a brief history of the oil crash

A Brief History of The Oil Crash

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2 A brief history of the oil crash

Just three days earlier, benchmark Brent peaked at almost $116 per barrel, the highest level for 2014, before beginning a relentless slide that would see prices sink by more than 60 percent over the next seven months.

The reopening of Libya’s ports and oilfields, which had been closed for months by unrest, marked the oil market’s tipping point.

Libya’s production, which had dropped to 250,000 barrels per day (bpd) in April, May and June from around 1.8 million bpd before the country’s civil war in 2011, rebounded to almost 900,000 bpd over the next three months.

The increase was significant, but not because of the volume. World production and consumption of oil are around 93 million bpd so the extra 600,000 bpd amounted to less than 1 percent of daily demand. The resumption of Libyan exports mattered because it was so unexpected.

On June 22 last year, two tankers loaded 1.3 million barrels of crude at the port of Tobruk in eastern Libya and signalled the end of a decade-long boom in oil markets.

Firefighters work to put out the fire of a storage oil tank at the port of Es Sider in Ras Lanuf December 29, 2014. Oil tanks at Es Sider have been on fire for days after a rocket hit one of them, destroying more than two days of Libyan production, officials said on Sunday.

REUTERS

Libya’s production, which had dropped to 250,000 bpd… rebounded to almost 900,000 bpd over the next three months.



Two weeks earlier, Libya’s crude exports had been seen potentially falling to zero within days as the authorities struggled to contain a wave of protests paralysing oilfields and ports across the country.

Expecting more unrest, hedge funds and other financial investors had amassed a record long position in crude-linked futures and options positions equivalent to 650 million barrels of oil in order to bet on further price rises.

With Libya descending into chaos, Syria locked in a civil war of its own and Islamist fighters racing across northern Iraq to threaten that country’s oilfields, fund managers were anticipating a further loss of oil supplies, and it seemed the nearest thing to a sure bet.

Instead, the Islamists failed to capture Iraq’s key producing areas and Libya’s output began rising, catching investors long and wrong in the paper markets, and scrambling to turn around their positions.

By the beginning of September, fund managers had slashed their net position in Brent- and WTI-linked derivatives by 60 percent, the equivalent of more than 400 million barrels.

Amid this massive liquidation of positions, Brent fell more than $13 per barrel, or 11 percent, to the lowest level seen in over a year.

Much more was to come. Brent dropped to $86 per barrel at the end of October, $70 by the end of November, $57 by the end of December and less than $47 on Jan. 13, 2015.

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Hedge fund positions in Brent and WTI futures and options (million bbl) (left axis)Brent oil price (1st month futures) (US$/bbl) (right axis)WTI oil price (1st month futures) (US$/bbl) (right axis)

HEDGE FUND POSITIONS AND OIL PRICES DURING THE COURSE OF 2014

Sources: CFTC, ICE Futures Europe, Thomson Reuters Eikon

Brent dropped to $86 per barrel at the end of October, $70 by the end of November, $57 by the end of December and less than $47 on Jan. 13, 2015.



The spectacular slide in prices was comparable to previous slumps in 1985-86, 1997-98, 2000-01 and 2008-09.

The price drop has plunged the industry into crisis, with major international oil companies and small independents cancelling billions of dollars worth of projects planned for 2015 and 2016.

Among them, Schlumberger, the world’s leading oilfield services company, is axing 9,000 jobs (7 percent of its worldwide workforce) as exploration and production slow.

Seeking to conserve cash, the heavily indebted shale drillers at the heart of the U.S. energy revolution have raced to idle rigs and lay off crews.

But if the resumption of Libyan oil exports served as the immediate trigger for the price plunge, the seeds were sown years earlier at the height of the boom.

Smoke rises from an oil tank fire in Es Sider port December 26, 2014. A fire at an oil storage tank at Libya’s Es Sider port has spread to two more tanks after a rocket hit the country’s biggest terminal during clashes between forces allied to competing governments, officials said on Friday.

REUTERS

Two weeks earlier, Libya’s crude exports had been seen potentially falling to zero within days as the authorities struggled to contain a wave of protests paralysing oilfields and ports across the country.



In 2005, spooked by a rise in oil prices to $55 per barrel, from less than $20 at the end of the 20th century, U.S. legislators approved the Energy Policy Act.

