For years my “day job” was being a university professor in political science and international economics. I’d often speak on the subject of “failed states” – countries in which the government had become so weak, while the economic and social problems grew so strong, that governance was no longer possible.
The danger then – and now – was from the power vacuum created by the absence of any real ability for central decision-making. Decades ago, the problem of failed states was a fixture in Cold War thinking.
But over the past several years, the topic has become relevant for a different reason: it’s now a chief concern in the fight against terrorist groups. The lack of any leadership is an enticing invitation for other groups to take over.
Today, for the first time, we’re seeing the two previously separate spheres of collapsing governments and states with (apparent) raw mineral wealth merge.
Specifically, failed states are now members of the OPEC oil cartel.
Saudi Arabia has Split OPEC Down the Middle
As crude oil prices continue to yo-yo in a narrow range between $45 and $50 a barrel, something disconcerting is developing within OPEC. This has more to do with the unraveling of domestic authority than it does with the international price for oil.
The cartel is rapidly dividing itself into its own version of the “haves” and the “have-nots.” Unfortunately, this doesn’t happen in a vacuum. With the split almost irreversible already, the future of OPEC is colliding head-on with the realities of the market.
Lurking in the shadows is another onslaught of violence and attempts at regime change.
All fourteen OPEC members are busy revising their national budgets, readjusting expenditures and raising taxes. All of this flows from the November 27, 2014 (yes, it happened on Thanksgiving) OPEC decision to hold the line on production, despite increasing U.S. shale oil output.
That meant sacrificing price for what the cartel hoped would be protected market share.
However, almost immediately, the “haves” in the cartel – Saudi Arabia, the United Arab Emirates, and Kuwait – effectively began taking market share from the rest of OPEC.
Perhaps they intended it as a short-term exercise to show the rest of the world who’s boss. Unfortunately, we are now 21 months into the process and everyone is still waiting for Saudi Arabia to blink.
Driving prices down made it so that nations that had tied their economic stability to the sale of a raw material (“rentier nations” in the pure sense) suddenly found themselves unable to pay bills or set their domestic agenda.
In fact, this was never really about OPEC as a whole retaining market share…
Saudi Arabia is Now Competing with the Rest of OPEC – and Winning
Instead, keeping up production was about the top three members (the “haves”) in general, and Saudi Arabia in particular, gaining a greater slice of a diminishing pie.
When it became clear that maintaining production would give way to expanding sales, the OPEC monthly quota system was shelved. In the past, the cartel had followed a monthly routine of: (1) determining global demand; (2) subtracting non-OPEC production; (3) calculating the resulting “call on OPEC;” and (4) dividing that call into quotas for each member.
But now, the quotas were suspended and a free-for-all replaced them.
At that point – with prices continuing to drift down – two facts became clear to everyone in the oil business. First, there was no longer any justification to keep oil in the ground.
In the past, withholding from pumping up oil had maintained a price floor, guaranteeing higher profits on whatever one did pump today – and in the future. That was no longer the case. Remember, the fight now is about market share, not about price.
Second, in this environment, improving market share can come (almost) only at the expense of somebody else’s market share. Now, as global demand continues to rise this is not quite a zero-sum gain.
But it’s close. As other OPEC members ramped up production in an increasingly desperate pursuit of declining revenues from more sales, Saudi Arabia opened up the flood gates of new oil unto the market.
That made the plight of “lesser” OPEC countries even more desperate, bringing us back to the problem of failed states.
Several OPEC Members Are Now Failed States
OPEC-member Venezuela is, by every indication, well on its way to becoming a failed state. In this case, this has been “accomplished” without the presence a civil war or any significant domestic terrorist movements.
Libya, on the other hand, already is a failed state. There, a civil war has rendered the central authority unable to govern. Meanwhile, in Nigeria a major terrorist insurrection in the north coupled with serious popular uprisings in the oil-rich Niger Delta has paralyzed the central government.
Angola and Ecuador, while both experiencing political paralysis resulting from ongoing economic problems, are still not failed states. But they are weakening.
Similarly, Iraq’s government is having more and more difficulty in keeping control of – both as a result of its ongoing conflict with Daesh (the regional, derogatory term for the self-proclaimed “ISIS”) and the intensifying sectarian animosity between Sunnis, Shiites, and Kurds.
And Saudi Arabia’s main competitor inside OPEC isn’t much better off…
Arab Spring II is Coming – and OPEC is in Dire Straits
As for Iran, its economy remains in shambles even as it attempts to use post-sanction oil sales as a way of clawing back. Of course, low oil prices make this even harder.
There are also signs that both Iran’s bad field conditions and its many infrastructure deficiencies block any hope of reaching the country’s ambitious production goals.
In fact, this morning rumors came out that Tehran is interested in discussing an oil production cap – another sign of the country’s internal mess. There is, after all, no likelihood of any “breakthrough” emerging next month at the biannual session of the International Energy Forum in Algiers.
But the stage may be set for a Saudi-led move in that direction later this year. I’ll have more to say on this in a few weeks.
In the meantime, here is the most acute problem for this split between the “haves” and the “have-nots” in OPEC: Arab Spring II is approaching.
During the first Arab Spring in 2010-2012, governments in the Middle East and North Africa (MENA) “bought off” popular unrest. Social programs and grants were significantly increased.
The countries that didn’t, or were too slow, collapsed.
The same situation hit in Venezuela, where the Prado unrest mirrored what was happening in MENA nations. Back then, OPEC nations had the luxury of high oil prices to subsidize the massive domestic spending binge. They bought time by spending more of their oil export revenue flows.
Not this time.
With low oil prices and weakened governments, OPEC is bracing for a much more protracted Arab Spring II.
This one is going to get ugly. Even the Saudi push to rein in production towards the end of the year (rather than soon, in Algiers) will be too little, too late.
This will have huge implications for the region and for global energy markets. I’ll be following this closely right here in Oil & Energy Investor.
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