With Troops On the Ground, Did Russia Just Take Over OPEC?

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Few doubt that a geopolitical Rubicon has been crossed with Russian troops now on the ground, and active, in Syria. There hasn't been this much Russian activity in the Middle East since before the fall of the Berlin Wall. Putin watchers and Russia experts across the political spectrum are wrestling with what it all means.

The Middle East is not a hub of tech innovation, nor a supplier of clothing or minerals or agricultural products, aircraft, automobiles, or anything else. Geopolitically, and economically, everything in the Middle East pivots around oil and its hydrocarbon cousin, natural gas. Its entire economy is utterly dominated by oil exports. For Saudi Arabia, oil provides 90 percent of revenues; for Russia, oil and gas account for 70 percent of exports.

But the word "oil" is rarely seen in the discourse about Russia in Syria. "It's about oil" was a constant refrain (or accusation) in the debates over America's various engagements in the region. The truth is that, in the Middle East, it's always about the oil.

Three facts motivate Putin. First, two regions utterly dominate world oil markets. The Middle East and Russia together ship 60 percent of all oil traded (45 and 15 percent, respectively). Meanwhile, American firms are by law prohibited from engaging in this vital global marketplace; more on this shortly.

Second, oil matters. It provides 97 percent of the global fuel needs for all the engines that transport everything on land, sea and air. No viable substitutes exist at any price for liquid hydrocarbons at the scale society needs. And the world will consume more oil, not less, as far into the future as it matters for sensible policymaking.

Finally, price matters. Here the U.S. has upset the apple cart. Entrepreneurs using new technologies have unlocked a shocking increase in oil supply. U.S. shale fields have recorded the fastest increase in oil production in history. As a result, crude prices have collapsed from north of $100 to south of $50 a barrel. The emerging consensus? Cheaper oil is the new normal.

How does Syria matter? While it's no oil-producing powerhouse by OPEC standards, even Syria's paltry production accounted for 25 percent of that nation's economy (although ISIS now controls most of Syria's oil fields). But Syria is ideal transit territory for pipelines to European markets for oil or gas originating in Iraq and Iran.

More important, given the build-up of Russian military men and materiel in Syria, is geography. Damascus is closer to Baghdad than Washington is to Boston, and not much further away from Riyadh than New York is from Chicago. Russia's military is now no longer deployed mainly on its Baltic borders but is in the world's premier petroleum neighborhood.

Russia is not an OPEC member and has often claimed no desire to join. But they may have just joined by default. Russia's military capabilities dwarf everyone else in that neighborhood (especially now that the U.S. has exited). Putin may be on track to de facto control of OPEC.

According to the World Bank and others, Russia and most OPEC members need oil priced between $100 and $180 a barrel to balance their national budgets. Russia and Saudi Arabia are hemorrhaging cash with today's low price. Of course oil is dollar-denominated, so U.S. monetary policy can sometimes play a significant role in the crude price, but so can gluts and shortages.  That's why OPEC spends so much time trying to fine-tune production. 

Despite the price collapse, U.S. shale output has continued to rise, albeit more slowly. The stated Russian and Saudi policy of increasing production to destroy the new American shale industry hasn't worked.

Goldman Sachs alarmed the petro-finance world with its recent speculation that the sustained global glut could drive prices even lower, even briefly into the $20 per barrel range. If so, the rebound would be quick, but likely only to the $50 to $70 range.

Here's the rub: A new normal price of even $60 remains economically devastating for OPEC at large, for the Middle East, and, in particular, for Russia. But a $60 price (it's still $45 at press time) would re-ignite a profit-seeking land rush in America's shale fields. Russian oil experts likely remember that the rise of America's shale began when oil was below $60. And it was wildly profitable back then with technology and techniques that were half as efficient as those now available.

Thus the emerging global petroleum pricing problem for Russia is severely constrained by the sheer quantity of oil that hundreds of American businesses can produce at prices that are unacceptable to the former swing suppliers. The U.S. has reversed, in short order, its four-decade slide in production, and is now back to the former peak oil production level of 1970. And far more is possible.

And worse yet for revenue-hungry Russia and OPEC, low oil prices are not economically fatal for America at large. Despite the fact that the shale boom has kept the U.S. out of a sustained recession since 2008, the oil and gas sector comprises less than 10 percent of the total U.S. economy. But for Russia and OPEC nations, oil accounts for 25 to 50 percent of each country's entire national GDP, and from 70 to 95 percent of all exports.

Of course, low prices can drive financially challenged companies into bankruptcy or into the hands of acquirers. But America has seen this kind of "creative destruction" before. U.S. businesses are already high-grading the players, the assets and the technologies; they are poised to re-ignite an oil (and gas) production boom in an emerging Shale 2.0 revolution. But this boom can't change one key geopolitical fact: The Middle East and Russia are selling to oil-importing nations. America is not.

China transitioned to become a net oil importer just a few years ago and has made or started negotiations on many oil and gas ventures in the Middle East. Green dreams aside, Russia and the Middle East supply 60 to 90 percent of Europe's oil and natural gas.

It's time for the U.S. government to send a powerful message to the world. Policies need to be forged to support more American production. And collaterally, Congress needs to move forward on legislation that will end the misguided decades-old law banning American firms from selling oil into world markets.

We are far past the time to acknowledge the realities of geography and oil technology. Let's use the advantages the U.S. has in both.


Mark Mills is a senior fellow at the Manhattan Institute, and CEO of the Digital Power Group. 

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