By: Akhmad Hanan
Today, all countries in the world are facing difficulties in the economy amid the COVID-19 outbreak. The World Health Organization (WHO) announced that the status outbreak as a pandemic. In addition, there is a phenomenon of low oil prices because demand from oil importing countries is reduced due to a pandemic and falling stock prices on world stock exchanges because industry cannot run its production due to pandemic too. The decline of oil prices on March 9, 2020, was the highest decrease in a day since 1991 (Aljazeera, 2020). Western Texas Intermediate (WTI) oil prices traded in the United States have decreased by 26% to 31.13 USD/barrel. The price of Brent crude oil, which is the global benchmark, fell around 24% to 33.36 USD/barrel. The price has been up for a while, but on March 12, 2020, oil prices went down by 4.2% from the previous day to 31.60 USD/barrel. The price of Brent fell to 35.2 USD / barrel (Figure 1). Oil prices fall was due to Saudi Arabia and Russia oil price war, as part of the trade war. The oil price war resulted in a collapse of the supply chain and a panic among global oil buyers during a COVID-19 pandemic crisis.
Figure 1. World Oil Price Statistics until the end of March 2020 (OPEC, 2020)
Background of Oil Price War
Initially, the relationship between Russia and Saudi Arabia, especially in the oil sector, had no complicated problems. Russia and Saudi Arabia built strong cooperative relations based on common interests in the Middle East, specifically for the oil sector. In December 2016, an agreement was signed in Vienna, Austria, between Russia, Saudi Arabia, together with the other members of the Organization of the Petroleum Exporting Countries (OPEC). This meeting was called OPEC+ because it involved Russia. OPEC+ aimed to control the stability and continuity of world oil price and supply (OPEC, 2016).
The initial agreement was only valid for six months and had been extended only valid for six months, then extended several times until April 2020. The agreement also established a permanent forum structure like OPEC with a variety of separate agreements signed in July 2019. The organization allowed participating members to coordinate and adjust production policies and to establish oil trades between members. The new structure (OPEC+) of the forum was effective and efficient for a while in maintaining the stability of oil prices and the continuity of oil trade in the world. One of the initiatives was that OPEC countries, led by Saudi Arabia, agreed until 2020 to reduce crude oil production with Russia (independent.co.uk, 2020).
OPEC+ then met at the OPEC headquarters in Vienna, Austria, on March 6, 2020. The result of the meeting surprised many countries in the world. Saudi Arabia tried to encourage additional production cuts to offset the decline in oil demand, especially from China, following the impact of the pandemic outbreak. Russia firmly rejected the strategy initiated by Saudi Arabia. Russia then announced that it would not abide by the agreement as before to cut oil production. The trade war began with a price war between Saudi Arabia against Russia. Each party promised to produce as much oil as possible even when world oil demand is declining. The price of oil plummeted on March 9, 2020, which was very low for the first time in history since 1991 (Al Jazeera, 2020).
Igor Sechin, as Head of the Russian giant oil company, Rosneft, considered that unilateral rejection from Russia as a part of a strategy to hit the United States’ shale oil market. According to him, the oil production cuts by OPEC+ countries will give benefit to the US as the price will increase. Meanwhile, oil price fall will benefit Russia (and Saudi Arabia) as US shale oil production cost is higher than the oil market price (independent.co.uk, 2020).
The latest update, OPEC+ took an agreement on April 9, 2020 to cut their oil production by more than one-fifth of oil production. They hoped that the United States and other oil producers would follow their steps to stabilize the price and trade of oil during the pandemic crisis. OPEC+ cuts oil production by 10 million barrels per day (bpd) or 10% of global supply. Another 5 million bpd is estimated to be carried out by other countries to help deal with the deepest oil crisis in decades (kontan, 2020).
The United States in the circle of Trade War
While the whole world was aggressively fighting the COVID-19 pandemic and suffered from global economy paralysis. Saudi Arabia and Russia beat the drums of the oil trade war and caused oil price to fall in the range of 20 USD/barrel. Goldman Sachs analysts said that oil producers in the United States were forced to cut their budgets for new operations. Hence, dozens of oil field service companies may need to stop their operations and to lay off their workers (Aljazeera, 2020).
