Argument

Why Would the Saudis Deliberately Crash the Oil Markets?

Why Would the Saudis Deliberately Crash the Oil Markets?

On January 2, 1977, the Shah of Iran made a painful admission about his country’s economy. “We’re broke,” he confided bluntly to his closest aide, court minister Asadollah Alam, in a private meeting. Alam predicted still more dangers to come: “We have squandered every cent we had only to find ourselves checkmated by a single move from Saudi Arabia,” he later wrote in a letter to the shah. “[W]e are now in dire financial peril and must tighten our belts if we are to survive.”

The two men were reacting to recent turmoil in the oil markets. A few weeks prior, at an OPEC meeting in Doha, the Saudis had announced they would resist an Iran-led majority vote to increase petroleum prices by 15 percent. (The shah needed the boost to pay for billions in new spending commitments.) King Khalid bin Abdulaziz Al Saud argued that a price hike wasn’t justified when Western economies were still mired in a recession — but he was also eager to place economic constraints on Iran at a time when the shah was ordering nuclear power plants and projecting influence throughout the Middle East. So the Saudis “flooded the markets,” ramping up oil production from 8 million to 11.8 million barrels per day and slashing crude prices. Unable to compete, Iran was quickly driven from the market: The country’s oil production plunged 38 percent in a month. Billions of dollars in anticipated oil revenues vanished, and Iran was forced to abandon its five-year budget estimates.

A damaging ripple effect persisted: Over the summer of 1977, industrial manufacturing in Iran fell by 50 percent. Inflation ran between 30 and 40 percent. The government made deep cuts to domestic spending to balance the books, but austerity only made matters worse when thousands of young, unskilled men lost their jobs. Before long, economic distress had eroded middle-class support for the shah’s monarchy — which collapsed two years later in the Iranian Revolution.

Today, oil prices have again plummeted, from a high of $115 per barrel in August 2013 to under $60 per barrel in mid December 2014. Western experts, predictably, have seized the opportunity to ponder what cheaper oil might mean for the stock market. As for why prices have dropped, some analysts have suggested it has little to do with any manipulation of Saudi spigots: A December essay in Bloomberg Businessweek credited the American shale revolution with “breaking OPEC’s neck.”

There’s no doubt that shale has eroded Saudi Arabia’s “swing power” as the world’s largest oil producer. But thanks to their pumping capacity, reserves, and stockpiles, the Saudis are still more than capable of crashing the oil markets — and willing to do so. In September 2014, they did just that, boosting oil production by half a percent (to 9.6 million barrels per day) in markets already brimming with cheap crude and, a few days later, offering increased discounts to major Asian customers; global prices quickly fell nearly 30 percent. As in 1977, the Saudis instigated this flood for political reasons: Whether foreign analysts believe it or not, oil markets remain important venues in the Saudi-Iranian struggle for supremacy over the Persian Gulf.

This isn’t the first time since the late 1970s that Saudi Arabia has used oil as a political weapon against its rival. In November 2006, Nawaf Obaid, a Saudi security consultant connected to Prince Turki al-Faisal, then Saudi Arabia’s ambassador to Washington, wrote an op-ed in the Washington Post noting that if “[i]f Saudi Arabia boosted production and cut the price of oil in half … it would be devastating to Iran … [and] limit Tehran’s ability to continue funneling hundreds of millions each year to Shiite militias in Iraq and elsewhere.” Two years later, at the height of the global financial crisis, the Saudis acted: They flooded the market, and within six months, oil prices had fallen from their record high of $147 per barrel to just $33. Thus, Iranian President Mahmoud Ahmadinejad began 2009, an election year, struggling with the sudden collapse in government oil revenues and forced to slash popular subsidies and social programs. The election’s contested outcome was accompanied by economic contraction and the worst political violence in Iran since the fall of the shah.

Signals of a new flood emerged as early as June 2011. While addressing an audience of senior American and British officials at a NATO operations base, Prince Turki warned Iran not to take advantage of the regional unrest triggered by the Arab Spring. Paraphrasing some of Turki’s comments, the Guardian noted that Iran’s economy could be squeezed hard by “undermining its profits from oil, something the Saudis … were ideally positioned to do.”

The Saudis understood, too, that the best time to crash the markets would be when prices were already soft and consumer demand low. In early December, just a few months after Saudi Arabia unleashed its latest oil flood, Obaid wrote in a Reuters article that his government’s decision to depress prices is “going to have a huge effect on the political situation in the Middle East. Iran will come under unprecedented economic and financial pressure as it tries to sustain an economy already battered by international sanctions.” Around the same time, the Saudis were no doubt pleased to see bread prices shoot up by 30 percent in Tehran. (Bread is a staple of the Iranian diet, and its prices are a bellwether for the economy.)

On Dec. 10, the Saudi oil minister said his country would keep pumping 9.7 million barrels per day into the global markets, regardless of demand. For their part, the Iranians have shown alarm, if not yet panic. Without naming names — he didn’t have to — President Hassan Rouhani decried the “treacherous” actions of a major oil producer whose “politically motivated” behavior was evidence of “a conspiracy against the interests of the region…. Iran and the people of the region will not forget such conspiracies.” The previous day, Vice President Eshag Jahangiri had described the rapid plunge in oil prices as a “political plot … not a result of supply and demand.”

Riyadh’s real hope, if history is any indicator, is that escalated production will force Rouhani’s government to implement an austerity budget that will ultimately stoke underlying social unrest and once again push people into the streets. If this happens, it might not lead to an event as significant as the shah losing his grip on power — but it would reinforce the Saudis’ faith in oil as a potent weapon in the battle to dominate the Middle East. And oil floods, in turn, would likely continue their periodic, dangerous rattling of both the markets and the region.

YASSER AL-ZAYYAT/AFP/Getty Images