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Sixth IEA IEF OPEC Symposium on Energy Outlooks
“Impact of a low oil price environment on supply and demand,
stability and economic growth in KSA”
Eugene C. McQuaid – Senior Economist
Saudi Arabia General Investment Authority and
the International Monetary Fund
Interactive Session
February 2016
Scope & Outline
1. Macroeconomic Performance & Outlook – Salient Indicators• The Macro Economy at a Glance• The Macroeconomic Fundamentals
2. Storage Utilization, Rig Counts and Supply Security.
3. WTI & Brent: Price Convergence and Divergence.
4. Hydrocarbons & Price Elasticity of Demand (Part 1 & 2).
5. Energy Price Equivalent Ratios.
6. Knightian Uncertainty.
7. Energy Content Argument.
8. ……. & Macro-Fiscal Energy Equivalent Pricing Model.
Key Indicator 2005 (Base Year) 2015 (Estimated) 2016 (Projected)
Real GDP Growth(Constant prices)
7.3% 2.8% 2.4%
Nominal GDP Growth(Current prices)
5.1% (Est CAGR) -13.7% 7.1%
Population (millions) 23.3 31.4 32.0
Inflation 0.7% 2.0% 2.45%
Unemployment N/A 11.7 12.0
EconomicSector 2015%ofGDP 2005%ofGDP Shift:05-15
Manufacturing 12.23% 9.45% +2.78%
Construction 6.84% 4.74% +2.1%
Wholesale/Retail&Leisure 11.52% 6.27% +5.25%
Transportation&Communications 6.36% 3.54% +2.82%
Finance 12.57% 8.8% +3.77%
Oil 25.45% 46.47% -21.02%
Macroeconomic Performance & Outlook – Salient Indicators
The Macro Economy at a Glance
Macroeconomic landscape is in transition driven by private sector development, economic diversification and FDI-led investment.
Stable and progressive economy in real terms – A 5% (compound average) real GDP in the past decade underpinning sustainable growth.
Headline and core inflation are consistent with growth and employment targets – Price control is reinforced by the dollar peg providing a robust anchor for monetary policy.
Downstream hydrocarbon produce [petrochemicals, minerals etc.], in a low oil price environment are increasingly important for employment and contribution to growth.
Infrastructure projects - the metro rail projects, aviation, marine, lifestyle & access infrastructure - are accelerating and supporting investment opportunities - i.e. US$50 billion capital spend in 2005 to US$180 billion in 2014.
Investment Flows – KSA attracted US$8bn in 2014 [equates to 18% of total FDI into greater Arab region] - KSA FDI stock (US$215.9bn) as a % GDP is 28.7% which benchmarked against the world average FDI (% of GDP) is 33.6%.
Gradual transition to a Knowledge Society through sector focused diversification including manufacturing, health, transport, financial services, and ICT.
Non-conventional / non-hydrocarbon sectors are also propelling investment development opportunities i.e. Finance, agriculture sector and food exports.
National Transformation Program (NTP): To accelerate real economic growth and ongoing diversification efforts: Led by the Council for Economic and Development Affairs, Public financial and fiscal management development framework at Ministry of Finance, Public debt management, local and foreign currency bond issuance, liquidity control and capital market enhancements projects at SAMA.
Barrel of Oil: Energy Content Argument
Jan-12Lubricants Other Refined Products
Asphalt &
Road Oil Liquified Refinery Gas Residuel Fuel Oil Marketable Coke Sill Gas Jet Fuel
Distillate
Fuel Oil Gasoline
Feb-12
Mar-12
Apr-12
May-12
Jun-12
Jul-12
Aug-12
Sep-12
Oct-12
Nov-12
Dec-12
Jan-13
Feb-13
Mar-13
Apr-13
May-13
Jun-13
Jul-13
Aug-13
Sep-13
Oct-13
Nov-13
Dec-13
Jan-14
Feb-14
Mar-14
Apr-14
May-14
Jun-14
Jul-14
Aug-14
Sep-14
Oct-14
Nov-14
Dec-14
Jan-15
Feb-15
Mar-15
Apr-15
May-15
Jun-15
Jul-15
Aug-15
Macro-Fiscal Energy Equivalent Pricing Model
28.02
12.6
21.0
27.323.5
17.313.6
125.45
102.88
108.9
97.09
58.1
48.43
2.68
3.62
6
4.05
2.99
2.34
R²=0.7838
0.00
1.00
2.00
3.00
4.00
5.00
6.00
7.00
0%
1000%
2000%
3000%
4000%
5000%
6000%
7000%
8000%
9000%
10000%
11000%
12000%
13000%
14000%
15000%
16000%
17000%
Jan-12 Apr-12 Jul-12 Oct-12 Jan-13 Apr-13 Jul-13 Oct-13 Jan-14 Apr-14 Jul-14 Oct-14 Jan-15 Apr-15 Jul-15 Oct-15
Spotpriceratios:CrudeHydrocarbonsweet/lightoiltoliquifeidnaturalgas[LNG]
%PriceDifferencebetweenBrentandEELNG
Oil-gaspriceequivalentratio(6.8)
EnergyEquivPriceofLNG
UKBrent
U.S.HenryHubLNG
Linear(%PriceDifferencebetweenBrentandEELNG)
Sources: EIEA
Oil and gas energy equivalent ratio:
approx 5.8 to 6.9 (lower parameter
Ratio above (below) range means gas is
sold at a discounted (premium) price.
