Oil has shaped geopolitics for generations. But things are changing fast, Part 2

Editor’s note: This piece picks up where the article of the same title and published on November 5 left off.

Mark Carney, the governor of the Bank of England, did little to add to seasonal cheer on the BBC Today programme last week. With Greta Thunberg in the editor’s chair for the day and Carney about to take up a role as a UN special envoy for climate action and finance, the tone was earnest and salutary, with the occasional apocalyptic background note.

The burden of his message was that unless pension funds get a move on with disinvesting in “sunset” fossil fuel industries, they are likely to see £16 trillion of assets rendered “worthless” by the legally mandated requirement for the United Kingdom to reach zero-carbon emissions by 2050.

So far, so gloomy. But it became clear that Carney retains sufficient faith in the inherent self-righting mechanisms of capitalism to believe that not only can the pension funds beat the clock, but also that markets can raise capital and recognise investment opportunities — and that this is the best route to a green industrial revolution. We’ll see, and it may be that, over the next few years, the debate between the climate Taliban of Extinction Rebellion and free market moderates replaces Leave versus Remain as a national pastime.

More importantly, this is a debate that needs to take place and this country, with its mature but adaptable economy, traditions of public discourse and academic depth is well-equipped to undertake it. We face the same global and existential threat from climate change as the rest of the world, but, if that can be negotiated, we might stand to profit locally in a period of unprecedented change.

That’s not how it looks in Saudi Arabia. The recent sale of Saudi Aramco was dressed up as a face saving success. The $25 billion raised at the initial public offering beat the previous record set by the Chinese company, Alibaba. But dig a little deeper and what is portrayed as a market triumph looks like a put-up job. The sale depended on the deep pockets of Saudi and Gulf investors; the first were made an offer they couldn’t refuse by the autocratic Crown Prince, Mohammed bin Salman, and the second were paying their debt to Sunni Arab solidarity. Of international investors, there was little evidence, and, on the basis of the economic evidence, that comes as no surprise.

According to data from the International Monetary Fund, the Saudi government requires a crude oil price of $85 a barrel to balance the books; Brent is currently trading at just above $70 — in response to the death of General Soleimani and will likely fall back to an historic trend price of around $50 in due course. Many of the assumptions underpinning Saudi economic planning were made when oil was priced at $100 a barrel and the Chinese boom looked eternal. Now grandiose spending plans, like the Crown Prince’s Vision 2030, are serviced by borrowing rather than revenue, and, at 8 per cent of GDP, fiscal debt is perilously high.

Neither does the future look much better. As recently as April 2014, Saudi Arabia provided 20 per cent of American crude oil imports, a total now reduced to less than 10 per cent as the shale-based renaissance of the US oil industry gathers pace. Whenever crude oil prices top $50 a barrel, US shale companies lock in future sales, and, with reserves in the US Permian Basin now bigger than the half depleted Saudi Ghawar field, the supply side of the oil equation looks heavily weighted against Saudi Arabia.

The International Energy Agency offers little comfort on the demand side either. Its recently published World Energy Outlook sees oil demand halved by 2050 and electric car sales comprising 47 per cent of the market by 2030, 72 per cent by 2050. Taken against this background, Saudi Aramco looks like the share price of the nation: artificially inflated and unsustainable in the long run. So, less than 50 years after the oil price revolution started in 1973, what would the strategic consequences of Saudi economic failure be?

The first problems would be domestic. Ibn Saud led his forces out of the desert and on to the world stage a century ago and the Kingdom of Saudi Arabia was only formed in 1932. Compared to an Iranian cultural history measured in millennia, the Saudi national identity is thin and its resilience untested. It is also based on a client relationship between a hereditary ruling elite and a young and compliant population, more than half of which is under 25, that is bought off by a feather-bedded welfare system from cradle to grave.

Add to this the fourth largest military budget in the world, the running sore of the war in Yemen, the fury in Iran over Soleimani, and the Ozymandian ambitions of the Crown Prince and you have a combustible mix. Whether the centre will hold as the handouts are cut and the tanks break down is unlikely, and it may be that the Saudi people take refuge in the source of their true wealth: stewardship of the holy places of Islam. However things turn out, the fragile Saudi social contract is likely to break and the decadence it has encouraged is a poor preparation for a more demanding future.

Domestic problems would have only added to Saudi’s now considerable regional challenges. Saudi leadership of Sunni Islam has become an assumption of Middle Eastern geopolitical dominance. But just as power within the region has drained away from the ancient capitals of Cairo, Baghdad and Damascus, so it might desert Riyadh — but probably far more quickly.

If so, where does the baton of Sunni leadership go? Perhaps nowhere. The economic power of the traditional big players in the region has flowed into the Gulf States but it has not been accompanied by political power, and Dubai, Qatar and the UAE have neither the scale nor the provenance to take on a leadership role. In which case, Sunni leadership will probably remain with Saudi Arabia and simply atrophy.

Two beneficiaries will emerge from this process: Israel and Iran. Israel has an improbable community of interest with the Sunni Arab states, as a result of their mutual antipathy towards Shia Iran. A reduced Saudi Arabia would allow Israel to increasingly call the shots within that relationship.

But the real winner would be Iran, which now, newly-energised by what it regards as a profound outrage against one of its most senior officials, is set to re-assert itself. What’s more, Iran is equipped with a civil society which is much more sophisticated and durable that its Saudi rival. The two countries, and by implication the two main strands of Islam, are fighting proxy wars in Yemen and Syria and it is difficult not to see the balance of advantage in what might be the 30 Years’ War of the 21st century moving in Iran’s direction.

One of the ways in which Saudi Arabia is trying to mitigate the impact of a reduced demand for oil is by massive investment in oil products — mainly plastics. Almost all this investment has taken place in Asia where there is demand and less opprobrium than in the censorious west. At the same time, the ships that carry oil and gas from the Arabian Gulf now overwhelmingly turn east as they exit the Strait of Hormuz in order to service the appetites of the Chinese, Japanese and Korean economies.

While America has been slow to execute what President Obama described as a strategic pivot to the Pacific, circumstance and, latterly, policy has driven Saudi Arabia to make the same move but with much greater alacrity. This plays neatly into the Chinese Belt and Road initiative, and, while it lasts, Saudi investment in Asian industrial capacity and infrastructure will be the complicit partner of Chinese economic imperialism.

Finally, as it approaches self-sufficiency in oil production, America seems to be settling for a semi-detached role in the Middle East and conventional wisdom has it that Russia has immediately filled the gap. But the unreformed Russian economy shares many of the dependencies of its Saudi equivalent and whether it is capable of a sustained role, or simply a cameo appearance, remains to be seen. If the latter, the Middle East will be without an external arbitrating power for the first time since 1945 at a time when moderating influences are sorely needed.