Political Economics Prof

Tag: Saudi Arabia

  • A Note on the Geopolitics of Oil

    A Note on the Geopolitics of Oil

    Saudi Oil Minister

    BACKGROUND INFORMATION

    Oil is measured in barrels.

    A barrel is 42 gallons.

    Total global daily production is around 96-97 million barrels/day.

    Saudi Arabia, Russia and the United States all produce around 10
    million barrels a day.  With their
    allies, these three countries account for close to 40% of global production.

    Because of the improved technology of shale oil
    production, U.S. output has gone up almost 5 million barrels/day since 2008.

    Currently, total global production is greater than total demand by
    somewhere between one and three million barrels/day.

    There are record amounts of oil in storage.

    A small percentage increase of supply over demand has led to a
    large decrease in price.

    In the fall of 2014, a barrel of oil cost about $100/barrel.  Last month the price fell to around
    $30/barrel.  Since then, it has rallied
    to around $40/barrel.

    THE ECONOMICS AND GEOPOLITICS OF OIL

    The economies of seventeen countries critically depend on oil
    production and the price of exported oil.  Many others, like Brazil and Mexico, partly depends on oil exports.

    It has been a year and a half since the price of oil began to
    fall.  Many countries are now in
    recession.  Government revenues, mostly
    dependent on oil sales, have fallen drastically and budgets are showing large
    deficits.  In some countries, including Venezuela and Nigeria, the situation is serious enough to threaten the stability of the
    country.

    Given global inelastic demand, a small percent decrease in global
    supply, around 3%, would lead to a large increase in price, probably around
    60-100%.  All countries, including Saudi
    Arabia, would be economically better off. 
    Many other oil producers, but not Iran, have called for lower
    production.  So why hasn’t it happened?

    Saudi Arabia and its Persian Gulf allies have had a number of objectives
    in pumping out a record level of oil and watching the drastic fall in price:

    •         Punish Iran, a Shia rival for power in the Persian Gulf and
      throughout the Arab world.  Saudi Arabia
      is Sunni.
    •         Punish Russia for supporting Iran and then Syria.
    •         Stop the growth of shale oil production in the United States.
    •         Drastically reduce the level of global capital investment in oil.
    •         Reduce production of high cost oil by making it unprofitable
      to continue production.

    Two geopolitical changes in the last 18 months have hardened Saudi
    Arabia’s determination to produce record amounts of oil:

                        Lifting of economic sanctions
    against Iran

    Saudi anger at the U.S. in
    supporting the end of sanctions.

              Russian military intervention
    supporting the Shia regime in Syria

    Both events strengthened Saudi Arabia’s intentions of punishing
    Russia, the United States, and Iran by keeping production at record levels and prices
    low.  If Saudi Arabia and their Gulf
    allies agreed to reduce production and prices rose, the U.S., Iran, and Russia
    would benefit.

    THE SAUDIS MISCALCULATE

    The Saudis have not succeeded in meeting their goals as much or as
    quickly as they expected.  The overall
    strategy was to force other countries to cut back production of unprofitable
    oil and the Saudis and their allies would benefit from their high output and
    higher prices.

    They miscalculated.  Like
    Saudi Arabia, most of the oil is pumped by government-owned or government-controlled
    companies.  They don’t care about
    profits, only revenue.  Government oil
    companies are a source of power, employment, patronage and corruption.  Except in the extreme where less revenue
    threatens the regime, these countries have no incentive to reduce output.  A substantial reduction will lead to higher
    market prices; other countries or companies will maintain or increase
    output.  Without widespread cooperation,
    the end result will be the same total output and the same low prices, except
    the countries that reduced output will lose market share and end up with even
    less revenue.

    The only hope is that major producers, both OPEC and non-OPEC, can
    get together and agree to a collective reduction in production.  A meeting is scheduled in Qatar on April 17.  Saudi Arabia and Russia say they will attend
    the meeting; U.S. oil companies probably won’t. 

    Iran won’t attend and says it will increase production regardless
    of what other producers do.  They have
    softened their position by recently saying that if they are allowed to increase
    production to some unspecified level, they will stop any further increase in
    production.

    What changed?  Why is Saudi
    Arabia signaling it might reduce output?

    Internal pressures.  Fragile society with suppressed
    tensions.  Kept together by a huge social
    welfare system financed by oil revenue.  The
    Saudi government is running a large budget deficit which is rapidly reducing its sovereign wealth fund that finances the lost revenue.

