Blog post July 4, 2020

Can economic diplomacy rescue the energy sector?

Fatih Birol, the Executive Director of the International Energy Agency has proposed a unique G20 initiative bringing together producers and consumers to re-establish and orderly market. To succeed that initiative should include the major private sector players and important producing countries such as Norway which are not part of either OPEC or the G20, writes Nick Butler in this comment.

Since the beginning of the year, even taking into account the recent limited rally, oil prices have fallen by more than 50 per cent. Natural gas prices, already low, have fallen by a quarter.  The falls reflect the imbalance of supply and demand. In response the sector is cutting capex, and might well have to reduce dividends and staff numbers as well.  The risk is that short term actions could produce further longer term problems if the reductions in activity undermine the industry’s ability to meet future needs.  The question is whether an exceptional act of economic diplomacy can rescue the situation and restore much needed stability.

March was the cruellest month for the world’s energy sector. CV 19 began to have a direct and dramatic impact on demand, prices and stock market valuations.

The prospect of prolonged lockdowns and the cessation of much normal economic activity have led to repeated reductions in the estimates of energy demand over the next few months.  Last week the authoritative advisory firm Rystad  predicted a 16 percent decline in oil demand in April contributing to a year on year fall in 2020 of almost 5 million barrels a day.

The impact of  CV19 has been compounded by the dispute over market shares and fears of even greater oversupply as Saudi Arabia, Russia and the United States compete to sell oil into a shrinking market – resulting in a growing and in many places unsustainable level of unused stocks.  Across the world from the North Sea to North Dakota, activity is being cut back, new projects postponed and  jobs are being lost.   Energy producers, including those in many already fragile states, are beginning to suffer. The loss of revenue hurts companies first but in countries overwhelmingly dependent on oil exports the fall in income is destructive to the whole economy.  In the Middle East and Africa the risks of social unrest and political instability are high.

At the same time there is no great comfort for consumers. Cuts in investment by companies large and small, public and private, open the prospect of supplies being inadequate once the pandemic is over and public begin to drive and fly again. New projects take time to develop and once postponed cannot be instantly revived and brought onstream.

Equally there is no comfort for those pursuing an orderly energy transition.  With oil, gas and coal prices so low it will be even harder to deliver the necessary gradual shift to renewables and other low carbon sources of supply.

Nick Butler

Energy is vital to modern economic life and some measure of stability and predictability is essential to stimulate the billions of dollars of investment capital needed to meet the needs of a global population which even if CV19 kills a million people will still be around 85 million larger by the end of this year than it was at the end of 2019.

The challenge is global and requires a global response, through a new level of global cooperation which recognises both the universal common interest in some measure of stability and the fact that no single country or group can now control the market. Fatih Birol, the Executive Director of the International Energy Agency has proposed a unique G20 initiative bringing together producers and consumers to re-establish and orderly market. To succeed that initiative should include the major private sector players and important producing countries such as Norway which are not part of either OPEC or the G20.

Of course, all this could be left to the free market – but that creates the risk of even greater instability as prices fall to a market clearing level. That would mean less investment, more job losses and an even greater shortfall in future supplies. If prices fall even further from current levels many of the smaller and more marginal developments in areas such as the North Sea would be uneconomic and will simply be halted. That represents an unnecessary and damaging loss of resources, of wealth creation and of jobs in the industry and in all the supporting service businesses.

Finding a solution acceptable to all will not be simple.  But the creation of the international financial institutions by John Maynard Keynes at Brenton Woods was not simple, nor were the G20 agreements engineered by Gordon Brown, the British Prime Minister at the time of the 2008 financial crisis. Exceptional times require exceptional measures and a move beyond narrow national or ideological interests.

To be successful the outcome must be fair with a balance of sacrifice and gain. It must also be dynamic. The market is changing all the time and any agreement must be flexible if it is to last. Sceptics will undoubtedly say that the levels of trust necessary for a global agreement to be reached and maintained are absent. The argument against that is the last three months have given us a clear indication of just how great the costs will be if agreement is indeed beyond reach.

This will be distributed to all our friends and partners across the world and published online. ONS does not take positions or engage in advocacy but we hope the commentary will stimulate debate in the run up to the ONS meeting at the end of summer and beyond. The coronavirus has demonstrated in the harshest possible way that we are all in this together. “Together” is the theme of this year’s ONS and we hope by encouraging an open discussion is happening we can go through and emerge from the crisis with a full understanding of the interdependent world in which we live.

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