PAPER PRESENTATION

GLOBAL EXPLOITATION OF SHALE OIL AND GAS WILL REDEFINE THE

GEOPOLITICS OF MIDDLE EAST AND THE WORLD

Nimisha Agarwal

Lady Shri Ram College

Historic scenario: The oil price shocks

In 1886, Karl Benz develops first gasoline-powered automobile. By 1930, petroleum won against

early electric cars in the market. And in the next 30 years, in the 1960s, there was a spike in

number of automobiles across developed nations, and rapid increase in demand for oil. The

organization of the petroleum exporting countries (OPEC) was established in 1960, when all the

major oil producing countries concentrated particularly in the middle east decided to come

together and influence the market. They successfully did so in 1973 by imposing an oil embargo,

making the world see Saudi supremacy and OPEC’s monopoly control over oil production- the

supply, the prices and the outcomes, in this case pressurizing USA not to back Israel . Moreover,

much of the demand came from major corporations from the developed nations, and so these

countries led by Saudi Arabia showed a significant command over the source of their

development. This was further reaffirmed by the second oil shock of 1979.

USA and Saudi Arabia have been allies since 1933, and this alliance has been quite strong.

However, despite surviving 9/11, it is changing now. New generations of Saudi Arabian leaders

are adjusting to what it sees as a resurgent Iran and a retreating United States, which has

announced a strategic rebalancing to Asia, by taking a more assertive military role in the Middle

East. The Obama administration, for its part, points to Saudi policies, saying that they have greatly

heated up regional conflicts, and says the kingdom has undermined U.S. interests while under the

protection of the U.S. security umbrella. The Arabian American Oil Company, established by

Standard Oil and three partners—who would later become Texaco, Exxon, and Mobil—

discovered the kingdom's reserves in 1944 and made the country the world's largest oil exporter.

Saudi Arabia gradually bought out foreign shareholders by 1980, and the company is now known

as Saudi Aramco, but U.S. energy companies maintained business interests in Saudi Arabia.

In 2014, Saudi Arabia and OPEC faced a new challenge: the U.S. shale revolution. Amid rising

U.S. shale production, Saudi oil exports to the United States declined by more than 50 percent

from April to December 2014, dropping to 788,000 barrels per day in January 2015 before

rebounding to over a million barrels per day in June 2015. Oil prices crashed from a June 2014

peak of $110 per barrel to less than half that in 2015 and less than $27 per barrel in early 2016. It

has since begun to recover slowly, but it is unclear if this trajectory will continue.

As crude oil topped $100 a barrel in the previous decade, U.S. officials urged Saudi Arabia to

boost supply and bring down prices. Those calls became muted this decade, as high prices only

helped increase investment in U.S. shale oils. In 2014, facing a glut in supply, Saudi Arabia and

OPEC once again faced calls to curb production. In November 2014, Saudi oil minister Ali al-

Naimi persuaded OPEC to keep pumping to force high-cost producers—those exploiting shale,

oil sands, and deep-sea resources—to reduce their output. Saudi Arabia’s subsequent increase in

output helped force U.S. drillers to cut shale rigs by 75 percent since September 2014; however,

the break-even point for shale has fallen considerably since this time, therefore hinting at

improved cost curves.

Briefly, the relations of USA with China were not really friendly when the Mao regime came in,

until 1972 when diplomatic relations between china and USA were established. Since then, with

the revolution in Chinese economy, China has become an extremely competitive arena for

power, expanding its investments in not only asia but Africa and latin America as well.

With the European Union, USA has had a supporting role right from the Marshal Plan to

NATO to the actual formalization of EU. With Russia, the relations were mostly defined by cold

war, post which they became cooperative. But the recent annexation of Crimea by Russia, the

imposition of sanctions on then and their retaliation by cutting oil supply has spurted tensions

again.

UNDERSTANDING THE ECONOMICS BEHIND THE SHALE OIL REVOLUTION

Leading investment firm goldman sachs hailed the discovery of shale oil in the US as the

beginning of a “New oil order”. Shale oil can be considered to be the first non OPEC swing

source of oil, with the Goldman Sachs being bold enough to hail the beginning of a “New oil

order”, with USA being the leader of this order, becoming a net exporter of oil from a net

importer of the same, thanks to the advancement in technology which has helped increase

production. The oil market is now witnessing a competition between countries with abundance of

shale oil, like Russia, USA and Germany among others, and the OPEC countries, who want to

maintain their traditional monopoly over being the most important source for crude oil in the

world without letting alternative sources taking over in an increasingly energy efficient world. Now

that oil production is scattered and not concentrated, it has resulted in a very flat supply curve,

which means that OPEC has lost much of its power to influence the price-quantity relations in the

oil market. For many decades, the geopolitical dominance achieved by large oil-exporting states

had been an irritant to USA. Now, the rapid growth of oil and natural-gas production from

unconventional shale resources in North America is rapidly eliminating this threat, with positive

geopolitical implications for the USA.