The legislation, which passed with substantial support from both Republicans and Democrats, instructed fuel distributors to begin blending increasing amounts of ethanol into the gasoline supply.

In 2007, responding to a further increase in oil prices to around $70, Congress passed the Energy Independence and Security Act, which stiffened the blending targets even further and raised fuel-economy standards for vehicles sold in the United States.

Those acts formed part of a raft of laws and government regulations introduced in the United States and other advanced economies between 2004 and 2014 to promote energy conservation and reduce demand for increasingly expensive imported oil.

In the meantime, the soaring cost of gasoline, diesel and jet fuel encouraged motorists, truck operators and airlines worldwide to reduce fuel consumption.

The number and length of discretionary car journeys began to fall, consumers bought smaller and increasingly fuel-efficient vehicles, trucking companies rationalised deliveries, airlines revamped their networks and removed excess weight from aircraft.

Demand destruction

In the meantime, the soaring cost of gasoline, diesel and jet fuel encouraged motorists, truck operators and airlines to do everything possible to reduce fuel consumption.

Men work on the rig of an oil drilling pump site in McKenzie County outside of Williston, North Dakota March 12, 2013.

REUTERS/Shannon Stapleton



Compressed or liquefied natural gas became increasingly popular as a cheaper alternative fuel for transit buses, refuse trucks and some trucking fleets. North American railroad operators revived long-dormant plans to convert locomotives to run on a mix of natural gas and diesel, though none has yet made the change.

In retrospect, 2005 proved to be the peak year for oil consumption in the United States and other advanced economies.

U.S. consumption of motor gasoline, diesel, jet fuel and other refined products declined by more than 2 million barrels per day, almost 12 percent, between 2005 and 2013, even though the country’s population increased by more than 20 million over the same period and real economic output grew by 10 percent.

It was the biggest drop in fuel demand in history and mirrored around the industrialised world. On one estimate, the advanced economies’ fuel consumption in 2013 was 8 million bpd below what would have been predicted had the pre-2005 trend continued.

Since 2005, fuel conservation has saved the equivalent of the entire exports of Saudi Arabia, the world’s largest oil exporter.

Demand destruction in the United States, Europe and Japan provided room for the rapidly developing economies of China, Southeast Asia, Latin America and the Middle East to increase their own fuel consumption without pushing up prices.

But in Asia, too, there were signs in 2014 of lower consumption growth in response to the pressure for greater efficiency and a general slowdown across the region.

A tank truck exits from the main gate of the Zawiya refinery and oil port towards the local market, December 18, 2013. Libya is stepping up fuel imports, with four tankers queuing at one port as the OPEC producer’s second-largest refinery is running at only half its capacity due to oilfield strikes, a senior official said.

REUTERS/Ismail Zitouny

Since 2005, fuel conservation has saved the equivalent of the entire exports of Saudi Arabia, the world’s largest oil exporter.



High prices did more than just restrain demand. They were the key catalyst for the U.S. shale boom, which resulted in the fastest growth in oil production in history during 2013 and 2014.

The shale revolution stems from the successful application of horizontal drilling and hydraulic fracturing techniques to particularly dense, impermeable rock formations that proved resistant to conventional, vertical drilling.

Neither technique was new to the oil industry – the first horizontal well was drilled in 1929 and the idea of fracturing rock formations to stimulate oil recovery has been around since the 1860s.

In the 19th century, fracturing was carried out with dynamite, but the industry switched to acid in the 1930s, napalm in the 1940s and water mixed with chemicals in the 1950s and 1960s.

The problem has always been the relatively high cost of horizontal drilling and fracturing. Both techniques were used extensively in North Dakota’s Bakken shale in the early 1990s but could not be made to work commercially, leading to their abandonment by the end of the decade.

Shale revolution

In 2005, fewer than 150 oil wells were drilled in the state of North Dakota. The number soared to 850 by 2010 and more than 2,000 in 2013.

An oil drilling rig is seen outside of Tioga, North Dakota, March 12, 2013.

REUTERS/Shannon Stapleton



However, a quadrupling of oil prices between 2002 and 2012 – coupled with significant technological improvements in steering equipment down wells and taking measurements remotely – created conditions for a second shale revolution, and this time it did not stall.

