Colin Barr

Following the money in banking, economics, and Washington

Can the Saudis really ride to the rescue?

February 22, 2011: 11:32 AM ET

The fate of the global economy may hinge on surging oil production from the world's biggest exporter. But it's not clear that the Saudis have the juice.

Oil prices spiked Tuesday as violence swept Libya, raising the prospect that the world's 18th-biggest oil producer could be taken off line.

Shock, but no awe

OPEC sought to ease fears of a supply shock, promising to release reserves and increase production if need be. The International Energy Agency said "we are not in a situation where that is necessary."

Even so, investors are clearly expecting OPEC to step into the breach soon before oil prices rise further. Futures contracts hit $98 in New York Tuesday and $107 in London – the highest level since 2008. Gasoline prices, recently in the low $3-and-change range, look poised to run to $3.50 or higher this summer.

"I still expect that OPEC nations will pump more oil to avert a spike in oil prices," economist Ed Yardeni wrote Tuesday on his blog. "It is in their interest to do what they can to reduce global instability caused by higher fuel prices."

No one doubts his logic. But some oil watchers question whether OPEC is actually capable of boosting production and keeping it there for a long time.

The questions about OPEC's capacity center on the world's biggest oil exporter, Saudi Arabia. The Saudis accounted for 12% of global oil production in 2009, and that doesn't count their spare capacity. Saudi Arabia estimates that buffer at 2 million barrels a day, though the U.S. government says Saudi spare capacity is "well above" that stated target.

Those comments suggest an oil-addicted global economy has little to worry about from this week's price spike.

But not everyone is convinced. Jeffrey Brown, a Dallas-area petroleum engineer, questions the assumption that the Saudis can meet the world's needs.

He notes that Saudi production has declined in three of the four years since it peaked at middecade – including an 11% plunge in 2009. At the same time, Saudi oil consumption has soared, making it the 15th-biggest petroleum consumer as of 2008, according to U.S. government data.

Is all well at the Saudi wells?

Brown estimates Saudi consumption will hit 3 million barrels a day this year – up 50% from 2005. Every barrel consumed at home is one the Saudis cannot export to fill booming demand for fuel.

That means the Saudis will have reverse years of decline and, indeed, set new production records just to bring their exports back to levels regularly seen during the good old days of the middle of the past decade.

In order to simply match their 2005 export peak of 9.1 million barrels a day, the Saudis would have to pump 12.1 million barrels a day in 2011. That's almost 10% above the kingdom's highest output for a year.

That is a pretty big order to fill, with no particular sign that the Saudis can fill it. Those numbers seem to point toward higher oil prices, which is not good news for a weak U.S. recovery predicated on strong global growth.

The next year may also bring the answer to a question that has puzzled petrol watchers for some time. If the answer is the one Brown is expecting, even higher prices look like a good bet.

"We might finally find out for sure what the Saudis can produce on a sustained basis," Brown says, "if there are production disruptions elsewhere, but not in Saudi Arabia." And the way things are going in the Middle East lately, even that is no sure thing.

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About This Author
Colin Barr
Colin Barr
Senior Writer, Fortune

Colin Barr has covered finance for Fortune.com since November 2007. Previously he was a writer and editor for TheStreet.com, winning a 2006 Society of American Business Editors and Writers award for "The Five Dumbest Things on Wall Street," and for Dow Jones Newswires. He is a 1991 graduate of Penn State and lives in Port Washington, N.Y., with his wife Meena Bose and their two kids.

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