014 and in 2015 when OPEC members could not agree on an OPEC production cut and commodity prices declined. But the situation became worse when the Obama Administration lifted the ban on U.S. crude exports. What happened after that changed the global oil market and international trade direction in oil. As U.S. crude exports increased drastically, U.S. crude started competing directly with oil from Gulf States in Asia, although the sanctions on Iran lowered the impact. But even before lifting the export ban, the Gulf States were struggling to maintain their market share in Asian markets: U.S. sanctions on Russia after the annexation of Crimea forced Russia to look for other markets. Once Russia had the taste of Asia, it wanted more and more, at the expense of mostly Gulf states.
The main conclusion from this discussion is that the Saudi reactions in 2014 and in 2020 are not only about crude oil, but rather collectively address combined growth in energy supplies of all types. In this regard, it is worth focusing on what do Saudis want from the U.S. shale industry now. Do they want to kill shale growth? The answer is NO. Saudis benefit greatly from the existence of shale as it lowers the pressure on Saudi oil reserves and saves the Saudis billions of dollars in investment to increase capacity to 15 million barrels a day as envisioned by the Bush Administration in 2007. It also lowers the political pressure when oil prices are high. So, then what do Saudis hope to happen? They want shale to rise in a way that commensurate with growth in global oil demand without taking market share from others.
How are oil producers reacting to the hype of shale, electric vehicles and renewable energy?
When U.S. policymakers brag about "energy independence" and "energy dominance," oil-producing countries take notice. When Democrats want to ban the use of oil by tying it to climate change, and when Republicans want to ban oil imports by tying it to terrorism or any other reasons, oil-producing countries take notice. When experts predict a massive growth in electric vehicles that will kill the demand for oil in the transportation sector, oil-producing countries take notice.
Thinking that oil-producing countries will stay idle and do nothing in the face of these challenges is naive, at best. We have already seen the reaction of some oil producers in recent months. Even without COVID-19, lower oil prices would have reduced oil production and stalled the growth of electric vehicles and renewable energy, but the bigger story is not being told yet.
Since oil producers, especially in the Middle East, are constantly warned that the world does not need its oil and oil demand will peak soon, they have been developing plans to convert oil to energy intensive products with a push for oil-to-materials. In other words, they are saying: if you want to subsidize electric vehicles in order to switch to them completely, I will make sure that all the materials used in the car comes from oil. Go ahead and develop wind turbines and solar panels. I will make sure that most of the materials used comes from oil. Build the most energy efficient homes, I will make sure that most materials used in the building comes from oil. How real is this? Well, check the oil-to-material program that the Saudis are looking at to maintain oil demand.
Does it matter?
If you are convinced that shale will not deliver expected growth in the coming years and that the impact of electric vehicles on oil demand is exaggerated, then you know we are heading for an energy crisis. If the leaders of various countries in OECD do not deliver on their promises, then we need more oil in the future, but oil will not be available. It is being converted to highly valuable energy intensive products and materials. The only way the oil-producing countries will sell the crude is if the price is high enough to compensate for the profit generated from converting crude to energy intensive products and other materials.
In conclusion: brace for impact!
MARKET IMBALANCES FORCE PARTICIPANTS
on all sides to take defensive measures to protect their interests. While such behavior is normal, and is to be expected, it can also cause a crisis.
The U.S. shale revolution, which propelled America’s energy industry to new heights in the last decade, at the same time wreaked havoc on other oil markets around the world. As U.S. politicians have boasted of our nation’s new "energy independence" and "energy dominance," other foreign producers have been forced to consider how to approach their own policies to react to the detrimental impact posed from America’s shale revolution. Though many in the United States may not support decisions coming from these other oil-producing nations, it does not come as a surprise.
Shale is not only about crude oil, but U.S. politicians failed to see that. It is also about petrochemicals, refining, liquified natural gas (LNG) and natural gas liquids (NGLs). Officials in other countries have had to respond to all of the shifts, hence their efforts to stall further growth of U.S. shale. The more recent crisis in the oil market will reduce North American oil production by a significant amount, at least for the foreseeable future. On the other hand, other oil producing countries are looking at the longterm impact of shale, and threats like electric vehicles and renewable energy. Hyped or not, these countries are not taking any chances and have adopted long-term policies to maintain oil demand. But if shale and others do not deliver, there will be oil shortages. Between market reactions to the short-term and the long-term events, it is clear that we are heading for a period of deficiencies. Given the interconnection between oil, natural gas, LNG and electricity, crude shortages might lead to a global energy crisis.
