Saudi Arabia's economy has faced various challenges in recent years. In the area of crude oil production, the government has been attempting to find a way to induce oil prices in the desired direction by establishing a coalition that includes countries both inside and outside the Organization of Petroleum Exporting Countries (OPEC). I would like to review Saudi Arabia's economic reforms, centering on its petroleum policy, as well as its relations with the United States based on the recent developments.

Price War

Crude oil prices have fluctuated this year, and Saudi Arabia's oil export revenue, which greatly affects its national finances, has also been impacted. Factors contributing to the fluctuation include: (1) a decline in global demand due to the novel coronavirus pandemic; (2) confrontation between Saudi Arabia and Russia over crude oil production; and (3) a concerted "OPEC Plus" agreement to reduce production.

At an OPEC Plus meeting this past March between OPEC and non-OPEC countries, Saudi Arabia requested that Russia reduce its oil production, but Russia refused because it wanted to increase production regardless of the production quotas imposed on countries within the OPEC Plus framework. With OPEC's share of the global crude oil market at less than 50%, it is not enough for OPEC member countries to adjust their production to stabilize prices by cutting production. Without the participation of Russia, which produces around 10 million barrels of oil a day, the OPEC Plus's impact on the market is insufficient.

The action taken by Saudi Arabia to restrain Russia was not a reduction in production but rather a massive increase in production. As a result, crude oil prices fell to one-third their level at the beginning of the year. Russia could not withstand this and returned to the OPEC Plus's line of coordinated production cuts. Saudi Arabia used shock therapy against Russia, and rocked the country by asking whether such low prices could continue, in order to reach a compromise. Thereafter, Russia began to agree frequently with Saudi Arabia.

If Russia moves away from cooperation with OPEC and freely produces oil, the unity held so far will be disrupted. Consequently, Saudi Arabia is poised to compete with Russia to see how well it can withstand lower prices, at the risk of short-term losses. Saudi Arabia has made similar large-scale production increases in the past. Here are two examples of similar behavior.

The 1985 Case

In 1985, Saudi Arabia abandoned its role as a swing producer in charge of adjusting supply and demand. In that year, many OPEC countries overproduced crude oil and the price slump did not improve. Earlier, in 1980, Saudi Arabia had been working as a coordinator, reducing its daily crude oil production from over 10 million barrels to the two million barrel level. However, it suddenly moved to sharply increase its production. "Swing producer" is an appellation derived from the fact that the country's oil production fluctuates in line with the world's supply and demand balance. However, when many OPEC members continued to produce more than the agreed quotas, it proved too much of a burden for Saudi Arabia alone to cut production to make up for this.

In the international oil market at that time, emerging non-OPEC oil-producing countries such as the United Kingdom and the Netherlands - both with oil fields in the North Sea - as well as Mexico were increasing production one after another, leading to an oversupply of oil. Faced with an extreme situation which it could no longer control by reducing its own output, a desperate Saudi Arabia decided to give a shock to the OPEC countries that had ignored the benefits for all OPEC members and did not respond to OPEC's call urging its members to reunite. As a result of the sudden increase in Saudi production, the price of crude oil fell to less than $10 per barrel, compelling OPEC, which had been excessively ramping up production, to restore unity and return to a cooperative line after this "lesson learned".

The 2014 Case

In 2014, oil prices were in a downward trend due to the expansion of shale production, and many market players predicted that Saudi Arabia would decide to reduce its production. However, the country chose not to reduce production but instead to allow lower prices. Since then, Saudi Arabia increased production on a large scale, lowering oil prices. The aim was to keep a close eye on the high cost of shale oil production, as surging US production was encroaching on Saudi Arabia's market share, and to stop the production increase with lower prices. Over the next two years, countries continued to increase production, but OPEC and non-OPEC countries eventually grew weary of lower oil prices and a mood of solidarity re-emerged. In December 2016, Saudi Arabia started working with Russia, and a voluntary agreement was reached among certain OPEC and non-OPEC countries to reduce production in earnest. In June 2015, Saudi Arabia's Deputy Crown Prince (now Crown Prince) Mohammed bin Salman secured a channel of dialogue with Russian President Vladimir Putin and his close aides while Saudi Arabia continued to increase production.

If the oil price continues to rise to $60-$70 per barrel in the future, Saudi Arabia will consider stepping up its production, fearing that its rival US will increase its own shale oil production. For US shale oil companies, $40-$50 is a zone in which profitability deteriorates and operations become difficult to continue and, if the downward trend in oil prices continues, prices could fall as far as to the $10-$30 level. Saudi Arabia's government requires an oil price of over $80 a barrel to balance its budget; a significant deterioration in the oil price would make it difficult for the country to cover its financial deficits. The basic pattern of Saudi oil production will be to induce high and low oil market prices every few years by issuing government bonds and borrowing from foreign banks. In addition to the above factors, Saudi Arabia will make a comprehensive assessment of crude oil production that takes into account the global economy and domestic political circumstances. However, in the long run, Saudi Arabia may face risks from reductions in the use of crude oil and other carbon-based fuels out of growing concerns about global warming, and determining the best petroleum policy will inevitably become complicated.

