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Hail Shale: Why Saudis Decided Not To Prop Up Oil

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Jay Solomon and Summer Said, The Wall Street Journal

America’s shale revolution is rocking OPEC and the geopolitical landscape

In early October, Saudi Arabia’s representative to OPEC surprised attendees at a New York seminar by revealing his government was content to let global energy prices slide.

Nasser al-Dossary ’s message broke from decades of Saudi orthodoxy that sought to keep prices high by limiting global oil production, said people familiar with the session. That set the stage for Saudi Arabia’s oil mandarins to send crude prices tumbling late last month after persuading other members of the Organization of the Petroleum Exporting Countries to keep production steady.

Hard-hit countries like Iran, Russia and Venezuela suspected the move was a coordinated effort between the oil kingdom and its longtime ally, the U.S., to weaken their foes’ economies and geopolitical standing.

But the story of Saudi Arabia’s new oil strategy, pieced together through interviews with senior Middle Eastern, American and European officials, isn’t one of an old alliance. It is a story of a budding rivalry, driven by what Saudi Arabia views as a threat posed by American energy firms, these officials said.

Shale-oil production in places like Texas and North Dakota has boosted U.S. output, displacing exports to the U.S. from OPEC members and adding to global oversupply.

Mr. Dossary’s October message signaled a direct challenge to North American energy firms that the Arab monarchy believes have fueled a supply glut by using new shale-oil technologies, said the people familiar with the session.

Saudi officials became convinced they couldn’t bolster prices alone amid the new-crude flood. They also concluded many other OPEC members would balk at meaningful cuts, as would big non-OPEC producers like Russia and Mexico. If Riyadh cut production alone, Saudi officials feared, other producers would swoop in and steal market share.

Saudi oil minister Ali al-Naimi tested that conclusion just 48 hours before the Nov. 27 OPEC decision, meeting in Vienna with oil heads of several big producer nations to suggest a coordinated output cut. As he suspected going in, he couldn’t get an agreement, said people familiar with the meeting.

The option left: Let prices slide to test how long, and at what levels, American shale producers can keep pumping.

OPEC’s Nov. 27 move helped drive crude prices to below $60 a barrel from over $100 this summer. It fueled discord among OPEC’s members—and among other energy powers—who have grown accustomed to triple-digit oil prices padding their governments’ balance sheets.

Mr. Naimi on Thursday said Saudi Arabia and OPEC had no choice but to keep production at current levels amid the price weakness.

“In a situation like this, it is difficult, if not impossible for the kingdom or OPEC, to take any action that may result in lower market share and higher quotas from others, at a time when it is difficult to control prices,” the official Saudi press agency quoted him as saying. Mr. Naimi didn’t respond to inquiries. Saudi oil-ministry representatives wouldn’t comment for this article.

The Saudi approach is part of a significant evolution in Riyadh’s relationship with Washington over the past decade. Close allies since World War II, the countries prospered on the kingdom’s providing a steady oil flow in exchange for America’s securing its borders.

But the U.S.’s emergence as an energy rival is testing this foundation in ways not yet widely appreciated, said U.S. and Saudi officials, as have major differences over American Middle East policies.

Saudi Arabia is taking a risk by letting oil prices plunge, said Arab, American and European officials. Saudi officials have said their economy can survive at least two years with low prices, thanks partly to the kingdom’s $750 billion foreign-exchange reserves. Arab officials believe many less-efficient producers will be driven out of the market.

Still, some oil-industry executives said, Riyadh and Mr. Naimi may underestimate how technology and the shale-oil boom have fundamentally altered energy markets. Many U.S. companies, they said, can make money or break even with oil below $40.

The move has also exposed cracks inside the Saudi ruling circle. In October, as the oil-price slide accelerated, billionaire Prince al-Waleed bin Talal, a nephew to King Abdullah, castigated Mr. Naimi in an open letter for appearing to shrug off price declines. Belittling the impact, he wrote, “is a catastrophe that cannot go unmentioned.”

Saudi Arabia and its massive energy reserves have played a major role in shaping world affairs for 50 years. During the 1980s, the Reagan administration credited the Saudis with maintaining high oil production to drive down prices and weaken the Soviet Union’s finances. The price drop also fueled an economic recovery in the U.S.

A spokesman for the National Security Council on Sunday said Washington’s alliance with Saudi Arabia remains strong and focused on cooperation on numerous economic and security issues. “Our bilateral relationship is built on over 70 years of close cooperation whether it is counterterrorism, military to military training, educational exchanges, energy security, or bolstering trade and investment,” said NSC spokesman Alistair Baskey.

President Barack Obama ’s administration has worked closely with Saudi Arabia to try using energy markets to pressure Iran into constraining its nuclear program, according to U.S. and Saudi officials.

Beginning in 2009, U.S. officials coordinated with Saudi Arabia, the United Arab Emirates and Kuwait to assure major buyers of Iranian oil would have alternatives if they weaned themselves off Tehran.

The strategy helped the West cut by half Iran’s energy exports over the past three years, said Robert Einhorn, who coordinated U.S. sanctions on Iran in the Obama administration. “What made this possible was that the Saudis and others were able to produce more.”

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