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May 2nd, 2012, by Justin Dargin

Justin Dargin

The global oil and gas market has undergone significant permutations since the beginning of the twenty-first century. These changes will have a lasting impact on the industry. In particular, the impact on the countries of the Gulf Cooperation Council (GCC) will be immense. The growth in liquefied natural gas production, the spurt in the global development of unconventional gas, the shale gas revolution and the ripples from the Arab Spring have caused the market to be perhaps more unstable now than at any other point in history since World War Two. Moreover, the risk of military conflict with Iran, the rising industry operating costs and the increase in riskier oil exploration and production have created a dynamic environment that has injected much more qualitative and quantitative risk into the global market.

This article argues that despite the increased risk perception related to the Arab Spring, its ultimate impact is largely superficial when compared to the substantive upward pressure imposed by demand from emerging markets. Nonetheless, if unrest continues in the Middle East and North Africa (MENA) region, the long-term impact may be that markets will begin to incorporate this risk on a more permanent basis in evaluation of export potential from the region. The market misunderstanding of the relation between the Arab Spring and the foundational elements of the oil sector will continue to lead it to overestimate the influence of the Arab Spring and will place considerable volatility in the market as a result.

The sleeping giant: an overview of the MENA energy sector 

The MENA region has the most prodigious energy reserves in the world. In 2010, it contained 816 billion barrels of proven oil reserves. Overall, the region holds about 57% of proven international oil reserves, with the Kingdom of Saudi Arabia by itself holding a disproportionate share of 20% of the global total. In 2010, the region produced 29 million barrels per day (b/d), which comprised more than a third of global production rates. Furthermore, due to the advantages of enormous oil reserves and that the region only has 6% of the global population; the region exports the majority of its oil production.[1] In terms of natural gas, the region holds 41% of the proven global natural gas reserves (2,868,886 billion cubic feet), but only produces and exports a fraction of that.

The reverberations of the Arab Spring

The political protests and civil war in some MENA countries (Libya and Syria) injected significant risk-related volatility into the international oil market. But the principle outcome of the Arab Spring on the oil market was not the structural and immediate impact on oil production. This was limited in most countries outside of Libya, and where it did occur, was brought more or less under control. The greatest impact of the Arab Spring was in oil market perceptions, rather than fundamentals. The so-called fear premium, wed to the anxiety about potential contagion, caused oil markets to roil with the trepidation that production disruption could happen in the major Gulf producers, even though nothing of that sort has happened (outside of Libya) nor appears on the horizon. While the Arab Spring had an enormous impact on oil price volatility, its impact on market fundamentals is slight. 

It must be remembered, as may be seen in Chart One, that the true rise in the international oil price after the global economic crisis began in earnest in October 2010. As Chart One indicates, the global price of Brent broke out of the USD 70.– to USD 80.– range that it had been oscillating in between October 2009 and October 2010.

The beginning of the oil price climb occurred prior to the Arab protests and the resultant geopolitical chaos. The initial increase in the oil price had much more to do with robust demand emanating from the emerging markets rather than the Arab Spring. The impact of the Arab Spring on global energy markets has been the injection of significant volatility on top of the robust structural demand increases from the emerging markets (principally the Asia-Pacific region).

In regard to the global energy sector, the world is entering a period of enhanced pricing risk. The perception of risk factors by the market are expanding and price volatility is going to increase as a result. The new reality of extreme fluctuations in global energy prices illustrates that market expectations will be much more tightly intertwined with domestic energy policies, geopolitics, geological conditions and the long-term impact of global climate change negotiations on global energy demand. Moreover, the risk of military conflict in the MENA region and the economic growth of the emerging markets will operate as additional market drivers, thereby leaving the ability to adequately forecast mid-to-long term price developments extremely tenuous.

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