Does Russia’s reasoning for abandoning OPEC stand up?

The Bell

The week following the breakdown in relations between Russia and OPEC was one of the worst weeks on record for both the Russian stock market, and the ruble. The main architect of Russia’s withdrawal from the so-called OPEC+ was Igor Sechin, the head of state-owned oil giant Rosneft and a close associate of Putin. Since then, Rosneft has sought publicly to explain how the Russian economy will benefit from an end to cooperation with OPEC. The Bell has looked at Rosneft’s arguments to see if any of them hold water.

Argument No. 1: Oil prices would have collapsed anyway because of the coronavirus outbreak, meaning that there was no better moment to exit the OPEC+ deal.

For: Coronavirus has unarguably put the oil market under pressure. The price of crude fell 27 percent from early January even before the end of OPEC+. Some economists, including Konstantin Sonin, believe the influence of OPEC+ on oil prices is greatly exaggerated.

Against: Leaving the deal may be the right strategic decision, but is a tactical error, according to economist Kirill Tremasov. It was self-defeating to take such a radical step with the financial markets already in a very vulnerable situation, he argued.

Argument No. 2: The U.S. benefited from the OPEC + deal, not Russia. Falling prices mean shale oil extraction in the U.S. will become loss-making, so production will be frozen.

For: Since Russia teamed up with OPEC in 2016 and agreed to cut production, the market share of U.S. shale oil producers really has grown. Between 2017 and 2018, BP data shows that the share of the world oil market belonging to Russia (12.1 percent) and Saudi Arabia (13 percent) was unchanged, while the U.S. share rose from 14.2 percent to 16.2 percent.

Against: Saudi Arabia has already announced it will increase its oil production by 2 million barrels per day (bpd). In comparison, Russia only has the capacity to ramp up production by 300,000 bpd in the short term, and by 500,000 bpd in the long term, according to Energy Minister Alexander Novak. There are doubts this is enough to replace U.S. shale oil on the world market. The U.S. government may also support its producers with tax discounts.

Argument No. 3: Russia’s energy revenues will increase in the future.

For: Russia’s Ministry of Energy expects the oil price will return to be about $45 a barrel in the second half of 2020. At the same time, Novak has confirmed that Russia is not discussing the possibility of a new deal with OPEC.

Against: Economists surveyed by The Bell believe oil prices could recover to $45 a barrel only if Russia returns to the negotiating table with OPEC. If not, they will remain at $30.

While the world should care

This week, the Russian economy moved from saving its energy revenue surplus, to spending it. The Ministry of Finance claims Russia’s reserves are enough for 10 years of low oil prices, but this ignores the costs of supporting an economy ravaged by coronavirus.

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