President Obama kicked off a trip to Asia with a visit to Vietnam, where he announced that the United States is fully lifting the arms embargo on Hanoi. In a joint press conference with Vietnamese president Tran Dai Quang, President Obama finished a process that has been proceeding incrementally throughout much of his term in office, namely slowly rolling back the vestiges of the United States’ bitter two-decade war against Vietnamese communists. Sentiments among many American Baby Boomers regarding Washington’s slow-but-steady outreach to Hanoi are mixed, but President Obama’s visit and decision to end the arms embargo reflect the United States’ determination to restructure Cold War alliances in a nod to today’s shifting global environment.
Countries like Vietnam are emblematic of the future of American alliance structures.
Hanoi is an inveterate land power—having proven itself sufficiently scrappy to resist centuries of Chinese encroachment and both French and US military might.
Lifting the arms embargo is unlikely to cause serious heartburn down the line for other friendly US states in Southeast Asia — namely Thailand and Singapore — because Southeast Asian geography is sufficiently rugged that Vietnam does not pose a threat to these states.
It helps strengthen pro-US sentiments among Vietnam’s vehemently anti-Chinese military leadership, a vital bulwark against Beijing’s regional interests for both Washington and Hanoi’s fellow ASEAN member-states.
Vietnam’s long eastern coastline is home to Cam Ranh Bay, the finest natural deep water harbor in South East Asia. Cam Ranh has hosted French, American and Soviet fleets in the past century.
Vietnam lies along the South China Sea and claims the Paracel and the Spratly Islands, rocky outposts that have become flashpoints in the powder keg of the South China Sea. Vietnam’s views on China and the South China Sea mean that its geographic and strategic positions are now in-line with American interests, rather than threatening them. Vietnam’s geographic position is now more strategic than ever, and its stance on China has opened the door for American influence.
Washington’s outreach to Vietnam cannot be defined purely through military or anti-Chinese positions. Vietnam’s large and youthful population represents a strong future growth market, and getting in on the ground floor of Vietnam’s push toward industrialization will be a boon to American manufacturers looking for both cheap skilled labor and a market for higher-end, US made goods. Vietnamese power and transport infrastructure is in desperate need of foreign technology and investment, and the country’s offshore energy assets represent several opportunities for US supermajors experienced in deep-water energy production.
The United States and Vietnam are burying the hatchet. Hanoi still has work to do on its end—economic and political reforms and the kinds of asides about human rights concerns US leaders habitually mumble about in front of journalists—but Washington is committed to working with the Vietnamese leadership to see that this process is carried out in-line with American regional interests. The process will have hiccups and headaches along the way, but the United States is committed to moving forward in what will be the bedrock of expanded US-ASEAN cooperation.
During post-presentation Q&A at an event last week, an acquaintance decided to have a bit of fun at my expense by slipping a question on Albertan separatism into the deck. Considering that the event was in Montreal and the audience was two-thirds Canadian, I’m sure said acquaintance considered the pot well-stirred. I made a few comments about how Canadians should take the issue of Albertan separatism seriously and moved on.
Within a few hours this graphic was waiting for me on-line.
Part of me finds it a bit sexy to be associated in any way with the word ‘provocateur’ and so is eager to engage on the topic. More of me dreads the hate mail I know I’ll get from diving in. And yet I now feel obliged to comment.
To be blunt, Canada is flirting with a national crisis. The signs are there for those who can check their preconceived notions at the door:
How about that the province of Alberta has been the only net contributor to Canada’s federal budget for several years running? Or that Alberta is the only province that isn’t aging into mass retirement, and therefore is the only province that will have the capacity to continue to pay in the future? Or that Alberta’s primary income stream — oil exports — are being actively stymied by local politics in a host of other provinces? Or that Alberta’s in-pay level to the federal budget has already been penciled in to fund the new Canadian government’s spending plans regardless of what happens to Alberta’s oil income? Or that the Edmonton-Ottawa funds transfers are already the greatest of their kind from any province to any central government in the modern world? Or that Canada can no longer maintain its standard of living without draining Alberta dry, or that Alberta cannot maintain its standard of living so long as it remains in Canada?
