Without alliance with Russia, OPEC is powerless - ex-CEO of Eni

The failure at the Doha talks that were supposed to help put an end to oil price crisis showed to the whole world how divided the OPEC is. The agreement, that seemed to be almost there, was shattered, undermined by a longstanding Saudi-Iran rivalry. Now, with a consensus once again pushed back, will the oil producers be able to find common ground? Why Saudi Arabia is putting its own economic wellbeing on the altar of political bickering? And finally, is the age of oil going through its final agony, or will the price for black gold rise again? We ask an ex-CEO of Italy’s energy giant Eni, now deputy chairman of Rothschild group - Paolo Scaroni is on Sophie&Co today.

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Sophie Shevardnadze: Ex-CEO of Italy’s energy giant Eni, now deputy chairman of Rothschild group, Paolo Scaroni, welcome to the show, it’s great to have you with us. Mr. Scaroni, before the OPEC member meeting in Doha that was supposed to hammer out a deal on capping oil output and stabilizing prices, it looked like it was make-or-break situation for oil. However, even after the talks collapsed, we’re seeing a pretty minor effects on the price of crude. How dependent is the oil price on political decisions or is its volatility purely economical?

PS: Well, it is very dependent, and the meeting in Doha in fact was a failure. We had Russia and Saudi Arabia together, which was first after many years, but the problem of how to leave room to production from Iran has not been solved, and therefore it was a failure. What happened, and the reason why oil prices didn’t go down very much is for the troubles in Kuwait, because Kuwait is now producing only a small part of its normal production and this has created some more demand in the market for oil.

SS: Saudi Arabia, Qatar, Venezuela, Russia - they were all onboard with the draft deal on freezing output, but then Saudi Arabia went ahead with putting forward additional demands. Was everyone really serious about reaching a deal? Did Saudi Arabia even want this deal to go through?

PS: Well, something very strange happened. Saudi Arabia until the last minute seemed very ready to sign a deal to freeze production, but at the last minute, they decided that without an Iranian engagement to freeze production, there was no deal. This was really a last minute decision which was surprising for everybody in the oil sector, but also to many politicians.

SS: So, yeah, like you’ve said, Iran didn’t even go to Doha meeting. It’s dismissing proposals to freeze production and is planning to increase exports with the lifting of international restrictions against its oil. Saudis, like you’ve said, are saying that Iran needs to join them in capping production. So, with these positions that are kind of excluding one another, is it even realistic to expect some sort of agreement to be made?

PS: Well, there was a realistic position that could be reached, that is, of course, Iran, after many years in which it was excluded from the world market of oil, needs to go back to some level of production, of exports, which they had before. Saudi Arabia could accept Iran to increase production in the next few months or years, and then freeze it a level which is higher than today. This would have been a compromise position, but what happened is that Saudi Arabia didn’t consider this compromise acceptable and therefore the whole negotiations failed.

SS: So, if it's impossible for the Saudis to accept the comeback of Iran on oil market, does it mean then they will continue upping oil production?

PS: My impression is that between Saudi Arabia and Iran there’s a conflict that goes beyond this oil production and export issue. My impression is the Saudi Arabia wants to use cheap oil as a way to weaken Iran. Iran has a population of more than 80 million people and they need more than anybody else an oil price which is around $50-60 per barrel and not below $40 a barrel.

SS: Who do you think will budge first - the Saudis or the Iranians, and what can make either change their position?

PS: I don’t think Iran can change its position, because a freeze at today’s level of exports for Iran is unnaceptable, it would mean that Iran would not resume in any way the export position they had before sanctions.So Iran cannot in my view give up on its position. Now, as far as Saudis are concerned, again, Saudi one day might soften their position, but of course, they have so many reserves and they can resist for so long with oil prices at this level, that all this compromises will not happen very soon in my view. That’s the reason why I believe oil prices will stay low for a long time.

