Oil Prices Provide Market Relief, But for How Long?

It’s one of the great ironies of the economic world that our current oil crisis stems from too much oil sloshing around. This over-abundance put downward pressure on prices, which briefly dipped below thirty dollars a barrel earlier this year. Companies and nations dependent on oil revenue reeled as their cash flow dried up. Small oil-exporting countries like Venezuela teetered on the edge of economic collapse. Bigger exporters, including Brazil and Russia, suffered as they burned through their limited foreign capital reserves. The world teetered on the edge of financial turmoil as prices dropped and oil-storage facilities overflowed.

Prices recovered somewhat recently, climbing into the mid-forty dollar range, providing limited relief to small U.S. oil companies trying to keep the lights on.  It also gave banks what will inevitably be a brief respite before the coming onslaught of defaulted loans to oil industry players big and small. The momentary recovery puts prices in a range where most energy companies can produce oil without losing money. But the future doesn’t look bright. The collapse of the oil debt bubble may have been merely delayed.

The Saudis’ True Agenda

During tough times you find out who your friends are, and if this oil crisis has taught us anything, it’s that Saudi Arabia is not our friend, and definitely not an ally. You’d think we would have learned a lesson about shipping massive amounts of military hardware to Middle Eastern nations we thought were our friends. Historically that would include countries like Iran…and Iraq…and it’s easy to see in hindsight where that got us. Yet we keep repeating the same behaviors, making the same mistakes, and hoping for a different result. The Saudis demonstrated their true character when they threatened to sell billions in U.S. Treasury securities if we allowed 9/11 victims to sue them for damages. If you remember, most of the 9/11 hijackers were from Saudi Arabia, and that nation has spent big bucks trying to influence our lawmakers to shield them from the consequences.

Sabotaging Domestic Production

Back in 2014, OPEC, which is basically run by Saudi Arabia, decided to maintain production rates in the face of falling prices, driving those prices even lower. That was a direct shot at higher cost shale and tar sand oil production in the U.S. and Canada. Eighteen months later the data shows North American oil producers are shutting down facilities nearly every week, and domestic oil production is dropping. Meanwhile, Saudi Arabia’s also trying to end-run any attempt by Iran, now emerging from years of crippling trade sanctions, to sell its oil on international markets – further inflaming tensions in a region where tensions are the one resource more plentiful than oil.

The Oil Debt Bomb

Oil prices going down isn’t all bad for the U.S. economy, but the cost to our economy of a hostile foreign nation sabotaging our domestic oil production is huge. For one thing, it sets up another 2008-style debt bomb, only this time it’s the energy sector, not the housing market. Bottomed-out oil prices make it virtually impossible for energy companies  to pay back all the money they borrowed to take on more expensive oil extraction projects.  Before oil prices recovered recently, energy loan defaults were running at levels we haven’t seen since 2009. We encouraged domestic oil production when oil was $100 a barrel. Remember the chants of “Drill, Baby, Drill”? Well, drilling costs money, and so energy companies lined up to borrow money for the exploration we demanded. Now they can’t afford to pay it back.

So today we have the Saudis threatening us with economic retaliation at the same time they’re trying to bury our domestic oil industry—and picking a fight with Iran, potentially drawing the U.S. into yet another endless military commitment. So potentially we could get smacked by the oil debt bomb at the same time we’re forced to increase deficit spending to cover military involvement in a possible new Middle East skirmish.  After all, they’ve already shot at us once. That’s not to mention our so called “friends” threatening to dump hundreds of billions of t-bills on the market at the same time.

Don’t let a momentary recovery in oil prices lull you into thinking happy days are here again; all the triggers for disaster are still in place. When the oil debt bubble bursts it could easily make the 2008 real estate bubble that led to the Great Recession look like a warm-up act.