Separatist risks are not new in Canada, and in the past they’ve been handled fairly adroitly. Last century Ontario managed the Quebecois separatism threat by, in essence, paying Quebec to remain in Canada. It’s a variation of what the United States has done with my adopted state of Texas (a state as wealthy as Texas has little justification for gobbling up as many defense, infrastructure, health care and education funds from DC as it does). There’s just one problem: With Ontario aging into mass retirement, Ontario can no longer afford to fund Quebec’s inclusion. So the bill has been — quite nonchalantly — passed on to Alberta. Anywhere else in the world, artillery would have already been exchanged. But this isn’t anywhere in the world. This is Canada, and everyone is just so damned polite.
Thing is, as big as the financial gap is, that’s not what has me worried these days. Two new developments may be pushing the Albertans past the tipping point.
First, this is no longer about ‘right-wing Albertans’ in ‘left-wing Canada’. Albertan exasperation now spans the political spectrum. Even current Albertan Premier Rachel Notley — whose personal ideology tends to be distrustful of someone as conservative as Bernie Sanders — is sounding an awful lot like her Conservative predecessors on topics such as financial transfers and pipeline politics.
Second, the rest of Canada just had a serendipitous opportunity to nip Albertan separatism in the bud. Wildfires raging through the Fort McMurray region have forced some 100,000 Albertans from their homes in what is to my knowledge Canada’s costliest natural disaster. Considering Canadians’ well-deserved reputation for being charitable and caring in all things international, I expected to see a mass cross-country effort by Canadians to assist their own.
The reality has proven to be somewhat less … flattering. Social media has been abuzz with commentary that skirts the line of rude and hateful. The one that made me stop short was “Welcome to climate change, Alberta. Feel free to keep denying it.” For Americans, the least imperfect comparison would be if the rest of the country had heckled the citizens of New Orleans for their levee engineering skills while their city was drowning in the aftermath of 2005’s Hurricane Katrina.
Canadian Prime Minister Justin Trudeau didn’t improve matters last week when he made a quick day trip to Alberta for some photo-ops in and flyovers of deserted, smoldering urban areas. Visiting the area was a solid call, but not making time to actually press the flesh with the world’s largest group of first-world homeless was not. As an American who has been involved in all things political throughout the George W Bush and Barack Obama years, I recognize political tone deafness when I see it.
Bottom line? Albertans are coming to the conclusion that the rest of their countrymen just don’t care.
In a country where secession has been codified as legal by both parliament and the supreme court, I would think that this would be setting off alarm bells in Toronto and Quebec City. Instead, I’m continually stunned that most Canadians do not view Trudeau as either cold or off-base. In fact, every time I converse with Ontarians and Quebecois I walk away confused as to just how blasé they are as to the Albertans’ circumstances.
And so here I sit, accused of working towards the ‘destruction of Canada’. I’m afraid that with the way things are going, Ontario and Quebec are doing a bang-up job on that without any help from me. =[
Deputy Crown Prince Mohammed bid Salman laid out part of his country’s strategic challenge in an April 25 interview.
“We have a problem with military spending,” the prince told Al Arabiya. “When I enter a Saud military base, the floor is tiled with marble, the walls are decorated and the finishing is five stars. I enter a base in the U.S., you can see the pipes in the ceiling, the floor is bare, no marble and no carpets. It’s made of cement. … We are the third- or fourth-largest in terms of military spending in the world, yet our army is ranked in the twenties.”
If anything, the crown prince-designate is being overly generous to his military establishment. Going back to the foundation of modern Saudi Arabia, the Saudi military has been an expensive paperweight. Riyadh has used its oil heft to purchase foreigners to fight its wars. When Saddam Hussein’s Iraq invaded Kuwait in 1990, the Saudis flat-out paid a coalition to defend their country and liberate their neighbor. In the years since, Riyadh hired so many Pakistani pilots that the Saudi air force for a time felt as Pakistani as Pakistan’s own. Even today Riyadh maintains vast warehouses packed with shrink-wrapped Abrams tanks and Apache attack helicopters awaiting foreign operators to fight wars on Riyadh’s behalf.