How did the shale revolution affect OPEC and the global oil market?
Revolutions turn everything upside down. For this reason, it is fitting to classify the growth of America’s unconventional oil and gas production as the "shale revolution." For those who have any doubts, consider the substantial international impact of this uprising by domestic energy producers. Their success hit every strategic objective of the major oilproducing countries, especially in the Gulf region. Since the mid-1970s, these countries, led by Saudi Arabia, took several strategic decisions that include:
Focus on energy-intensive industries, especially petrochemicals, since they have a comparative advantage in energy supplies: cheap and abundant methane and ethane. Most members of the Organization of the Petroleum Exporting Countries (OPEC) built petrochemical plants. Saudi Arabia became among the world’s top exporter of petrochemical products. The use of cheap ethane and other NGLs gave the Saudi petrochemical industry a comparative advantage relative to other countries that use the expensive naphtha. Naphtha is a petroleum product and its prices rose as oil prices increased.
Focus on refining to benefit from the value-added of exporting petroleum products instead of crude. Saudi Arabia, in particular, adopted this policy.
Focus on NGLs since they are not included in the OPEC quota and fetch a high margin in Asian markets.
Build a massive LNG industry to benefit from cheap natural gas and export products to the rest of the world. While there are few OPEC members that export LNG such as Algeria and the UAE, Qatar becomes the world’s top producer and exporter.
Shift crude oil sales to Asia, especially China, where most of the growth is in demand. This applies to all Gulf states.
All these strategic investments paid off handsomely until the shale revolution took place. The first phase of the shale revolution in 2005, led by development of natural gas in U.S. basins, brought online massive amounts of methane, ethane and NGLs. Then prices crashed. After which point came the shale oil revolution in 2010 that brought in additional amounts of associated methane and NGLs as associated byproducts, which includes ethane. The Saudi’s ethane advantage evaporated as U.S. ethane sources became abundant and cheap. The global petrochemical industry started coming back to the U.S. in order to take advantage of opportunities for abundant and cheap energy and feedstock. Hence, the shale revolution hit the first strategic objective of OPEC members, especially the Gulf States.
Before lifting the U.S. crude export ban in late 2015, U.S. refiners had a feast on cheap U.S. crude, courtesy of the rising production from the shale revolution and an export ban preventing oil from being sold to foreign nations. The price differentials between U.S. crude and international crudes became too large and reached about $20 at one point. U.S. refiners strategically purchased domestic crude and exported all kinds of petroleum products, since those products were not subject to the export ban. As a result, exports of U.S. petroleum products increased substantially. Since the increase in exports was much higher than the increase in global oil demand, it meant that U.S. refinery exports gained market share at the expense of others, including OPEC members, especially the Gulf states. Hence, the U.S. shale revolution hit the second strategic objective of these states.
The shale revolution produced massive amount of NGLs. LPG exports soared. Again, since the increase in LPG exports was way higher than the increase in global demand for liquified petroleum gas (LPG), the increase in U.S. market share came at the expense of others, mainly Saudi Arabia. U.S. producers took market share from Saudi Arabia, especially from buyers in Central and Latin America, and changed the global pricing mechanism of LPG. Here we see how the shale revolution hit the third strategic objective of the Gulf States.
The shale revolution, first natural gas and then oil, also had profound impact on the global LNG industry. It was a strategic decision by Qatar to invest in joint ventures with the oil majors to build the largest LNG capacity in the world. The objective was to take advantage of the growing demand for natural gas in the U.S. where prices were more than $14 a unit. Qatar also made investment in regasification terminals in the U.S. to ensure a long-lasting market share. By the time these receiving terminals were ready, the shale gas revolution happened and flipped the market upside down. The U.S. is now awash with natural gas and does not need to import as much LNG. Qatar LNG exports to the U.S. plummeted. The receiving terminals are still idle today. To add insult to injury, the U.S. is now among the top global exporters of LNG. It is competing with LNG sourced from OPEC members, especially with Qatar, in Asia and Europe.
