x Abu Dhabi, UAEFriday 21 July 2017

Fuelling change

As the US gains more energy independence due to its increasing oil and gas shale production, its dependence on oil-rich Gulf nations has lessened, Omar Rahman writes.

US President Barack Obama, right, and Saudi Arabian King Abdullah bin Abdulaziz in 2010. Roger L Wollenberg / Getty Images
US President Barack Obama, right, and Saudi Arabian King Abdullah bin Abdulaziz in 2010. Roger L Wollenberg / Getty Images

“What once seemed impossible, is not only possible, but economical,” marvels Phil Budzik, a research analyst at the US Energy Information Administration. He is referring to the impact of the technological innovation that has helped spawn an energy revolution in the United States in unconventional shale oil and gas production. Across the United States a transformation is taking place in energy. Geologists are once again scouring the American landscape, reconsidering formations and wells that were previously deemed worthless or depleted. Government regulations are being re-examined, import terminals are being converted for export, and US oil companies are selling assets abroad and looking in their own backyards.

Although the debate is continuing over the long-term viability of shale oil and gas production, the implication that this revolution will not be confined to the marketplace is relatively certain. As the world’s foremost consumer of energy, drastic changes in the way America acquires its energy will undoubtedly change its posture and policies in the world.

For decades the United States has tied its energy security to the Middle East, engaging in close partnerships with the Arab Gulf states that ensured a steady flow of oil to global markets at reasonable prices. This alliance traces its history to the end of the Second World War, as the US – then the world’s largest producer – looked with concern at its dwindling energy reserves. It foresaw that its energy security, and balance of power vis-à-vis the Soviet Union, lay in the vast oil reserves being discovered in the Middle East.

Although the US never imported more than a fifth of its oil from the Gulf, as a global hegemon with relationships spanning the world, it relied on the Arab producers to keep the global economy churning and oil prices stable. This, in turn, has given vital importance and influence to the Gulf states, a position many in the region fear may diminish as a consequence of America’s growing independence.

“The US shale gas and shale oil development has, sort of, cast that relationship in a new light,” says Jim Krane, an energy studies fellow at the Baker Institute, focusing on the geopolitics of Arab Gulf energy. “There is certainly a worry that the US might lose its enthusiasm for defending [the Gulf] monarchies.”

In November of this year, the US produced more energy than it imported for the first time in a generation. The Obama administration hailed it as a watershed moment in a new era of energy independence, despite the US being far from self-sufficient. The country still imports around 40 per cent of its oil from abroad, most of that increasingly coming from Canada and Mexico, both growing energy producers in their own right.

The US is now producing nearly eight million barrels of crude oil per day. That is over two million barrels per day more than in 2010, and almost double the nadir that was struck in 2008. The US is now on the verge of being the largest producer of combined oil and gas in the world, ahead of Russia, as well as the largest exporter of refined products in the Western Hemisphere.

Farid Zouioueche, the managing director of EnergyMetriKs, an oil advisory firm based in Europe, says that the political effects may already have arrived as US energy production has taken some pressure off the market, allowing the US to be less engaged in some of the region’s most dramatic political developments. “In a way, the Arab Spring has not been as tragic for global oil and gas consumption as it could have been 10 years ago because of the increased production from the US,” he says. This, despite Iran, Libya and Iraq being nowhere near their full exporting production.

Historically, oil markets have relied on Opec and its lead producer, Saudi Arabia, to utilise swing capacity to help contain the price effects of volatility in the region. This role endowed Saudi Arabia with critical importance and influence on the global economy, as well as a vital security alliance with the United States. Recent policy clashes between the Obama administration and Saudi Arabia over Iran, Syria and Egypt have enhanced the perception that things are changing in Washington, raising alarm bells in Riyadh over the standing of its relationship with the United States and the overall connection to energy independence.

“Many people in the Gulf are saying [America] is ‘pivoting’ to Asia because you no longer need our oil,” says Dr Odeh Aburdene, an oil and banking expert who has worked in the Middle East energy sector for over 40 years. Aburdene believes this concern is misplaced and that the relationship between the US and Gulf states is based not only on oil, but also on trade, investment and military armament sales, all of which produce jobs in the US that the American government will not want to threaten.

“The overall relationship from a financial perspective and from a job perspective is very critical and I don’t see it changing in the coming 25 years. In fact, down the road if the shale revolution doesn’t go anywhere, and there is no breakthrough on oil substitutes, then the relationship could remain very strong for the coming 40 to 50 years,” Aburdene predicts.

Indeed, much of the controversy regarding the “shale revolution” has been its long-term viability and growth trajectory. Detractors point to the cost it takes to bring shale oil to market, saying the entire industry is vulnerable to market prices.