In the Saudi mind those operators would always be American, a people so dependent upon energy imports and so wrapped up in maintaining the global order that they would fight and die to defend the Saudi nation and way of life.
America’s shale revolution has changed all that. Shale oil production has proven increasingly cost-effective. So much so that U.S. oil output is holding steady despite the oil price collapse. This is doing more than edge the Americans towards energy independence, it is also remaking American industry. Cheap oil and nearly free natural gas is overhauling sectors ranging from petrochemicals to electricity to manufacturing and placing an extra $2000 a year per family in the citizenry’s pockets.
Between shale’s cavalcade of changes and a rationalization of America’s foreign policy that is as long-overdue as it is all-encompassing, the Americans no longer need Saudi oil and no longer really care if the Persian Gulf stays open.
And so the Saudis are taking their first (grumbling) steps towards standing on their own feet — and firing their own guns. It will be a long, hard, costly slog. Saudi Arabia has no indigenous regular military expertise, no related skill sets in logistics or industry to call upon. What they do have is loads of pre-purchased equipment and a metric butt-ton of cash to hire trainers from every corner of the globe. And even before the crown-prince-to-be’s announcement, their new stratagem is bearing fruit.
The Saudis’ primary concern is Iran, a country eager to move into the vacuum the Americans’ absence is creating. An early Iranian move helped trigger (another) civil war in Yemen, a country in southern Arabia largely irrelevant to anyone who doesn’t border it. Unfortunately for the Saudis, their country is one of the two. In the war, the Saudis have intervened directly, boldly, and at the head of an alliance of states who likewise fear the Iranian rise. The Saudi effort has been marred by a mess of mistakes: high civilian casualties, lots of friendly fire, logistical bottlenecks and outright shortages, extreme unit attrition caused by inexperience in fighting guerrilla forces, and so on.
Yet I cannot help but be impressed by what the Saudis have achieved. A year ago I felt that Yemen presented the Saudis with a chance to showcase their utter military incompetence. Instead Iran’s efforts have been heavily unwound and there is absolutely no chance that Iran’s proxies will carry on to victory so long as the Saudis remain committed. Yemen has proven to be a great test of the Saudis’ war-fighting, and it is a test in which they get a passable grade. Just as importantly, the Saudis have not been fighting alone or limited their activities to Yemen; they now lead a coalition of Gulf Arab states in Syria and Libya as well.
This military and diplomatic activity will prove great practice for the fight to come.
Iran is beginning to comprehend that the Saudis see this as a fight to the death. When that truly sinks in, Iran will realize it has to go for the throat and remove the Saudis’ primary enabler: the Saudi oil fields. That can only be done via outright military occupation. Prince Salman realized this nearly two years ago and everything — from the oil price war to destabilize Iran’s finances to the Yemen and Syrian conflicts to challenge Iran’s strategic position to today’s announcement on military rationalization — is about preparing Saudi Arabia to fend off a direct Iranian assault, and to do so without meaningful American assistance.
Outside of the political protestations regarding Obama’s visit to Cuba (it is a presidential election year, after all), the United States has a strong strategic interest in returning Havana to the American sphere of influence.
The geopolitical rationale is twofold:
A hostile Cuba, backed by a meaningful external power (such as the Soviet Union during the Cold War) could threaten control of America’s internal waterways—most notably anything exiting the Mississippi, as these exports have to pass either the Florida or Yucatan straits. Also at risk are the Intracoastal Waterway along the Gulf Coast. As the US becomes less interested in international trade, domestic exchange becomes more important, and so too does the political relationship with and within Cuba.
Cuba is the only portion of the Western Hemisphere through which American power does not thoroughly penetrate. That it is so close to US shores only heightens Washington’s interest.
After the collapse of the Soviet Union, Venezuela became Cuba’s key political and economic ally. With Caracas itself caught in the throes of political and social unrest, Cuba has no choice but to normalize relations with the US. And so it is.
