An End to Saudi Oil?

By Karen Elliott House in Features, Nov | Dec 2012, Special, Special Energy Report on October 31, 2012 at 12:00 pm | 6 Comments

Nobody understand oil better than Texans—except the Saudis. So it’s worth the U.S.’s largest oil producer knowing the world’s largest oil exporter. Saudi Arabia may seem stable, but Pulitzer-winning longhorn Karen Elliot House, BJ ’70, Life Member, sees a precarious kingdom. In her new book, On Saudi Arabia, House gives an in-depth look at a mysterious Middle Eastern country whose oil production may soon reach peak.

The Kingdom of Saudi Arabia’s national oil company, ARAMCO, is run by Texas-educated CEO, Khalid al Falih. Falih says oil accounts for nearly 90 percent of all the revenue in the kingdom’s treasury. That’s how dependent on oil is Saudia Arabia, a country nearly three times the size of Texas with roughly the same population.

If ARAMCO is the kingdom’s almost sole source of revenue, it also serves as the world’s Strategic Petroleum Reserve. Whenever oil flows have been disrupted over the past four decades, Saudi Arabia has stepped up its production to provide a cushion against price shocks to the global economy. Again this year, as the West boycotted Iranian oil, Saudi Arabia has raised production to roughly 10 million of its 12 million barrel per day capacity.

Those days soon may be over. Some experts believe the kingdom’s major oil fields are nearing or have already reached a peak and production will decline going forward. That is what happened in the U.S. after 1970, when American oil production hit a high of 9.6 million barrels a day before declining sharply to roughly 5.5 million barrels a day in 2011—and just as Texas oil production has declined to around one million barrels a day.

New technologies may enhance oil recovery from known fields and make profitable its extraction from other unprofitable fields at present, giving both Texas and Saudi Arabia renewed oil income. But Texas and Saudi Arabia seem likely to be knotted in their interest in the future of oil for many years to come.

Continuing Saudi oil flows at reasonably stable world prices is essential to both the industrial world and to the Al Saud, the family that has ruled the kingdom established in 1932. While a spiking oil price produces more short-term revenue for Saudi Arabia, that has not been the kingdom’s strategy.

For one thing, the conservative royal family does not want to risk the enmity of its U.S. protector and of the wider industrial world whose prosperity is so dependent on oil. Furthermore, the Saudi government invests its oil revenues in U.S. dollars and other foreign currencies and has no interest in seeing those currencies collapse. Finally, prolonged oil prices at extremely high levels might actually prompt industrial countries to get serious about developing alternative energy sources, which is not in Saudi Arabia’s longer-term interest.

So stability at reasonable prices serves all interests. “The Saudis learned that the oil weapon is a boomerang,” said James Schlesinger, America’s first secretary of energy, in an interview nearly forty years after the 1974 Saudi embargo. “The Saudis want us using oil for as long as possible.”

Schlesinger, long retired, now says he never supported seizing Saudi oil fields during that embargo as has been rumored. He acknowledges he did think seizing the tiny UAE’s oil fields might serve as a “demonstration” to the Saudi regime. But he calls the idea of seizing Saudi oil fields “kind of crazy.” The country’s large population, he notes, would make occupying Saudi Arabia very difficult.

These days the United States is a relatively modest importer of Saudi oil: imports are around 1.2 million barrels a day or roughly 12 percent of total U.S. oil imports. More Saudi oil is being sold to Asia and more Canadian and Mexican oil is being sold to the U.S. Direct imports are not the point, however, since global oil flows are fungible, and any significant change in Saudi production immediately would affect global prices and thus the price American consumers pay at the pump.

The ultimate irony in the U.S.-Saudi relationship based on oil for security is that in the coming years Saudi Arabia’s oil exports are virtually certain to decline sharply, both because of the rapid rise in Saudi domestic consumption and because Saudi production may have peaked and may already be in decline.

In a country where a gallon of gasoline is cheaper than bottled water and government energy subsidies are roughly $35 billion annually, Saudi energy consumption is rising at what one energy official calls an “alarming rate.” If this trend continues, Saudi consumption of energy could more than double to 8.3 million barrels a day of oil (or equivalent other energy) by 2028, roughly equal to the 8.6 million barrels a day of oil the kingdom exported in 2010.

As domestic energy demand grows—along with global demand—so does the number of oil experts who insist that Saudi oil production has peaked and, indeed, is already in decline. Saudi Arabia refuses to provide transparency on either production or reserve numbers. Indeed, shortly after it took full control of Saudi ARAMCO in 1980 from the Americans, Saudi ARAMCO abruptly announced that reserves were 150 billion barrels, far more than the 100 billion barrels the American management had said existed in 1977.

By 1982, the number was put at 160 billion barrels. Then in 1988 Saudi ARAMCO raised its reserve estimate by yet another 100 billion barrels, a nearly 150 percent increase in the nine years of Saudi control! No convincing evidence ever has been provided to support the increase.

And tellingly, in 1982 the kingdom and other OPEC oil producers ceased releasing production data by field, reducing the transparency on depletion of oil. Finally, Saudi Arabia has not revised its reserve estimate since 1988, even though it has pumped somewhere between 5 million and 9 million barrels a day for the intervening two decades, for a total of nearly 50 billion barrels.