SS: Now, I understand that Iran has been under international sanctions for a really long time, but now that it’s ignoring the economic pain of other nations and it is just going on with its own production plans - do you think it’s fair?

PS:  I don’t know if it's fair, but it’s very reasonable. At one moment in time, before sanctions, Iran was exporting more than 5 million barrels a day. To limit its export today at around one million, one million and a half would be illogical, considering the amount of reserves that Iran has. So, let’s say, a position of compromise in my view would be to allow Iran to increase its exports slightly, not to go back to its production before sanctions, but to increase its exports today.

SS: Now, the Saudis have been shifting from stance to stance. They wanted to flood the market with oil first and now they want a freeze - but, not simply a freeze, they have all these conditions for other players. Do you believe Saudis have a plan? Do they know what they want to achieve?

PS: This is the big question for everybody, not only the oil industry, but everyone is asking what would be the future of the strategy of Saudi on many fronts, going from the war in Yemen to their position in the oil issue, to the way in which they try to cut subsidies in the country to face the reduction in oil revenues - I mean, Saudis have a lots of issues today, which have to be solved. All this, with the royal family - let’s say, the government - which today looks more divided than in the past.

SS: Do you think it’s even possible to forge an agreement with Saudis?

PS: I think it’s possible to make an agreement with Saudis, but not today. The position they took in Doha last Sunday against Iran is not going to change anytime soon. And, don’t forget, the oil prices today are already something like 30-40% higher than only 2 months ago. So, at $40 per barrel Saudi can resist for a long period of time, using the huge reserves they have.

SS: So, if Saudis reluctance to cut output is aimed against Iran’s return to the oil market, can overproduction really stop Iran from conquering a piece of the market after a long absence?

PS: Yes, Iran can certainly gain back market positions they have. They were huge exporters to Europe, huge exporters to the Far East, and they certainly can resume - and they will resume their position in the market. Even today Iran continues to expand its exports, regardless of the level of the prices. This is true not only for oil, but they are actively reactivating their LNG plants to start to export even liquid gas. So, Iran is determined to go back to its position in the world of oil, after sanctions.

SS: So, you’re saying it’s much more than just an oil competition between Iran and Saudis, so it’s a political dispute underscoring the oil prices. Does that mean the global economy is hostage to a local quarrel of two regional powers?

PS: Depends which economy. Of course, Russia is suffering from these low oil prices…

SS: World economy - I’m saying global economy, because we can’t cap the prices because the Saudis won’t budge, because Iranians don’t want to cut the production… So, we have these two countries quarrelling for whatever reasons and we have the global economy hostage of their political quarrel, no?

PS: No, that’s true, but what I’m saying is that when you speak about the global economy, you have regions of the world, like Europe, which are net importers of oil, which are enjoying a position of lower oil prices. For them, the fight between Saudi Arabia and Iran is good news, because to import oil at $40 a barrel rather than $80 per barrel is a good news for the European economy, good news for Chinese economy, good news for the Japanese economy. Of course, it’s bad news for the oil-exporting countries.

SS: According to the draft agreement on the oil output freeze,production was supposed to be capped at the January 2016 level - which was a record high already. So, what’s the point of freezing oil production at levels like that? Will it do anything to reduce the surplus of crude oil on the market?

PS: Well, it would be a very important first step. To have an agreement between OPEC and Russia about freezing of production, will lead to further agreements in the next few days, or months. So, if production at this level would’ve been too high, then the same people sitting around the same table might have decided a reduction in production. So, let’s say, the mechanism of finding agreement around oil would’ve been launched and could face many other issues in time. Unfortunately, it didn’t work.

SS: This time, Qatar sent an invitation to Norway ahead of the Doha meeting, which it refused to attend. Brazil is another oil producer which doesn’t want to be part of any deal, and there’s Mexico; not to mention the U.S. - what role should non-OPEC oil producers play in the oil price debate?

