An energy and geopolitical earthquake: The Saudi-Russian long-term oil deal

Last month, Reuters reported that both countries are working on a deal to actively manage oil markets for potentially the next 20 years.

Saudi Arabia's Crown Prince, Mohammad bin Salman, told Reuters: "We are working to shift from a year-to-year agreement to a 10-20 year agreement."  

The announcement of such deal by the highest authority may well represent a major geopolitical earthquake, catching everyone by surprise.

This historical deal came as a cherry on top of the cake of Saudi-Russian bilateral relations which have warmed noticeably in the last two years. Saudi Arabia’s and Russia’s closer political and commercial cooperation, going beyond regulation of oil prices, has indicated a new chapter in their relations which may have a significant impact on the geopolitics of the Middle East and global energy sector as well.

Last October, Saudi King Salman became the first Saudi monarch to visit Russia, providing the country, which has been facing Western sanctions, with investment and political support.

The occasion was marked by creation of a $1 billion joint fund, with numerous deals and joint ventures coming in the future.

The two governments signed 15 cooperation agreements in the fields of defence, technology, energy, space, and the agricultural sector, including Moscow’s readiness to sell Riyadh the most advanced missile defence system in the world: the famous S-400.

Last October, Saudi King Salman became the first Saudi monarch to visit Russia, providing the country with investment and political support

Shake-up of global energy market

Chris Weafer, a senior partner at Macro Advisory Ltd, a Moscow-based consultancy, told The New Arab that the announcement of the long-term oil deal is certainly something of an earthquake in the global energy market.

"It was entirely unexpected and seemed utterly impossible right up to the deal been announced," Weafer said. 

"Even then a majority of analysts in Russia did not expect the deal to work and assumed it would fail very quickly. The fact it has been so successful and that Russia has adhered to the agreement so closely was certainly a big surprise," he added.

Dr Cyril Widdershoven, a senior consultant and SVP Research at MEA Risk LCC, explained that the growing cooperation between Moscow and Riyadh should not be underestimated, as both have same goals in the region.

According to him, Putin is looking not only to expand Russia's influence in former alliance partners Syria and Algeria, but also in Egypt and Saudi Arabia.

"The latter needs to be seen as a direct attack on Washington's overall MENA position. Within the OPEC issue, the current cooperation is unprecedented. It not only expands the reach of OPEC but also is a possible power shift within OPEC itself, as Saudi-UAE can now play the Russian card without having to look at Tehran," Dr Widdershoven said.

Saudi Arabia and Russia, whose combined oil output totals more than one-fifth of global supplies, led the way between OPEC and non-OPEC producers to reach an agreement in early 2017 which cut oil production and is still in effect.

Read also: Saudi-Russia oil alliance likely to weaken OPEC's role

Parties to the historic deal agreed to curtail crude oil production by 1.8 million barrels per day, aiding the crude markets to climb out of the abyss. Prices have significantly recovered since than to above $60 per barrel after crashing down to about $30 at the start of 2016.

It is clear that the last year deal represents the foundation for a broader relationship between Saudi Arabia and Russia. 

Dr Naser AL-Tamimi, an independent UK-based Middle East researcher, political analyst, and commentator, recalls that the International Energy Agency said recently that OPEC could declare "mission accomplished" in its battle to reduce global glut and shore-up oil prices.  

"Without question, signing a long-term deal between the two of the top three producers in the world, Saudi Arabia and Russia, would be one of the most important developments since the creation of OPEC almost six decades ago," he told The New Arab.

Without question, signing a long-term deal between the two of the top three producers in the world, Saudi Arabia and Russia, would be one of the most important developments since the creation of OPEC almost six decades ago

Russia joining the OPEC? 

The Russian-Saudi oil romance has triggered speculations about the possibility of Russia becoming an official member of OPEC.  

However, Dr Widdershoven does not think this feasible, as it is constraint by regional and geopolitical considerations. He also noted that even though most of Russia’s oil companies are state-owned, the role of the oligarchs should not be underestimated. 

Weafer observes that President Putin has been consistent in his view that Russia needs to stay engaged with multiple countries and organisations and to never again become too close, and therefore, too vulnerable to any one region or country or organisation.

"The odds of Russia joining OPEC are much less than 20 percent in my opinion," he said.   

Putin is looking not only to expand Russia's influence in former alliance partners Syria and Algeria, but also in Egypt and Saudi Arabia

The deal is good economics for Russia (and Saudis)  

Today it is expected by most observers that Russia is committed not only to this deal but to a close working relationship with Saudi Arabia and with OPEC.  

Weafer explains that such cooperation represents both good economics and good politics for Kremlin. Good politics because of closer engagement with Saudi leadership, something that was unheard of up to only a few years ago. Russia was always viewed with suspicion in the Gulf States. 

Dr Widdershoven believes that the agreement will most probably include production volume cuts, regulation of the oil markets and increased bilateral investment schemes. For Moscow, the dream is to open up Saudi Arabia and other Arab producers for investments and operations of Gazprom, Rosneft, and others. At the same time, Moscow for sure can use Arab/Saudi investments in its oil and gas, and other economic sectors. 

The recent deal, explains Weafer, is very good economics for Russia because the Federal Budget will break even this year at approximately $57 (Brent) per barrel… at the average price of $70 p/bbl the budget will run a surplus of $25 billion.

At an average of $80 p/bbl the surplus would be over $40 billion. Clearly, at these levels Russia does not have to worry about sanctions imposed by the US or the EU. It does not have to borrow any money externally and has plenty of financial reserves to bail out the big companies which are impacted by the sanctions. 

