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When it comes to influencing global oil prices by manipulating production levels, many politicians and economists agree that no country is more powerful than Saudi Arabia, the second biggest oil producer in the world after Russia. This was most evident when oil prices dropped from $105 a barrel mid-2014 to a low of $30 a barrel early 2016 at the behest of Saudi Arabia officials to fight off a shale gas boom in the USA.

In the past few years, however, Saudi’s dominance has been threatened by cheaper shale gas exaction technologies in the U.S.A. as well as the lifting of the economic sanctions over Iran, which are into Saudi’s market share. This raised questions among market observers over Saudi Arabia’s status as the dominant influencer over oil prices, and more importantly who is winning the war to control oil prices.

The Oil Spring

The Arab Spring was a blessing for Saudi Arabia. For one, oil supply disruptions in Libya and Algeria further cemented Saudi Arabia’s position as the “central bank of the oil market,” as named by The Economist in a story published in 2011, as it had to cover the resulting drop in supply. Accordingly, Saudi Arabia increased its production from 8 million barrels a day (bpd) to over 9.5 million bpd during the first quarter of 2011, and have rarely dropped production below that threshold ever since. Meanwhile, overall OPEC production dropped from over 27 million bpd to around 24 million bpd between 2010 and 2011.  And with increasing global demand for oil, fueled by China’s economic boom, crude oil prices topped $115 a barrel by March 2011, and have generally remained over $100 a barrel in the following years. This helped the Saudi government stave off social unrest at the time by increasing spending on social services between 2011 and 2013 by almost 20 percent in each year.

The Shale Threat

During the boom in global oil prices, U.S. and Canadian oil miners were finding it financially feasible to start excavating shale gas, which requires expensive drilling techniques but whose production prospects were huge. And as oil was trading at over $100 a barrel, a lot of shale gas excavators in the U.S. had a breakeven price of around $60 for the equivalent of a barrel of oil. Accordingly, demand for oil started to significantly drop. Further reducing demand for oil was that China’s economy was slowing down with GDP growth dropping from over 12% in 2011 to stabilize at under 8% by late 2013 until now. Reflecting this drop in demand was oil prices going from $105 a barrel to under $50 during the second half of 2014.

For Saudi Arabia, the loss of market share to shale gas was concerning, and a further massive reduction in oil prices was a must to quell this boom. Ultimately, oil prices dropped to $30 a barrel, thus making shale gas excavations too expensive, and investments decreased dramatically.

Saudi Arabia had denied on several occasions that it is dropping oil prices to kill off the shale gas boom. According to Khalid Al Falih, Saudi’s Minister of Oil, the drop is necessary to readjust the market after the previous high-price period. For OPEC’s Secretary General, Abdullah Al Badri, talking to Reuters in November 2014, OPEC was clearly entering a battle to regain lost market share. “We answered. We keep the same production. There is an answer here,” he said when asked about OPEC’s response to the U.S. shale gas boom. “OPEC is always fighting with the United States because the United States has declared it is always against OPEC […] And there we are going to see what will happen with production,” said then Venezuelan Foreign Minister Rafael Ramirez during the same event.

To reach and sustain sufficiently low prices, Saudi Arabia increased its oil production by around 1 million bpd as of 2015 to reach 10.6 million. Production ultimately reached a high of 11.25 million bpd by the end of 2016. OPEC total production was seeing a linear increase reaching almost 36 million barrels a day by the end of November 2016, up from almost 33 million mid-2014. Since the increase in production, oil supply had been outstripping demand by an average of 1.5 million bpd. During the third quarter in 2015, the supply-demand surplus ultimately reached 1.72 million bpd.

These decisions showcased just how influential Saudi Arabia was as several OPEC members were already running budget deficits despite soaring oil prices pre-2014, and such a severe drop would only hurt them further. These countries were Venezuela (11.5 % budget deficit in 2014), Iraq (2.69 budget deficit in 2014) and Iran (2.57 budget deficit) as well as Libya (43% deficit), Algeria (8.3% deficit) and Equador (4% deficit). “You think we were convinced? What else could we do?” said an OPEC delegate from a country that wanted a cut in production, talking to Reuters in November 2014. Al Badri was also publically critical of Saudi Arabia’s policy of defending market share over revenue. “We need to remember that low oil prices are bad for producers today and lead to situations that are bad for consumers tomorrow,” he said in June 2016 as reported by Mckinsey.

