Monday, January 11, 2016

The True Price of "Cheap" Oil - Iran, Saudi Arabia, Russia and the Final Countdown

The falling prices of oil at the retail level in America is considered a happy circumstance, a windfall, manna from heaven that allows Americans to keep on shopping and driving like there is no tomorrow. I posit that this is a "calm before the storm" event.

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We are at a bizarre place in economic history. While analysts have hypothesized peak oil for decades, here we are with rising production costs (tending to confirm peak oil hypothesis at some point), paradoxically plummeting crude oil prices, and an embarrassment of riches in crude oil stored on hand, while demand keeps falling.
The oil glut has left tankers idling at anchorage unable to unload their cargo
“The commercial crude inventory remains near levels not seen at this time of year in at least the past 80 years

In 2014, about 27% of the petroleum consumed by the United States was imported from foreign countries, the lowest level since 1985.

America is awash in artificially cheap crude oil. If I were to ask you where you think America imports most of its crude oil imports from, would you be surprised to find that it is from Canada, eh?  

So, back of the envelope "military math" shows that slightly less than one third of all petroleum imported into the U.S. comes from the OPEC cluster.

If America is so strategically blessed as to be positioned with falling demand for petroleum, vast stores on hand and the ability to produce a reasonable amount and a close friend (Canada) who has lots to buy from, imagine how the middle east scenario falls apart. I spend hours thinking about this, but what the realm of the possible reveals is actually pretty sobering.

First off, the strategy of “beggar thy neighbor” (produce cheaper and for longer until the competition drops dead) employed by all the major producers can only go on for so long before somebody goes broke.  Think of it as vertical rolling scissors used in training, where you are hanging out everything but the dirty laundry to fall slower than your opponent. Just like in that training exercise, the hard deck is invisible. Will cooler heads decide to knock it off?  This time, I am not so sure they will. 
In oil production, the cost to produce a barrel of oil varies by producer and by region.  I found the production costs through December 2014 at the data aggregator and have simplified some selected data for comparison. It shows production cost in USD and shows a range of costs, from simpler to more complex extraction operations.  As I pen this, crude oil is currently listed at $33.16 USD on the  NASDAQ. If cost of production is more than they sell it for, then every barrel of oil sold is actually a loss to the producer.  One gets the feeling that the industry is going to plan to lose money on each transaction, yet "make it up on volume".  It is an insanity that cannot go on.  Certain pain points will be reached and then the wheel of history will turn.  Milo Minderbinder would be proud.

At this time, it may be instructive to take a look at the following report for an overview of what the American petroleum market looks like. Though complex, you will find some material in there that “CARVER MATRIX” flashes in big, illuminated Hollywood marquee letters.  Pour yourself two fingers of Scotch and read this good overall primer on the issue.   

For those of you who forgot that CARVER is more than a role at Thanksgiving, try this:

You can read the source site here

Here you can find some additional CARVER love from none other than RAND's Arroyo Center:  refer to pages 30-32 for the main idea, the whole thing is worthy of space on your hard drive.  For an organizational perspective within the DoD, go straight to pages 4-7 and 4-8 for clear examples. This concept is important particularly as it relates to petroleum and petroleum production, which I will get to in a moment. The concept of the CARVER MATRIX is simple and effective. That is why it is used in planning.  It helps you find the right target. This is where the instructor would usually stomp his hoof on the floor to wake up those napping and prompt people to make note.


O.K., so we have looked at the minutiae of the American petroleum market and the vast infrastructure that holds it all together.  America is not nearly the hostage that other nations are to middle east oil.  Think Japan, think China.  America in comparison has a more diverse network of suppliers. As prices are determined on global markets, there will be a price point where nations will not export oil and use it to try to be the last man standing and price will become a secondary concern.  Oil on hand and under control will become an existential issue.

What event could possibly upset the global apple cart, short of a nuclear exchange?  Well, take a look at the Saudi oil infrastructure for a moment.

Hmmm... centralized, it is.

Here is an article from 2004 that explains how the Ras Tanura terminal figures into Saudi export plans While in 2004 the concern was terrorists, the Saudis' "enemies list" has such a deep bench, opponents probably take numbers to see whose turn it is. 

The Iranians have a ballistic missile force that could enter the equation (go directly to page 31 of the report if you are impatient... lots of interesting detail in the entire document).  

Consider if you will the damage that could be dealt to Ras Tanura (or any of a vast number of soft, squishy, flammable target sets) if the Iranians felt it in their best interests to salvo a few dozen Shahab 3 missiles at it.  What could the Saudis do about it?  

They do have Patriot anti missile batteries and just inked a deal for the latest variants.  How effectively they can employ them is anyone's guess.
Doing back of the envelope work on a hypothetical Iranian ballistic missile strike against Ras Tanurah is an interesting exercise.  

Here is a map, because we all love maps to get situated.  Iranian rockets, if fired in salvos at likely Saudi oil infrastructure targets would saturate the defenses unless the U.S. Navy was positioned with AEGIS air/missile defense cruisers to intercept. The naval vessels, in turn, become targets of cruise missiles if the Iranians were to go down this road.  One might wonder if the priority is to defend themselves, or defend Saudi infrastructure.  This is a sobering point.

