Saudi Arabia's Strategic Shift: Abandoning Oil Expansion Plans Signals Recognition of Changing Global Demand

Saudi Arabia, the world's largest oil exporter, has announced that it will not proceed with its plan to increase its oil production capacity to 13 million barrels per day (bpd) by 2027. The decision marks a major reversal from the state-owned oil giant Saudi Aramco, which had previously said that the project was progressing "very well" and that it was necessary to meet the growing demand from China and India.

The unexpected move has raised questions about Saudi Arabia's view on the future of oil demand, as well as its strategy to cope with the competition from rival suppliers, especially US shale. Analysts have speculated that the kingdom may have become more pessimistic about the prospects of oil consumption in the face of the global energy transition and the emergence of low-carbon alternatives.

However, some experts have also suggested that Saudi Arabia may have other reasons to abandon its capacity expansion plan, such as saving costs, diversifying its economy, and preserving its spare capacity as a buffer against market shocks. Saudi Aramco said that it will update its capital spending plan when it announces its annual results in March, and that it will focus on expanding its natural gas, chemicals and renewables businesses.

Saudi Arabia currently has a capacity of 12 million bpd, but it is producing only about 9 million bpd as part of the OPEC+ agreement to curb output and support prices. The alliance of OPEC and its allies, led by Russia, has been managing the global oil market since 2016, when they formed a pact to counter the surge of US shale oil that had crashed prices and threatened their revenues.

The OPEC+ group has been adjusting its production levels according to the demand recovery from the Covid-19 pandemic, which caused an unprecedented collapse in oil consumption in 2020. The group agreed in December to increase output by 400,000 bpd every month until April 2022, when it expects to restore all the cuts made since the start of the crisis.

However, the outlook for oil demand remains uncertain, as new variants of the coronavirus pose risks to the global economic recovery and mobility. The International Energy Agency (IEA) said in its latest report that oil demand will peak in 2026 and then decline gradually as governments implement policies to reduce greenhouse gas emissions and consumers switch to electric vehicles and other clean energy sources.

Saudi Arabia's decision to halt its capacity expansion may reflect its recognition of this trend, as well as its desire to avoid oversupplying the market and depressing prices. By maintaining its current capacity level, Saudi Arabia can also preserve its spare capacity, which gives it flexibility and influence over the oil market. Saudi Arabia is estimated to have about 3 million bpd of spare capacity, which is equivalent to about 3% of global demand.

"Saudi Arabia's u-turn on capacity expansion is a clear sign that it is moderating its expectations of global oil demand growth in the coming years," said Vandana Hari, founder of Vanda Insights, a Singapore-based consultancy. "It also signals that Riyadh is not keen on investing billions of dollars in upstream projects that may not yield returns in a low-carbon world."

However, some analysts have argued that Saudi Arabia may still resume its capacity expansion plan in the future, if demand proves stronger than expected or if rival suppliers fail to keep up with the market needs. US shale production, for instance, has been struggling to recover from the pandemic-induced slump, as investors demand more discipline and returns from shale companies.

"Riyadh sees softer balances in the next few years, mainly on supply outside OPEC+," said Bob McNally, president of Rapidan Energy Group, a US-based consultancy. "For this reason, we believe they are delaying upstream expansion plans instead of shelving them permanently."

Sources:

- Saudi Oil Capacity U-Turn Shows Threat From Rival Supply - Yahoo Finance

- Saudi Aramco drops plans to boost capacity in major u-turn | Saudi – Gulf News

- Saudi Oil U-Turn Stokes Doubts Over Future Demand - Bloomberg