Oil Markets and Geopolitics
I attended the Gulf Petrochemical Forum in Dubai last month, meeting with chemical and energy executives, along with a regional economist and a cleantech/industrial entrepreneur. I’ll just note some macro/energy issues that may be of interest to readers I have plenty of background to most of the comments below. Feel free to email details:
ARAB Spring Driving Change
Significant business changes accelerated by Arab Spring — Most change comes slowly, but the focus, almost everywhere, is JOBS, JOBS, JOBS. The Kingdom starts with plans to encourage of business opportunities that increase domestic content (see below), but also focus on policies which will allow Saudi’s 4 million unemployed (mostly under age of 30) to replace up to 30% of the 8 million ex-pats over a 5-10 year period. This has become a ‘mandate’ with interesting economic implications (I have some details), including GDP and inflation headwinds, but potentially reduced ‘subsidy leakage.’ Forward integration of chemical operations, toward product with direct access to local markets, is in high gear. I presume the same for a range of manufacture and final assembly, replacing the Distributor Model long in place.
Rising subsidies and other programs, aimed at quelling social unrest, have effectively raised the breakeven cost of oil from mid $50s to over $80/bbl, and internal forecasts warn that the breakeven price for Saudi oil could reach $115 by 2020. More below.
Energy
The regional energy equation has clearly changed due to the compounding scarcity of associated gas. The next increments of natural gas are no longer “free” (will probably cost more than many US shales) and somebody has to pay for it. Saudi Aramco, arguably the most effective operating company in the region, has a severe energy/chemical problem, and a plan:
a) The Kingdom is burning a million barrels a day of ‘straight (unrefined) crude,’ arguably worth $90/bbl, for domestic electricity (needed for cheap water and to satisfy social needs) that is priced to reflect roughly $15/bbl oil. This is not news, but is growing at near double-digit rates and, if unabated, could reduce Saudi exports to a mere 2-4 million b/d by 2035. Moreover, the Kingdom prices associated (produced with the oil) natural gas at $0.75/mcf, to promote domestic basic industry (chemicals, aluminum, etc), in addition to the cheap electricity and cheap/desalinated water noted above. The result is soaring power/gas/water demand in Saudi and the region, estimated at 7-9% AGR, with no end in sight. Compare to 1-1.5% CAGR in developed markets. Saudi also consumes 3x the water/capita of world averages, priced at an 80% discount to global averages. An Aramco manager says that some of his neighbors ‘air condition their yards.’ Saudi has three primary options — accelerated (and extremely expensive) refinery development to burn fuel oil, non-associated natural gas at $4-6/mcf, or renewables. Two refineries are in early construction, but this will not be enough for diversion of the increasing ‘burned crude’ mix. The drumbeat for investments to allow reallocation of crude oil for export is rising, with focus on the ‘least uneconomic alternatives’ to burning oil right out of the well.
b) Assuming cheap power/water prices are a social necessity, the cheapest option is to replace direct burning of crude burning with less expensive ($30-ish/bbl equivalent) natural gas but, even here, the challenges are significant — rig/service costs are very high, and water for fracking is scarce. Next would be solar powered A/C and desalination. It appears that “the Saudi oil minister is a big renewables fan.” Aramco is working very hard to figure out which solar approach is best. One idea is to acquire a bankrupt German cell/module facility and move it to Saudi. It sounds like decisions (and tenders) are likely the next year or so.
And now, further confirmation that the Kingdom is serious about its energy problem. A 2-5 GW commitment would represent a 10-25% addition to 2011 demand, and more than the current installation forecast for the United States in 2012.
c) Saudi petrochemical expansion is not dead — but shifting to a less advantaged “mixed feed” (more oil-based versus natural gas-based feedstocks) strategy with favorable implications for JOBS, JOBS, JOBS. The recently formalized $20+ billion – Aramco-Dow integrated JV is directly aligned with this plan – to sacrifice higher capital intensity for the opportunity to produce more intermediate products for domestic consumption. This would allow the downstream development of fabrication and other industries to replace imported products. This downstream job (and import)-substitution opportunity is substantial, and critical to the Kingdom’s response to the Arab Spring. It also INCREASES the global attractiveness of many US-based chemical production costs.
d) Experts confirmed that Kuwait is so short of gas, and focused on reducing its internal oil consumption, that it is studying the import of coal for electricity, and already using coal for cement manufacture. Cement production under the best of conditions has one of the highest carbon footprints of any basic manufacturing industry.