Imagine if you will a scenario where Iranian national command authorities have committed to dealing a death blow to the Saudi regime.  The money motivation, as Saudi Arabia artificially depresses the price and hence Iranian revenue, is sufficient enough in today's geopolitical climate. The Iranians see the Saudis as mortal enemies intent on trying to murder Iran though economic warfare (see the earlier post on DIME), it really does not matter what they choose as the excuse to cross the Rubicon over. The end result will be the same.
The first actions taken would be to prepare and disperse the missile transporter/erector/launchers (TEL) and all the support crews and logistics. It would be expected that the Iranians would employ very heavy levels of the Persian equivalent of the Russian maskirovka to confuse the array of Intelligence, Surveillance & Reconnaissance assets (ISR) that track and monitor their every move. This may plausibly be done in a series of exercises that would go on for months, even longer.  The rest of the world typically is much more patient than Americans. They may just wait for large portions of the known ISR section to rotate out, and then hit while people are still reading turnover binders and sitting in mandated EEO briefs.
The goal would be to generate "readiness fatigue" in any defenders while gradually obfuscating intent.  Sort of like the serpent Kaa in “Jungle Book” hypnotizing Mowgli.  Consider under what circumstances ISR might lose track of a few launcher rails or midget subs, as that is all it would take.  American nuclear forces have at times lost track of weapons under their own control, to ask that they keep 100% accountability of the wily Persian's inventories of lesser items would be funny if the topic was not so serious.  Consider the relative cheapness of minisubs, supercavitating torpedoes, anti surface cruise missiles and the mayhem of Iranian suicide squads to be the milieu that such an event would be heralded by.  


Those who were around in 2002 may recall General Van Riper's low tech adaptations employed during his command of the "Red Team" during Millenium Challenge '02, which many believe was a prescient war game. The Navy must keep track of them all, all the time.  The readiness fatigue would degrade defense readiness just as the Iranians were poised to strike.

As a complication, understand that the Russians also are not happy with the Saudis for pumping oil with abandon to drive the cost ever lower.  They, too, see the Saudis as an enemy trying to kill them economically (see production cost graph earlier in this article).  The Russians have several options with this scenario.  They may opt to provide technical assistance to the Iranians.  They could also ramp up the Houthi war and Yemen conflict to distract the Saudi command authorities.  They can help the Iranians support a growing Shia insurgency within Saudi Arabia (the Russians are old hands at that). Do you know where most of the oil is in Saudi Arabia?  If you guessed under Shia sandals, you'd win.

The map shows religious populations in the Middle East and proven developed oil and gas reserves. Click to view the full map of the wider region. The dark green areas are predominantly Shia; light green predominantly Sunni; and purple predominantly Wahhabi/Salafi, a branch of Sunnis. The black and red areas represent oil and gas deposits, respectively.
Source: Dr. Michael Izady at Columbia University, New York

One is left wondering what the current administration would have for rules of engagement if any of this were to come to pass.  Imagine, if you will, if the Russians staged Tu-160 Blackjacks and Su-35 Flankers in Iran, as part of a “friendly exchange” or exercise.  Then, used those forces to execute a concurrent strike on Saudi targets concurrently with Iranian ballistic missile forces. Russian cruise missiles could be launched quite far out, so Saudi scrambling of interceptors would be largely meaningless. Russian crews would never even have to leave Iranian airspace to do this. They could do it from Russia itself, if they so desired. The bottom line is that such a scenario robs diplomats and military commanders of time. In such a game of chicken, does Putin blink first? There is no evidence to date that such would happen. Putin blinks less frequently than a pit viper, at least so far.

Image courtesy of
In conclusion, "cheap oil" is an illusion. As Saudi Arabia has decided to double down in a game of geopolitical chicken with Russia and Iran, it is worth it to mull this over.  Is Saudi Arabia more interested in survival than sticking it to the Iranians and Russians at the behest of its American masters?
Will they go into that dark night?  How far are the Russians and Iranians willing to go?  Are there any conceivable “off ramps” where this whole mess can de-escalate?  As sobering as this is, I think we are going to find out in the final(?) year of the Obama regime.   

        Death by Water

Phlebas the Phoenician, a fortnight dead,
Forgot the cry of gulls, and the deep sea swell
And the profit and loss.
                                   A current under sea
Picked his bones in whispers. As he rose and fell
He passed the stages of his age and youth
Entering the whirlpool.
                                   Gentile or Jew
O you who turn the wheel and look to windward,
Consider Phlebas, who was once handsome and tall as you.
-T.S. Eliot,
The Waste Land

Written by StopShouting contributor and #FAB50 Blog Award Winner Partyzantski, retired Mustang, former FID embedded military Advisor, SASO trainer and scenario developer, Electronic Warfare Aviator, PME instructor, certified Force Protection and Anti-terrorism officer and combat seasoned USMC (0202) field grade intelligence officer. When not blogging or maintaining weapons proficiency at the range, he enjoys cat herding and travel to off-the-beaten-track locales. You can follow him on Twitter @Partyzantski

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Anonymous said...

What happened to the Qatari Royal family members that were kidnapped? Any updates? Recent events and Iran's increasing unchecked aggressiveness would support your thesis in this and the other piece (Saudi anti-terror coalition). I will keep checking back for any updates you may have.

Partyzantski said...

Those are good questions, indeed. That they have effectively dropped off the face of the earth is an indicator that they are still being held for leverage by someone (koff.. IRAN). If they were dead, there would have been some news, an indication, a state funeral for the royals that were grabbed... yet, nothing.

There are alternatives to Iran being the kidknapping entity... but the case is weak for that, Occam's Razor and all. I strongly suspect that Iran is trying to position itself and amass as many "chips" before it goes "all in". If it does so, it will use those chips to attempt to diplomatically peel away any allies that the House of Saud has.

Expect a slow fracture in the Sunni lands, that will suddenly erupt in a spottily fought war, with a high chance of serious escalation. The US and Russia will stay behind client states for the most part, but what we have coming is a potential Cuban Missile Crisis remake with a real crappy script and cut rate actors.

I continue to look over news and try to deep mine as much as I can, but those abductees are nowhere to be found, at least by me. Keep asking thoughtful questions and keep at it... we are at a fulcrum point in history in 2016 that will probably end to no one's satisfaction.