Russia-Saudi Relationship Is a Coronavirus Casualty

(Bloomberg Opinion) -- We are seeing the first geopolitical casualty of the coronavirus unfold in real time: the fraying of the Saudi-Russia partnership. Up until now, it was reasonable to expect the biggest geopolitical upsets from the virus would be related to China, and such outcomes still might unfold in the future. Yet a coronavirus-instigated meltdown in the relationship between Saudi Arabia and Russia is on full display right now. It is already roiling oil markets in a way that could further upend the global economy, and has geopolitical implications well beyond energy markets.

Five years ago, a partnership between Russia and Saudi Arabia seemed inconceivable. The two countries had a history of mistrust going back to Saudi support for the Afghan mujahedeen, and they differed significantly on important issues, most notably on Syria. But the 2014-2016 descent of oil prices focused the minds of rulers in Riyadh and Moscow, and the two governments put aside their frictions to focus on lifting oil prices. Russia took the lead in forming and sustaining OPEC+, a 10-member group of oil producers that for the first time coordinated with OPEC over global oil production cuts. Although the collective efforts of OPEC and OPEC+ couldn’t bolster prices as much as many producers wanted, they were critical to keeping them in a middling range where many producers could manage in the short term.

The coronavirus pushed the already-growing divergence of Russian and Saudi interests over oil prices to the forefront, and led to the dramatic falling-out seen between Riyadh and Moscow on Friday. Slowing economic activity in China — the source of nearly two-thirds of oil demand growth in 2019 — has led forecasters to sharply reduce projections of oil demand growth for this year. Although the first quarter of 2020 hasn’t yet ended, the International Energy Agency has cut its forecast for oil demand several times and now predicts that demand will see a quarterly decline for the first time in a decade. The outlook for the rest of the year looks similarly bleak. Faced with this grim picture, Saudi Arabia proposed an additional production cut of 1.5 million barrels per day, on top of the most recent cut that had been in place since last December.

Russia, which can balance its budget on a significantly lower price of oil, balked. It walked away from talks in Vienna on Friday and reportedly gave the 10 members of OPEC+ license to ramp up any “idle capacity” after the current agreement expires on March 31. Saudi Arabia’s oil giant Aramco lost no time in responding, slashing the prices it will charge refiners buying Saudi crude in April by unprecedented amounts. The biggest discounts were extended to European buyers in what can only be interpreted as an effort to undercut Russian oil sales. Aramco publicly announced that it would increase its overall production in April from 9.7 million barrels per day today to between 10 million and 11 million; privately, Saudi officials have indicated that they are willing to explore their options for increasing production to 12 million. Other members of OPEC that have been curbing their production, such as Iraq and the U.A.E., will no doubt follow suit.

It’s hard to overstate what this could mean for global oil markets. The tumble of oil prices to below $30 a barrel in early 2016 was caused by a supply glut created in part by increases in American unconventional oil production and an OPEC strategy focused on market share instead of price. The oil-market crisis the world is about to experience will be the product of a supply glut and dramatic demand destruction due to the coronavirus and its impact on global economic activity. The geopolitical impact could be massive. It could undercut the U.S. shale industry, destabilize Saudi Arabia at a sensitive moment of reform, wreak havoc on the budgets of countries like Iraq, and create new hurdles to addressing climate change.

But there’s still time for the two sides to come to a deal. It will require both Saudi Arabia and Russia to do what many negotiators do when they hit an impasse: make the problem bigger, so there are more trade-offs and more win-win solutions.

It’s possible that so far, Moscow and Riyadh have been evaluating options largely through the lens of economics. Reaching a deal has understandably proven difficult, as Russia is much better-positioned than Saudi Arabia to weather a period of low oil prices, which it hopes will curb U.S. shale production. But Russia in particular should also look at this moment through a geopolitical lens. It has a lot more to lose than oil revenues. The cratering of the Russia-Saudi relationship would likely reverse one of the most significant strategic trends in the Middle East of the last five years: the re-emergence of Russia as a key strategic actor in the region.

Russia parlayed the goodwill it created by cooperating with Saudi Arabia and other OPEC members on oil prices to expand its diplomatic, economic and military footprint in the region from its initial incursion into Syria in 2015. To see how much has changed in a few short years, look at last October, when President Vladimir Putin made his first visit to Saudi Arabia in 12 years. He received full red-carpet treatment and was flanked by a large delegation of trade, defense and security officials. Putin rolled up the visit with the announcement of more than 20 agreements worth over $2 billion, as well as a status-enhancing invitation to participate in the international investigation surrounding the attack on Saudi oil facilities. Any American visitor to the region in the past several years has heard the argument many times that Russia — in contrast to the U.S. — is demonstrating how a true partner acts.

Ultimately, Russia will find that pulling out the OPEC+ agreement at a time of such uncertainty in global oil markets will be a huge setback for its larger ambition to become a power in the region on equal footing to the United States.

This realization may concentrate minds in Moscow and generate alternative proposals. For example, Russia very much wants to normalize the situation in Syria and begin rebuilding the country under Bashar al-Assad’s rule. The Saudi government has so far resisted entreaties to partner in these efforts. Yet it wouldn’t be surprising if Russia leveraged its oil policy to convince Riyadh to once again recognize the Assad regime and reopen an embassy there, as other Gulf countries have already done. An invitation for Syria to rejoin the Arab League — from which it was ejected in 2011 — could follow.

Ultimately, Moscow and Riyadh could still pull global oil markets back from the brink. Doing so, however, will require both sides to widen the aperture through which they are looking at the problem and bring geopolitics explicitly into the conversation. A failure to do so will be a jolt to the world, but not without its silver linings. The first, which Washington should be thinking about how to exploit, will be an opportunity for the U.S. — if it is so inclined — to regain some of the foothold it has lost in the Middle East, as regional actors reflect on what really constitutes a partner in that part of the world.

To contact the editor responsible for this story: Tracy Walsh at twalsh67@bloomberg.net

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

Meghan L. O’Sullivan is a Bloomberg Opinion columnist. She is a professor of international affairs at Harvard’s Kennedy School and is on the board of directors of the Council on Foreign Relations. She served on the National Security Council from 2004 to 2007.

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