São Paulo – The new price range of oil at around US$ 60 per barrel can redraw the map of the world economy and pose one of the biggest challenges in recent history to Arab countries. Home to some of the world’s largest oil reserves and capable of exploring the commodity at a low cost, the Gulf countries will need to find new ways to make do in the future, since other energy sources should take up the space currently occupied by oil products more and more.
The director of the Brazilian Infrastructure Centre (CBIE), Adriano Pires notes that oil prices go up and down cyclically. It was thus in the 1970s, the late 1980s, the 1990s, during the economic crisis in 2008, and now it is happening anew. In June, the Brent oil barrel sold for US$ 110. By December 15th, it went for less than US$ 60. Once the oil price starts rising again, however, this time it may not go up as much as in previous cycles.
“Demand is changing due to the climate issue and the need to develop other energy sources. Now we have electric and hybrid vehicles in higher numbers. Once [economic] growth resumes, it should not originate from industry like it did in the past. After the low price cycle, oil will tend to lose strength within the energy mix. It’s getting old as the main source of power. The world will stop consuming oil, not because it will become depleted, but because the energy mix will change,” says Pires.
Costs and social spending
The economist and professor at the Energy and Environment Institute of the University of São Paulo (IEE-USP), Edmilson Moutinho dos Santos says the major Arab oil-producing countries experienced vast economic growth up until the 2008 crisis, when prices were high. In addition to investing in projects on the domestic front, Gulf nations shored up their sovereign fund by seeking assets in foreign countries.
Now, says Santos, Arab countries might be forced to use part of their sovereign reserves to make up for lost oil revenues and sustain domestic consumption, one of the drivers of their economies. And even though their production costs are among the lowest in the world, these nations are faced with challenges. “The Arabs will tend to ‘go back home,’ to use whatever money they can get their hands on (i.e. whatever isn’t invested in long-term projects) to finance their young population and fuel consumption,” he says.
“Expenditure on oil production may be low in Arab countries, but on the other hand this low cost covers the costs of the elite, the costs of the youth; these (Gulf) countries have low taxes, huge fiscal costs, they grant lots of subsidies and are lacking in energy efficiency. And oil is what ultimately pays for these high social costs. In the United States, the cost of exploring oil by fracturing rock is known to range from US$ 70 to US$ 80. But the cheap exploration in Arab countries entails other costs,” he remarks.
Brazil and the Arabs
Trade between Brazil and the Arab countries will likely remain unscathed by the recent fall in oil prices, at least for the time being. Santos recalls that Brazil reaped the fruits of sustaining close ties with Middle East nations in the 1970s, when the Brazilian economy was in bad shape. Back then, the country partnered up with Arab nations to ensure a steady supply of oil.
“Brazil paid back with products such as weaponry and automobiles and with engineering services. Companies in these industries were afforded opportunities they wouldn’t have had otherwise. This came to a halt in 1991, with the first Gulf War, when Iraq’s oil exports became limited,” Santos explains. From that point on, Brazil focused on selling food and commodities to Arab countries, found other oil suppliers, and began tapping into its own reserves.
Brazil remains a major supplier of foodstuffs to the Arabs. Since food is essential, Arabs are unlikely to cease importing at this time. “In the short term, [sales] to Arab countries should not be impacted in any significant way, because they buy food from Brazil. Maybe this wouldn’t be the case if we were exporting high-end products or manufactured goods to them,” Santos muses.
The CEO of the Arab Brazilian Chamber of Commerce, Michel Alaby also wagers that trade between the Arabs and Brazil will persist. “Their consumption may become less elastic, but food consumption is not going down. They remain prone to buying because food consumption doesn’t stop. They might buy less superfluous or less essential items. There may be an impact upon the civil construction industry, since the implementation of projects may slow down,” Alaby posits.
In 2013, Brazil shipped US$ 14 billion worth of products to Arab countries. The top-selling items were meats and their products and the leading buyers were Saudi Arabia, the United Arab Emirates, Egypt and Algeria. Conversely, Brazil imported US$ 11.4 billion worth of goods from Arab countries, especially oil, oil products and fertilizers. The leading suppliers were Saudi Arabia, Algeria, Morocco and Kuwait.
Who stands to gain
The current cheap oil scenario can potentially benefit countries which import the commodity. “Those who stand to gain the most from this price change are China, Egypt and Jordan, importing countries that will pay low prices,” says Alaby.
For his part, Santos says this is the chance to save money on subsidies and invest in vital sectors. “Countries can seize the occasion to change their subsidy laws, after all the low price will not lead to higher prices to end consumers. Theoretically, governments can take advantage from this scenario by controlling inflation, stimulating their economies and become less energy-conscious. They could also not transfer this price drop to consumers, keep taxes as they are and capitalize on the fact that everyone is accustomed to fuel prices, plus tax oil importers, since they are not paying much. This can help governments invest in health, education and in buying weapons,” he says.
Brazil’s state-owed oil company Petrobras should profit from this new reality, but not right away, since it is experiencing turmoil due to allegations of corruption. As of Tuesday (Dec 23rd), the company had not yet released its Q3 balance sheet, only operational results. Besides, its shares have lost half their value in a year’s time.
Additionally, Petrobras faces the challenge of exploring oil at the pre-salt layer, at a time when prices are not helping highly indebted companies with ambitious investment plans. And Petrobras fits the bill.
The good news is that according to Santos, the company has “fat to burn” and could become more streamlined. It could, for instance, switch suppliers and benefit from the productivity of its wells. Besides, both Alaby and Santos claim that being state-owned, Petrobras has backing from the government to carry out its projects.
Who stands to lose
Oil prices are low right now because supply is running high and demand is weak. Although the United States are rebounding from the 2008 crisis, other “drivers” of economic growth are struggling to exit the crisis. Such is the case with the European countries, Japan and the emerging countries. China is still growing at 7% per annum, but not as much as had been hoped for.
In late November, the Organization of Petroleum Exporting Countries (Opec) convened and decided to keep production at 30 million barrels per day. The decision was subscribed to by the 12 Opec countries, but didn’t please all. It was a bet placed by countries with low exploration costs and balanced budgets, like Saudi Arabia and the United Arab Emirates.
These countries are working with the assumption that producers in the United States won’t be able to hold out exploring oil from rocks at US$ 70 for long, provided that the price of one barrel stays around US$ 60. Thus, they believe it won’t be long before the commodity’s price goes up. Some estimates indicate that the Saudis produce oil at a cost lower than US$ 10 per barrel.
Nevertheless, Pires claims the oil production change never changes rapidly. He believes the oil exporting countries will have to cut costs, and that the commodity’s prices should not increase significantly any time in the next four years.
For Venezuela and Russia, trouble lies ahead. Both major exporters, they have planned their budgets and spending based on a higher oil barrel price. “Countries that rely on oil revenues and whose economies are not that organized will have problems. Examples include Russia, Venezuela and Nigeria. In turn, those who focus on good administration and whose spending is not high will be able to cut down consumption, but they are prone to allocating more of their reserves to infrastructure investment, for instance. This will likely be the case with Saudi and the UAE,” Alaby says.
These are the trends, but Santos remarks that they don’t always prove true. “There is no reason to believe oil prices will turn sharply within a short time frame. But there have been occasions when no major changes were expected and prices rocketed or plummeted quick,” he warns.
*Translated by Gabriel Pomerancblum