PS: Well, you see, for me, OPEC is an organisation which is not capable anymore of managing oil prices all over the world. It was the case; today, it’s not the case anymore. OPEC is producing only 35 million barrels a day, out of the world consumption in excess of 90 million barrels a day. But, OPEC plus Russia makes difference, because OPEC and Russia make more than 50% of the world production. I’m sure that if an agreement would be made between OPEC and Russia, even countries which do not belong to OPEC will follow.

SS: As you’ve said in the first part, OPEC seems incapable of handling the price crisis and reaching a consensus. Does the world even need a cartel like OPEC? What could take OPEC’s place if it falls apart?

PS: In good times, when OPEC was powerful, the oil power was in the hands of Saudi Arabia, because Saudi Arabia was the only country belonging to OPEC which could move production up and down, according to its needs. All the other countries couldn’t do that. Now, today, with new discoveries in Brazil, new discoveries in Latin America and in Norway, et cetera, the power of OPEC has been going down, and some people are wondering if a cartel like this still makes sense. I, personally, believe that if OPEC finds a way of building a dialogue with Russia, which is the biggest producer in the world, they will get back to power again.

SS: Now, Saudi Arabia played the role of the swing producer in previous crisis situations, like in 2009, but it refused to take up the role the last time around. So, does Saudi Arabia have the power to call the shots in OPEC? Does it control the cartel?

PS: This is quite interesting, because the reason why in 2009 Saudi accepted to reduce production to face the fact that demand was going down quite dramatically, but today the reason, the main commercial reason why they didn’t want to reduce production was because if it did, they would leave room to the shale oil producers in America, and if the shale oil producers in America will gain market share,then they will stay in the market for a long period of time, which is something that Saudi Arabia didn’t want to happen.

SS: So, like you’re saying, the Saudi oil policy is not only aimed against Iran but also against the U.S. shale oil. OPEC Secretary-General Abdallah Salem el-Badri said “Shale oil in the U.S. - I don’t know how we’re going to live together”. Is he exaggerating? Is shale oil really that dangerous to traditional oil producers?

PS: Yes. Shale oil production reached a level of 4 million, 4.5 million barrels a day in few years, from 2012 to 2015. At the price of $100 a barrel, to produce shale oil in America is extremely profitable. That’s the reason why production has been growing really fast. Now, today, shale oil production is going down quite dramatically, simply because at $40 a barrel it is not profitable to produce shale oil in America - not only the producers are losing money, but in particular,  losing huge amounts of money are the banks which have been financing the shale oil companies.

SS: The oil prices are causing American shale oil rigs to shut down - but, if the oil price hits $50 again, per barrel, won’t it only bring more producers back to the market, like American shale oil companies, and thus create too much supply and drive the price down again? I mean, is there a way out of this circle?

PS: The way out of the circle is to bring oil prices in the world at a level in which to produce shale oil in America is not profitable.

SS: Which level is that?

PS: In my, it’s around $55 a barrel. If oil prices would go back to $55 a barrel, countries such as Saudi or Iran or Iraq or Venezuela or even Russia will increase enormous their income, and this will restore their economies.

SS: So, should prices just stay low from now on?

PS: I cannot see prices going beyond $55 for a long time. But, there’s no reason why they should stay at $40. They could easily go to $50, and believe me, the difference between $40 and $50 is huge for the oil producing countries.

SS: How much longer can states like Saudi Arabia or Qatar go on with cheap oil before they’re in a crisis? Without abundant oil money, how will oil states ensure their internal stability? Oil workers in Kuwait are already striking against pay cuts.

PS: Well it depends on how low the oil prices will be. At this level of $40 a barrel, certainly, the countries of the Gulf - Saudia, Kuwait, Qatar, Abu Dhabi - can resist for many years. Many meaning 5, 6 or 7 years, of course, burning their dollar reserves, which they in fact are doing. Just to give you a number, since prices have been collapsing Saudi Arabia have sold in the market more than $100 bn of securities, bonds and equities in order to finance the deficit of the national budget, and the other countries in the region are doing the same.