There will be three primary changes that will emerge from the thawing of the last vestiges of the Cold War:
1) Tourism. Already underway, Cuba’s tourism sector is poised to soon become the top Caribbean destination for American tourists, and within a decade should be well on its way to resume its position as a sort of tropical Las Vegas. The embargo doesn’t even have to be lifted for this to happen.
2) Sugar. Cuba’s sugar industry is historically far stronger than America’s, and has operated with far lower costs. The island’s proximity to the Intracoastal Waterway and the Mississippi will vastly simplify the logistics of the sugar trade and distribution within the US market. Sugar production is set to at least double in the half-decade following the lifting of the embargo as investment flows into Cuba’s cash-and-tech starved sugar industry. The biggest obstacle is the US sugar lobby (far more powerful than most people realize), but America’s other agricultural producers will likely prove more formidable as they clamor to access a Cuban market heavily dependent on food imports.
3) Manufacturing. Perhaps one of the most frequently overlooked impacts of an American détente with Cuba. Although Cuba’s educational and vocational training system is vastly outpaced by the United States, Cuban wages are a mere fraction of what they are in the US. Cuba’s proximity means that the island can be integrated into US infrastructure and supply chains relatively easily, as well as NAFTA/CAFTA. Training, infrastructure and industrial plant buildout will take a decade, but the economic argument behind integration is solid.
Chinese President Xi Jinping is already poised to be the most powerful man in Chinese history after Mao Zedong, and proposed reforms to the country’s paramilitary police force would all but guarantee that position if they are passed. The People’s Armed Police Internal Guard Corps is a 600,000 strong paramilitary police force with military-grade weapons and specialized training in counter-terrorism and anti-riot policing. Right now, the Corps answers to China’s civilian leadership as well as the Communist Party’s Central Military Commission. Proposed reforms would place the paramilitary force under the control of the Chinese president, relocating a key structure in containing social unrest and domestic security from a fractured control system scattered throughout the Chinese system to the direct control of Xi Jinping.
As Beijing and the Communist Party ready themselves for the 19th Party Congress in 2017, President Xi has been in the midst of a frequently mentioned but often misunderstood factional reshuffling. President Xi is consolidating authority and attempting to control the evolution of China’s political and social reforms in the face of an unavoidable slowing of the economy. If the proposed reforms to the leadership of the People’s Armed Police go through, expect Xi to follow through with reforms targeting the most ossified and entrenched (read: corrupt and powerful) factions of the Party, with the full force of 600,000 paramilitary forces poised to reign in any threats of resistance or unrest.
Coordinated terror attacks rocked Brussels this morning, following a successful raid earlier this week that saw French and Belgian security forces capture the surviving would-be suicide bomber and participant in Paris’ November 2015 terror attacks. ISIS affiliates have claimed responsibility for the attack, leaving today’s coordinated bombings at a metro station and the Brussels airport the latest of the organization’s high profile actions in Europe.
Belgium’s Arab community have come under greater scrutiny in recent months, as have many of Western Europe’s Muslim and Arab communities, but Brussels faces an uphill climb in guaranteeing its own security. The basic definition of statecraft is the ability to control one’s borders—as the de facto capital of the European Union, Belgium sits in the middle of a conglomeration of relatively wealthy European governments with little to no border controls. Add to this years of political deadlock and a police system that favors human rights and adheres to strict privacy protections at the expense of security, and it’s easy to see why Belgium and terrorism have been occupying headlines so frequently as of late.
Europe is still clinging to a world that functionally no longer exists. European capitals are digging in their heels and pushing for civility and, well, Europeaness while the Continent’s broader periphery rapidly devolves into chaos. The most obvious (but far from the only) source of the disruption is Syria, a state that is rapidly de-civilizing. Considering the weakness of next-door Iraq, Lebanon and Jordan, this is only the beginning of a larger civilizational breakdown.
So morally, the European position is worthy of respect and acclaim. Functionally, however, it is idiotic.
