Daniel Yergin, a leading energy scholar and expert, thinks that a day of reckoning is coming to the energy sector as the oil market experiences a real supply glut.
Oil booms have flooded the market before like Texas, Russian, and the Middle East in the 1950s, and Mexico in the 1980s, eventually resulting in an oil bust. This time, it is shale oil operations from Texas and North Dakota behind the supply growth and are now dealing with overproduction and high debt levels.
The Pulitzer Prize winner recently said in an interview, “This is a rebalancing of the global market, and I think that many decision makers outside and even inside of North America did not anticipate how strong this shale revolution could be. There was still a tendency two years ago to dismiss it sort of as a bubble that was going to go away, but this is a change for the oil industry and for this to happen in the United States, the world’s largest consumer, it’s very significant and it has a big impact on markets. If this revolution hadn’t happened, we’d be looking at a very different oil market.”
Yergin sees the 35th-annual IHS CERAWeek industry conference in Houston that runs through Friday, as a critical time for the world’s strongest energy players to start a dialogue. There is talk that Russia might move to cut production, but Yergin considers it unlikely because of how shale production has changed the market. Unlike other methods to extract crude from the ground, shale oil has an average cycle time of 80 days. In practice, this means that a US shale operation can extract oil and put it on the market in pretty much the same time as oil from Saudi Arabia could arrive by ship. As a result, any oil production cuts by OPEC or other players wouldn’t support oil prices for very long as the shale oil drillers would just restart their rigs. According to Yergin, this is the reason OPEC did not cut production in 2014, “OPEC said if there’s going to be some effort to stabilize the market, it’s not just going to be us. It was an adjustment to a new reality.”
The role OPEC has played as oil market manager is effectively gone. It could step in again and reclaim the role by negotiating a substantial production cut and include players outside of the cartel, like Russia. Last week Saudi Arabia and Russia agreed on freezing their crude production if other major players joined them. The problem for this idea to work is Iran. Freshly out from under economic sanctions that caused it to lose about 1 million barrels of oil production per day, it has indicated wanting to reach its pre-sanction production levels in about a year.
“For Iranians, this is a matter of national destiny, to recover their market share. They can’t easily back off of that. But the big question is whether Iran is going to be able to put 300,000 or 500,000 additional barrels a day into the market. Until there’s clarity about what Iran is going to do, I think the market is far from frozen,” according to Yergin.
Another unknown for the oil market is the world’s economic growth, and the global economy could very well have another poor year. China’s economy has slowed, and it is transitioning into a more service-oriented one that relies less on oil.