By Mahmood Khaghani, exclusively for Trend
The oil market continues to experience a situation like what it was in 2008. WTI broke the psychological figure of 40 $/b. Less oil demand and more crude oil production that is looking for home in a refinery or storage capacity that both are nowadays scarce to find.
Current oil market prices have caused serious concern for those who made investments in expensive fields in the off shore Caspian Sea with hope for petroleum produced to be exported to Europe. Already it has been said that in case the oil prices remain at this level producing oil and gas in the Caspian region will be uneconomical, unless the environmentally safe and economically viable route through Iran's Golden Gate will open after sanctions are removed.
An increasing recognition of the crucial role for Iran in the South Caspian Region has been emerging at the high level Summit meetings organized respectively by International Research Network (IRN) in London and the Iranian Association for Energy Economics (IRAEE) which took place during June 2014 in Dubai & in April this year in Vienna.
Iran's importance on the North-South and East-West transportation corridors in the South Caspian Region Transportation Summit was also highlighted at a Summit that was organised by IRN in cooperation with Iran Chamber of Commerce, Industries, Mines & Agriculture, Education & Research Institute during July this year in Istanbul, Turkey.
As chairman of these Summits I observed that one of the most important themes which emerged from them, was the need for direct dialogue between energy producers and consumers, within the context of the new multilateral institutions referred to by President Hassan Rouhani in 2014 in Davos.
It is reported that on 22nd August the British Embassy in Tehran will be reopened. With British heavy investments in the Caspian region British and Iran rapprochement is welcomed by four Caspian littoral states which are also the member states of the Economic Cooperation Organisation (ECO).
UK and the US, close in their foreign policy with regard to Iran according to diplomats, may have been the reason that UK Foreign Minster waited until the agreement with the P5+1 to be concluded and then to follow his European counterparts to Tehran. However, his visit and the reopening of British Embassy in Tehran provided me with an opportunity to discuss the current oil market situation and its effect on UK and Iran relationship after sanctions with Chris Cook, an expert in global energy markets and a Senior Research Fellow at an Institute of University College London with long experience of Iran and a regular commentator on the subject of energy.
"The current Brent/BFOE global oil pricing platform is currently owned and/or controlled by International Oil Companies (IOCs) and investment banks," Cook believes, with regard to current and continues decline of oil prices. "This means that any market participant who has the necessary capital funding and access to private or central bank liquidity may therefore support the oil price."
I do share his opinion as recently I told a news paper in Tehran that the ability of market participants to support the global market price through financial demand which is invisible to the market has meant that since 2001 OPEC's role in global oil price setting has gradually dwindled to zero, disappearing altogether after the 2008 market crash, and most importantly in today's market situation. It is a fact that OPEC came to existence for a united approach of its member to preserve their economic interest. But, some OPEC members are now collaborating against the economic interests of other members on political grounds.
Iran has warned OPEC that the current OPEC policies are unsustainable and that there is now - as oil prices fall daily - an urgent need - through what Oil Minister Bijan Namdar Zanganeh has referred to as Energy Diplomacy - for OPEC and other producer nations such as ECO countries, Central Asian and Caspian Sea region to collaborate to an agreed common purpose.
During my exchange of views with Mr. Cook and in reply to my question about new developments in the North Sea (UK- Scotland) and US WTI markets considering new low oil prices he told me that from January 2015 Saudi Arabia has invested billions of dollars of its reserves in funding oil and was able temporarily - with unlimited Euro liquidity available from the European Central Bank (ECB) - to increase the market price to $65/barrel.
"This was achieved through investment via banks in the funding of oil inventory and also through support of the Brent Oil price as stated above. Thus, Saudi Arabia earned at least 200 million dollars more each day to finance domestic financial needs and current foreign policy objectives. However, while Saudi & Persian Gulf Cooperation Council (PGCC) have the capital and liquidity necessary to fund any amount of inventory and therefore keep oil off the market, it became clear by June 2015 that the global oil supply surplus is such that there is insufficient storage available to accommodate inventory on the scale necessary to support the price. The Saudi price support operation therefore came to an end and the price collapsed to January 2015 levels with the near certainty they will decline further. Only production cuts can prevent this," Cook said.
