Saudi Arabia gambled and lost, or so it seems, when they stopped supporting oil prices in November last year and instead flooded the market in an attempt to drive out rivals, increasing their own production to 10.6m barrels a day despite the downturn in demand.
U.S. Shale Industry
In its attempt to muscle out the U.S. shale oil production industry, Saudi Arabia seems to have misjudged the threat, as it turns out that producers of oil outside of OPEC are not as panicking in the face of much reduced oil prices.
The main problem with Saudi Arabia’s strategy is that Fracking is not a high-cost method of oil extraction. Added to that, it may be possible for many producers to reduce their costs by an additional 45 percent by the end of this year, thanks in part to advanced pad drilling.
This technique allows five to ten wells to operate around the same initial site. Adding to that, additions such as smart drill-bits which can look for cracks and new dissolvable plugs are also keeping costs down. Despite the rig-count count in North America constantly falling, production is now at its highest in 43 years at 9.6m barrels a day.
Overly Reliant on Oil
All of this is seriously affecting the Saudi Arabia economy, which almost entirely relies on oil. Ninety percent of its revenue comes from oil exports. The IMF currently estimates that its budget deficit will rise to $140 billion or 20 percent of GDP by the end of the year.
Money is also leaking out of the country as Saudi Arabia gets more involved in issues in neighboring countries. Net capital outflows had reached nearly ten percent of GDP, even before oil prices plummeted. As a result, its foreign reserves that reached a high of $737 billion in August last year, had already dropped to $672 billion by May this year. If the current trends continue, then these reserves will keep falling by at least $12 billion a month.
This leaves Saudi Arabia trapped with an undiversified economy, vulnerable to further drops in oil prices. Even a deal with Russia and an OPEC coordinated cut in production to raise prices, would only be a band-aid on an open wound. In the end, Saudi Arabia’s attempt to bully Shale Frackers may have backfired badly on itself.