    Saudi would be the “last man standing” but it
    might be a Pyrrhic victory.  The price
    might be too high.

    The Russian economy is really hurting.  A continuation of low prices for oil and
    natural gas could eventually threaten Putin’s power.

    Clear signal to Saudis that they want, or need,
    an end to low prices.  Given the
    continuing economic pain at home, Putin appears willing to cooperate with Saudi Arabia – the geopolitical rival of its client states in the Middle East – in exchange for a stable domestic economy and increased government
    revenues at home.

    A third miscalculation.  U.S.
    shale production hasn’t gone down anywhere near as much or as fast as the
    Saudis expected.  Two reasons:

    Private companies look to marginal costs and
    shutdown expenses, not average cost, in deciding whether to continue
    production.  Reacting to low prices, they
    have lowered their costs and reduced their losses.     American drillers adapted to lower prices by shutting down low-producing wells, using new technology to increase output per well, reducing drilling costs by drilling deeper and faster with fewer workers, and forcing suppliers to reduce their prices to producers.

    Until first quarter of 2016, many oil producers
    had locked in higher selling prices through futures contracts.

    American oil executives are saying that in the better shale oil
    areas, new wells can be profitable at $30/barrel.  Oil experts believe that at $45-$50/barrel, total
    U.S. shale production will stop falling. 
    Above $50/barrel, U.S. shale oil production will increase again. 

    Some countries may not cut production as promised.  U.S. shale producers can offset a reduction
    in total supply.  In that sense, the
    U.S., not Saudi Arabia, has become the swing producer.

    Both U.S. and global inventory are at record levels.  Even if production falls three million
    barrels a day, inventory drawdowns can make up most or all of the
    decrease.  Total supply would
    remain at current high levels and prices would fall again.

    THE RECENT PRICE INCREASE

    The futures market and speculators have driven the price of oil
    from around $30/barrel to $40/barrel. 
    Little has changed from the underlying supply/demand balance that drove
    the price from $100/barrel to $30/barrel. 
    Why the increase?

    Speculators look ahead.  Like
    gamblers at a roulette wheel, they pick a number and “puts down their money and
    takes their chances.”   They are betting
    that the major oil producers have reached the panic point and will agree to
    reduce production on April 17.  They are also covering short positions  These actions increased the world price of oil.  But, as the
    above comments indicate, only temporarily.


    THE UNITED STATES:  NAFTA IS THE NEW OPEC


    The United States is poised to become the world’s largest producer of oil and possibly  the world’s largest exporter of refined oil products. Combined with a fall in domestic demand for refined oil products because of electric and hybrid vehicles, the United States could become a net exporter. All of America’s remaining import needs could be filled by Canada and Mexico. Already, the United States does not need any Middle East oil. One reason for past American involvement in the Middle East no longer exists. The main economic reason for an alliance with Saudi Arabia no longer exists.


    The United States controls the technology of shale production. This technology is vital to opening new fields and recovering residual oil in old fields. It is also a geopolitical weapon. Currently, U.S. sanctions against Russia includes withholding oil drilling technology. 

    Related, the United States is already self-sufficient in natural gas, exporting to Mexico, and building liquid natural gas (LNG) plants for export. To reduce dependence on Russia, Poland and Lithuania are building LNG receiving plants. Poland is considering a pipeline from its LNG plant to Ukraine. The United States, plus new natural gas finds in the Mediterranean and shale fields in Poland and Ukraine, could replace much of the Russian exports to Europe.   

    CONCLUSION 

    The geopolitics of oil complicates the economics of oil. Inelastic demand for oil implies that a small percentage decrease in output will lead to a large percentage increase in price and revenue. But geopolitical rivalries make cooperation difficult and probably temporary.  Some of these rivalries have an overlay of intense religious or historical animosity. Virtually every OPEC member has a history of cheating on production quotas. And now any reduction agreement can be countered by increased output in the United States, Canada, and Mexico.

    Oil prices are the result of a complicated interaction of political and economic factors.  Oil buys power and influence.  Saudi Arabia is betting that they can use their oil policy to reassert some control over the tangled conflicts in the Middle East.  Russia hopes that oil and natural gas exports will fuel domestic political stability and geopolitical ambitions. Oil and natural gas exports to Europe are Russia’s most effective foreign policy weapons. Ironically, both countries’ ambitions are at the mercy of increased output and technological improvements in American shale oil production.