The problem — well, part of the problem — is that there’s been a geopolitical shift immediately on Europe’s southeastern border. Turkey, for all intents and purposes, is no longer part of the civilizational block that is known as the “West.” You can certainly argue (accurately) that Turkey never fully joined the West in whole — there were always a host of linguistic, religious, ethnic, historical and cultural barriers to true merger — but in the past decade Europe and Turkey have slid further and further apart, and in recent weeks the Turkish government took over the last remaining independent media outlet of significance. From an ethical point of view, the split is now complete.
Turkey is now unhinged — as seen by last week’s suicide bombings in Ankara and Istanbul — eliminating any chance that the Europeans had of managing their terror or migration problems. For now, the best case scenario for the Europeans is that Turkey rounds up the migrants into camps, and then invades and occupies Syria in order to destroy both the Assad government and the Islamic State.
Put simply, the EU’s anti-terror, migration and strategic policies are now little more than hope that Turkey, a freshly illiberal state that doesn’t think very highly of Europe (and is technically in a state of war with one of its members) fully militarizes and starts invading its neighbors.
On Jan 17 the IAEA gave the green-light to the Iranian nuclear industry – indicating that Tehran was implementing the U.S.-Iranian nuclear deal in both the spirit and letter. With that stamp of approval, some of the sanctions that have hindered the Iranian energy sector are immediately lifted. The Iranian government issued a flurry of celebratory statements, including one from the Oil Ministry indicating that Iranian exports would increase by 500,000 bpd within a week and by another 500,000bpd by year’s end.
Mmmmm….not so fast.
Yes, the rapprochement between the Americans and Iranians massively shifts the regional (and global) geopolitics. And yes, now that sanctions are lifting Iran’s energy output will rise, but an extra 1 million bpd of Iranian crude this year is, well, silly.
First of all, Iran’s not yet out of the proverbial woods. The next step in the normalization is that the United States has to formally lift a raft of sanctions – and the Republican-dominated U.S. Congress gets a say. Considering that the Obama administration couldn’t get a bill passed that criminalizes the president’s own Democratic Party right now if it tried, the idea that there will be any agreement on a topic as touchy as Iran is, well, ludicrous. The Republicans, unfortunately from their point of view, probably lack the votes needed to veto the deal, but they’ll do what they can to increase the controversy and to try to milk the issue for as much political capital as possible. The soonest that the United States is likely to flash its own green light will be April. Only then will non-American firms feel sufficiently confident to start sniffing around the Iranian oil patch.
Second, it isn’t as if the only obstacles to renewed Iranian oil output growth are American. Iran’s laws to facilitate foreign investment into its energy sector are, in a word, unhelpful. Until recently the Iranians used a complicated system called buy-back, in which energy producers would sink in cash, do their work, and produce crude without any ownership interest in the field or the oil. Iran then “allowed” the foreign firms to “buy back” the crude at a price that Tehran determined on a whim. Given that foreign investors have no ownership, profitability, guarantees, consistency or recourse, Iran has probably damaged its own production capacity more than U.S. sanctions. This system is in the process of being overhauled, but it will be – bare minimum – a year before it’s clear if the new system makes more sense. Or works at all.
Kharg Island, Iran
Third, between buy-back and sanctions, much of Iran’s oil output has been shut-in and many fields will have to be re-evaluated before production can be re-started. That process alone will take several months, and until it is done what foreign investment that manifests will be sunk into exploration, not production. Add in the fact that global energy prices are low (and seem to be going lower) and there just isn’t much reason for foreign companies to get too involved too quickly.
What work will be done in the Iranian oil patch will simply be because Iran itself can once again purchase the equipment it needs for its domestically-run projects. That’s far from insignificant, but the total for new output for 2016 will probably be in the range of one-quarter of the Iranians’ idealized numbers.
Which doesn’t mean that Iranian oil won’t hit the market. Iran probably has about 30 million barrels in storage depots and tanker ships in various places around the world. One of the sanctions that already has been lifted because of the IAEA go-ahead opens these volumes up for sale. Assuming that Iran floods the markets with this oil at the rate of 500,000 bpd, these stored volumes can flow for a full two months. Even if this pushes prices as low as $20 a barrel, that’s still over a half billion dollars in income.