The Real Sector – Consumer Price Index MACROECONOMIC
FUNDAMENTALS
Consumer & produces prices remain moderate & manageable in the medium term:
• Headline inflation remains subdued at 2.0% in 2015, and will ease to a ‘steady state’ of 2.45% in 2016.
• Retreating from the recent global trend(s) in disinflation and deflation…. core inflation, which excludes [the volatile components] food and rental and housing-related services, underlies headline rates as anticipated.
3.83.7
2.9
3.5
2.7
2.0
2.4
0
0.5
1
1.5
2
2.5
3
3.5
4
2010 2011 2012 2013 2014 2015 2016
Index, 2006=1 Consumer Price Index (Including Estimates Fy2016)
Source: (1) IMF Article IV Consultation 2015. (2) SAGIA Planning Department
Assessment.
KSA’s GDP ProfileBy Sector: Public / Private & Oil
MACROECONOMIC FUNDAMENTALS
Data Source: CDSI National Accounts 2014
0
10
20
30
40
50
60
2010 2011 2012 2013 2014
Perc
enta
ge
Axis Title
GDP by Institutional Sectors (At Current Prices)
Oil Sector Private Sector Government
In nominal terms KSA’s macro economy is converging in such that both the oil and non oil sectors are contributing robustly to overall growth- all be it that lower average oil prices has reduced hydrocarbon contributions.
This convergence is driven by private sector development through economic diversification, construction/manufacturing and downstream hydrocarbon economic activity.
The Government sector remains steady in its contribution to GDP.
GDP at Current and Constant Prices MACROECONOMIC
FUNDAMENTALS
Strong GDP economic growth in Fy2015/16:
• Real GDP growth of 3.5% in 2014 –experienced a ‘levelling out’ at 2.8% in 2015 and estimated to sustain at 2.4% for 2016.
• Fluctuating long-term hydrocarbon pricing arrangement, impacting fiscal revenues, remain a key influencer in current economic growth levels –
• Diversification and private sector development are critical in KSA transformational planning trajectory.
• The National Transformation Planning and infrastructure development sectors acting as a primary catalyst.
2.7 3.5 2.8 2.41.40.3
-13.7
7.1
-25
-15
-5
5
15
25
35
45
2013 2014 2015 2016
GDP % Growth at Constant and Current Prices
Real GDP Nominal GDP
Hydrocarbon & Non Hydrocarbon Sector Growth
Dedicated government-led transition to diversify economy through private sector development:
• Non-hydrocarbon private sector growth is estimated at 3.4% 2015 and 3.8% in 2016 -Driven in principle by financial & manufacturing sectors.
• Operationalization of Tawadul will deepen the equity market and broaden investor base –Morgan Stanley Composite Index (a rating system of global stock exchanges) currently entering the assessment phase for emerging market status (currently KSA is frontier status).
• Future potential lies in the SME, tourism & hospitality, diverse financial services, IT/telecoms and export-driven industrial activity.
12.2
5.1
-1.6
1.5 2.41.2
8.1
5.5
6.45.0
3.1
3.3
10.0
5.4
2.73.5
2.82.4
-5
0
5
10
15
20
2011 2012 2013 2014 2015 2016
Real GDP Growth: Hydrocarbons and nonhydrocarbons (%)
Oil GDP Non Oil GDP Real GDP Linear (Real GDP)
Source: (1) IMF Article IV Consultation 2015. (2) SAGIA Planning Department Assessment.
MACROECONOMIC FUNDAMENTALS
KSA’s Foreign Trade ProfileMACROECONOMIC
FUNDAMENTALS
0
200000
400000
600000
800000
1000000
1200000
1400000
1600000
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
RIY
ALS
(M
illio
ns)
Foreign Trade: Exports & Imports
Exports Imports Non Oil Exports
Data Source: CDSI Import & Export Trade Statistics 2014
• Non oil exports are reflecting a modest increase in private sector focused trading patterns.