In 2005, fewer than 150 oil wells were drilled in the state of North Dakota. The number soared to 850 by 2010 and more than 2,000 in 2013.

Almost all the new wells were drilled into the Bakken formation - two layers of rich, black marine shale found thousands of metres below the northwestern corner of the state as well as beneath parts of neighbouring Montana and Saskatchewan.

Bakken production surged from 2,500 bpd in 2005 to 250,000 bpd in 2010 and more than 750,000 bpd in 2013. By the end of 2014, Bakken output had reached more than 1.1 million barrels per day.

Horizontal drilling and hydraulic fracturing to target crude spread to Texas from around 2010, first to the Eagle Ford formation in the southwest corner of the state, then to the Permian Basin in the west, which already had a long history of conventional oil production.

Smaller production increases have come from fracking in Oklahoma, Colorado, Utah and New Mexico. Texas and North Dakota, however, account for 95 percent of the rise in U.S. oil output since 2008.

The result has been an extraordinary renaissance in U.S. oil production. Output surged from 5 million bpd in 2008 to an average of more than 8.5 million bpd in 2014, and stood above 9 million bpd at the start of 2015.

Production growth has been accelerating as shale drillers become more efficient at locating wells and drilling them faster.

Output increased by 160,000 bpd in 2011, 850,000 bpd in 2012, 950,000 bpd in 2013 and 1.2 million bpd in 2014, according to the U.S. Energy Information Administration.

Production increases were accelerating right through the summer and early autumn of 2014 as shale firms drilled a record number of super-productive wells into the Bakken, Eagle Ford and Permian Basin.

Bakken production increased by an extraordinary 260,000 bpd by October 2014 compared with December 2013, while combined output from the Eagle Ford and Permian Basin was up by another 400,000 bpd.

Elsewhere in the world, high prices also stimulated record investment in exploration and production in new, more challenging areas, ranging from the Caspian Sea and deep waters off the coasts of Latin America and West Africa to the Arctic and East Africa.

So much extra crude has come from shale and other sources that oil prices continued to fall throughout the last three months of 2014 and into the first weeks of 2015 even as Libyan supplies experienced new interruptions.

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DAILY OIL PRODUCTION FROM NORTH DAKOTA’S BAKKEN SHALE (BARRELS)

Source: North Dakota Department of Mineral Resources



By 2012 or 2013 at the latest, the global oil market was on an unsustainable trajectory with stagnating fuel demand meeting rapidly increasing supply.

The only solution was a sharp fall in prices, which had been above $100 per barrel, to curb demand destruction and reduce investment in new sources of production.

But the need for lower prices was masked by two factors. First, many observers doubted the shale revolution could last. Second, increased output from North America was offset almost exactly by a loss of production across the Middle East and Africa as a result of war, unrest and sanctions in Libya, Syria, South Sudan and Iran.

In its 2011 World Oil Outlook, the Organization of the Petroleum Exporting Countries (OPEC) concluded that “shale oil should not be viewed as anything other than a source of marginal additions to crude oil supply”.

The producer group went on: “Significant constraints over the next ten years include: the need for geological analysis of other shales; trained people to perform hydraulic fracturing; and acquiring the horizontal drilling and fracturing equipment. In the U.S. already, costs have accelerated sharply as the demand for fracking equipment cannot be met.”

“Looking ahead, it is evident that output from new shale oil deposits will not grow at a similar rate of 60,000 b/d per year as the Bakken basin is presently,” OPEC concluded, in what must be one of the most spectacularly inaccurate forecasts of the shale boom.

OPEC was not alone in being deeply sceptical about shale’s sustainability. Many oil analysts and non-shale producers shared its stance.

By 2013, however, that position was no longer tenable as shale production continued to accelerate. OPEC’s 2012 World Oil Outlook acknowledged “shale oil represents a large change to the supply picture” and the scale of that shift has become more obvious over the last two years.

Supply disruptions

OPEC was not alone in being deeply sceptical about shale’s sustainability. Many oil analysts and non-shale producers shared its stance.

A camel rests at a fuel station in the Judean desert near the West Bank city of Jericho January 11, 2015.