On the supply side, fires have ignited in Canada, causing significant loss in their oil resources. Oil

supplying countries like Libya and Nigeria have been caught up too hard in violent conflicts and

terrorism, hurting their economy badly. The middle east lives under the threat of ISIS, which has

repeatedly attacked and captured oil fields, hence being extremely unstable and critical at the

moment. On the demand side, this revolution has had an impact on consumers, countries and oil

and gas industries. The consumer countries like India and China are demanding even more, with

the new leadership of Narendra Modi in India focusing on road rebuilding programs. Producing

countries like Russia and Venezuela are being hit by the low prices and the subsequent losses and

budgetary deficits. For oil and gas industries, they don’t need to spend a huge amount of money

on deep water heavy oil projects. There have been productivity and efficiency gains with lowered

energy costs.

Figure 1. Cost of new production

ASSESSING THE GEOPOLITICAL IMPACT OF USA LED SHALE REVOLUTION

On Middle East:

It can be concluded that the US tilt towards Asia and lower dependency on Middle East oil

imports will erode USA’s interest in the Middle East ,leading to a gradual reduction in its military

presence and in its regional security commitments in the Gulf. It is true that lower dependency on

imported oil from the Middle East will mean that the USA has more flexibility in its foreign

policy choices and more room for diplomatic negotiations. However, US interests in the region

are not motivated by securing oil supplies alone- they are also influenced by wider political and

security interests; these include protecting Israel’s interests in the region, countering terrorism,

containing Iran’s nuclear programme, and more recently ensuring the stability and the unity of

Iraq and fighting against Islamic State. Furthermore, US is still not completely self-reliant and the

global oil market is fairly interconnected and supply shocks in any part of the world will affect the

prices all over the globe. A weaker US-Saudi bond resulting from increased US energy self-

sufficiency along with diverging interests in the ongoing Sunni-Shia conflict in the Islamic world

could create a different set of circumstances. The implicit “security-for-oil flows” US-Saudi

bargain since 1945 may be rethought by both sides.

Lately, US has refocused US strategic priorities on the Asia-Pacific. This suggests that the shale

revolution may presage a rethinking of the US role in the Middle East. The US role as security

guarantor in the Persian Gulf and guardian of the vital shipping lanes from the Strait of Hormuz

to the Straits of Malacca has shaped the region’s strategic landscape for more than half a century.

Militia groups, including members of ISIS, conducted attacks on oil facilities and pipelines

regularly during the first half of this year. Oil production has fallen from 1.6 million barrels a day

in 2010, to around 410,000 barrels a day in June 2015. The lack of oil revenues makes it difficult

to pay civil servants and soldiers and build a state security apparatus. This will point to USA being

the major source of stable oil security in the world.

On Africa:

The U.S. shale boom has affected Africa, particularly the oil-producing countries in the region.

Algeria, Angola, and Nigeria — all members of (OPEC) — send some share of their crude oil

exports to the United States, although the amount varies.

Nigeria, has experienced the biggest blow from rapidly declining U.S. oil imports. In 2005,

Nigeria was the fifth largest U.S. supplier. Approximately 70 percent of Nigeria’s oil production is

offshore. The U.S. was an attractive market for Nigeria’s high quality, light sweet crude oil. In

2010, 43 percent of Nigeria’s oil exports (amounting to 373.3 million barrels) were sent to the

United States. By 2014, Nigeria’s oil exports to the U.S. had fallen to 33.6 million barrels in the

first six months of the year, reflecting a 91 percent decline. By July, Nigeria had completely

stopped sending oil to the United States. United States changed from being the largest importer

of Nigerian oil in 2012 to the 10th largest in 2014, accounting for 1 percent of U.S. total oil

imports.

Another example- Angola has responded to the U.S. energy boom and accompanying decline in

imports by redirecting more of its crude oil to China and India. A huge share (almost 50 percent)

of Angola’s oil exports now head to China. As of 2015, Angola is the second-largest supplier of oil

to China (behind only Saudi Arabia). In addition, India has increased its purchase of Angolan oil

in recent years.