    =========================================================

    For further reading, see

    https://politicaleconomicsprof.com/2015/11/saudi-arabia-oil-and-geopolitics.html

    https://politicaleconomicsprof.com/2015/09/energy-and-geopolitics-ii-world-ex.html

    https://politicaleconomicsprof.com/2015/09/energy-and-geopolitics-i-united-states.html

    https://politicaleconomicsprof.com/2015/04/the-russian-economy-and-geopolitics-of.html

    https://politicaleconomicsprof.com/2015/04/the-death-of-opec-sheikh-rattle-and-roil.html

    https://politicaleconomicsprof.com/2015/01/changing-oil-prices-different.html

    https://politicaleconomicsprof.com/2014/12/cheaper-oil-winners-and-losers.html

    For excellent ongoing analysis of the geopolitics and economics of
    the global and national oil markets, see     http://oilprice.com.

    The classic book on the history of the global oil industry and the
    rise of OPEC is Daniel Yergin, The Prize.

  • Note on the Current Global Oil Market

    Note on the Current Global Oil Market

    Saudi Arabia Oil Minister


    U.S. Oil Production


    Energy prices could go up
    at the same time that energy production could continue to decrease, although
    not as much as simple supply/demand forecasts would expect (see prior post).  Crude oil prices would have to rise from
    current $35/barrel level to at least $50/barrel to stabilize production and
    over $60/barrel to start increasing production. 
    Similar percent increases would be needed for natural gas.

    For most shale oil and
    natural gas producers, virtually all operating revenue is now going to debt
    payments.  After hedges come off, the
    number of bankruptcies and “distressed debt” will accelerate in second quarter
    of 2016.  The companies can continue
    production but bondholders, lenders and stockholders will suffer even larger
    losses.  This trend has already started
    in the junk bond market and the fall of public oil companies’ stock prices.


    Why Saudi Arabia Misjudged U.S. Oil Production


    While OPEC countries produce 40% of the world’s oil, there
    is no consensus on policy.  Just the
    opposite.  There are deep rifts between
    countries, as discussed in earlier posts. 


    Saudi Arabia and its allies believed that all-out production
    would quickly create a global glut, falling prices and a sharp cutback in U.S.
    and Canadian production.  Unlike most
    countries, American oil is produced by private companies that have to worry
    about profits and meeting debt obligations. 
    But over the last year, U.S. oil production has stayed high and is only
    now beginning to decline.  This has
    occurred even though the number of drilling rigs has decreased.  What the Saudis misjudged was that American
    drillers adapted to lower prices by shutting down low-producing wells, using new
    technology to increase output per well, reducing drilling costs by drilling
    deeper faster, and forcing suppliers to reduce their prices to producers.  Breakeven prices came down.  However, at $35/barrel, virtually all drillers
    are losing money.  More and more are
    having trouble meeting debt payments from operating income.  In the last two weeks, three junk bond funds
    have folded, mostly because of losses on energy junk bonds.  Total oil production is starting to decrease.


    One reason that American oil production stayed at higher
    levels than the Saudis expected is that when oil prices began to go down in
    late 2014, many drillers hedged part their production.  This means that they locked in prices higher
    than the declining market (spot) prices. 
    Revenue was higher than forecasted just from looking at market prices. 


    If I Were the Oil Minister of Saudi Arabia


    There is still too much global oil production as inventories
    continue to build up.  There is an
    estimated 30 billion barrels of oil in inventory, about 33 days of
    consumption.  The only growth sector of
    the oil industry is the building of storage facilities.  Some oil is being stored on tankers at sea. 


    Price increases will lag any production declines as
    inventory is worked down.  Global
    production will probably have to decrease by at least 2 million barrels per day
    for some time before supply comes back into balance with demand and prices rise,
    even if global demand is stagnant.


    As Saudi oil minister, I would continue all-out
    production.   Most of the American hedges
    expire in the fourth quarter of 2015 and the first quarter of 2016.  By the end of the second quarter of 2016, the
    financial condition of American drillers should be critical.  More drillers will declare bankruptcy.  But again, the decrease in production will be
    less than forecasted.  By declaring Chapter
    11 bankruptcy, drilling companies can continue in operation without the major cost
    of debt expense.  Companies will merge
    and assets will be sold.  Even given
    this, the Saudis can probably expect total U.S. and Canadian production will
    decline by about one million barrels a day.


