Geopolitics of lower energy prices

Oil prices are down by about 20% from their recent peak (or 15% from their three-year plateau around $100 per barrel) and likely to stay low for months if not years. Downward pressure will continue unless the Saudis are prepared to rein in their production (no sign of that yet) or prices decline enough (to $70 or less) to turn off the flow of  tight oil and gas in the US, which has become a major factor on world markets.

There is a lot of benefit to be seen from lower oil prices. From the US perspective, cutting revenue flow to the governments of Russia, Iran and Venezuela is a big plus. Putin, who is already feeling substantial pressure from European Union and US sanctions, faces serious financial difficulties. Iran, likewise hurt by sanctions, will find it difficult to generate anything like the revenue it needs to fund economic recovery, even if sanctions are lifted. Venezuela was already headed towards a financial crisis. Its budget is almost entirely dependent on oil revenue.

Major oil and gas producers in the Gulf will be hit as well. Saudi Arabia, the United Arab Emirates , Kuwait and Qatar as well as Iraq will feel the pinch. They are far more likely to cut their spending on various international causes than risk austerity at home. That could mean scarcer resources for the restored military autocracy in Egypt, Yemen’s besieged government and Syria’s opposition. It could also mean less revenue for Islamist extremists of various stripes, including the Islamic State in Iraq and Syria, for which oil sales are a significant portion of revenue.

Lower oil prices will also give a boost to global economic growth, particularly in the US and Europe but also in China and India. The Economist worries that the lower prices may be due to slack economic growth and that lower prices will do little for consumers, but then it gives ample evidence that the lower prices are in fact due to higher production. If past patterns hold, global economic growth could gain by a significant 1% over current 3.3% predictions for 2015.

What has happened in the past couple of weeks is part of a broader secular trend that will have profound impacts on geopolitics and economics for a long time to come. Production of oil and gas is rising sharply in the Western Hemisphere, especially in the US, Canada and Brazil. Demand is rising principally in the East, where economic growth is strong, the economies are still heavily dependent on energy, and energy resources are scarce. This trend has implications for future security risks and burden sharing:  it will not make much sense for the US to carry most of the burden of ensuring the security of the strait of Hormuz when 90% or more of the oil shipped through this classic “choke point” is going to India, China and other Asian consumers.

Asian consumers should be stocking 90 days of imports, as members of the International Energy Agency are required to do. They should also be providing some of the naval assets to protect the strait of Hormuz. That will require a major rethink on the part of the US, as well as creation of a multinational force that the Asians can feel comfortable joining.

There are calls in Congress to curtail the Strategic Petroleum Reserve, which is slated for use in an oil supply disruption. That would be an unwise move, as a major disruption of oil markets anywhere means a hike in prices everywhere. The US may be much less dependent on the Middle East in the future, but it will still be vulnerable to the economic damage of an oil supply interruption.

We have tended to view the rise of Asia as a challenge. But of course it is also an opportunity. The US will soon be the world’s largest oil and gas producer. If the Washington can continue to moderate American demand and in addition decides to allow oil and gas exports, the assumption of its declining influence could soon be proven, once again, a mirage.