But, we also have to look into an unpleasant economic situation that the emerging economies are going through. Countries like Russia, Brazil, China, India, Turkey, Indonesia, South Africa and many more that enjoyed a positive economic growth during post 2008 credit crunch, currently are facing sluggish growth and possible financial crisis.
Countries depending on export of raw materials like oil and gas are now facing a situation in which their main customers such as India and China are facing economic slowdowns and yet their economic crisis may become worth in due course. In fact, currently many commodity prices are declining because of too much supply like crude oil, natural gas, coal and many others.
As a result, the share prices of major commodity traders have been reported heavy losses for the first half of 2015. Another reason for commodity prices declining is said to be the potential tightening of monetary policy in the USA that could strengthen the dollar against other currencies, particularly those countries that the value of their currencies depend on production and export of raw material such as oil and gas. So, while countries with well developed economies have not been showing impressive growth rates, no one knows what will be the oil prices in short and medium future.
Some observers are even of the view that global economy is showing signs of significant cracks. Cook further spoke on the US energy security issue.
"As Minister Zanganeh said in a TV interview, the high oil prices from 2009 to 2014 enabled the US to implement what is essentially a second Strategic Petroleum Reserve of high cost shale oil. In this way the US has replaced Saudis as swing producer to apply an effective upper limit to oil prices and thereby attained energy security and independence from reliance on Saudi production," he said.
"In other words whenever oil prices increase US may cap the market price by bringing back to market shale oil production. This has enabled the US to end their 70 year understanding with the Saudis and we believe that this represents the most significant oil market development since the 1973 Oil Shock," Cook said.
This is an interesting explanation. With regard to what Iran plans to do in its petroleum industry, it has been confirmed that during first half of December during a conference organised by a British conference organiser Iran will unveil its newly named Iran Petroleum Contract (IPC) and its upstream projects. Many expect that International Oil Companies (IOCs) will participate in the event, although it is not yet known what will be the situation for American companies pending the Congress decision on acceptance of the P5+1 and Iran agreement. However, Iran has said the American companies have no problem, in principle, regarding investing in Iran.
Regarding the IOCs' new approach with Iran, Cook said that the combination of high cost US shale oil, falling renewable energy costs and demand reduction measures led to an 'upper boundary' or cap of the oil market price at between $60 to $70/barrel.
"Due to the recent oil price falls, excessive production profits have now been cut and costs are now much lower possibly enabling $ 50 to $60/barrel shale oil to be viable. Therefore, due to the fact that IOC exploration /production costs have not significantly been reduced, they have been squeezed into either consolidation with other IOCs or to design a new business model of service provision requiring less financial capital," he said.
"This may be one of the reasons that IOC top executives lined up to meet Minister Zanganeh in Vienna during last OPEC Summit, and perhaps are ready to go to Tehran or meet him in December conference in London. Because, they think this new business model can be negotiated and defined by working /partnership with Iran," Cook said.
Clearly the urgent need to re-establish commercial relationships led the British government to reopen its embassy in Tehran, and this will facilitate Iranians willing to participate in the London conference to get their visa in Tehran. Likewise, British businessmen wishing to visit Tehran may obtain their visa in London. So, once more economic interests prevailed and political objectives failed.
John Kerry is quoted as saying that agreement with Iran saved the future of US dollar. Perhaps many are questioning the rationale for his comments. Chris Cook believes that the US has long benefited from the status of the US dollar as the global reserve currency, and it essentially means their US and other banks may create dollar credit out of nothing and exchange this credit for the intrinsic value of oil and other commodities.
