Oil below Zero

On Monday, 20 April, for the first time on record, oil prices went negative. Futures contracts for May deliveries of West Texas intermediate grade crude oil changed hands for -$40 a barrel. In physical markets in the United States today, Oklahoma Sour and Wyoming Sweet are trading for -$5.75 and -$8.50 a barrel. Oil companies are extracting crude from the ground and paying people to take it away.

The immediate cause is that oil storage facilities are almost full and oil, unlike bulk natural resources such as sand or gravel, cannot be piled up in fields. The storage tank farms in places like Cushing, Oklahoma will soon reach maximum capacity. The problem is not unique to the United States. The Covid-19 pandemic means global demand for oil has fallen by around 35 per cent. At the same time, a war is being waged using oil flows.

The major oil-producing countries realised prices were going to crash in January. Saudi Arabia approached OPEC members and other exporters with plans for a co-ordinated production cut to reduce the fall in prices in February. Russia, sensing an opportunity to push less profitable US shale oil companies out of Europe, refused to cut production. In response, Saudi Arabia launched an all-out price war. In March, Saudi oil flooded markets just as demand was shutting down. Russia’s entire national oil production became unprofitable almost overnight.

The Saudi reaction was enough to strike fear into the oil minister of every oil-exporting state. A precipitous fall in prices would have been enough to bankrupt small companies and force state firms to shut in their wells. In early April, the US brokered a deal with OPEC and Russia to cut production by 10 million barrels per day. It looked liked detente. But, on the side, the US asked Saudi Arabia to shield US shale oil companies by diverting even more of its supply to Europe and East Asia, effectively continuing the price war against Russia (and against Kazakhstan, Azerbaijan, Iran and Malaysia).

If the US and Saudi Arabia continue on this path, oil storage facilities not only in Oklahoma but around the world will fill up, perhaps as early as June. Oil tankers will plough the seas with nowhere to deposit the oil they carry.

The price war is costly to Saudi Arabia, but if it succeeds the effects will be significant. Russia’s oil fields are in frozen tundra. If its wells are shut in they will freeze, and to bring them back would require them to be drilled again. Russia’s most important industry would be set back years. The US shale oil industry will suffer too, but the US government can protect its own. The effects on less stable oil producers – Venezuela, Nigeria, Iraq – are difficult to predict. But they will not be positive.