• Petrochemicals & minerals dominate the non oil exports – however revenues from such will be muted as the dollar continues to appreciate and the US$ / SAR peg remains in place.
• The US$ appreciation trend continues to support lower import prices which are reflected in the current CPI index.
• Oil exports values will remain challenged under current volume / production levels.
Current Account BalanceMACROECONOMIC
FUNDAMENTALS
• Current account surplus narrowed to a healthy 10.9% of GDP in 2014.
• Anticipated by a further trajectory into deficit (-0.9%) in 2015 as a result of volatile hydrocarbon revenues.
• This will be shorted lived as a return to a moderate and acceptable surplus during Fy2016-20 is forecast.
670.0
734.0 744.0 746.0
644.0
690.0
23.7 22.5 18.2 10.9 -0.9 2.4
-100
0
100
200
300
400
500
600
700
800
2011 2012 2013 2014 2015 2016
Current Account as a % GDP
In US$ billions as % of GDP
Source: (1) IMF Article IV Consultation 2015. (2) SAGIA Planning Department Assessment.
Current Account - Component BreakdownMACROECONOMIC
FUNDAMENTALS
The components of the current account, in particular the trade balance emphasize:
• Exports: Volatile hydrocarbon prices are reducing export value and fiscal revenues.
• It is accepted that Non hydrocarbon export-diversification is the key economic driver for future growth in KSA.
• Imports: The appreciation (US$) over an extended period has ensured that imported goods are cheaper and thus a catalyst to increase personal expenditure / consumption.
36.533.6
29.925.2
13.0 14.4
-9.9 -8.5 -8.7-11.3 -11.5 -10.7
1.4 1.5 1.8 2.2 2.8 3.6
-4.4 -4.1 -4.8 -5.2 -5.2 -5.0
-60.0
-40.0
-20.0
0.0
20.0
40.0
60.0
2011 2012 2013 2014 2015 2016
Goods
Services
Income
Transfers
Current Account Components (% of nominal GDP)
Source: (1) IMF Article IV Consultation 2015. (2) SAGIA Planning Department Assessment.
Storage Utilisation, Rig Counts and Supply Security
• Circa: $380-$400 billion Hydrocarbon R&D, and Investment since 2014 - IHS estimates that the industry has cancelled US$1.5 trillion worth of hydrocarbon Investment between 2015-19.
• 3 – 5mbpd production impact over the next decade => Supply security risk is evident…capacity for spinning reserve level…escalating corporate debt management issues…asset unemployment lines!
• The hub of Cushing in Oklahoma is almost 90% peak. North American Rig Count – January 8, 2016
North American Rig Count January 22, 2016
North American Rig Count February 5, 2016
Oil Gas Total Y-O-Y
Rig Count 516 148 664 1,750
Change from Previous Week -20 -14 -34 -------
Oil Gas Total Y-O-Y
Rig Count 510 110 627 1,633
Change from Previous Week -5 -8 -13 -------
Oil Gas Total Y-O-Y
Rig Count 467 104 571 1,456
Change from Previous Week -31 -17 -48 -------
Storage Utilisation, Rig counts and Supply Security• 3 D’s: De-investment, Decommissioning and Depreciation• 150 oil platforms in the UK North Sea are expected to be scrapped over the next 10 years
BAKER HUGHES INCORPORATEDs
WORLDWIDE RIG COUNT
2015 Latin America Europe Africa Middle East Asia Pacific Total Intl. Canada U.S. Total World
Jan 351 128 132 415 232 1258 368 1683 3309
Feb 355 133 132 415 240 1275 363 1348 2986
Mar 351 135 125 407 233 1251 196 1110 2557
Apr 325 119 120 410 228 1202 90 976 2268
May 327 116 100 398 217 1158 80 889 2127
Jun 314 113 103 401 215 1146 129 861 2136
Jul 313 108 94 391 212 1118 183 866 2167
Aug 319 109 96 393 220 1137 206 883 2226
Sep 321 109 96 396 218 1140 183 848 2171
Oct 294 108 93 403 213 1111 184 791 2086
Nov 284 108 90 419 208 1109 178 760 2047
Dec 270 114 91 422 198 1095 160 714 1969
Avg. 319 117 106 406 220 1167 193 977 2337
2014 Latin America Europe Africa Middle East Asia Pacific Total Intl. Canada U.S. Total World
Jan 401 126 139 403 256 1325 504 1769 3598
Feb 400 132 154 396 259 1341 626 1769 3736
Mar 406 148 132 401 258 1345 449 1803 3597
Apr 403 151 136 407 252 1349 204 1835 3388
May 404 149 140 414 243 1350 162 1859 3371
Jun 398 147 123 425 251 1344 240 1861 3445
Jul 407 153 137 432 253 1382 350 1876 3608
Aug 410 143 125 406 255 1339 399 1904 3642
Sep 402 148 117 396 260 1323 406 1930 3659
Oct 393 148 125 390 252 1308 424 1925 3657
Nov 375 149 142 403 255 1324 421 1925 3670
Dec 369 148 138 403 255 1313 375 1882 3570
Avg. 397 145 134 406 254 1337 380 1862 3578
Benchmark WTI and Brent - Price Convergence
Two Schools of Thought:
• API / EIA / IEA release the inventory reports.