REUTERS/Baz Ratner



With so much new crude coming from U.S. shale, the preservation of balance in the oil market required ever-increasing supply disruptions from conventional producers in the Middle East, North Africa and other parts of the world, as well as continued demand growth from China, Southeast Asia and the Middle East.

Until the middle of 2014, it seemed that unplanned outages might offset the continued rise in shale production.

Growing turmoil in the wake of the Arab revolutions that started in 2011 had almost eliminated Libyan oil exports.

With Islamist fighters surging across northern Iraq and capturing the city of Mosul in June 2014, many oil experts became alarmed at the threat to the country’s northern oilfields around Kirkuk and Kurdistan as well as potentially the much larger fields in the south of the country.

Some even began to worry about external or internal threats to political stability and oil production in the Gulf monarchies.

The perception of intensifying “geopolitical risks” to oil supplies encouraged hedge funds and other speculators to amass a record bullish position in crude-linked derivative contracts.

But from late June, it became increasingly clear that geopolitics would not further interrupt the supply of crude. Oil continued to flow from all parts of Iraq and increase from Libya.

Robbed of the last remaining source of support, the incipient oversupply in the market became increasingly obvious and a sharp price correction inevitable.

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U.S. OIL PRODUCTION SINCE 1920 (MILLIONS OF BARRELS PER DAY)

Source: US Energy Information Administration

The perception of intensifying “geopolitical risks” to oil supplies encouraged hedge funds and other speculators to amass a record bullish position in crude-linked derivative contracts.



Senior policymakers in Saudi Arabia appear to have grasped the inevitability of lower prices faster than many investors.

Throughout September, October and November 2014, speculation intensified about possible production cuts by OPEC members, led by Saudi Arabia.

The Saudis downplayed the prospect. In early October, senior Saudi officials began to brief analysts and traders not to expect output reductions and indicated the kingdom was prepared to watch prices slide.

Cutting production to keep prices artificially high would only sacrifice Saudi Arabia’s and OPEC’s market share and allow shale production to continue expanding. Instead, the kingdom determined to let prices decline enough to begin curbing investment in new shale wells and formations.

Policymakers remembered bitter lessons from the early 1980s, when Saudi Arabia cut its production and exports to prop up prices in the face of falling demand and rising supplies from non-OPEC producers including the North Sea, Mexico, China, the United States and the Soviet Union.

In the end, the kingdom suffered a double hit to its revenues from lower prices and reduced output. Saudi policymakers today are determined not to make the same mistake.

On Nov. 27, 2014, OPEC announced that it would maintain its combined production at 30 million bpd. Brent, which had already fallen to $77 per barrel by the time of the OPEC meeting, dropped another quarter to $59 over the next month as the market digested the fact that the group would not come to the rescue.

The current price slump is often portrayed as a straight fight between Saudi Arabia and the North American shale drillers, but the real picture is more complicated. Shale’s impact on the oil market has been so disruptive because it emerged right in the middle of the cost curve.

Breakeven prices for shale wells range from as low as $30 per barrel to $75 or above. Shale production is more expensive than tapping conventional fields on the Arabian peninsula but cheaper than some megaprojects such as Kashagan in the Caspian Sea. Its breakeven range overlaps with high-cost oil from stripper wells, oil sands, heavy oil projects, ultra-deepwater and Arctic projects as well as aging fields including those in the North Sea.

As a result, Canada’s oil sands producers, North Sea firms, ultra-deepwater drillers, heavy-oil promoters and shale drillers outside North America have found themselves caught in the crossfire between Saudi Arabia and its closest OPEC allies on the one hand and U.S. shale entrepreneurs on the other.

Price war begins

Saudi’s Oil Minister Ali al-Naimi arrives at Emirates palace to attend the OPEC meeting in Abu Dhabi December 3, 2007.

REUTERS/Ahmed Jadallah



Oil prices must ultimately drop to a point at which the market rebalances - which means eliminating some of the previously forecast production growth and slowing or reversing the loss of demand.

There are signs the adjustment is well under way. U.S. motorists have begun to buy bigger cars again as low prices reduce the emphasis on distance per gallon in favour of space and performance.

Large and small oil companies have cut tens of billions of dollars from their exploration and production budgets for 2015 and 2016.

In the shale patch, producers have slashed drilling programmes for 2015 and started to idle rigs, conducting layoffs.

