Middle East unrest causing instability in world oil markets

As we watch crude oil prices climb past the $100 mark and prices at the pump creep well past $3.00 a gallon, some of us are wondering what effect this will have on the economic recovery in the US and elsewhere and what it portends for the oil and gas industry as well. The consensus among those who earn a living making economic forecasts is that sustained high oil prices will have a negative impact on economic growth, and slow growth would not be good for the energy industry either.

Of course higher prices generally mean bigger profits for oil companies, but continual high prices for months and months means that on the retail level consumers will start to adjust their habits, drive less, car-pool with neighbors, and think twice about that cross-country road trip. If the economy slows down again, demand will decline and oil prices will have to adjust to this new paradigm.

In a nutshell, it means that, ideally, prices should be high enough for industry participants to make a nice profit, but should not be too high for too long. Excessively high prices are counterproductive.

What is driving the current run-up in crude oil prices? The uncertainty caused by the conflicts in the Middle East is a significant factor. Prices seemed to rise almost overnight when Libya, the fourth-largest oil exporting nation in Africa, was forced to cut off an estimated 75% of its 1.7 million barrels per day of production, 1.5 million barrels of which are exported, mostly to Europe. Think what might happen to oil prices if this were Saudi Arabia, the world's largest oil exporter.

The protests against the governments in Tunisia, Egypt, Bahrain, Jordan, Oman, Iran, and Libya and the ensuing violence in many of those countries not only has Middle East leaders worried, it has European and other countries concerned as well. The Europeans, Chinese, Japanese, and others who rely on oil imports from Middle Eastern countries are worried that oil supplies will be dramatically reduced or cut off entirely from countries that may be embroiled in a civil war. Quite a few international petroleum companies could be affected by the strife in Libya and potentially in other countries as well.

There are currently 35 foreign oil and gas companies active in Libya, including leading NOCs and IOCs from every continent except Antarctica, according to UK-based Evaluate Energy, an energy research firm. Some of the most important foreign producers in Libya are ENI, OMV, Repsol-YPF, ConocoPhillips, Hess, Marathon, Occidental, and Suncor. In addition, there is a second tier of companies that are producing, but on a smaller scale. These include Statoil, GDF Suez, Total, Wintershall, and Gazprom. Shell, RWE-DEA, and Australia's Woodside Petroleum also have a presence.

"Although there may be short-term mayhem, Libyan oil and gas prospects may improve in the medium term as a result of structural changes that take place now," said Evaluate Energy's Dan Krijgsman.

He added, "Libya may not be as strategically important to its trading partners as many other Arab oil and gas producers, but it is definitely now well connected to many countries and companies worldwide, which makes the current disruptions a truly international, not local, issue."

Saudi Arabia seems to be immune from the unrest at the moment, but no one knows if that situation will change. On Feb. 23, the Saudi monarch promised $37 billion in benefits to low- and middle-income citizens, including funds to alleviate the country's chronic housing shortage. He obviously hopes that taking this step will head off unrest and insulate the country from the current wave of uprisings.

To address the decline in oil exports from Libya and elsewhere in the region, Saudi Arabia says it will increase its own production accordingly, although some industry observers doubt whether Riyadh has the excess capacity needed to ramp up production to this level. If the Saudis are unsuccessful in alleviating the oil export shortage, expect prices to continue to climb.

Libya alone probably won't cause too much instability in oil markets. However, if the protests continue to spread, possibly even outside the region, industry analysts are concerned that prices could spike to $125, $150, even $200 a barrel, depending on which countries may be affected by the strife.

In Europe and the US, sustained high oil prices are likely to slow the pace of growth, and the already-high unemployment rates in some countries will rise. In emerging nations in Africa and Asia, including China and India, the impact of higher prices will be worse because it means food prices may climb beyond affordable levels. In short, the pro-democracy movements in some countries may inadvertently cause people to suffer in others.

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