“The thing about tight oil is it is expensive to produce because of the horizontal drilling and the multi-stage fracturing and it requires an oil price of about $75 [Dh275] or higher to remain economical,” says Phil Budzik, the research analyst at the EIA. “So if oil prices were to drop to $50, it is a whole other ball game, so to speak.” Budzik is not a detractor, however, insisting that the shale revolution is “not a short-lived phenomenon”. He points to the Permian Basin in West Texas as the next major oil play of the century: “This is not a mirage,” he says, adding, “it rivals Saudi Arabia in terms of being a sandbox filled with oil.”

Dr Charles Ebinger, the director of the Energy Security Initiative (ESI) at the Brookings Institution in Washington DC, agrees that America’s reliance on the Middle East will never be what it was but admits that the upwards trajectory of the shale revolution is not altogether set in stone.

“The disruptions that could occur against our own unconventionals could be quite serious, absolutely,” says Ebinger.

Others, like Aburdene, say that shale wells deplete quickly and that production will peak in the next few years, whereas Middle East oil will be cheaply accessible for decades. This opinion is currently shared by the International Energy Agency, whose chief economist, Fatih Birol, stated at the unveiling of the 2013 annual outlook projection released in November that US shale production amounted to a “surge, not a revolution”, according to the Financial Times. Birol also urged Arab oil producers to refrain from holding back on investing in bringing their own oil to market, warning of possible shortages in the supply and higher prices for consumers.

Despite growth in American production, there is no sign that the country will become a crude oil exporter, largely because of regulations prohibiting its sale abroad. With the overwhelming majority of projected energy demand coming from Asia, Middle Eastern supply will continue to be crucial to meeting global demand.

“The relationship between the US and the Arab world may go through other countries,” says Farid Zouioueche of EnergyMetriKs. “That means that the US may not need the oil of Saudi Arabia or the gas of Qatar, but it needs to make sure that Qatar is exporting gas to Korea and Japan, and it needs to make sure that Saudi Arabia is exporting oil to Europe.”

Most experts agree that even though the US is becoming increasingly self-reliant, American allies around the world will still be dependent on energy from the Middle East, and that the US will be committed to Gulf security concerns and the safe passage of oil out of the region.

“As long as allies are heavily dependent on the Middle East, we cannot be inured to the prospect of oil from the Gulf being disrupted,” says Ebinger. “It is also true that as a fungible commodity, even if we have most of the oil we need in North America, if there is a crisis in the oil market, we will not be immune from the price effects.”

The rise of China, India and growing Middle East domestic consumption does raise its own concerns, however, inside the US. China is now the biggest importer of both Middle Eastern and Opec oil, but the US continues to provide the security envelope for the Gulf region, ensuring the secure flow of oil – and doing so at great cost. Neither China nor India have the naval or military capabilities that the US possesses, nor the military hardware that regional forces desire. So, if the US decided to scale down its engagement, especially given its military fatigue in the Middle East, there is no clear sign that the countries that have become the largest consumers of Arab Gulf oil would be able to fill the security vacuum.

“Obviously, as India, China and other regional powers become more dependent on the Gulf they are going to make strategic calculations on how best to protect their own oil flow,” says Ebinger. “So it may be possible, rather than seeing this as a historic rivalry between the US and China or India, it may be possible to see more burden sharing.”

How the dynamics of the relationship evolve is not beyond the influence of the Gulf countries, themselves. The UAE, in addition to its already diversified economy, has taken steps to develop nuclear and renewable energy capacity. Qatar is diversifying its customer base with long-term contracts in Asia and Europe – although it may find the US is a competitor in the sale of natural gas. Saudi Arabia’s economy remains almost exclusively dependent on its oil exports, but is investing in finding natural gas for domestic consumption to remove the burden of burning its own oil commodity at great expense to itself. All of this may be another reason why the Gulf states are not investing the type of money the IEA hopes it will in expanding oil production, as it is investing it elsewhere.

For the time being, there are few immediate reasons for concern. In fact, the relationship seems to be moving closer together. In March 2012, the US and GCC initiated the Strategic Cooperation Forum to enhance multi-platform collaboration between the two groups. The third meeting was held this past September.

“I would argue that even though the US is growing in its energy independence, that that doesn’t mean it’s going to reel back in its security umbrella anytime soon,” says Jim Krane of the Baker Institute. “In oil market terms, the US is still interested in the Gulf and maintaining political stability in that region. It wants to keep the monarchies that are in power now, in power in the future. And it wants to keep those places stable and prosperous and energy production flowing to global markets, even if it doesn’t need that energy itself.”

Omar Rahman is a regular contributor to The National.