Andreoli on Oil and Fuel: Going Broke—Oilfield lessons from the playfield

Seventy-eight percent of former NFL players learn the hard way that bills remain long after incomes have dried up and are broke within five years of retirement.  A similar force is at play among the world’s oil exporting nations.

The Arab Revolution began as a protest against high food prices, and across the Middle East/North Africa (MENA) region, discord has been quieted in part through petrodollar funded social spending programs. In addition to direct social spending, the minimum wage has been increased, and food and fuel subsidies have increased.

Oil commentators frequently assert that the cost to produce a barrel of oil in Saudi Arabia is just $20 per barrel, and while this may be technically true of old fields, simple production cost estimates ignore the federal expenditures that they support.

The fiscal break-even oil price at current export levels in Saudi Arabia, Libya, the UAE, and Oman is over $80 per barrel, and the break-even price in Iraq, Bahrain, Algeria, Venezuela, and Russia are all above $110 per barrel. If oil exports decline, the break-even price will be proportionally higher.

Since 2008, the break-even price has increased by more than 35 percent in five of the 10 MENA countries, and since 2010, oil prices have remained high, so there hasn’t been much cause for concern that federal expenditures are unsustainable. Looking to the horizon, however, a perfect storm is brewing as forces align to bring down oil prices.

Oil production in the U.S. and Canada continues to surge. Meanwhile consumption among advanced economies is declining, and a slowdown in emerging markets means that oil consumption there will be lower than had been previously anticipated. In all, production capacity is likely to rise faster than demand through the remainder of the year, and prices are likely to soften—perhaps significantly.

Meanwhile, higher wages and subsidized fuel prices will continue to drive up rates of oil consumption in oil exporting countries. In many cases domestic consumption is rising faster than production, and oil exports are declining. If prices soften and exports contract, some of the highest volume oil exporters in the world will find themselves with underfunded federal budgets.

We need look no further than Greece to see how austerity might be greeted, or to Egypt in 2011 to see how the public might react to a scaling back of food subsidies, or to the violent nationwide protests that occurred when Nigeria decided to cut back on fuel subsidies.

In the short term, the easing of oil prices may lead you to breathe a sigh of relief, but in the medium term, low prices have the potential to fan the flames of social unrest. While another uprising is not a foregone conclusion, a sudden drop in oil prices will increase the risk as oil exporters will suffer from the same financial ailment that has plagued so many professional athletes.

If you’re lucky, low oil prices will be passed along to consumers of refined products. And if this happens, enjoy low prices while they last, but don’t get tricked into believing that low prices are anything but temporary.