All this led Matthew Simmons, chairman of Simmons & Company International in Houston and the author of Twilight in the Desert: The Coming Saudi Oil Shock, to challenge Saudi reserve estimates and the country’s ability to continue to serve as the world’s “swing producer,” raising production in times of high demand and then taking oil off the market when demand declines to keep prices stable. In short, Saudi leverage on the world market has become more limited.

In this meticulously researched book on Saudi oil fields and their production past, present, and future, Simmons, now deceased, examined data in published scientific papers on the four biggest Saudi oil fields which account for 90 percent of Saudi oil production. He makes a convincing case they are in decline, even though Saudi ARAMCO refuses to publish production numbers by field or allow any independent audit of production or reserve estimates.

The giant Ghawar field, the country’s largest, which alone accounts for fully 50 percent of Saudi oil production—and 8 percent of total world production— is 60 percent depleted, he argues. In production since 1951, Ghawar has yielded in excess of 55 billion barrels of oil. Still, Saudi Arabia hasn’t reduced its total reserve estimate. “The death of this great king leaves no field of vaguely comparable stature in the line of succession,” Simmons writes.

That oil is a finite resource obviously is true. That most of the world is oblivious to such momentous events until they recognize them in the rearview mirror also is true. In 1970, the year U.S. oil production peaked at 9.63 million barrels of oil a day, hardly anyone was worried that the world’s largest oil producer was about to see rapid decline in its production. But since 1970 U.S. oil output has fallen to 5.5 million barrels a day in 2010, even as U.S. oil consumption has risen to roughly 20 million barrels a day, or some 25 percent of worldwide consumption. The United States, which in the 1950’s accounted for 50 percent of global energy production, now provides only about 7 percent.

“We are not good at recognizing distant threats even if their probability is 100 percent,” says former energy secretary Schlesinger. “Society ignoring this peak oil is like the people of Pompeii ignoring the rumblings below Vesuvius.” In a foreword to a new report predicting world oil production will peak in 2015, Schlesinger notes that the decline rate from presently producing fields is roughly 4 million barrels each year.

To replace that production and find additional oil to meet growing world demand would require the discovery of the equivalent of five new Saudi Arabias. No one expects that. Since the 1970’s the world has discovered only one new barrel of oil for every three it has pumped from the ground, Schlesinger notes in his forward to The Impending World Energy Mess. (Of course, the world contains other actual and potential sources of energy, but none are yet able to replace oil.)

Has Saudi oil production peaked and entered inexorable decline? Only Saudi leadership knows for sure. Beyond examining arcane data by experts, however, non-experts observe some telltale signs. For starters, King Abdullah, while Saudi regent, warned his countrymen in 1998 that “the oil boom is over and will not return… All of us must get used to a different lifestyle.” Since becoming king in 2005, he has pressed his country to diversify its economy to create wealth, not simply extract it from the ground. Perhaps this is just an elderly king seeking to motivate a lazy populace, but one obvious implication is that the elderly king knows oil is running out sooner rather than later.

Saudi ARAMCO CEO Khalid al Falih is similarly opaque about Saudi oil production. When I asked him in the spring of 2009 whether Saudi Arabia can continue to play the price-stabilizing role of swing producer, he insisted the kingdom still can increase production to balance supply in times of great demand but added, “The question is should we do so? Our long-term depletion strategy is to allow our economy to evolve away from oil so we need to calibrate our production to use our oil slowly so our economy can transform to a non-oil economy. We don’t want to produce so much oil that people in Saudi have no incentive to diversify the economy.”

The sentiments are eminently sensible, but do they derive from choice or necessity? And if the latter, if Saudi Arabia’s total reserves are rapidly being depleted and if production already is in decline, the consequences for the world economy as well as for the Al Saud are alarming. In terms of U.S.-Saudi relations, however, a gradual decline in oil production would almost certainly not mean an end to U.S. protection of the Al Saud.

Even if Saudi oil output is in decline, the pact between the United States and Saudi Arabia likely will remain important for other reasons. It would shift from a relationship built largely on oil for security to one increasingly based on security for security—U.S. security for the Al Saud’s.

It is hard to imagine a scenario in which the United States could be agnostic about who rules Saudi Arabia. In theory, the United States might be happier with a more pluralistic Saudi polity, but that is the least likely future scenario. The reality is that any regime that might follow the Al Saud— revolving military coups, radical fundamentalist rule, chaos in which terrorism flourishes—would be far more inimical to U.S. interests.

For that reason, the United States seems certain to continue to protect the Al Saud in the belief that the Saudi royal family, however fl awed, is more likely to avoid overt hostility to U.S. interests and to try to control terrorism than any regime that might follow it. The House of Saud is busy spreading just that message.
Excerpted from On Saudi Arabia: Its People, Past, Religion, Fault Lines—and Future, by Karen Elliott House. Published in September by Knopf.

Photos by Adel Zairi, Danny Turner, and Shutterstock.

Tags: Adel Zairi, Al Saud, ARAMCO, Danny Turner, House of Saud, Karen Elliott house, Khalid al Falih, King Abdullah, Knopf, Matthew Simmons, oil, Saudi Arabia, Schlesinger