Saudi Arabia can't save the West from rising oil and gasoline prices -- only Wall Street can.
The Kingdom announced earlier this week that it was increasing crude production in a bid to shake off supply concerns involving a potential shut off of Iranian oil supplies. While Saudi Arabia does have a massive reserve base, it can't fight this latest run-up in prices on its own. It is already running close to its production limit and it's unclear it can bring enough supply online to fill an Iranian void. Furthermore, even if Saudi Arabia could somehow fill a hypothetical supply gap, it is unlikely it would really make much of a difference in a market where speculators on Wall Street continue to hold large bullish positions in crude and gasoline futures.
The average price for a gallon of regular gasoline in the U.S. is averaging around $3.86 a gallon, which is a record high for this time of year and 9% above where it was during the same time last year. Much of the increase can be traced back to crude prices, which have moved up considerably amid supply concerns stemming from tensions over Iran's nuclear program. Tighter sanctions by the U.S. and Europe have hit a nerve in Tehran, provoking a war of words that have made investors nervous.
Despite the verbal assaults, there has been little impact on global oil supply as a result of the tougher sanctions on Iran. OPEC estimates Iran produced 3.424 million barrels of oil a day in February, which is off around 5.4% from the 2011 average. Increased crude production from the rest of OPEC, namely Libya and Saudi Arabia, more than made up for this small decline in output. Meanwhile, the U.S. market continues to be well supplied. There is currently enough oil in commercial oil storage tanks to cover 57.5 days of demand, which is 4 days more than a year ago and 6.6 days more than the five-year average.
But it is the potential for a massive supply disruption that is adding a special premium to oil prices, even though such a possibility is remote. Saudi Arabia's oil minister told reporters last week that the Kingdom stands ready to "make good any shortfalls – perceived or real – in crude oil supply." This week, the Kingdom's cabinet released an official statement saying that it "alone" would supply enough oil to the markets to return prices back to what it deems to be a "fair" level for consumers. U.S. benchmark crude futures shed about $2 after the news, to end Tuesday at $106.07.
But while the news is comforting, it really has little substance. Saudi Arabia is already breaking its own OPEC-imposed production quota limit (as are most other OPEC members) and producing an astounding 9.9 million barrels a day, putting it close to a 31-year production high. The Kingdom's production engine is firing on all cylinders with the number of drilling rigs in operation, up significantly from the same time last year. It is even going to start drilling in retired oil patches to squeeze out any extra oil that might still be underground.
Officially, Saudi Arabia's full production capacity is around 12.5 million barrels a day, which is 2.5 million barrels a day above its current production level. It also just happens to be Iran's production limit, which could lead one to believe that the Saudis could possibly make up for any lost Iranian production. But given the frenzied production rates of late and all the new drilling rigs in operation, many analysts believe that it would take several months to push production up to its ceiling. And even if it could somehow hit that level it may not be sustainable as it would mean raising production to levels that could actually damage the fields.