Between early October 2014 and Jan. 9, 2015, almost 190 rigs previously drilling for oil in the United States were idled – around 12 percent of the total. In all, 550 rigs could be deactivated in the coming months.

It will take time for the slowdown in drilling to filter through to a slowdown in supply growth because of a large backlog of shale wells drilled in 2014 that have not yet been completed. As these enter production, supply will continue to grow for a few months more.

But output from existing wells is not stable. After a burst of high production in the first few months after a shale well’s completion, output tapers rapidly as natural underground pressure wanes. Production from Bakken wells declines as much as two-thirds by the end of the first year.

Painful adjustment

Large and small oil companies have cut tens of billions of dollars from their exploration and production budgets for 2015 and 2016.

Saudi Arabia’s King Salman is seen during U.S. President Barack Obama’s visit to Erga Palace in Riyadh January 27, 2015. Obama sought to cement ties with Saudi Arabia as he came to pay his respects on Tuesday after the death of King Abdullah, a trip that underscores the importance of a U.S.-Saudi alliance that extends beyond oil interests to regional security.

REUTERS/Jim Bourg



New wells must constantly be drilled and fractured to replace the falling output from old ones. Unless oil prices are high enough to cover the associated costs, drilling will stop, denting shale output.

Estimates of breakeven costs vary, but many sources suggest oil prices have fallen beneath the threshold needed to maintain current output levels.

North Dakota’s state oil regulator has forecast output to decline several hundred thousand barrels per day by the middle of 2015, and even more in 2016, unless prices recover.

The Energy Information Administration sees U.S. output growing by another 300,000 bpd to a peak of almost 9.5 million bpd in May 2015, then falling between June and September on a lack of new drilling and as well rates decline.

Beyond September, the EIA expects U.S. oil output to start growing again but that is based on an assumption that prices will recover to around $70 by the end of 2015 and edge up further in 2016.

Saudi Arabia and the United Arab Emirates have made clear they will not cut production unless shale producers also restrain output, and perhaps not even then.

The Gulf monarchies amassed large financial reserves during the boom and are now indicating that they are prepared to run budget deficits for a year or two to wait out the shale players.

What happens to production and prices in 2015 therefore largely depends on the responses of the shale companies – how far they cut drilling and production, how far they can improve efficiency and cut costs to reduce the breakeven price for new wells while sustaining production in an environment of lower prices.

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ESTIMATED OIL SUPPLY INTERRUPTIONS WORLDWIDE (EIA) (MILLIONS OF BARRELS PER DAY)

Source: US Energy Information Administration

Saudi Arabia and the United Arab Emirates have made clear they will not cut production unless shale producers also restrain output, and perhaps not even then.



Saudi Arabia responded to the rise of U.S. shale oil and other non-OPEC oil sources, which threatened to push it out of markets such as the United States, by abandoning a decades-old policy: instead of cutting production to support prices, it allowed prices to slide in order to eliminate higher-cost producers. This strategy has left it in a test of wills – it needs to withstand the pain of low oil prices longer than the high-cost producers can stay in business. The battle could take several years, but the signs are that Saudi Arabia can win.

The government relies on oil export revenues for about 90 percent of its income, so low oil prices are doing serious damage to its budget. In December the government projected a record budget deficit of $38.7 billion for 2015, over 5 percent of gross domestic product; analysts estimate the budget assumed an average oil price of about $60 per barrel, so if oil stays around $50, the deficit will be even bigger. Some energy and petrochemical projects are being put on hold because they no longer look economic. National oil giant Saudi Aramco said it would postpone a number of projects and seek to renegotiate some contracts – sources told Reuters that a $2 billion plan to build a clean-fuels plant at Ras Tanura had been suspended.

But cheap oil will not necessarily mean a sharp economic slowdown, because the government has the financial resources, built up over years of sky-high oil prices, to keep spending. Finance Minister Ibrahim Alassaf has declared Saudi Arabia will run a “counter-cyclical” fiscal policy, using its reserves to maintain heavy expenditure on infrastructure and welfare projects in order to offset any negative impact from cheap oil. As a result, gross domestic product is expected to grow by 3.2 percent this year, a Reuters poll of analysts found in January, down only moderately from an estimated 3.95 percent last year.

