Haniyeh Sadat Jafariyeh

OPEC, Trump, and the oil market future

January 27, 2017

Shortly after Trump’s presidential inauguration, he announced that his administration will embrace the shale oil and gas revolution to bring jobs and prosperity to millions of Americans and will make a shift to border-adjusted corporate tax (BTA).

His pledge to make America independent from OPEC isn’t a new refrain and dates back to 1970s when Henry Kissinger addressed it. President George W. Bush also aimed to cut imports from the Middle East when he famously said the nation was “addicted to oil.” The mission failed, though. 

As some believe, the target does not seem to be an easy one but it may not be completely unattainable. The U.S. oil production has been recently on the rise and signs point toward possible energy independence.  The U.S. Energy Information Administration in its report on drilling productivity forecasted a monthly rise of 41,000 barrels a day in February oil production to 4.748 million barrels a day. If maintained, the expected U.S. February production gain means shale production will be up at least a half million barrels per day by the end of the year. 
However, in an e-mail interview with the Tehran Times, the Iranian president of Vienna Energy Research Group, Fereydoun Barkeshli underscored the U.S. administration’s failure in its quest to free the country’s economy from foreign oil and elaborated that the non-success is many folded, most notably due to the following:

“U.S. oil majors are active in several countries including the Middle Eastern oil rich nations and their involvements is quite complicated. As such the U.S. is compelled to buy parts of its bounty back in America. This complicated relationship impedes the import of foreign-crude back to the country.
The second important aspect of the U.S. energy mix is the country's financial side of the oil investment and extraction. In America, pricing mechanism of crude is based on Fiscal Breakeven tools. That policy makes the U.S. oil pricing different from the rest of the world. Company drilling is based on cost-benefit analysis which subsequently based on breakeven oil prices. As such, no matter how the global oil markets behave and regardless of world oil prices, the United States must follow its own pricing policies. This implies the independent or export-free energy is something close to impossible, unless America decides to opt a different option that of course requires time and policy options that is currently much too a distant possibility. 
Having said the above, President Trump has clearly opted to rely on shale oil and shale gas for an America Energy first. Shale oil and shale gas (BTU), would mean that based on breakeven pricing mechanism, international oil price has to stay at above $70 per barrel in order to make the production economically feasible. As such, there is no way the U.S. can ignore global oil markets in quest for America First Energy Policy.”

In addition to the feasibility of Trump’s energy independence plan, the other major cause of concern in international oil market voices that Trump’s decision simultaneous with the rise in shale production could act as a real threat to OPEC production pact for they may upend efforts by OPEC and non-OPEC members who reached an agreement back on December 10, 2016 to lower output by nearly 1.8 million barrels per day (bpd) aiming to ease a global glut that has weighed on oil prices for more than two years. In their Jan. 22 meeting in Vienna, energy ministers from OPEC and non-OPEC countries shrugged off the vow by Trump to end dependence on the group’s oil, underlining that U.S. is closely integrated in the global energy market. As Barkeshli, who is National Iranian Oil Company's (NIOC) former general manager for OPEC and international affairs, explained: 

“OPEC’ decision to turn a blind eye on global oil market was intended at the followings:
To force non-OPEC to cooperate with the organization's pricing policies that proved to be relatively successful,
To send a powerful message to U.S. shale oil and gas producers. In fact Mr. Trump has already and before stepping into the White House received a strong message from OPEC. The organization has already thrown some 2.5 million barrels a day of shale oil out of market. This volume of crude from shale cracking cannot be immediately return to the market, because of complicated cracking production structure. It is possible that for the next decade or so cracking technology would impact the procedure, but until then the world and the U.S. crude oil demand will also rise to compensate the added production from shale.
OPEC cannot raise crude oil price all on its own. Of world global oil consumption only some 33.4 million barrels a day come from OPEC. But can push crude prices all by itself. Having said that, I do believe that the Trump administration will not choose to counter OPEC's policies towards market stabilization.”

And as he predicted:

“OPEC ministers will sooner or later call on American shale oil producer to join in and voice for the support of the organization's policies in its path for market stability.”

The other considerable concern is felt for how the new American president will deal with the Islamic Republic of Iran, regarding that the Asian country stands among major OPEC oil producers. Some believe that Trump’s election of Exxon Mobil CEO Rex Tillerson to head the Department of State, who ran Exxon Mobil- the American multinational oil and gas corporation and did business with Iran- can trigger development of U.S.-Iran oil relations. Barkeshli believes that: 

“President Trump is a rare Republican exception in contemporary U.S. policies who does not have his roots in oil industry. When a Republican goes to the White House, it is a positive sign for the organization. In fact it was a surprise for OPEC when a Republican candidate with no oil industry background was elected. Nevertheless, he nominated an oil industry veteran as foreign secretary. The other good news for OPEC is that his nominee for secretary for environment protection is an anti-environmental measures veteran.” 

In general, evaluating Trump’s stance towards Iran as relatively quiet and soft, he noted that “In Washington, Israel is mentioned as a major obstacle in the two countries’ normalization schedule in business and trade, other than that Trump may share a few common ground with Iran.” “It’s been more and same here in Tehran,” he added. In Barkeshli’s opinion, Iran is an important option for the U.S. regarding the Islamic country’s ambitious plan to join the class of $2 trillion GDP owners that qualifies it to join the BRICS. “Middle East is currently a less favorable policy and trade option for America. On the other hand Central Asia and Caucasus is gaining importance in that country's energy and trade relationships. In this frame, Iran has to reevaluate her regional approach.” 

But what will happen to oil prices in the future? BTA could have a significant impact on the global oil market, pushing U.S. crude prices higher and triggering large-scale domestic production. In better words, while global crude market is only starting to rebalance, the ramp up in U.S. production would create a renewed large oil surplus next year. That could lead to an immediate sharp decline in global oil prices. In a Tuesday note titled "Destination-based taxation and the oil market", Goldman's Damien Courvalin focused on this issue and found that the price gain from shift to destination-based border adjusted corporate tax would prompt U.S. drillers to “sharply increase activity" as a result of lower U.S. corporate tax rates, which would aggressively incentivize shale drilling, resulting in a global oil price shock, sending domestic prices spiking, as global prices slide.

Trump passed his first week in office fulfilling his campaign promises one by one and he seems intended to keep his vows via executive orders. What was discussed above is, for sure, a part of the high impact his domestic and foreign policies will have on the global oil market and prices. The time is not ripe yet to make a definite prediction over the future of the oil market with Trump and his unpredictability.

HJ/MG

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