On Friday, March 27, 2020, President Donald Trump announced a plan to buy 90 million barrels of oil to be stored as the Strategic Petroleum Reserves (SPR). This is an effort to maintain the stability of world oil prices and to prevent a bigger impact on other sectors in the United States. Claudio Galimberti, an S&P Global Platts analyst, estimated that world oil demand in March and April will be drastically reduced. In the worst-case scenario, there will be a decrease in global demand of 950 thousand barrels/day as the result of the COVID-19 pandemic. The United States is now formulating a strategy, considering that around 90 thousand workers are currently in the oil industry. If the price war between Saudi and Russia lasts a long time, then the oil industry in the United States is also in a bad phase (CNBC, 2020).
The United States President, Donald Trump, has threatened OPEC+ to fix the problem of oil oversupply in the market. Trump warned Saudi Arabia that they would face sanctions and tariffs on oil trade if they do not cut production. This is to help the continuity of the United States oil industry because its production cost is higher and making it difficult when the oil price is low (kontan, 2020).
Many analysts also said that the fall in oil prices is a consequence of a new round of rivalry between two world leaders, Prince Muhammad bin Salman al-Saud (Saudi Arabia) versus Putin (Russia), over the disagreement in the volume of oil production. Meanwhile, media from the United States said that the fall in oil prices was Russia’s way to attack the United States shale oil. The global economy events of oil are often used as political reasons for specific targets.
Opportunities for Indonesia
As an oil importer, Indonesia could take an opportunity during low oil prices and oil trade war to buy lots of crude oil and store as buffer stocks reserves and SPR. This strategy is carried out to increase oil supply and reserves to strengthen national energy security. SPR can be used if there is a severe disruption to oil supplies, such as natural disasters and war in Indonesia. Until now, Indonesia does not yet have buffer stock reserves or SPR. So far, Indonesia has only relied on operational reserves owned by Pertamina. Based on Indonesia’s operational reserve data, Indonesia reserves only last for 22 days now. The number is significantly lower than the US’s operational reserve, which is up to 60 days.
Al Jazeera. (2020, March 15). What’s behind Saudi Arabia’s oil price war with Russia? Retrieved from Al Jazeera: https://www.aljazeera.com/programmes/countingthecost/2020/03/saudi-arabia-oil-price-war-russia-200315114308947.html
Aljazeera. (2020, March 15). What’s behind Saudi Arabia’s oil price war with Russia? Retrieved from www.aljazeera.com/: https://www.aljazeera.com/programmes/countingthecost/2020/03/saudi-arabia-oil-price-war-russia-200315114308947.html
CNBC. (2020, March 13). Trump to buy oil for strategic reserve to aid energy industry: ‘We’re going to fill it’. Retrieved from www.cnbc.com: https://www.cnbc.com/2020/03/13/trump-asks-energy-department-to-purchase-oil-for-the-strategic-petroleum-reserve.html
independent.co.uk. (2020, March 2020). US oil companies to slash spending amid Saudi-Russian trade war. Retrieved from www.independent.co.uk: https://www.independent.co.uk/news/world/americas/us-trade-war-oil-prices-coronavirus-saudi-arabia-russia-a9402361.html
kontan. (2020, April 21). kontan.co.id. Retrieved from https://internasional.kontan.co.id/news/diam-diam-arab-saudi-dan-rusia-terlibat-pertarungan-fisik-di-pasar-minyak-dunia?page=all: https://internasional.kontan.co.id/news/diam-diam-arab-saudi-dan-rusia-terlibat-pertarungan-fisik-di-pasar-minyak-dunia?page=all
OPEC. (2016, December 25). OPEC makes history in Vienna. Retrieved from www.opec.org: https://www.opec.org/opec_web/en/press_room/4052.htm
OPEC. (2020, March 31). OPEC Basket Price. Retrieved from www.opec.org: https://www.opec.org/opec_web/en/data_graphs/40.htm
*This opinion piece is the author(s) own and does not necessarily represent opinions of the Purnomo Yusgiantoro Center (PYC)