"However, the US has long seen Europe's Euro currency - which is an equally intrinsically worthless bank created currency - as a competitor.," Cook said. "The key point to note is that it is not so much the currency of exchange which is important, but what happens to the proceeds afterwards, and here we have in my analysis been seeing the Saudis switching their petrodollar reserves to Petro Euros. Iran currently has a choice of two conventional evils in financing new infrastructure: it may borrow dollars from the US and assist in keeping the US economy afloat, or may borrow Euros and keep the ailing Euro afloat."
A way out for Iran, as Cook sees it, is the transition through gas.
"As the current Secretary General of GECF has said in Vienna it is time for major gas reserve owners which are not playing a vital role in global gas market to consider new policies in this regard," Cook said. "There appears to be an increasing consensus among IOCs that the transition to a low carbon economy will take place via natural gas as a 'bridging fuel'. Iran has announced its policy and willingness for gas export via pipeline and LNG. But, 21st century financing and funding requires two mechanisms, both with historical roots which predate dollars and Euros by millennia."
"Firstly, energy swaps, such as the exchange of a flow of gas for a flow of power or petrochemicals, or a flow of oil for a flow of oil products. Secondly, the very simple prepay energy credit which is essentially a promise issued by an energy producer which he will accept - in addition to accepting conventional currency - in payment for energy production. Petro Scotland Development has offered a proposal in this regard to Iran Ministry of Energy in follow up of the April IRN / IRAEE Summit in Vienna, which in my view is a 21st Century solution for Iran's 21st Century economic interests," Cook said.
Meanwhile, according to news reports from Tehran, Iran's capital will host The Gas Exporting Countries Forum (GECF) in Oct. 2015, and many observers including myself are of the opinion that it may be a good occasion for discussing this new idea.
In my analysis, the OPEC, due to the misguided policies of Saudi Arabia and its allies, is clinically dead and is on life support. A new multilateral institutional framework for energy markets generally is now necessary, as proposed by President Rouhani in Davos in 2014.
Therefore, in the same way that Iran was instrumental in the formation of OPEC, Iran may now lead the way in creating a next generation expanded OPEC which engages in direct dialogue with consumers to create a new global energy settlement not a million miles away from an energy equivalent of the Bretton Woods agreement in 1944.
Cook agrees with the idea, saying that Iran should consider inviting OPEC to attend an National Oil Companies (NOCs) congress aimed at leading the way to a 21st century energy market.
In order to lead the creation of such a market, Cook further suggested that Iran may supply reactivated post-sanction oil production to refiners not by competing to sell oil as a commodity in a volatile market rigged against the country, but via long term and stable oil for product energy swap partnerships.
Cook, a Scotland resident and frequent visitor to London, said that Scotland, Greece and South Africa head the list of candidates for such direct 'producer to consumer' swap arrangements.
"Such swaps bypass the middlemen who control the conventional oil commodity market and thereby enable security of supply for consumers and security of demand for Iran," he said.
With reference to Scotland's only refinery at Grangemouth, Cook explained that Iran reliably supplied oil to this refinery for sixty years until 1979, and now possesses significant producing and potential North Sea assets. So, perhaps during new era of relationship with the UK, Iran may place a Scottish/Iranian initiative at the top of the list.
Cook reminded that he raised this possibility nearly a year ago during his visit to Tehran presented to NIOC and Dr. Katouzian the president of NIOC- RIPI, and those recent events now make it possible to develop the concept.
In conclusion of our exchange of views we both expressed our hope that with re-opening of British Embassy in Tehran and Iran Embassy in London, official meetings will be planned and organised in Tehran which through energy co-operation will help economic interests to overcome political differences, that will also pave the way for petroleum & energy producers and consumers cooperation in the ECO-Caspian region.
Mahmood Khaghani, now retired, has over 33 years of work experience at senior international positions of Iran's petroleum industry, including the head of the Oil Ministry's Caspian Sea and Central Asia Department, as well as business development and joint ventures advisor of Iran's North Drilling Company. He was also the director for energy, minerals and environment at the ECO Secretariat in 1996-2000.