The Saudi Dilemma: To Cut Or Not To Cut

To cut and push up prices or not to cut and preserve market share, this is the question that Saudi Arabia is facing ahead of this year's December OPEC meeting. It seems like just yesterday when OPEC met in 2016 and decided to cut production by 1.8 million barrels daily, including from Russia, to reverse the free fall of oil prices. At the time, it worked because everyone was desperate. Now, many OPEC members are both desperate while not yet recovered from the 2014 blow. Saudi Arabia is not an exception. 

A recent report from Capital Economics said Saudi Arabia has its problems but it could withstand lower oil prices without feeling too much of a pinch. "Even if [Brent] prices fall further to $40-$50 a barrel, immediate balance of payments strains are unlikely to emerge," the report said, with its authors adding the Kingdom would be able to finance its trade deficit from its foreign exchange reserves "for at least a decade." 

Saudi

This suggestion is not universally accepted. Reuters' John Kemp this week offered a different perspective in his regular column on oil, noting Saudi Arabia's foreign exchange reserves currently stand at US$500 billion, down from nearly US$750 billion in 2014 when the oil prices slumped under the weight of U.S. shale oil. At the same time, Saudi Arabia is in a major push to diversify its revenue streams and has committed a lot of money to it. 

Also, Kemp wrote, "The kingdom probably needs to keep several hundred billion dollars' worth of reserve assets on hand to maintain confidence in its fixed exchange-rate peg to the U.S. dollar and prevent a run on the currency." 

It's a classic rock and a hard place situation for the Saudis. On the one hand, they could continue pumping at the current record rate or close to it, pressuring prices further, which is what they did in 2014. That strategy hurt U.S. shale substantially, but the attempted assault did not go quite as planned. Now, it will once again hurt U.S. shale, but again, it won't beat the resilience of the US shale patch. That much should have become clear in the past three years. 

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