    Besides Saudi Arabia and its allies, a number of other
    countries both within OPEC and outside OPEC would also like to decrease
    production.  Prices would rise but only
    if other countries did not raise production to take away market share. 


    With inelastic demand, the percent reduction in total output
    would be less than the percent increase in price.  Total export revenue would increase.


    If I Were Vladimir Putin


    While a number of countries might be willing to make a small
    percent reduction in production, the two wildcards are Russia and Iran.  Russia and Iran, as supporters of the
    government of Syria, are geopolitical rivals of Saudi Arabia.  But another year of low oil prices would put
    serious strains on the domestic economy and the government finances of
    Russia.  President Putin might calculate
    that the political risks of continued low oil (and related natural gas) prices
    are too high.


    Russia, one of the three largest oil producers, might keep
    production high for domestic political reasons and “free-ride” on a global
    price increase.  Iran, recently released
    from economic sanctions, has announced planned increases in production.  Russia might work out a long-term deal with
    Iran that would have economic and geopolitical benefits.  Russia would slightly cut back production
    (about 2 1/2% to start) and buy Iran’s increased output as a substitute and
    resell it to Europe.  Over time, Russia’s
    older fields would have declining production and Russia would abandon plans for
    very expensive (and unprofitable) Arctic exploration projects, which relies on
    Western technology.  Instead, Russia
    would buy increasing amounts of Iranian oil. 
    In exchange, Russia would build more nuclear power plants in Iran and
    supply Iran with uranium (and arms).  Russia
    and Iran have already agreed to the first steps of a nuclear power plant deal;
    it could be expanded as Iran sells more oil to Russia.  Both Russia and Iran would benefit from higher
    global oil prices without an explicit deal with Saudi Arabia.


    Conclusion


    Global oil production has to fall by about 2 million
    barrels/day from its current level of around 92 million barrels/day to work
    down inventories and increase prices.  By
    the middle of next year, half of the decrease will come from the U.S. and
    Canada.  So the rest of the world only
    has to decrease production by 1%-2% for prices to eventually rise.  A price increase to the $50-$60 range –
    40-70% from the current benchmark prices – would greatly increase the hard
    currency export earnings of all oil exporters and probably not lead to
    production increases in the U.S. and Canada.


    This seems like a no-brainer.  But will it happen?  A game theorist familiar with the Prisoner’s
    Dilemma would be somewhat doubtful.  These
    are not the purely rational players of game theory.  Despotic political leaders and their
    political elite more concerned about staying in power and other domestic
    concerns head many of these countries.  Some are also geopolitical rivals, often with
    an overlay of intense religious or historical animosity.  And virtually every OPEC member has a history
    of cheating on production quotas.

    ==================================================================

    A number of prior posts discuss these themes in more detail.  See the recent post on Saudi Arabia.

  • Saudi Arabia, Oil and Geopolitics

    Saudi Arabia, Oil and Geopolitics

    Saudi Oil Minister

    Introduction: The Fall in Oil Prices in 2015

    Crude oil prices temporarily rose because Saudi Arabia signaled that it
    would cooperate with OPEC and non-OPEC producers to “stabilize” oil
    prices.  Nothing specific was
    mentioned.  At the current price and for
    political reasons, it is unlikely Saudi Arabia and its Persian Gulf allies will
    cut production or negotiate joint production cuts with other large
    producers.  The comments are probably an
    indication that Saudi Arabia might be part of a global reduction in crude oil
    production if prices go much lower and the political situation in Syria changes.

    Until recently, Saudi Arabia was seeing the results it
    wanted.  Some are economic, having to do
    with the current and future price and production of oil.  The economic targets were shale production in
    the U.S and tar sands production in Canada. 
    The geopolitical targets were Iran and Russia.  But unexpected economic and geopolitical
    changes have increased the cost to the Saudis of continuing their
    policies.  Low prices will continue
    longer than the Saudis expected.  At the
    same time, geopolitical changes have made it more unlikely that Saudi Arabia can
    change its strategy or negotiate a favorable change in the global oil industry.