The war within

For Saudi Arabia, another benefit to low oil prices was that it greatly reduced Iran’s cash benefit from ramping up oil production after economic sanctions were lifted early 2016. They are the two biggest economies in the region with opposing views on everything from the doomsday scenario to the recent wars in Syria and Yemen to setting oil production quotas seeing they are both part of OPEC. “We are a primary target for the Iranian regime,” said Prince Mohammed bin Salman, the second in line for the crown to The New York time in May.

When it came to oil pricing, Iran seemingly lost that war. That was an acceptable loss given that Iran’s economy is more diversified than other OPEC nations. Oil revenue accounted for 23% of GDP in 2014 versus 55% of GDP for its rival Saudi Arabia, and therefore a drop in oil prices would likely hurt Saudi more. And indeed, Iran’s GDP grew by an estimated 2.55% in 2014, and 0.6% during the first quarter of 2015 GDP amid the sanctions that dropped oil production by around 29% and the oil price slump. Saudi’s economy shrank by 14.2% due to the drop in oil prices in fiscal 2014/2015.

The current war between the two nations is over production quotas. “Iran refused to accept production quotas which would have stopped it returning to pre-sanctions output levels, viewing the move as an attempt by the Kingdom to prevent it from resuming its pre-sanctions position in the market,” said Aniseh Tabrizi, a research fellow at the Royal United Services Institute, a think tank.  This refusal allowed Iran to produce 4 million bpd in 2016, the highest since the late 1970s when it topped 7 million bpd. And while this is a fraction of what Saudi produces, the Saudi monarchy and government are worried because, since the lifting of the sanctions, Iranian exports to Europe in 2016 increased by around 60%, which is faster than what the International Energy Agency was forecasting, eating into the kingdoms market share and opening the door to attracting more FDI to Iran. “I think ultimately Iran does not need to export crude or raw materials — we should export petrochemicals or other added-value materials,” said Amir Mehran, head of foreign assets and investment management at Iran’s Bank Pasargad, in May 2016 as reported by CNBC.

This conflict went beyond OPECs meeting rooms. A few months after the lifting of the sanctions, Saudi Arabia banned Iranian-flagged freights from entering its waters and were offering European customers $0.35 cents discounts. “They were targeting Iran’s prospective market,” said Tabrizi. Meanwhile, Iran was offering $0.6 per barrel discounts to its Asian customers, including the largest consumer of oil in the world, China, to undercut Saudi oil and regain market share lost during the sanction years. This was the biggest price difference since 2007.

Winners and losers

The agreement signed last November between OPEC and major non-OPEC producers, including Russia, to cut oil production by 1.8 million bpd (1.2 million for OPEC and 600,00 for Russia) from both OPEC and non-OPEC countries was a landmark event. As per the agreement, Saudi Arabia agreed to a 4.6% cut at 486,000 barrels a day, to produce around 10 million bpd. Meanwhile, Iran saw its production only drop by 2.3 percent to just under 3.8 million bpd as per the agreement. It was a clear victory for Iran who were able to negotiate the lowest percent drop of all of OPEC members. In the long term, the economic and political composition in Iran will allow it gain an increasingly stronger footing, especially regarding oil, according to U.S. foreign affairs expert Dan Lazare in an opinion piece published in Sputnik, a news portal, mid-2016. “So the Saudis will eventually lose this tug of war,” he said.

Worryingly, the agreement, which should have increased oil prices, had no influence as oil prices went from $55 a barrel at the start of 2017 to $50 at press time. The culprit was shale gas coupled with low global demand. “Shale-producing companies have managed to reduce their operating costs in the past three years, enabling them to profit at current low prices and to expand operations if prices rise,” wrote Hadi Fathallah, a fellow at the Cornell Institute for Public Affairs at Cornell University, in a column published by The Cairo Review in April.

With better technology, shale gas’ breakeven price will continue to drop. Meanwhile, market observers see that Iran is better equipped to withstand low oil prices given its diverse economy while Saudi Arabia has strong reserves and its own plans to diversify its economy away from oil by 2030. “For all intents and purposes, the key to winning this war will be who can withstand lower oil prices in the long run,” said Tabrizi.