Funny thing is, the world might actually get an extra blast of Middle Eastern crude this year – it just won’t be coming from Iran. Instead, the source will be Saudi Arabia and its allies in Kuwait, Qatar and the UAE. The primary reason the Saudis launched their price war in late 2014 – and doubled down on it in late 2015 – wasn’t to crush the American shale patch, but instead to crush Iran before it could fully recover from its sanctions. Iran’s commitments in Syria, Lebanon, Yemen and more all show the classic signs of costly over-leverage. In Riyadh’s mind, now that Iran’s sanctions are on the way out, the financial pressure on Iran needs to be redoubled. The result will be an intensification of Riyadh’s two-track strategy: up the money flowing to foes of Iran in all theaters and up the flow of Saudi oil to minimize interest in and output from Iran’s oil fields. Which leads us to a weird world in which oil prices go lower for longer even as the Middle East gets more violent.
It has been quite the week-end in the Middle East, and things are just getting started.
On Jan 2nd, Saudi Arabia executed 47 Shia dissidents including cleric Nimr al-Nimr. Rhetoric from Shia-dominated Iran flowed fast and furious within minutes, with protestors setting fire to the Saudi embassy in Tehran. In retaliation the Saudis severed diplomatic ties with Iran the following day.
Despite a year of weak prices, shale output has continued to ratchet up in the United States. That, plus a mix of trade and demographic shifts as well as a long-overdue strategic realignment in the aftermath of the Cold War and the Iraq war, is nudging the United States away from actively managing the Middle East. Without the … calming effect of U.S. active involvement in the region, there is nothing to prevent Saudi and Iranian regional fears and ambitions from colliding. And so they are.
Saudi Arabia and Iran have now faced off on opposite sides in blood feuds in Syria, Lebanon, the Palestinian Territories, Yemen, and Afghanistan. Both have attempted to keep the conflict one of the cold or proxy variety.
The Persian Gulf
The execution of al-Nimr indicates that this at-arm’s-length strategy is now changing. Iran has long encouraged rebellion among the Saudis’ Shia minority in the country’s Eastern Province, with attempts to foment Shia unrest – like al-Nimr’s dissidence – as one of their chief tools.
Al-Nimr’s execution and the severing of relations indicate that the Saudis, at least, are ready for the conflict’s next stage. It’s unlikely that the rest of the world is: Eastern and Khuzestan, unfortunately, are home to the bulk of the two country’s oil production facilities.
The US Federal Reserve raised interest rates on Wednesday for the first time since 2006.
After weeks of anticipation (or are we up to years already?) the U.S. Federal Reserve ended its zero-percent interest rate policy on December 16th. Chairwoman Janet Yellen kept to the script of advertising a gradual increase in interest rates for the foreseeable future, with pundits around the world guesstimating that rates will be in the vicinity of 1.25% by the end of 2016.
The U.S. dollar immediately spiked higher against, well, pretty much every currency in the world. U.S. exporters bemoaned the impact a strengthening currency would have on their businesses. Of course, the Fed isn’t the only force at work. There is China, of course, where the “mystery meat” is turning out to be less hot dogs and more rancid horse offal. My favorite bit of new economic terror is from November when the government started to prosecute stock traders who didn’t lose money during the summer market meltdown. Not exactly the sort of activity that engenders confidence in the world’s second-largest economy.
Europe isn’t exactly shaping up either, although the whiffs of financial panic that accompany the Eurozone crisis have at least abated for now. Greece sinks into the morass a bit more with every passing month; even the Greek government has stopped manufacturing the fiction that a recovery will happen anytime soon. Now we have the Schengen agreement – which regulates the ability of Europeans to border-jump without document checks – under varying degrees of suspension in Hungary, Slovenia, France, Germany, Denmark, Austria and the Netherlands (and I probably missed a couple).
