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19 March 2020, Gateway House

Good and bad of low oil prices

The Coronavirus pandemic has caused crude oil prices to crash almost 40% even as Saudi Arabia and Russia pump more oil into the market. Fears are rife that this crisis will hit demand. There are repercussions on the U.S., the world’s top oil producer, on India, one of its new clients, and on the Gulf Cooperation Council countries

Fellow, Energy & Environment Studies Programme

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The Coronavirus pandemic has hit everything – especially the energy markets. Crude oil prices have crashed almost 40% on the back of a demand shock, as also a supply shock as Saudi Arabia and Russia refused to agree on production caps. The U.S., which is the world’s top oil producer, isn’t unscathed – the current oil price is well below the break-even point for many shale oil producers. In this scenario, how will the fall in oil prices play out, and what will be the implications for India?

First, the U.S. has become a supplier of oil to India in the last few years. This necessitates looking at the U.S. shale oil industry and its prospects.

The U.S. has thousands of shale oil producers, who need benchmark prices at $27-$37 a barrel to recover operating costs, and $48-$54 a barrel to profitably drill new wells. With the benchmark oil price at under $30 a barrel right now, many of these producers will face losses.

In such a scenario, the industry will cut down the number of new wells, which will automatically reduce the global oil surplus, and should bring prices up again. Shale oil wells are simpler to drill compared to traditional oil wells, and operations can be restarted in short order. The industry has proved resilient. During the last oil crash (in 2015-2016) there were fears of shale being ‘driven out of business’. However, shale operators were able to reduce their costs then, and will likely do so once again. So it is unlikely that U.S. oil production will collapse all of a sudden.

As far as the Gulf Cooperation Council (GCC) oil producers are concerned, their oil production costs are low, under $10 a barrel. They will not be running into a loss anytime soon. If production is reduced, it will be on the direction of respective governments, which want prices raised as they are dependent on oil revenues. Russian oil production also follows the same dynamic – any reduction will be upon the government’s direction, not because the producing company finds production unprofitable.

For India, lower oil prices are a mixed bag. The country imports 1.4 billion barrels of oil annually. With prices dropping almost to half from $110 a barrel to $60 a barrel, India has saved an estimated $75 billion in its annual oil bill – funds which can be used to revive the economy. However, India is also the world’s largest recipient of inward remittances— $79 billion in 2018. Most of these come from the 8 million Indians who work in the oil-exporting GCC economies. Lower oil prices will severely hurt the GCC economies, driving many of these expatriates/migrant workers out of jobs, and back to India without their remittances.

As with any crisis, fear plays a role. Part of the fall in oil prices is the fear of a global economic slowdown. That isn’t good for any economy, including India’s.

Amit Bhandari is Fellow, Energy and Environment Studies Programme, Gateway House.

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