    Economic Goals

    Until 2014, increased production in the U.S. and Canada was
    matched by increased demand by China and other developing countries. Prices remained at record high levels, over $100/barrel.  But a continued increase in U.S. shale production combined
    with slower growth in Chinese and global demand in 2014 led to surplus
    production and rising inventories.  Since
    both global supply and global demand are inelastic, a small percentage increase
    in global supply relative to global demand led to a decrease in exports and a
    large decrease in price.  Thus far, about
    45%.

    The fall in the price of oil is part of a bigger picture,
    the fall in the price of virtually all globally-traded energy products,
    minerals, metals and agricultural products. 
    Strong growth in global demand before and after the last recession, led
    by China, encouraged countries and companies to expand capacity and production
    in almost all commodity industries.  A
    slowing of global growth resulted in excess supply and large decreases in world
    prices.  This implies that the pricing and supply problems of the global oil industry is not just caused industry variables but is part of a larger global trend of slowing manufacturing and exports.

    Oil production in many countries cannot be reduced for
    domestic political reasons. In some countries, the state owns or controls oil production and relies on oil export income for government revenue, earning hard currency to service rising foreign debt and maintaining employment and politically-necessary welfare programs and subsidies.  In countries like the United States, where oil production is done by private companies, producers try to maintain output as long as price is above marginal production costs, thus contributing to covering ongoing financial costs
    (interest and principal payments on increased levels of debt) and avoiding penalties for shutting down output of producing wells.

    Saudi Arabia and its allies knew if they cut back production
    and the price of oil rose, other countries and companies would expand
    production.  American shale production
    would continue to increase if the domestic price (WTI, a few dollars below
    Brent, the world benchmark price) stayed above $60/barrel.  At the current price range of $40-$45/barrel,
    some American production has been shut down and most drillers are
    losing money.  But total production has not gone down as far or a fast as the Saudis expected.  One reason is that many of the drillers hedged the price of some of the oil they sold when the price began to fall.  Another is that production costs are falling, partly due to new drilling technology. Their average selling price is high enough to cover lower marginal drilling and ongoing financial costs.  Some are even making a profit.

    The only question is how
    long will it take for some American shale companies to go bankrupt and the rest
    to decrease production further. 
    Apparently it is taking longer than the Saudis expected. American
    shale producers have cut costs of production, squeezed suppliers, and become
    much more efficient, reducing their marginal cost break-even price.  But a high percent of operating revenue is going to debt repayments.  A few highly leveraged producers have gone bankrupt. Production assets are being sold to other companies.

    Oil producers are still losing money, their bankers
    are getting nervous but total production has only decreased about ½ million
    barrels/day.  If oil prices don’t rise to around $60/barrel before the middle of next year, the decrease in production will accelerate.

    Many of the hedges come off this quarter and the first quarter of 2016.  We should see increased financial pressure on drillers in the second quarter of 2016.  The Saudis can wait that long to see how quickly the financial position of American producers deteriorate and if declines in production accelerate.

    Russia has also reduced its cost/barrel and break-even price by applying new technology, better organization and apparently lower taxes and fees on oil production.

    Saudi Arabia has actually increased production after
    completing a $100 billion modernization and expansion of their oil
    infrastructure.  The increased production
    and processing was for increased domestic consumption and more refining.  Exports have remained
    constant.  In the future, more of Saudi oil exports will be refined products and petrochemicals rather than crude oil.  This put them on a collision course with U.S. refineries, who have dramatically increased exports of refined petroleum products. 

    Saudi Arabia has been
    fighting hard for market share.  They
    have taken market share away from Russia in China by offering larger discounts
    off list prices.  They have also increased
    sales to Europe by also offering lower prices. 
    This is one of the benefits of being the world’s lowest cost producer
    and having a $700 billion sovereign wealth fund.  But the government is running a huge deficit relative to GDP.  At some point, the combination of lower oil revenue, large government deficits, the proxy and air war in Yemen, supporting Sunni militias in Syria, and the need for newer military equipment may force the Saudi government to reconsider its geopolitical strategy.  And, as discussed below, a change in American policy in the Middle East might be another reason for changing its oil strategy.