A rising dollar combined with a fading Europe and stumbling China is of course the worst possible news for commodity markets. Sure, overproduction in global oil markets (and American natural gas markets) sets the tune, but there are plenty of supporting actors. Brazilian and Australian miners – backed both directly and indirectly by Chinese money seeking any safe haven outside of China – doubled down on production facilities during the 2005-2014 boom. Now with demand stalled a reckoning is due – and that’s the best case scenario. Should the Chinese recovery prove as unlikely as I believe, the entire commodities world is in for a very dark half-decade…which just pours more energy into the dollar.
All told 2015 has shaped up to be a year of record U.S. inflows. When all the data is crunched, we’re looking at over $2 trillion in capital flight flooding into U.S. markets. The kicker is that even should China and Europe stabilize, this is just the beginning. The American Boomers continue their inevitable march into retirement, and alllll of their foreign holdings – the money that financed everything from subprime to the BRIC boom to the commodities swell – will be rolling back during the next few years.
China, Europe, commodities, the Boomers. These are all trillion dollar questions. Or perhaps it is more accurate to say they are all trillion dollar answers that the world just hasn’t quite internalized just yet.
Funny thing is, the Fed has quietly started us on the road to a much bigger split. As of this week the U.S. Federal Reserve is the only central bank in the world that is tightening monetary policy. The current expansion is coming up on seven years old, making it one of our longer periods of economic growth. We are due for a recession before long. The next time the global economy contracts, the United States will be the only country in the world with any monetary tools available.
Rather than adjusting OPEC’s production ceiling in an attempt to raise prices, or even generate a common policy to coordinate output, OPEC instead launched a production free-for-all. No longer will there be a quota – any quota. All members can now invest as much as they want, produce as much as they want, export as much as they want. Oil producers the world over are undoubtedly shivering in terrified anticipation. The Arab states of the Persian Gulf have by far the lowest production costs in the world, and if they do truly flood the market with low cost crudes, few – if any – have a hope of competing.
The Saudis’ goal can be summed up quite simply – force as many high-cost producers out of the oil markets as possible. This is accurate, but it is also incomplete. Yes, the Saudis would like to force its competitors to the financial breaking point, and yes, U.S. shale is an industry that the Saudis would like to wreck. But cracking apart the American shale sector is only one of many goals, and it is certainly not the primary one.
First and foremost, the Saudis are targeting Iran. With the Americans steadily stepping back from actively managing the Middle East, the Saudis are finding themselves forced to deal with their Iranian adversaries themselves. In this the Saudis are poorly positioned. While Saudi Arabia has plenty of top-notch military hardware, the Saudi people have no concept of what a military culture means. Iran has 30 years of experience building up insurgent movements and has proxies sprinkled throughout the Middle East. But the Saudis know full well that such proxies are expensive, and in a game of checkbook diplomacy the Saudis simply have more income and a bigger bank account.
Once sovereign wealth funds and less orthodox financial caches are factored in, the Saudis have – very conservatively — $1 trillion to throw at this problem, and that’s not even counting the personal assets of the royal family. The Saudis can sustain themselves in a low-price environment not for years, but for decades. Compare that to Iran’s hand-to-mouth budgeting. For the Saudis timing is critical; America’s rapprochement with the Iranians heralds increases in Iran’s oil output (albeit not likely in meaningful quantities until 2017). Best to drive prices down now and try to bankrupt Iran’s ability to wage proxy wars in Yemen, Lebanon, Syria and Iraq as well as the internal subsides that keep Iran’s population from revolting.
While Iran is clearly Saudi Arabia’s clear-and-present-danger, it is far from the only target.
Second on the list is Russia, whose oil output has risen to a new post-Cold War high. Russia is the world’s second-largest exporter, so a friendly Saudi-Russian relationship has never been in the cards. But the rivalry between Riyadh and Moscow is about more than just oil. The two have sparred indirectly for decades over the broad swath of weaker Muslim states that lie between them, and Russia’s ongoing rivalries with the United States consistently results in Russian actions that threaten Saudi interests. Russia’s intermittent sponsorship of Iran, and Russia’s involvement in the Syrian civil war opposite Saudi Arabia’s own proxies being cases in point. No wonder that the Saudis flooded the oil markets in the mid-1980s in a (successful) attempt to bankrupt the Soviet Union. No wonder the Saudis sponsored the mujahedeen in Afghanistan to gut the Soviet war machine. No wonder that the Saudis funded the Chechen rebellion in the 1990s. And no wonder the Saudi oil minister expressly called out the Russians when forcing upon OPEC the produce-as-much-as-you can policy.
