For the U.S. oil industry, the call it had been desperately hoping for finally came on April 2. That's when, for the first time in nearly a month, President Donald Trump picked up the phone in the White House and spoke to Mohammed bin Salman, the Crown Prince of Saudi Arabia and that country's de facto ruler. For the preceding three weeks, the Saudis and the Russians, two of the three largest oil producers in the world, had been engaged in a ruinous price war, after failing to reach an agreement on production cuts in early March.
That decision, made by the Crown Prince, who overruled his older brother, Riyadh's energy minister, set off a devastating chain reaction in global markets. At a time of plunging global demand because of the coronavirus, the two producers increased their production: oil prices collapsed, wreaking havoc in the U.S. oil industry. The price war was irrational, economically speaking, given that the Saudis require $70 per barrel to fund their nation's elaborate social safety net. The Russians need just $40 to meet their budgetary obligations. The irrationality intensified nervousness in U.S. equity and, in particular, credit markets. U.S. shale producers, who need about $40 a barrel to be profitable, are on the hook for $68 billion in debt that's coming due over the next 30 months.
Over the past month, the Trump administration had become convinced that Russia was not the Saudis' only target. Officials believe Riyadh also wanted to wipe out a lot of U.S. shale producers, whose emergence over the last decade had turned the U.S., as of last year, into the leading oil producer in the world. Trump has often boasted about the U.S. becoming an energy "superpower." That was now very much at risk. Trump, according to a White House official familiar with the call, was polite but firm with bin Salman, telling him "enough was enough."
The United States has tremendous leverage over Riyadh. Washington is the Kingdom's ultimate security guarantor and has effectively kept the House of Saud in power for decades. Further, the Crown Prince has a dwindling number of allies in Washington. The 2018 killing of Washington Post columnist Jamal Khashoggi and the Kingdom's unpopular war against Iranian proxies in Yemen alienated traditional allies on Capitol Hill. "It's not like he can get a lot of dinner dates in town these days," says John Hannah, a longtime Saudi watcher and a senior counselor at the Foundation for the Defense of Democracies, a Washington think tank.
The next day, as Trump was meeting with CEOS from the oil sector, the Saudis responded. They would support production cuts of at least six million barrels a day, they said, and would discuss those potential cuts with the rest of OPEC and Russia on Monday. (Moscow is not a formal member of OPEC.) Putin issued a statement saying he could live with an oil price of $42 per barrel. Oil prices surged as a result, rising 15 percent on Friday to over $34.00 per barrel. At the start of the year crude was $65 per barrel before falling to as low as $20 earlier this week.
There are strings attached to the prospect of Saudi and Russian cuts, however, as Trump and the oil executives discussed on Friday. The Saudis and the Russians want U.S. producers to participate in managing the market. The Saudi-OPEC-Russian alliance wants the U.S. as well as smaller producers, including Canada and Brazil, to join in cutting production by a total of 10 million barrels a day, Moscow said. According to Trump administration officials, some U.S. shale producers are willing to go along in order to try to get prices up.
The U.S. oil majorsExxon, Chevron, Conoco Phillipsare hesitant. Coordinating production cuts raises obvious antitrust issues, particularly since any global effort to slash production would need to involve the European major companies as well: BP, Royal Dutch Shell and French giant Total. The Justice Department would need to pledge to look the other way before the majors would play along, energy analysts say. Moreover, with solid balance sheets, they were no doubt looking to pick up distressed assets from over-leveraged shale producers.
Everything was on the table at the White House on Friday. The executives discussed the possibility of U.S. production cuts and debated whether Trump should apply tariffs to Saudi oil imports should the Kingdom not follow through with its own cuts. "Every understands that this is a crisis, there is no division on that," said Harold Hamm, former Continental Resources CEO and an informal adviser to Trump.
The collapse in global demand, said Daniel Yergin, vice chairman at IHT Markit and a longtime oil analyst, is unprecedented in modern times. But some of the current crisis mirrors an industry emergency of the past.
Earlier this week, two Texas-based shale producers, Pioneer Natural Resources and Parsley Energy, sent a letter to the Texas Railroad Commission, which regulates the oil industry in the state, asking it to hold a hearing in the hope of setting production quotas in the state.
It has done so before. In an era of collapsing demand and vast overproduction, the governor of the state actually sent in thousands of armed National Guards and Texas Rangers to shut down production in east Texas. The railroad commission issued "pro-rationing orders," which were enforced by state troopers. The year was 1931, two years into what came to be known as the Great Depression.