Saudi Arabia is likely to liquidate tens of billions of dollars worth of foreign assets, mainly U.S. securities and bank deposits, to fund its strategy this year. But the numbers suggest it has the money to stay the course for at least several years; government reserves at the central bank total $241 billion, while the central bank had the equivalent of $732 billion of net foreign assets in November, including $545 billion of securities and $131 billion of deposits with banks abroad. That excludes other assets and the ability of the state, which has miniscule debt, to borrow.

National oil giant Saudi Aramco said it would postpone a number of projects and seek to renegotiate some contracts – sources told Reuters that a $2 billion plan to build a clean-fuels plant at Ras Tanura had been suspended.

Saudi Arabia

Country Profiles



The halving of global oil prices since last summer has thrown Russia into a full-blown economic crisis. Long dubbed the lifeblood of the Russian economy, oil revenues are critical both for export earnings and for funding government expenditures.

While President Vladimir Putin and his officials have long bemoaned their country’s excessive reliance on natural resources, the 15 years of Putin’s rule have seen no export diversification. Russia’s dependence on commodity prices has actually risen, reflected in the rising oil price needed to balance the national budget.

Oil and gas account for around 70 percent of Russia’s exports, of which about four-fifths come from crude oil or petroleum products and the rest from natural gas (the price of which is linked to oil). A rough rule of thumb is that every $1 fall in the oil price reduces Russia’s annual export earnings by $3 billion. This in turn means that if oil prices stay at their present $50 per barrel for a year, Russia will earn around $150 billion less in 2015 than in 2014 – equivalent to more than 10 percent of its gross domestic product.

Despite this slump in export earnings, forecasters expect the current-account surplus to remain positive in 2015. The burden of adjustment is shouldered by the rouble, which has lost almost half of its value against the dollar since the middle of last year. This devaluation is expected to cut Russia’s imports in half, as pricey foreign goods deter buyers and make consumers poorer. While this helps to keep the external accounts in balance, the adjustment is far from painless.

Rising import prices mean inflation almost doubled last year to 11.4 percent, and it continues to increase: forecasters expect it to exceed 15 percent by the spring, with some predicting that it will still be in double digits by the year-end.

Adding to the economic problems is the effect of sinking oil prices on investor confidence. Net capital outflows reached $150 billion in 2014 and are officially forecast to be around $120 billion this year. While these massive net outflows largely reflect a freeze on Western bank lending, caused by sanctions imposed because of Russia’s actions in Ukraine, the outflows have accelerated as oil prices and the rouble plunged.

Faced with the sliding rouble, surging inflation and huge capital outflows, the central bank has raised its main lending rate to 17 percent, including an emergency 6.5-point hike in mid-December. The combination of tight money, slumping exports, rising inflation and sinking investor confidence is pushing Russia into recession. The International Monetary Fund forecasts the economy will contract by 3 percent this year, while credit-rating agency Moody’s forecasts a 5.5 percent slump. Many forecasters also expect the economy to continue to shrink next year.

A separate set of worries concerns the government’s budget, which relied on oil and gas taxes for around half of revenues. Russia has steadily ramped up government spending over recent years, and as a result the break-even oil price for the federal budget has risen from below $40 per barrel in 2007 to over $100 per barrel last year.

The weaker rouble provides some compensation for the effect of lower oil prices on the budget, reducing the break-even price to around $80 per barrel now. Even so, Finance Minister Anton Siluanov has said that at $50 per barrel the budget would face a 3 trillion rouble ($45 billion) shortfall this year. This may well be an underestimate, as Russia hastily draws up emergency “anti-crisis measures” set to cost tens of billions of dollars.

Russia has some $90 billion in its Reserve Fund that could be used to plug budget holes – enough to cover the projected shortfall for about two years. The most critical question for Russia is therefore not how low the oil price goes, but how long it stays there.

Russia

A rough rule of thumb is that every $1 fall in the oil price reduces Russia’s annual export earnings by $3 billion.



In Canada, plunging oil prices have cost jobs, hammered government finances, forced its central bank to shock the market with a rate cut and sliced into the profitability of Alberta’s oil-sands projects.

