By Chris Weafer
Oil war commenced. Russia fired the first shot in an oil price war by refusing to expand the existing OPEC+ deal. Saudi Arabia moved the conflict forward with the weekend announcement that it will not only not extend the existing deal, which ends March 31st, but will open the taps and sell cheap oil. Over the short-term the oil price looks set to test the January 2016 level of US$29.50 per barrel.
Russia is better prepared than previously. Russia is in a much better financial position to endure an oil-price war than it used be or compared to Saudi Arabia. That is a very big difference between now and early 2016.
Bigger financial reserves than Saudi. Russia’s financial reserves are US$80 billion greater than Saudi’s and growing. Saudi has been eating into its reserves to fund the budget deficit and the Crown Prince’s ambitious development plans.
Russia has a flexible currency while Saudi’s riyal is pegged to the US dollar. It means that the ruble may dip to approximately 75 versus the dollar and the budget would breakeven at approximately US$38 per barrel oil without any current spending adjustment. Saudi needs US$85 per barrel oil.
Moscow will not blink first. It means that Moscow is unlikely to blink first, certainly not for another 3 to 6 months. But Moscow may take the view that Saudi Arabia’s financial position will be a lot more strained before that.
The big target for both may be the marginal US shale producers. US oil production has more than doubled over the past ten years and its market share has increased from 9% in 2008 to over 17% last year.
Covid-19 has cut deep into demand. The backdrop to a price war could not be much worse: the Covid-19 crisis looks set to cut at least 2 million barrels from daily demand in 1H20.
Putin will not wish to derail his key spending plans. Putin will not want to cut spending in the key national projects program or to scale back his promised extra funding for social programs and to help boost household incomes
MinFin issued a report showing it can live with US$25 per barrel for months. The Finance Ministry has issued a table showing the impact on the budget at different oil prices. This also assumes a weaker ruble exchange rate as oil falls. It shows the crunch price at US$25 per barrel. Below that, for too long, and Moscow’s position would likely change.
No major intervention in the ruble unless it falls towards RUB80/US$. The CBR is reluctant to use financial reserves in support of the ruble, especially at least for several months. The weak ruble makes the budget more manageable and also helps boost export competitiveness in other sectors.
Position could change if oil weakness persists. The scenario of “no major change” in policy or spending could change if the oil price weakness lasts too long, e.g. to the autumn, as Putin will be equally reluctant to run down financial reserves too far to fund an expanding deficit.
—-
Chris Weafer is the Chief Executive Officer / General Director Macro-Advisory Ltd / LLC Moscow.
