Around the world, the price of oil is reaching near record LOWS. Yes, I said record LOWS! How many of us in the United States remember almost $4 a gallon for gasoline? I distinctly remember. In fact, it really was not that long ago. According to the Energy Information Administration (EIA), the average price of a gallon of regular gas was $3.30. Presently, the average gallon of regular gas is $2.23. In some areas it is higher and some areas it is lower, but these are the average prices. (1)
The obvious question from this is: Why?
In the last 5 years, the United States has risen to the leading oil producer. In 2015, the United States became the #1 oil-producing country in the world, at 14 million barrels of oil a day (2). How did this happen?
The United States has invested a tremendous amount of money into “fracking”. “Fracking” is a process where water and chemicals are sprayed at rocks underneath the earth’s surface into areas that contain shale rock. When the water and chemical hit the shale rock, it releases gas and oil.
The federal government of the United States has put tremendous restrictions on conventional drilling for oil, so many of the best US oil reserves are left unexplored. The shale industry is not nearly as regulated as traditional drilling methods (like offshore drilling). Because US companies possess the technology and know-how to explore these shale deposits, US companies have boomed in areas such as North Dakota. Towns are developing in areas that previously had very little population because the job growth has been at times very explosive.
The tremendous overflow of this shale-oil boom has caused the US to jump to the top of the world in oil production. We began to see the effects of this in late 2014. Some countries rely on high oil prices to make money, such as Russia and Middle Eastern countries. Since late 2014, Russia has been near total collapse economically because the amount of oil in the world caused prices to go down. The Russian currency, the rubble, is in shambles. Many other countries either lack the technology or personnel to get involved in the shale-oil boom. Some countries, like those in Europe, have so much regulation that they are unable to tap into its potential.
In late 2014, Saudi Arabia announced that it was going to increase its’ oil production. This has caused the price of oil to plummet even more. Some experts believe it will continue to go down from where it is right now. Why would Saudi Arabia do this?
The Saudis want to cause the newer, less established US shale companies to go out of business. By flooding the market with oil, it will drive down the price of oil. More supply means less prices. This in turn causes the US shale companies to make less money per barrel that they sell. This means they must sell more or go out of business. Many of these new shale oil companies in the US have high amounts of debt, which most companies use to start a venture. As they make less money, they will begin to default on these debts one by one until they go bankrupt. That’s how the Saudi strategy will work in theory. Will the US companies be able to hold off? Only time will tell.
Iran recently announced they will increase the oil production by 500,000 barrels a day, which will cause even lower oil prices (3). Neither Russia nor Saudi Arabia have indicated that they will lower their current production rates (4).
What is the end result of this, and what does the future hold?
In the news, there has been talk that the increase in oil is causing tension between the US, Russia, Saudi Arabia, and now Iran. It’s an interesting situation. Iran’s recent decision to increase oil production worries Saudi Arabia. While both countries are mostly muslim, Saudi Arabia is mostly composed of Sunni and Iran is mostly composed of Shia. These two groups have been warring with each other for hundreds of years. The oil war combined with recent turmoil over Saudi Arabia’s decision to kill a Shia cleric, could lead to full scale war between the two sides.
There is no need to recount the history between the US and Russia, as it is well documented. Russia could very well view US actions as an act of war and look to “first-strike” the US to disable our oil-producing ability. They could even look to China as a possible partner in any attack.
This scenario reminds me of a western-style shootout, but instead of two guys preparing to shoot at each other, we have four!
In the short-term, these oil prices will continue based upon recent events. These countries cannot afford to hold prices this low for too long; both Saudi Arabia and Russia need the money. At the same time, the US companies may start going bankrupt.
How long will low oil prices last? Only God knows.
All statistics taken from the EIA – Energy Information Administration