With oil prices hovering near break-even levels after falling by more than half from their June peaks, Suncor Energy Inc in January fired 1,000 employees and contractors and slashed capital spending for this year, just two months after releasing a more optimistic budget. Royal Dutch Shell Plc removed 300 positions at its oil-sands mining operations. One oil well-drilling association warned 3,400 direct jobs could be at risk with the number of rigs working in the field expected to drop 41 percent. They also said another 19,500 indirect jobs could be lost after nearly every Canadian oil company slashed capital spending to focus on surviving the storm.

It has been the industry’s worst predicament since the 2008 financial crisis. After years of growth, which pushed Canadian oil exports above 3 million barrels per day (bpd) for the first time last year, an industry that had long worried that it could not find enough workers to support its ambitions began thinking it might have too many.

The impacts have been far reaching in Western Canada, where the resource sector is the biggest contributor to government coffers. Jim Prentice, the premier of Alberta, the province whose oil sands are the largest single source of U.S. oil imports, warned that low prices would cost the government C$10 billion ($8 billion) and lead to three years of deficit budgets.

Other regions are also feeling the pinch. Newfoundland, which takes royalties from offshore production in its surrounding waters, expects a deficit of nearly C$1 billion, while Saskatchewan has also warned that lower oil prices will cut into its finances.

But the biggest impact from the energy drop may have been on the country’s monetary policy. Bank of Canada head Steven Poloz shocked markets on Jan. 21 with a rate cut that drove the Canadian dollar to a near six-year low, a blessing for an oil industry whose costs are in Canadian dollars but whose product is sold for U.S. currency.

The federal government is also taking a hit. Finance Minister Joe Oliver, a relentless promoter of the oil industry during three years as the country’s natural resources minister, warned in early January that he would not release a budget until April – instead of the usual February or March – because of the uncertain oil market, though he has pledged Canada will have its first balanced budget in 2015-16 since the financial crisis.

To be sure, even as prices tank, some major oil-sands producers are planning for growth. Though hemmed in by a lack of tidewater pipelines and discouraged by six years of U.S. indecision on TransCanada Corp’s Keystone XL project, these producers say planned expansions would be too costly to cancel or will pay off with an eventual recovery in crude prices. Some producers also plan to boost output in the hope that increased economies of scale will cut their cost per barrel.

Imperial Oil Ltd, the Canadian affiliate of ExxonMobil Corp, said on Jan. 19 that operations had begun at a 40,000-bpd expansion of its Cold Lake oil-sands operations. Imperial began pumping steam at its Nabiye project in early January, with full output expected later this year, adding to the 145,000 bpd it already produces at the site.

Royal Dutch Shell Plc removed 300 positions at its oil-sands mining operations. One oil well-drilling association warned 3,400 direct jobs could be at risk with the number of rigs working in the field expected to drop 41 percent.

Canada



Venezuela was already on the rocks in 2014: its economy was contracting, annual inflation was running above 60 percent, and currency controls had triggered scarcity of basic goods including food and medicine. The OPEC country’s economy was managing to limp along thanks to oil, the source of 96 percent of Venezuela’s export revenue.

So when oil prices started to tumble from the high-$90s, economists quickly forecast a “perfect storm” for the South American nation.

Indeed, the fall of some 60 percent in oil prices since June comes at a disastrous moment for the country, which sits on the world’s largest crude reserves. Venezuela is flailing under the weight of economic controls, including distortionary exchange rates and fixed prices for staple goods. The oil shock promises to worsen the crisis – and foes hope it will lead to the collapse of Venezuela’s polarising socialist government.

For starters, it will crimp authorities’ ability to import food and goods, aggravating chronic shortages. Long lines for food, now a common sight throughout Venezuela, have already triggered isolated protests. They have also dragged down President Nicolas Maduro’s popularity and set the stage for a ruling-party setback at this year’s parliamentary elections. A popular local cartoonist depicted Maduro about to be crushed by a barrel in free-fall. Indeed, the oil slump raises the spectre of social unrest in the volatile post-Hugo Chavez era.

The rout has also heightened fears of a financial collapse in Venezuela. With the country having to allocate close to $10 billion to service its foreign bonds each year for the next two years, markets are now pricing the country’s debt at default levels on the belief that Caracas will be unable to keep up with payments.