Finally, the combination of higher oil price and weak Rubble, which Russia allowed to free-float in early 2015, means that Russian oil producers are amongst the cheapest cost producers in the world (costs in Rubbles while earnings are in dollars).

That means that the previous criticism of the OPEC deal, from the heads of some of the big oil producing Russian companies, has now completely gone and they too are very supportive of continuing support for OPEC. 

The devil is in the details 

	Saudi-Russian bilateral relations have warmed noticeably in the last two years [Getty]

There is still no official confirmation of such a deal, and the details have yet to be ironed out, and the devil is in the details, as the saying goes.

First of all, geopolitical discrepancies between Saudi Arabia, UAE, Iran and Russia, must not be neglected. Dr Widdershoven believes that Russia's continuing support of Iran could have a negative impact on the results of the so-called R-OPEC deal.

Riyadh and Abu Dhabi also will not like to anger Washington or the West, as they are still needed in case of liberalisation of the Saudi economy, arms technology and investments in the Saudi Vision 2030 schemes. It also remains to be seen, Al Tamimi noted, how Moscow and Riyadh will rein in countries like Iraq and Iran which have the potential for significant long-term production increases.

It is also unclear if countries such as Libya, Venezuela, and Nigeria are able to rebuild former output levels very quickly, and whether Saudis and OPEC can control member state’s oil production at the agreed aggregate level. If not, Weafer is convinced that it is then quite sure that  Moscow would probably be less interested in the deal as it would mean a loss of market share.  

Additionally, it’s difficult if not impossible to predict the market conditions in the future. 

Most analysts believe that Russia will agree to an extended cooperation deal with OPEC. That may mean an agreement to keep the current production curbs into 2019 but, more likely, Weafer noted, it will probably look like a deal whereby Russia and OPEC will agree to a mechanism to cut production in the future "if it is required" to keep the oil price in the target range. 

But, Al Tamimi observes that any Saudi-Russian deal would face the same challenge: avoid empowering shale oil. In this area, there are differences in the assessment regarding the. Russian oil companies believe Riyadh is underestimating shale all over again. From their perspective, Saudi pushing for higher prices is only storing up more trouble.

Reasonably high oil prices, would in principle be preferred by both Saudi Arabia and Russia; however, Abhishek Kumar, Senior Energy Analyst at Interfax Energy’s Global Gas Analytics in London, told us that this may not necessarily translate into the two countries embarking on a long-term agreement. Russia could also be sensitive to losing its top oil-producing nation status to the US. 

Weafer explains that the current oil price is perfect for Russia. It aims to balance the federal budget at $43 p/bbl in 2021 so anything above this is generating a surplus. If Saudi wants $80 p/bbl then Russia will be happy with that.

But Moscow does not want to see oil climb back above the $80-$90 p/bbl range as was seen before 2014, he continued.

According to him, Russia fears that a high price will only lead to reduced demand, accelerated investment into electric vehicles and alternative energies and that will risk another oil price collapse in the early part of the next decade." Moscow will oppose any efforts to push oil towards $90 p/bbl because that would be bad for its economic reform efforts and because of the risk of another dangerous collapse. 

Will OPEC regain its power? 

While OPEC (and Russia) are highly motivated to extend their production-cutting deal into a longer-term relationship in a bid to help fend off the next downturn and make the oil market less volatile, this will not automatically win OPEC back the power it once had.  

Weafer notes that we should keep in mind that the energy world has changed with the developed nations moving towards strict climate change targets and the technological advances in non-hydrocarbon fuel sources and especially because of the advances in electric engines.

Putin and MbS are playing a chess game, in which Iran and Qatar are pawns easily offered if there is a need

So, according to him, the best Saudi, Russia and OPEC can hope for is to stabilise the market and try to delay the inevitable shift away from hydrocarbons use in cars and other transportation, by keeping the oil price in a range which is both "satisfactory" for Saudis and Russia but not high enough to force bigger investment into alternatives early. 

Finally, let us not forget that OPEC is facing increased tensions among member states, what is obvious in the case of Saudi confrontation with Iran and Qatar. Some believe that with Russia on their side, Saudis can considerably strengthen their position in the region and within OPEC.

Dr Widdershoven is sure Riyadh and MbS are looking at it in this way. The continuing confrontation with Iran and Qatar is a major issue that has pushed Riyadh to talk to Russia. Putin and MbS are playing a chess game, in which Iran and Qatar are pawns easily offered if there is a need. 

Read also: MbS and MbZ: Two princes in a hurry shake up the Gulf

But this is not necessarily true from Moscow’s point of view. Russia is pursuing a policy of geopolitical diversification and will try to stay engaged with all countries in the Middle-East and avoid taking sides. According to Weafer, Moscow sees itself as something of an honest broker in the Middle-East, i.e. a role which means it has access to all governments and thus can act as a go-between and peace-maker. 

"It means that while Putin can travel to Riyadh and Tehran he can try to resolve differences, bring both sides a little closer and, importantly, try to negotiate a reduction in military tensions. This is why, in recent years, Putin has engaged with all leaders in the Middle East and North Africa, almost without exception," he concluded.

Finally, Kumar believes that geopolitics in the Middle East and implementation of the proposed Saudi-Russia partnership in the energy sector, especially in areas such as LNG, will also impact prospects for the two countries working together in managing the oil market in the longer term.

Stasa Salacanin is a freelance journalist who has written extensively on Middle Eastern affairs, trade and political relations, Syria and Yemen, terrorism and defence