PAR usually waits for the EIA to release their weekly updates (the latest being released on 18 Feburary 2016) before delving into the current state of oil markets. We were going to devote our energies into explaining how the 2.2 percentage point rise in refinery utilization that just occurred indicates demand in the United States is at unprecedented levels, when the Saudi foreign minister stole our thunder:
Saudi Arabia has shocked oil markets by rejecting any prospect of a cut to its oil production, causing prices to fall by as much as 3.5pc.
Adel al-Jubeir, the kingdom’s foreign minister, said Riyadh was still “not prepared” cut production, dashing simmering hopes that talks with Russia about capping output would help reduce the glut of global oil.
“If other producers want to limit or agree to a freeze in terms of additional production that may have an impact on the market, but Saudi Arabia is not prepared to cut production,” Mr al-Jubeir told AFP.
“The oil issue will be determined by supply and demand and by market forces. The Kingdom of Saudi Arabia will protect its market share and we have said so,” he said.
Forward prices for Brent crude collapsed by more than 3pc on the news to $34.25.
As of this writing, Brent has deflated further to $33.33.
Mr al-Jubeir’s comments come after days of back-door diplomacy between the oil giant and its biggest non-Opec rival, Russia. On Tuesday, the two sides made incremental moves towards agreeing a production freeze at January 2016 levels.
Oil had rallied by as much as 9pc on Wednesday following tentative signs that the standoff between the Saudis, Russia and Iran was thawing.
But Iran, Opec’s fifth largest producer, refused to take part in the accord, laying bare the divisions within the cartel, which controls around 40pc of the world’s oil supply.
Oil prices have collapsed by 70pc since late 2014, imposing punishing economic costs on the energy-reliant Saudi economy. Riyadh suffered its second sovereign debt downgrade in five months on Wednesday, after Standard & Poor’s slashed its rating by another two notches to A-.
The downgrade is an OPEC-wide phenomenon…
The negative impact from the plunge in oil prices rippled further throughout crude-producing nations as Standard & Poor’s cut the credit ratings of Saudi Arabia, Oman, Bahrain and Kazakhstan.
Saudi Arabia’s credit grade was cut two levels to A- from A+ as oil prices continued to tumble. Oman’s was lowered to BBB- from BBB+, following a reduction in November. Kazakhstan is now rated BBB-, down from BBB. Bahrain was cut to BB from BBB-, putting it two steps below investment grade and the only one of the four to be rated junk.
The Saudi downgrade comes less than four months after S&P cut the kingdom’s credit rating one level to A+ in late October, when Brent crude was selling for around $50 a barrel. It traded at a high of $34.76 in London on Wednesday. The decline in oil prices “will have a marked and lasting impact” on the biggest OPEC producer, the credit rating company said in a statement Wednesday.
…and it could have lasting consequences:
The collapse in the oil price has hammered the finances of the Saudi Arabia, the world’s biggest crude producer, sparking worries over its economy and fuelling speculation that it will have to depeg its riyal currency from the dollar.
The Saudi foreign ministry has put Saudi Aramco in the same unenviable circumstances that Wisconsin dairymen faced in 1933.
Milk Strike
The Farm-Dairy War was renamed the Milk Strike sometime in the next 83 years to protect the reputation of the Wisconsin National Guard:
The troops responded with violence of their own, and at least three farmers were killed in clashes among picketers, protesters, and soldiers. The milk strikes lost momentum during November, 1933, following the violence and rising milk prices.
National Guardsmen are given a free pass when they kill students or striking union workers, and Wisconsin 1933 was no exception. What was nearly lost in the aftermath of the 1933 skirmishes was the reason milk prices rose in the fall:
In 1932, farm prices were at sixty-year lows. Farm foreclosures, tax sales, and bankruptcies were common. Consequently, Congress passed the Agricultural Adjustment Act of 1933 to restore farmers’ purchasing power and income to levels prevailing between the prosperous years of 1909 and 1914.
There was also the fact persistent deflation that had begun in 1926 also ceased in November 1933, but the impact of governmental regulation and price supports on the American economy also starts for the oil industry the same year as the Wisconsin kerfuffle:
Petroleum Administrative Board Established Sept. 11, 1933, by the Secretary of the Interior. Terminated Mar. 31, 1936, by EO 7076 of June 15, 1935. The Secretary of the Interior was authorized to execute functions vested in President by act of Feb. 22, 1935 (49 Stat. 30) by EO 7756 of Dec. 1. 1937.
