Building the infrastructure for a low carbon future will require oil. While a long term decline for oil’s central place in energy use seems inevitable, we need to ensure that our oil sector continues to contribute to the national economy
By Ranjan Mathai
Reforms announced last week by India’s oil regulator are useful to improve ease of doing business for domestic oil producers, but, for now, the industry’s priority is to survive the oil price collapse.
The industry, it is estimated, employs 50,000 people, and contributes 1.5% of India’s GDP; it meets 20% of India’s requirements, which the prime minister wants raised to 33%. Oil is a strategic commodity, without which the supply chains of the economy cannot function. The price war among oil producers for shares of a dwindling market is forcing reviews of operating costs and future viability. Calibrated measures to protect India’s vital oil assets are, thus, necessary.
ONGC’s cautionary plea that under the burden of high taxes, cess and royalties, it cannot cover the cost of producing oil when prices are below $40 a barrel, has resonance among all Indian oil producers. It is time for the government to abolish cess and lower royalties, to ensure that at least the lower-cost fields operate sustainably in the present price trough. Re-introduction of modest customs duties on crude imports can make up for the revenue losses.
Global oil markets were already oversupplied and marked by severe price competition, even before the pandemic caused demand destruction. The closest parallel to this unprecedented situation was the period 1929-34 when a slew of giant discoveries in the US, led to a production surge during the Great Depression. Despite having started an effective cartel in 1928 to manage global marketing, the dominant US and British oil ‘majors’ could not handle the ensuing price destruction on their own; and it took regulatory action by the US authorities to stabilise domestic production and distribution. The majors prospered, and went on to control global oil markets for four decades; many smaller producers were either bought out or went bankrupt and disappeared from the oil map.
A global cartel would be challenging to build, but it may be attempted. The mid-April decision by OPEC+ and Russia, supported by the US, to cut 10m barrels of production per day proved ineffective as demand was down by 30 mbpd. With offtake declining sharply, the premium on storage capacity spiked to the extraordinary point–a negative price for future oil deliveries in the US. Relatively high-cost shale oil producers in the US are counted among the first to shut shop in this scenario. They could be followed by other high-cost producers worldwide.
A broader decline of US oil would be dangerous for President Trump’s re-election prospects, and he has said that he would do whatever he has to do “to protect tens of thousands of energy workers and our great companies”. He first tried to buy $3bn worth of oil for the US Strategic Petroleum Reserve but was blocked by Congress. Hence, he has authorised a legally tenuous scheme to rent out 30m barrels storage space in the SPR to US producers. Oil stored in May-June 2020 would have to be moved out by March 2021. Trump had earlier warned the Saudis that the US guarantee of their security could be threatened unless they agreed to production restraints. Thus, another round of coordinated cuts cannot be ruled out. Both the Russians and the Saudis have low operating costs but high “fiscal prices” due to budgetary dependence on oil. Meanwhile, US oil companies are among those allowed access to low-interest loans from the $2 trillion relief package approved by the US Congress. In the UK, the Bank of England reportedly allowed debt of oil majors to be eligible for support of the bank’s corporate bond purchase scheme. The majors plan to navigate through the shakeout and retain their role in global energy markets.
China has always viewed oil supply from the prism of national security. It has largely filled its SPR–ten times the size of India’s. It is determined to raise domestic production–even at a high cost–from the present level of 30% of total oil requirements. The former Chairman of Sinopec explained the rationale as preparing for increased antagonism from the US, which would try to exploit China’s oil import dependence. He described ‘basic self-sufficiency’ as 70% coming from domestic sources; and argued that this should be achieved in a decade. Simultaneously, China is seeking to leverage its growing clout as the world’s largest oil importer to create a Shanghai benchmark for prices; in March, the State Council approved the creation of an FTZ in Zhenjiang for refining and trading of oil.
Proponents of a ‘green future’, decry support for oil and gas and argue that recovery should be based on massive investment in renewables. But all supply chains, even for manufacture of electric vehicles, wind turbines or solar panels, leave alone food processing and daily necessities, are dependent on oil. Building the infrastructure for a low carbon future will require oil. While a long term decline for oil’s central place in energy use seems inevitable, we need to ensure that our oil sector continues to contribute to the national economy and security as long as it is needed.
The author is former Indian foreign secretary and former Indian High Commissioner to the UK