The third target of the new policy is a bit more obvious – those high price oil producers that have eroded Saudi market share over the decades, all of which are the prime beneficiaries of Saudi Arabia’s yesteryear policies of reducing oil output to bolster prices. With very few exceptions, none of these countries have ever actually reduced output themselves, instead relying upon the Saudis, Kuwaitis and Emiratis to bear the entire burden.
Canada: the world’s highest-cost producer is likely to be the biggest loser.
Norway: the Saudis particularly hate how reliable Norwegian output has been the past 20 years.
Russia: the multi-faceted nature of Saudi Arabia’s competition with Moscow earns Russia spot in this list as well.
Iran: with the strategic contest heating up, Iran also earns a double mention.
Libya: while its production costs are not all that high, the deepening civil war there threatens to remove Libyan production from the market completely. Lower oil prices could well be the factor that forcibly devolves Libya from chaos to anarchy – and destroys the entire energy complex.
Venezuela: while an OPEC “ally” who has always argued for lower production levels, Venezuela has not only never willingly reduced output, its output surges are what broke the 1970s Arab oil embargo – something that the Saudis have neither forgotten nor forgiven.
Nigeria: like Venezuela, the Nigerians have a nasty habit of putting Saudi money where their mouth is.
Collectively these countries are responsible for over 20 million barrels of daily oil output, and that oil income is responsible for the vast majority of their export earnings as well as the social stability that is required to produce the oil in the first place. As the Saudi thinking goes, break even one or two of them and a vast quantity of crude will fall off the market.
That just leaves us with American shale. When you add in the light condensates that shale output favors that are not technically crude, U.S. oil output is now above 12 million barrels per day. Largely courtesy of shale, American imports of crude have dropped by seven million barrels per day, five million of which used to come from OPEC members. Between shale’s success and continental integration, the NAFTA trio is now only two million barrels per day of outright energy independence. And by the end of 2017 the United States will surpass Qatar, Australia and Russia to become the world’s largest natural gas exporter.
Funny thing is, the Saudis were convinced until very recently that U.S. shale was just a PR campaign. They didn’t really admit shale was for real until 2013, and it wasn’t until 2014 that they realized shale would not simply reshape global oil markets, but contribute to the end of the American commitment to Saudi security. The Saudis would love to put a bullet in shale’s head.
But that time has already passed. Sure, back in 2012 the shale producers required oil prices at $90 or more to make a profit, but after a decade of technical advancement the industry is emerging from its infancy. New technologies like multi-lateral drilling and micro-seismic are vastly improving the amount of crude produced per well while vastly reducing the per-barrel production costs. More output per well means that surface infrastructure is now comprised of fewer, larger gathering pipes rather than an expensive crazy-quilt of tiny ones. New re-fracking and re-completion techniques are resetting older wells to their original output levels – or even higher. Taken together the full-cycle break-even price for the four major shale plays – Bakken, Permian, Eagleford and Marcellus – are already below $45 a barrel. By the time these new techs fully proliferate across the industry, the shale sector’s break-even is likely to be right around $30 – and that’s likely only a year away.
Which would put the destruction of shale firmly out of Saudi Arabia’s reach. But that’s ok.
The Saudis may miss on shale, but they have a very target-rich environment in front of them. There will be plenty of casualties.
Of course, the Fed isn’t the only force at work. There is China, of course, where the “mystery meat” is turning out to be less hot dogs and more rancid horse offal. My favorite bit of new economic terror is from November when the government started to prosecute stock traders who didn’t lose money during the summer market meltdown. Not exactly the sort of activity that engenders confidence in the world’s second-largest economy.