    A major goal of Saudi Arabia’s low-price strategy was to reduce global investment in oil exploration and production capacity.  This seems to be working.  A year of low prices has led to the
    cancellation of many oil capital projects to maintain production in old fields
    and open up new fields in other countries. 
    So far, industry analysts think about $200 billion of capital projects
    have already been cancelled or delayed. Many U.S. shale drilling rigs have been taken out of production.  This means
    less global oil production in the future, higher prices and a stronger long-term
    position for Saudi Arabia.  And possibly for the United States.  When WTI crude prices go above $60/barrel, or possibly lower with the continuing reduction in production costs, U.S. shale production will start expanding and new drilling will raise production above the recent level of 9.2 million barrels/day.

    Geopolitics and Religion: 
    Saudi Arabia, Iran and Russia

    Saudi Arabia and Russia are the world’s two largest
    exporters of oil.  Between them and with Saudi
    Arabia’s allies, they could jointly reduce exports and raise world prices.  As long as the world price stayed below $60/barrel, most U.S. shale producers would continue to lose money and probably be
    forced to reduce production further. 
    This would also reduce the economic pressure in Russia, which is in
    recession.  Russia would probably run a larger trade surplus and earn more hard currency to support domestic debt and reduce the government’s deficit. Russia might also decide to match Saudi discounts.  Europe still depends on
    Russia for most of its imported oil and natural gas.  If Russia can maintain its dominant position in Europe, the end result might be the lifting of European sanctions and more Russian interference in Ukraine.

    But geopolitics has intervened.  Iran, subject to punishing economic
    sanctions, agreed to delay its nuclear weapons program in exchange for the
    lifting of the sanctions.  This resulted in tens of
    billions of dollars becoming unfrozen and Iran could increase oil production and
    exports.  Iran has said it will use some
    of the money to modernize and expand its oil industry, increase exports by ½
    million barrels/day almost immediately and continue to increase production and
    exports in the future.  This negates the
    Saudi’s strategy of reducing global production by pressuring American shale
    producers.

    There is no way that Saudi Arabia will do a deal with Iran.  They are bitter enemies.  Besides rivals for control of the Persian
    Gulf, Iran is the leading Shia country in the Middle East and Saudi Arabia is
    the dominant Sunni country.  They are
    fighting a war by proxy in Yemen.

    To make the situation even more bitter, if possible, there
    is Syria.  The Syrian government is Shia,
    supported by Iran, and Iran’s and Syria’s client, Hezbollah.  Both Iran and Hezbollah have sent troops and
    military aid to the Syrian government, whose main opponents are Sunni, including al-Qaeda
    and Islamic State. 

    The Syrian government has long been a client state of Russia.  Vladimir Putin has decided to give military
    aid and air power support to Syria.  After Turkey shot down a Russian bomber, Russia increased the military technology, and probably the number of Russians, it based in Syria.  It
    is highly unlikely there will be a political settlement in Syria, where Shias are
    in the minority, that would be acceptable to the Syrian president, Russia, Iran, Saudi Arabia and the Sunni opposition groups. 

    Russia has also signed economic and technical agreements
    with Iran.  Any chance that Russia and
    Saudi Arabia would cooperate to reduce global oil production in the near future has disappeared.

    The United States and Saudi Arabia

    One reason that Russia has initiated more contacts with
    Iran, and supported Iran’s goals in Syria, is that it appears the Obama
    administration has been slowly moving away from the alliance with Saudi Arabia
    and towards some sort of détente with Iran. 
    Washington worked hard to come to an agreement with Iran, despite past
    animosity.  Also, American support of
    Saudi Arabia’s bombing campaign of Shias in Yemen has been almost invisible.

    The United States (and Russia) have learned some bitter
    lessons about the limits of military power in Afghanistan and the Middle
    East.  Maybe it is time to review
    America’s reliance on Saudi Arabia as an ally. 
    Think of the history:

    Going as far back as Franklin Roosevelt, the U.S. and the
    House of Saud agreed that Saudi Arabia and American oil companies would supply
    America and its allies with oil at low prices in exchange for American
    protection of Saudi Arabia and its oil fields.  Since then:

    Saudi Arabia has nationalized its oil fields and kicked out
    American oil companies (and their alien influence).

    Saudi Arabia has twice cut off oil exports to the United
    States.

    OPEC, dominated by Saudi Arabia and its allies, increased
    the price of crude oil by a factor of 10 ($3/barrel to over $30/barrel) between
    1973 and 1979.

    The Saudi government supports a fundamentalist version of
    Sunni Islam (Wahhabi) and spends money to spread its version of Islam throughout
    the Muslim world.