Oil production took a dive from 1929-33, only beginning to recover the month Hoover left the White House and his successor started creating government agencies galore. This leads to the teaching of a strange ideology that masquerades as basic economics…
Until 1933, the US government maintained the hands off attitude toward agriculture. However, as the Great Depression brought new desperation to farmers, Franklin Roosevelt’s New Deal sought to help the farmer. For the first time there was a national program to raise farm income by guaranteeing minimum prices for farm goods. New Deal programs managed to save hundreds of thousands of farmers from destitution, but the problem of surpluses would not go away. Farm price supports conspired to raise farm output even further. By the latter part of the 20th Century, the demographic situation had changed dramatically. Where in the first half of the century a majority of the population was in farming, now the agriculture industry was in the hand of a few large firms. In 1996 President Clinton signed the Freedom to Farm Bill, which was supposed to wean farmers from agricultural subsidies. But finding the right combination of policies that would keep consumer prices for food products low while withdrawing subsidies has been elusive.
…an ideology that frequently overlooks the fact that markets are capable of massive, sustained failures:
Members of milk cooperatives met to discuss a strategy for proposing a widespread pricing plan to milk dealers, and classified pricing was recommended as the pricing plan of choice. Milk used for manufactured products which competed with similar products made outside the local fluid market was priced accordingly, which gave the cooperatives a freer hand in negotiating a price for milk sold for fluid purposes. The plan required dealers to reveal the exact use and sales of all milk products in order to determine the correct prices for each class of milk. Surprisingly, dealers accepted the proposal. However, when attempting to institute classified pricing, the cooperatives faced practical problems. For example, there were no means of assuring the accuracy of the dealers’ reports of milk usage. Furthermore, extending classified pricing to non-members to prevent breakdown of the system from price cutting proved to be much more challenging than the cooperatives had anticipated. In spite of the logistical problems surrounding classified pricing, the plan saw extensive use in Boston, Washington, D.C., and Philadelphia around 1918 and increased to cover about 68 markets by 1933 (4).
Even before the Great Depression had its effects on milk prices, classified pricing plans were breaking down. Cooperatives did not have the power to audit the records of processors to determine the accuracy of milk usage reports. Underpayment by processors was widespread because the classified pricing plan lacked provisions for enforcement of the agreement between cooperatives and processors. Furthermore, cooperatives were not able to exercise monopoly control over milk producers and the milk supply, and thus, no credible threat of withholding milk could be made. Because classified pricing was never universally accepted, a processing firm could offer to buy milk from individual farmers for a price that was slightly above the cooperative blend price and limit purchases to an amount close to the firm’s fluid milk sales (4, 5).
(Emphasis Added).
In other words, the agricultural collapse that took place during the Great Depression was the inevitable result of financial chicanery that had ruled the farm-to-table pipeline for at least a decade preceding the October 1929 crash. This episode also demonstrates the necessity of accurate, freely-available information to enforce contract terms. Otherwise…
Disorderliness, which refers to the lack of a predictable, sustainable, and efficient flow of a product to a specific market, ultimately led to the breakdown of dairy markets. If fluid milk markets were to have orderly supply, orderly production was required which further depended on orderly provisions for assembly and distribution. In addition, an orderly relationship between different markets in terms of price and supply was required. Without state or federal governmental intervention, there was little chance of creating orderly marketing beyond the local level. The 1933 Agricultural Adjustment Act (AAA) sought to correct these failures in dairy markets by including provisions for milk and dairy products.
This same situation (a dearth of reliable information) faced the oil industry in 1933 and was only rectified after EIA was created in 1977. However, in the case of pricing mechanisms in both agricultural and petroleum markets, the basic dysfunction has never once been addressed.
Not that solving the pricing problem would help in the current chaos that rules oil markets in 2016. Analysis leads to a sobering conclusion–Saudi Arabia and OPEC are totally powerless, with less actual influence than Wisconsin dairymen.
The Petroleum and Economic Analysis Report 
[…] week we declared that Saudi Arabia and OPEC have become totally powerless, certainly a bold move considering how breathless the media has become in describing Saudi moves to […]
LikeLike