Oil Minister from Royal Family and Saudi Aramco's IPO

Let's examine some new developments related to the oil issue. The minister in charge of petroleum in Saudi Arabia had long been a technocrat. However, in 2019, Prince Abdulaziz bin Salman bin Abdulaziz al-Saud took up the post of energy minister. This was the first time a member of the royal family became the minister in charge of oil. The Saudi royal family had not been in charge of petroleum policy at OPEC meetings. Various reasons have been suggested to explain this: the royal family should not be directly tied to oil interests vis-à-vis its population for the purpose of domestic administration; or it was to avoid that royal members may be held responsible for any failure in petroleum policy. It remains to be seen whether this appointment of a member of the royal family will have any impact on domestic circumstances in Saudi Arabia.

Under the leadership of then Deputy Crown Prince Mohammed bin Salman Saudi Vision 2030 was created in 2016 in order to reform the Saudi economic regime which was heavily dependent on oil. One measure that has attracted the attention of investors around the world was the initial public offering (IPO) of national oil company Saudi Aramco. The IPO, which was expected to be a trump card for the policy of non-reliance on oil, took place in December 2019. The company considered listing its shares on exchanges in New York, London and Tokyo, but eventually registered them on domestic stock exchanges. There were concerns about a downturn in the stock price after the listing and in March, and when crude oil prices plummeted in particular, the stock price fell below the public offering price of 32 riyals to around 25 riyals. After that, as the oil price recovered, the stock price also recovered, and it was around 35 riyal at the end of November. This "new revenue source" intended to reduce financial burdens and to be used to fund the promotion of the country's post-oil policy shrank as oil prices fell due to unforeseen circumstances, demonstrating the difficult challenges facing the reform. The stockholders are mainly domestic and institutional investors within the GCC. The Saudi government also decided to raise the value-added tax from 5% to 15% in May 2020 as part of its reform measures. In order to secure its budget to support an ever-increasing population, the government is raising tax rates and, like the Emirates of Abu Dhabi and Qatar, issuing dollar-denominated government bonds to secure revenue.

Changing Relations With The United States

Next, let's look at recent developments in Saudi Arabia's relations with the United States. Saudi Arabia was at loggerheads both economically and politically with the United States under the administration of US President Barack Obama, as US shale oil production climbed. The United States has emerged as a rival competing with Saudi Arabia for market share after the US government lifted its long-standing ban on crude oil exports imposed for security reasons and announced it would become a net oil exporter. Meanwhile, President Barack Obama's declaration that the US would not play the role of world police in military and diplomatic matters, coupled with economic changes, raised doubts in Saudi Arabia about that he might not intend to assist Saudi Arabia for its defense.

Since his administration took office, President Donald Trump has reemphasized the principle of mutual benefit, which can be called "an exchange of stable oil supply for security", and it seems that he has improved on the Obama administration's posture. Trump's visit to Saudi Arabia, the post-summit announcement of an agreement on Saudi purchases of US-made weapons, and Trump's avoidance of strong criticism of the Saudis with regard to Jamal Ahmad Khashoggi's assassination appear to have allayed the country's wariness of the United States. It was inevitable that the Trump administration, whose political base encompasses the fossil energy industry inclusive of oil and coal, would strengthen relations with Saudi Arabia. However, the situation has not changed in which shale oil remains a rival in the oil market since the Obama administration. The Trump administration is showing consideration for Saudi Arabia, which exercised its large capacity to increase production in the spring of 2020.

Joe Biden has pledged $2 trillion in renewable and other environment-related investments as a serious effort to tackle global warming if he becomes president. Some observers believe that a Biden administration will lead to discord with Saudi Arabia over issues like human rights, as was the case with the Obama administration. The situation needs to be closely followed, including the US policy towards the Iran nuclear deal from which President Trump decided to withdraw. During King Fahd's reign from the 1980s to the 1990s, the United States became more unipolar, and Saudi Arabia and Egypt were strongly influenced by, and considerate of, the United States. However, now is the time when Saudi Arabia needs to take a multifaceted and complex approach in deciding on which country to place priority for its cooperation, depending on the moving situation. In the spring of 2014, Saudi Arabia's Economy & Planning Minister Mohammed Al-Jassel said to me when he visited Japan, "We are entering an era of diversified diplomacy." This remark seems to have foreshadowed the current situation.

(This paper, current as of November 25, 2020, was originally written in Japanese.)