Saudi Arabia’s Unsustainable Welfare State

The Wall Street blog reports, (bold highlights mine)

Another reason to brace for higher oil prices in coming years: big oil exporters are increasingly dependent on the income.

Saudi Arabia, due to higher government spending this year, will need its oil to sell for $88 a barrel in 2011 for its government to break even–up from $68 last year, according to a new estimate from the Institute of International Finance, a global bankers’ trade group.

The kingdom, in response to the unrest spreading throughout the Middle East and North Africa, is boosting government spending to provide new social benefits for its people. The support for housing units, unemployment benefits and wage hikes for public workers (among a long list of measures) will contribute to a 31% increase in government spending in 2011 from a year earlier.

Aside from the prospects of reducing oil supply to allegedly generate more income (i.e. by manipulating markets), this exemplifies how the welfare state, which works for the benefit of a few, will NOT last.

Like substance abuse, bribing the citizenry would only grow overtime (from demographics and from the feedback loop of the deepening of the dependency culture--which translates to more demand for welfarism).

Importantly, this also shows how the welfare state contributes to inflation and to high oil prices, aside from showing more proof that the global oil markets are vastly manipulated and distorted from the ratchet effect (irreversible expansion) of government interventions.

Lastly like a house of cards, once oil prices collapse, Saudi’s political leadership will most likely suffer from a political backlash which may end their grip on power.

At the end of the day, Saudi’s welfare state could only buy the political leaders some time before the day of reckoning arrives. What is unsustainable won’t last.

Peak Oil Represents Government Failure

The beauty of the internet is that it has been leveling the playing field between the public and the governments in terms of information.

The web has placed much of government’s stealth activities in jeopardy.

A good example is the controversial Wikileaks which has recently revealed that Saudi Arabia could have been exaggerating the declaration of her oil reserves. Translation: Expect higher oil prices soon.

The Business Intelligence reports,

Saudi Arabia, the world's largest crude oil exporter, is unable to pump enough oil to keep prices from rising, the Guardian reported, citing confidential cables from the US embassy in Riyadh.

The cables from 2007 to 2009 made public by the website Wikileaks, urge Washington to take seriously a warning from a senior Saudi government oil executive that the kingdom's crude oil reserves may have been overstated by as much as 300 billion barrels, nearly 40%.

The report cites comments attributed to Saudi Aramco geologist and former exploration chief, Sadad al-Husseini, that Aramco couldn't reach the 12.5-million-barrel daily capacity needed to keep prices from rising.

According to the cables, which date between 2007-09, Husseini said "Saudi Arabia might reach an output of 12 million barrels a day in 10 years but before then – possibly as early as 2012 – global oil production would have hit its highest point." This crunch point is known as "peak oil".

Peak oil adherents may be quick to say “I told you so”.

However as we previously said,

While peak oil (via Hubbert Peak Theory) may be a valid engineering theory, it is a poor economic concept for the simple reason that engineering theories (like quant models) do not capture people’s behaviour.

The Wikileaks exposé only serve as a concrete example of how governments have steadfastly tried to manipulate every politically sensitive markets...and this includes the oil markets.

To consider, given the stranglehold control over oil supplies by different oil producing states, which accounts for more than 80% of the world’s proven reserves, if governments had the ascendancy to establish “equilibrium” then we won’t be bothered by prospective risks of shortages (via “Hubbert Peaks”) or suffer from elevated oil prices at all.

Graphs from the US EIA (includes BP Statistical Review and PRC Energy)

But obviously this hasn’t been the case.

Since governments are comprised by people—only that these elites have been politically mandated (which means they hold the barrel of the gun on us)—they suffer from the same frailties as anyone else.

Yet governments have been demonstrated:

-to lack access to the technology required to efficiently and productively utilize their oilfields,

-have had inadequate financing to invest to satisfy consumer demand,

-has revealed administrative incompetence in operating national firms or in the supervision of the 'choked’ industry, and

-most importantly, had been exposed for the paucity of knowledge to implement “equilibrium”.

It is worth emphasizing that with over 80% of proven oil reserves (supplies) controlled by global governments, this means there has hardly been a functioning free market in oil!

If Saudi officials are indeed guilty of withholding information then this reinforces the problems of the massive distortions in the oil markets which would likely implode on our faces-a negative externality as a result of government failure.

Otherwise, dynamic price signals in a free market would have reflected on the balance of demand and supply from which the marketplace would have adjusted accordingly.

What you have, instead, are vastly distorted oil markets that has been amassing intensive structural “supply-side” imbalances compounded by the manipulation of money supply by global central banks that has been contorting the “demand side”. A perfect storm in the making.

So what elevated oil prices suggest is not a validation of peak oil theory but one of the massive failure of government intervention or controls.

OPEC 50th Birthday: 50 Years of Oil Price Manipulation

It’s been 50 years since governments around the world have been manipulating the oil price market.

This from the Economist,

OPEC, the cartel of oil producers, celebrates its 50th anniversary on September 14th. The organisation was founded in 1960 with the explicit purpose of manipulating oil prices by controlling supplies. It has generally proved successful. OPEC controls around 80% of the world's proven reserves and over 40% of the world's production among its 12 member states. The Gulf states that dominate OPEC have the biggest reserves and lowest costs, so can most easily turn the taps on and off when required to keep prices high. Despite the slow return to health of a sickly world economy, oil fetches a lofty $75 a barrel, which Saudi Arabia, OPEC's most influential member reckons is "ideal".

One should note that the cartel, which has been responsible for 40% of the world’s production, holds also 4/5 of the proven reserves. This means that the cartel isn’t limited only to oil production but also in the access to oil reserves for production. Limiting access to production means restricting available supplies.

Of course, the production cartel (OPEC) hasn’t been the only factor. Otherwise the prices of oil would have steadily trekked upwards over the last 50 years.

That’s because there is another cartel involved: the US Federal Reserve, whom represents today’s de facto US dollar standard system.

Monetary inflation by the US Federal Reserve has produced boom bust cycles in oil prices. The US Fed’s loose money policies has been instrumental in the huge price swings in the price of oil by artificially stimulating demand during the boom days, which subsequently resulted to the ensuing busts.

Bottom line: Unseen by the public has been the 50 years of manipulation by different government sponsored cartels that has vastly eroded our purchasing power and has prompted for intensive volatility in the world’s economic trends.

50 years of government “greed” at the expense of the people.

Ironically, the public sees things the opposite way.