SS: Now, the consumers in the U.S. and in the UK, they have benefited from low energy prices, but these prices are also causing the oil sector to slash jobs: 65,000 in UK, 70,000 in the U.S. Is cheap energy good or bad for the economy?

PS: For the U.S. and the UK it is good and bad, and probably, it’s a little more good than bad. But for countries, like germany, for example, which is not producing any oil at all, it is only good. I made a calculation that for a European family, the dropping prices of oil and as a consequence, on gasoline, on heating and on electricity, will produce a saving of almost a 1000 euros a year, which is big money for a family.

SS: And in response to the $30-40 per barrel, companies are cancelling billions of dollars on new projects, curbing oil exploration, losing technical capacity. If the oil industry falls into a rot, cuts too much spending on developing new output - doesn't that mean that we’ll be seeing an oil shortage in the future?

PS: Without any doubt, if you look ahead, say, after 2020, this decrease in investments, this loss of technical capabilities will mean than it would be very difficult to meet demand from 2020 onwards. But, from now to 2020 any price of oil in excess of $55 will simply provoke an increase in production in shale oil in America which will push prices back again, so, from my point of view, for the next 4 or 5 years we will not see prices in excess of $55 a barrel.

SS: So you think the price will be high in 2020?

PS: Yes. From 2020 onwards, the decrease in production of conventional oil as a consequence of reduction of investment will be so big, that no shale oil in America will be compensating it, and therefore prices will be moving up again.

SS: The Chinese economic slowdown also considered to be partially causing the oil price drop. But China is still buying record amount of oil. Is the effect of Chinese recession on crude price exaggerated?

PS: No, let’s say, the economy in China does not need oil. The economy in China might need gas and coal, but they are not using oil. What is using oil is transportation, and in China and India there are millions of Chinese and of Indians who are driving their cars and were not driving cars before. That explains why China and INdia continue to grow their imports of oil. In Europe, we have the opposite effect, because the new deficiency of the new cars is such that imports of oil continue to go down, regardless of price.

SS: From another perspective, electric cars are becoming more affordable and sensible, with companies like Tesla upping production - will this rise undermine the demand for oil? Will it cause another crisis? Or is it insignificant in the grand scheme of things?

PS: For the next 4 to 5 years it is insignificant. We are talking about thousands of cars in a world in which there are hundreds of millions of cars. So, insignificant. In the long term though, it might erode the market share of cars running on oil, but this will take many years, and certainly nothing will happen in the next 5 to 10 years, nothing significant.

SS: Saudi Arabia is creating a $2 trillion dollar fund to diversify its economy and move away from oil. If Saudis themselves expect the end to the oil age, then, it must be true, right? When will it happen eventually?

PS: When and if it will happen. I am not sure that it will be that easy to transform the Saudi economy from an oil-based economy onto a technology-based economy. This will need skilled people, will need entrepreneurs who I am not sure will choose Saudi as a place where to make their investments. So, this program sounds to me very-very ambitious.

SS: So, tell me something: when oil is falling, experts panic and claim the oil world is done for, and then when oil is rising experts tell us that it will all be okay and oil will reach $50 per barrel. Is the oil situation actually predictable? Can you predict it?

PS: It is predictable - demand and offer. People can predict what will be the production in the next 5 years as a consequence of reduction of investment and what will be the consumption. What you cannot predict is irrational behaviour, odd behaviours which are motivated politically and not economically, which is the case today. So, while it is easy to image what happens if the whole world was rational, it is impossible what will happen in a world in which irrationality plays a big role.

SS: Thank you so much for this interview, we were talking to former head of multinational energy giant Eni, Rothschild group deputy chairman Paolo Scaroni, about the plummeting oil price and how it is affecting economies world wide. That’s it for this edition of Sophie&Co, I will see you next time.