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The 10th issue of the Shale Gas Investment Guide brings you in-depth analysis and reporting on the European, North African and global shale gas markets, together with key market data and indicators.
Shale Gas Investment Guide | by Gabor Chodkowski-Gyurics

Saudis' Shale Zugzwang

To those lamenting the impact current low oil price has on gas exploration, it seems fairly clear Saudi Arabia chose to play an economic game of chicken with the upstart shale oil industry. So why are the Saudis trying to buy into US unconventionals?

In March, the OPEC leader Saudi Arabia stepped away from its role as global oil price balancer and significantly increased its output in March to an already oversupplied market. The move was seen as an attempt to nip the US shale oil industry in the bud and protect the Saudi market share by starving out the development of competitive resources. But the oil giant itself has been getting ready to invest in the shale industry for a while now.

The “war on shale” narrative may appear sound, but not all facts check out. At the time Saudi Arabia led OPEC to fully open the oil floodgates, state producer Saudi Aramco already had €9 billion earmarked for developing shale oil and gas extraction technology. Moreover, state-owned chemical giant Saudi Basic Industries Corp. (SABIC) was already trying to buy its way into US and Chinese shale industries - the markets Saudi Arabia is supposedly trying to destroy.

With oil exports accounting for over 80 percent of Saudi Arabia’s revenue, the country is bound to fight tooth and nail to retain its global market share, which stands at over 10 percent currently. However, there is a drawback to that strong position as well. The world’s largest oil exporter is also the world’s sixth largest oil consumer, with domestic demand already constituting a quarter of its production and growing by about 3.9 percent annually.

That may only be an annoying limit to export capacity right now, but it is likely to snowball into a serious threat. Research reports of Citigroup and Chatham House independently reached the conclusion that, if current demand growth patterns continue uninterrupted, the country will turn into net oil importer as soon as in 2030s.

Despite being rich in oil, Saudi Arabia faces a natural gas shortage, which was traditionally dealt with by turning to oil to generate some 58 percent of kingdom’s power. However, the growth in Saudi Arabia’s energy consumption has been outpacing production growth since 1991, and at average growth of 7.5 percent in the past five years. Generous fossil fuel subsidy regime - second biggest in the world, after Iran - greatly increases car fuel demand as well. With petrol costing €0.11 at pump, and electricity price at €0.012 per kWh making most energy efficiency improvement measures greatly uneconomical, Saudi government found it most difficult to enforce them and curb wasteful energy use.

The subsidy is as difficult to revoke as it is economically dangerous. Saudi regime operates on a “no taxation with no representation” rationale - tax exemptions, welfare payments and subsidies are government’s primary tools of ensuring acquiescence. Following the ousting of Egyptian president Hosni Mubarak in 2011, Saudi Arabia gave away €117.5 billion in wages, unemployment benefits and housing programs to stave off the influence of the Arab Spring.

With patronage spending greatly hampering Saudi ambitions at reducing domestic oil consumption, the only remaining recourse is introducing new energy sources into the mix. The royal family is mulling carrying out a nuclear energy program, while solar power, apparently perfect for local conditions, has stalled at 12 MW. Then there is the perennial obstacle of state budget - kickstarting energy diversification inherently leads to increased production costs, which further increases the subsidy burden.

And that is where cheap shale oil and gas resources come in. SABIC, which used to complain time after time that Saudi Aramco is not capable of providing it with enough gas, had in the past tried utilizing naphtha as feedstock, but in light of rising oil consumption woes and general cost-effectiveness, chose to go straight for the source of cheap natural gas liquids - the emerging ethane global market (read more on page 36).

In April, the company signed an agreement with Enterprise Products Partners, operator of the upcoming Morgan Point export terminal in Houston, Texas, to buy feedstock for its petrochemical plants in US and UK, whose crackers were recently converted to take in US shale-based ethane. The kingdom itself could potentially hold world’s fifth largest shale gas reserves trapped in rich carbonate rock formations. According to Baker Hughes estimates, they could exceed 18 trillion cubic meters (TCM) of recoverable gas. Unlocking the country’s shale potential would do much to satiate its hunger for gas, but its development is currently stymied by technology.

High costs of water in the region make both hydraulic fracturing and acidization techniques of well stimulation prohibitively expensive, especially in light of current gas selling price. A small pilot program is underway to develop a water-efficient way of cracking the carbonate formations open. The so-called Fishbones system proposes pumping acidic solution from a number of needles protruding from pipes. The needles are to extend about 12 meters in four directions, carving out tiny lateral tunnels in the rock and - most importantly - use 95 percent less water than current hydraulic fracturing technology.

Until a technological breakthrough emerges to unlock its own reserves, the Saudis are in a bind, in which cheap US shale is just as dangerous to their oil exports as lack of it. And with a possibility of Saudi Arabia being knocked out of the global market, it may turn out - contrary to the common knowledge - that it is in fact the oil, whose future depends on gas.


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