• ⬆ inventory growth. ….witnessing a plateua?
• Crude oil demand ⬆ < supply…Impacts weak global demand….weighed on the Brent crude oil prices …..WTI-Brent spread narrow/converge….boosts US production volumes.
• Versus
Price differential will continue to diverge because of oversupply in the US.
Lifting of exports embargos /constraints by the Cushing Hub which (plus US law) effectively blocks WTI from being exported – No longer an impediment!
Parlance – Open for Debate…..does Contango explain near equilibrium?
Hydrocarbon – Short Run: Price Elasticity of Demand and Supply
1. Hydrocarbons demand is price inelastic in the ST (insensitive to changes in price): • Oil satisfies essential needs – basic utility,• Transportation sector-centric,• Taxation and subsidies ‘isolate’ consumers from the impact of price revisions.
2. Demand is influenced primarily by macro-fiscal trends (i.e. income effect), counter-cyclical macro-prudential impact, geo political relationships, ‘Knightian’ Uncertainty, and the ‘soft influencers’.
The balance of elasticity perfect recipe for oil price volatility
3. Hydrocarbon price elasticity of oil supply low (especially in absence of spare capacity): • Long lead in time for oil projects leading to a “lagging” effect in supply responses,• So…hydrocarbon demand more responsive to income than prices.
Thus income elasticity effects dominate price elasticity effects
4. Thus market price strongly influenced by any changes in expected level of short to medium term income growth in major emerging markets – Aggregate Economic growth is dominant factor influencer - INCOME FACTOR.
Key question: why perceptions or expectations of low price elasticity persist in the oil market even for the long term?
Hydrocarbon – Long Run: Price Elasticity of Demand and Supply
However, in the longer run... Demand and (less so) supply are price elastic.
• Consumers will make the investment required to reduce fuel consumption or switch to a different fuel,
• On the supply side, companies’ cash flow improves, investment increases, new fields are developed,
• However, higher prices may also encourage resource nationalism and slow down investment/production.
The rationale in the Conventional Hydrocarbon Pricing Framework Fluctuations in oil prices would induce supply/ demand reactions and institutional responses that could price threshold [limit] on oil…such that:
Demand side • High oil prices would have an adverse impact on demand through price and an • income effect,• High oil prices would eventually slowdown real economic growth and oil demand.
Supply side • High oil prices encourage investment in non-OPEC countries, • High oil prices encourage substitution at the margin by increasing the relative price of oil,• OPEC increases oil supply to prevent oil prices from rising,• High oil prices result in long-term destruction of oil demand and encourage the entry of
substitutes at a large scale,• Has effect of increasing the elasticity of oil supply and generates strong feedback in presence of
large supply disruptions.
Energy Price Equivalence Ratios
• Fact: Energy Content Price Differential:• In BTU terms, $1 of natural gas can obtain 200,000 units of energy (at a spot rate of $5/million
BTU) • Versus
• $1 of WTI oil which generates 60,000 units of energy (at a spot rate of $97/barrel).
= > 330% energy content price differential.
• Thus: Energy Equivalence:
• One barrel of oil produces 5.8 million BTUs of energy.• Since early 2006, and LNG/BBL is almost 80% cheaper than oil on an energy-equivalent basis.• In February 2014 oil = $95.32 bbl, • LNG = $3.34 p/m BTUs.
At a multiple of 5.8 times to equal the same amount of energy produced by a barrel of oil, natural gas was selling for the equivalent of only $19.38 per barrel.
Expansive cost-saving incentives - switch from gasoline to natural gas and its derivatives to for transportation purposes.
Knightian Uncertainty
Schools of Thought….root of explanation – predictive utility
1. LNG: Hub V Oil indexation…. Short term impact.
2. US production rates…
3. Saudi Arabia’s ability to grow production…
4. Iran’s, Iraq, Libya credible ability to produce more oil.
5. Chinese economic slowdown and its impact on consumption…
6. Positive autocorrelation in the commodity and equity markets…
7. GCC currency peg with the US$...
8. Russia’s ability to add global production….