Now it can be said that since USA is self-sufficient in energy, it does not have any direct interest in

Africa anymore, and hence it will cut down on investments and other commitments. But we need

to understand that USA has strategic interests in Africa. With the spreading of china into Africa

by the way of oil imports and investments, USA definitely will continue in Africa so as to not let

China become powerful. Additionally, USA has been leading the war against terrorism, and with

the infiltration of ISIS and similar entities (Boko Haram), the US is to stay. What can be said

geopolitically is that the change is only in the priority of interest, from oil to security and

combating Chinese competition.

On Asia and Europe:

Many analysts foresee a shift in global oil-market power from the traditional producers (OPEC,

Russia) to consumers (such as Germany, Eastern Europe, China and India) that will benefit from

the more diverse oil and gas supply. Asia accounts for 60 % of global LNG imports and will also

be the fastest-growing LNG market in coming years. There will be increased production from

new players such as the USA and Canada. By becoming an exporter, the USA would fill a vital

role for its allies in Europe and Asia. Russian gas exports face serious challenges from weak gas

demand in Europe, the rise of more flexible European gas pricing systems, the unconventional

gas boom in North America, and China’s aggressive hunt for alternative gas supplies. Currently,

numerous companies in the USA and Canada are taking advantage of the arbitrage opportunity

resulting from the current supply overhang of shale gas and the price differentials between global

gas markets. This means that as US shale gas exports increase, most of them will probably go to

Asia where prices are higher. In turn, that will free other suppliers of gas to redirect flows to

Europe, thus bringing down the need for gas imports from Russia. In addition, new sources of gas

from new suppliers will also start moving to market.

Russia has been continuously threatening East European countries whenever they have hinted at

cooperation with EU, especially when it comes to oil. It has threatened countries like Moldova in

the past that it will stop oil supplies, and even when sanctions were imposed on Russia due to

annexation of Crimea, it stopped energy supplies to EU. Hence, A US shale boom can only be a

boon for these countries. Moreover, many EU countries have the potential to produce shale oil

too, like Germany and France, and this could redefine how Russia’s political influence plays out

there.

Countries like India are benefitting the most from this revolution, and this has started a whole

new dimension in the India-US relations. Being a crude oil importing country, India is projected

to benefit with global shale oil sector development. If the possibility of sizeable shale oil resources

in India expressed in past is true, India also has a sound case for domestic development. The

merit lies in exploiting the maturing technology, and dealing with local policy to be able to turn

shale oil development into an excellent opportunity.

Energy exports would strongly reinforce the US position in Asia; Japan, South Korea, and Taiwan

are major gas importers. China is also becoming a major importer, currently importing roughly 30

percent of its natural gas. Demand projections suggest China may import 50 percent of its gas by

2025.40 US gas exports to China would add a dimension of economic and strategic

interdependence to the Sino-American relationship.

Strategically, gas exports would bolster the US “rebalance” in Asia. Already, a new energy briefing

shows 20 percent of Japan’s gas imports coming from the United States.41 The United States’

ability to bolster the energy security of Asian allies and partners would reinforce perceptions of

US reliability and presence as an Asia-Pacific power. Australia, a close US treaty ally, is another

major source of Asian gas exports. The combination of US and Australian gas contributing to

East Asian energy security would be an important new strategic reality.

WHAT NEXT?

Well, recent reports have shown that OPEC is back. A year of plunging government revenues,

growing budget deficits and slumping currencies has left several members grappling with severe

economic problems. The fact that the U.S. oil boom kept going for about six months also means

OPEC has so far succeeded only in bringing the market back to where it started.

“It’s taken a hell of a long time and it will continue to take a long time — U.S. oil production has

been more resilient than people thought,” said Mike Wittner, head of oil markets research at

Societe Generale in London. “The bottom line is the re-balancing has begun.”

OPEC led by Saudi Arabia intentionally pumped more oil than necessary, with both the intention

to hold on to their established supremacy and also to make the hidden agenda work, id est,

oversupplying the market in such a way that the market crashes hard and the shale oil business

gradually retracts. Then, they can claim the markets again.

But what we think is that in an increasingly energy efficient world, now that alternatives have been

seen, OPEC will not enjoy the monopoly it had before, because of the availability of close

substitutes, and hence the supply curve will definitely be flatter for a long period of time,

suggesting high elasticity. Furthermore, many other countries like Germany and France and even

China are indulging in the process to exploit their shale resources. This will bring new players into

the shale market itself and ensure that the energy market is not over dependent on the former

swing producer, OPEC.