    Wahhabi Islam is the theological justification for al-Qaeda
    and its offshoot, Islamic State. 
    Al-Qaeda was originally begun by Saudi Arabia and America as a weapon to
    fight the Russians in Afghanistan.  After
    the Russians left, did America think that al-Qaeda would disband?  Did American leaders think that al-Qaeda
    wouldn’t go after secular Muslim states and not remember that Islam has been
    fighting against Christian states for over 1,300 years?

    15 of the 19 terrorists involved in the 9/11 attacks were
    Saudis.   None of the subsequent terrorist
    plots or bombings in the U.S. or Europe were by Shias.

    Saudi Arabia remains one of the most repressive countries in
    the world, complete with religious police.

    America no longer needs Saudi oil.  The U.S. imports only 400,000 barrels per day
    of Saudi oil, only because Saudi Arabia sends the oil to American refineries it
    partly owns.

    America’s protection of Saudi Arabia and its oil fields has come at a high price.  The United
    States committed most of its front-line military to defeat Iraq when Iraq invaded
    Kuwait and threatened nearby Saudi oil fields. 
    Subsequent military involvement in the Middle East has strained American
    military resources and diverted resources from Afghanistan.  One result has been
    the hollowing out of NATO, which could have serious consequences for America’s
    position in Europe.  Eastern European
    leaders, eager in the past to join NATO for protection from Russia, have
    expressed doubts about how much military and political support they could
    expect from NATO in light of increased Russian pressure.  America’s almost total lack of support for
    the pro-West Ukrainian government has made Eastern European governments more
    nervous and, in some states, led them to reconsider their relationship with
    Russia.  A few have called for ending
    economic sanctions against Russia.

    Conclusion: Implications for U.S. Foreign Policy

    The problem with being a global power is that all political
    and military actions in one part of the world have repercussions in other parts of the world and unintended
    consequences like blowback in the future.  This calls for a subtle and flexible set of
    foreign policies.  Adapting to changing
    circumstances and recognizing sometimes there are limited options is
    crucial.  Relying on an outdated set of
    circumstances for an alliance with a rigid Saudi Arabian government limits
    American options in the Middle East. 
    American foreign policy makers should question the wisdom of basing
    decisions in the Middle East on the geopolitical interests of a repressive
    government with no important allies in the region.

    UPDATE (January 17, 2016)

    By executing a Shiite cleric, the Saudis are
    playing a devious and dangerous game. 
    Saudi Arabia sees Shiite Iran as their main geopolitical threat and is
    very nervous about the treaty between Iran and the major powers.  By inflaming relations between Shia and Sunni
    countries, the Saudis are making it more difficult for the U.S. to follow up on
    the lifting of economic sanctions against Iran. 
    The Saudis do not want any détente between the U.S. and Iran, which
    implies a more flexible U.S. relationship with Saudi Arabia.  By executing the imam, the Saudis also hope
    it is more likely that the Iranian hard-liners, who also don’t like the treaty,
    will defeat the moderates in the current government in the upcoming  elections. 
    If they denounce or reject the treaty, the U.S. is once more dependent
    on Saudi Arabia as the foundation for its Middle East policy.  Iran will then be forced to strengthen its
    ties to Russia and China.

    At the same time, the Saudis continue to flood
    the global oil market, leading to even lower prices.  The main target of this strategy is the U.S.
    shale oil industry.  The Saudis hope to
    force the industry to drastically cut production because of heavy financial
    losses.  So far this hasn’t happened but
    virtually the entire industry is losing money (negative cash flow).  On the positive side for the Saudis, the U.S.
    and global oil industry is cutting investment, implying less
    production capacity in the near future. Lower prices is leading to investment by the U.S. shale producers in new technology to reduce extraction costs.

    The Saudis seem to believe that the United
    States government can mentally separate the Saudi’s geopolitical strategy from
    the Saudi’s oil strategy.  They may be
    right.

    Saudi Arabia had a sovereign wealth fund of about $700 billion at the beginning of 2014.  Their government deficit is running at around $100 billion per year.  Cost reductions are politically dangerous because over 80% of Saudis, directly or indirectly, receive their income from the government.  The government runs large social welfare programs and subsidizes the cost of food, fuel and electricity. Over 80% of the country’s export revenue and government revenue come from oil exports.  I would guess that the Saudi government will start to reconsider their oil export strategy sometime in the fourth quarter of this year.