Maduro has rejected speculation of a default, but yields on the benchmark Global 2027 bond have spiked from around 11 percent in June to 28 percent in mid-January. Weaker coffers also lessen Venezuela’s ability to cover hefty arbitration awards for oil nationalisations under Chavez. A decision is expected this year on the 2007 takeover of ConocoPhillips assets, which could see the country forced to pay around $4 billion or more.

The cash crunch will likely hinder investment in the country’s chronically underperforming energy sector. Financially strapped state oil company PDVSA already subsidises services as diverse as yoga classes in public parks and free health clinics. Investment plans now may be watered down further to tend to pressing social and political needs. That said, tight finances could also encourage PDVSA to be more pragmatic in its operations and austere in its spending.

With Venezuela’s self-styled socialist revolution experiencing its most challenging times in 16 years, many are wondering whether oil’s tumble will prove the final nail in the coffin. “There will be no catastrophe or collapse here,” Maduro vowed in October, when oil prices had fallen to around $80 per barrel. But with prices having almost halved since, a weak Maduro appears to lack the political clout to implement painful austerity measures. Instead, he told parliament in January that “God will provide” following the oil rout, striking a tone of resignation that echoed throughout Venezuela.

Indeed, the fall of some 60 percent in oil prices since June comes at a disastrous moment for the country, which sits on the world’s largest crude reserves.

Venezuela



In December 2014, China’s monthly imports of crude reached 7 million barrels per day (bpd) for the first time, signalling that the world’s largest energy consumer is as hungry as ever for oil.

The Chinese government is taking advantage of falling prices to stockpile crude for its strategic reserves, analysts say.

China’s crude supply – imports plus domestic production – exceeded demand from domestic refineries by almost 900,000 bpd in December, part of an implied 90-million-barrel surplus China built up over 2014, much of which would be destined for the strategic reserves.

China is secretive about its reserves, although the government said in November that the first of three phases was holding 91 million barrels. Estimates put the stockpiles at roughly 30 days of imports, still far short of the OECD-standard 90 days targeted by China.

Stockpiles aside, crude runs in China have followed imports to new highs. The country’s implied oil demand – a combination of crude throughput and net imports of refined products - continues to expand. The pace of growth is more modest than initially forecast, however, amid an economic slowdown that saw growth last year at its slowest since 1990. The International Energy Agency revised its estimate for oil demand growth in 2014 from 3.6 percent down to 2.7, and from 4.2 percent to 2.5 in 2015.

Supported by a burgeoning car culture, implied demand in 2014 broke 10 million bpd, even as diesel demand from industrial users has retrenched. State-run giant Sinopec reported that its diesel production fell 4 percent, while gasoline production rose 12.5 percent in 2014. A roughly 50 percent increase in consumption taxes on fuel, though, will temper demand growth.

Low prices have put pressure on China’s three state oil giants, already under scrutiny amid an anti-corruption campaign that has targeted, in particular, China National Petroleum Corp (CNPC).

The campaign could dampen enthusiasm for overseas deals, like those in Canada’s oil sands, that could enhance China’s long-term energy security. “Unlike previous years, when obviously acquisitions were seen as glamorous or something that you do to get a promotion in the Communist Party, now … people will look at you and say, why did you do this? The first thing they think of is, because you’re getting a kickback,” one analyst said.

Domestic crude output from the world’s fourth-largest producer is a question mark, with CNPC planning to cut output at Daqing by 11 million barrels in 2015, given high oil-extraction costs at the aging field, China’s most productive. Yet with slimmer profits comes the incentive to produce more. December saw the highest levels of domestic crude production since at least January 1999. Even so, domestic production stayed flat in 2014, up just 0.5 percent.

At the pump, even the state oil giants are not shielded from the effects of lower global prices; a regulatory scheme put into effect in 2013 links retail gasoline and diesel prices with crude benchmarks, adjusted on a biweekly basis. But the bottom line has been propped up by cuts to a windfall tax on crude oil, which will now kick in at $65 a barrel instead of the previous $55.

Low prices have put pressure on China’s three state oil giants, already under scrutiny amid an anti-corruption campaign that has targeted, in particular, China National Petroleum Corp (CNPC).

China


AUTHORSJason Bush

Henning Gloystein

Scott Haggett

Dale Hudson

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Alexandra Ulmer

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