The bigger hit was the U.S. pricing of LNG: Unlike the rest of the world where LNG prices are linked to oil prices, U.S. LNG prices are based on Henry Hub, the natural gas price marker. Henry Hub has been declining for years and decreased significantly in recent months. The decline in U.S. natural gas makes U.S. LNG more competitive worldwide. Here we see how the shale revolution hit another strategic objective of the Gulf States.
The start of the shale oil revolution did not pose any "direct" threat to the oil producers in the Gulf region. Under the U.S. export ban, America’s shale oil production replaced crude imports of the same quality: light sweet from Algeria and Nigeria. The only way for those two countries to sell their oil in other regions is to compete directly with other OPEC members. Yes, the shale revolution created OPECon-OPEC competition, which might explain what happened in late 2014 and in 2015 when OPEC members could not agree on an OPEC production cut and commodity prices declined. But the situation became worse when the Obama Administration lifted the ban on U.S. crude exports. What happened after that changed the global oil market and international trade direction in oil. As U.S. crude exports increased drastically, U.S. crude started competing directly with oil from Gulf States in Asia, although the sanctions on Iran lowered the impact. But even before lifting the export ban, the Gulf States were struggling to maintain their market share in Asian markets: U.S. sanctions on Russia after the annexation of Crimea forced Russia to look for other markets. Once Russia had the taste of Asia, it wanted more and more, at the expense of mostly Gulf states.
The main conclusion from this discussion is that the Saudi reactions in 2014 and in 2020 are not only about crude oil, but rather collectively address combined growth in energy supplies of all types. In this regard, it is worth focusing on what do Saudis want from the U.S. shale industry now. Do they want to kill shale growth? The answer is NO. Saudis benefit greatly from the existence of shale as it lowers the pressure on Saudi oil reserves and saves the Saudis billions of dollars in investment to increase capacity to 15 million barrels a day as envisioned by the Bush Administration in 2007. It also lowers the political pressure when oil prices are high. So, then what do Saudis hope to happen? They want shale to rise in a way that commensurate with growth in global oil demand without taking market share from others.
How are oil producers reacting to the hype of shale, electric vehicles and renewable energy?
When U.S. policymakers brag about "energy independence" and "energy dominance," oil-producing countries take notice. When Democrats want to ban the use of oil by tying it to climate change, and when Republicans want to ban oil imports by tying it to terrorism or any other reasons, oil-producing countries take notice. When experts predict a massive growth in electric vehicles that will kill the demand for oil in the transportation sector, oil-producing countries take notice.
Thinking that oil-producing countries will stay idle and do nothing in the face of these challenges is naive, at best. We have already seen the reaction of some oil producers in recent months. Even without COVID-19, lower oil prices would have reduced oil production and stalled the growth of electric vehicles and renewable energy, but the bigger story is not being told yet.
Since oil producers, especially in the Middle East, are constantly warned that the world does not need its oil and oil demand will peak soon, they have been developing plans to convert oil to energy intensive products with a push for oil-to-materials. In other words, they are saying: if you want to subsidize electric vehicles in order to switch to them completely, I will make sure that all the materials used in the car comes from oil. Go ahead and develop wind turbines and solar panels. I will make sure that most of the materials used comes from oil. Build the most energy efficient homes, I will make sure that most materials used in the building comes from oil. How real is this? Well, check the oil-to-material program that the Saudis are looking at to maintain oil demand.
Does it matter?
If you are convinced that shale will not deliver expected growth in the coming years and that the impact of electric vehicles on oil demand is exaggerated, then you know we are heading for an energy crisis. If the leaders of various countries in OECD do not deliver on their promises, then we need more oil in the future, but oil will not be available. It is being converted to highly valuable energy intensive products and materials. The only way the oil-producing countries will sell the crude is if the price is high enough to compensate for the profit generated from converting crude to energy intensive products and other materials.
In conclusion: brace for impact!
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