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The Crisis in Egypt and its Impact on the Oil Market

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By Shebonti Ray Dadwal

While Egypt is not of vital importance for the international oil market given its modest output, the political unrest there has sent tremors through the world oil market and triggered fears of long-lasting economic damage if the crisis deepens. Though the crisis is unlikely to hit the economies of Gulf oil producers and their crude output may not be impacted, there are concerns that shipping through the 120 mile Suez Canal may be impacted by the uprising in Egypt.

Since the Egyptian crisis broke towards the end of January, the price of crude began witnessing a hefty rise. From $85.64 on January 24, 2011, prices rose sharply to $92.19 on January 31, the highest since October 2008, as concerns over possible interruption in oil supplies began to be factored by investors. Currently, the price of Brent crude has crossed the $100 per barrel mark, while WTI (West Texas Intermediate) is trading at around $92 a barrel on the New York exchange. Speculation is however rife over whether prices will rise even higher,

While Egyptian oil production per se does not present a huge risk to oil supplies, given that Egypt is a minor oil producer, and has seen its production falling from 941,000 barrels per day (bpd) in 1993 to about 685,000 bpd currently, it does control around five per cent of the world’s oil and gas delivery through the Suez Canal. Around 1.8 million barrels of oil per day (mbd) move through the Suez Canal and another 1.1 mbd or so barrels pass along the 200 mile long Sumed pipeline linking the Red Sea to the Mediterranean. Any interruption here would move the oil market into considerable volatility, requiring a rebalancing of contracts and a noticeable escalation in prices. A decline of even one per cent in global oil supply availability, without an equivalent decline in demand, pushes the average crude oil prices up by $10 a barrel. That would translate into an almost overnight Nymex price level of $140 a barrel and a Brent price pushing $150.

Though there are no indications that oil supplies or transportation will be impeded at this juncture, the situation is fluid. However, the unrest in the region could not have come at a worse time, as the world was beginning to come out of the financial recession that had seen almost the entire Western world being severely impacted. Any instability or crisis in the West Asian region, home to the world’s largest and residual oil reserves, will have a pronounced effect on the global energy market. More importantly, if the contagion that began in Tunisia and spread to Egypt extends to other oil producing and exporting nations, this could have a devastating effect on oil prices. It bears mention that the economic grievances that have triggered the mass protests in Egypt exist across several countries in the region, a fact that is borne out by the mass protests that have been witnessed in Syria, Sudan, Jordan as well as Yemen. Leaders in Algeria, Jordan, Libya, Kuwait, Morocco, Syria and Yemen have sought to stave off real or perceived uprisings or even their possibility by announcing concessions on jobs, housing and prices.

Moreover, though Egypt is a marginal producer of oil, it has been increasing its development offshore, especially of natural gas in the Nile Delta, the Gulf of Suez, and the deeper waters of the Mediterranean Sea. Several major Western companies own oil and gas assets in the country, namely, BP, Exxon Mobil Corporation, Chevron Corporation, Royal Dutch Shell, Eni, British Gas Group, Edison, and several mid-sized companies. In addition, there are the substantial assets of leading drillers, including Transocean Ltd., Diamond Offshore Drilling Inc. and Baker Hughes Inc. All this have made Western countries quite concerned about the situation in Egypt. Also, the discovery of large gas deposits over the past several years has catapulted Egypt into the fast track lane for LNG exports to the European Union.

India’s Concerns

As far as India is concerned, though the Egyptian crisis will not have any direct impact on supplies, it does import the bulk of its crude from West Asia and Africa, and the closure of the Suez Canal and the Sumed pipeline would necessitate a diversion of oil flows though not a stoppage. The main impact would be in terms of rising crude prices.

Though Finance Minister Pranab Mukherjee has said that the situation is under control for now, and that it is being monitored, he did not rule out the possibility of an escalation in prices, which is always a matter of concern. The sharp rise in Brent crude is of particular concern as it has 32 per cent weightage in the Indian crude basket. The Indian crude basket is hovering at a much lower $94 per barrel currently, which is five per cent more than the price in December 2010, when the average price of the Indian basket was $89.78 per barrel. On January 31, public sector oil companies increased the price of jet fuel by 4.5 per cent, the biggest hike in almost a year, due to spiralling international oil prices. This was the eighth straight increase in jet fuel prices since October 2010, when international crude oil prices started soaring. There is also the possibility of the Indian Oil Corporation (IOC) hiking the price of petrol by Rs. 0.33 per litre soon on grounds that international crude oil prices have risen since the last price revision, thereby necessitating an increase in domestic retail prices.

Moreover, India has two oil and gas assets in Egypt. ONGC Videsh holds a 70 per cent participating interest (PI) in the offshore Ramadan Block (Block 6) located in the Gulf of Suez, which it acquired in August, 2005, at approximately $ 44 million. OVL also acquired a 33 per cent PI in the North East Mediterranean Deepwater Concession (NEMED) in the Mediterranean Sea in June 2007, at an investment of approximately $235 million. GAIL too has equity and management stakes in two gas distribution ventures in the country, while the Gujarat State Petroleum Corporation Ltd (GSPC) signed a Concession Agreement for two oil and gas exploration blocks in Egypt in March 2008.

Terming the events in the region as disturbing, ONGC chief R. S. Sharma has said that he is hoping that the situation would improve. Several Indian non-oil companies with large stakes in Egypt have already shut down operations for the time being.

While it is hoped that the situation in Egypt will be brought under control soon, a worse case scenario will be the contagion spreading to other parts of the West Asian region. How the situation bears out will have an impact, not only on the oil market, but also on the wellbeing of the global economy and the stability of the world’s financial markets.

Originally published by Institute for Defence Studies and Analyses (www.idsa.in) at http://www.idsa.in/idsacomments/TheCrisisinEgyptanditsImpactontheOilMarket_srdadwal_040211

Manohar Parrikar Institute for Defence Studies and Analyses (MP-IDSA)

Manohar Parrikar Institute for Defence Studies and Analyses (MP-IDSA)

The Manohar Parrikar Institute for Defence Studies and Analyses (MP-IDSA), is a non-partisan, autonomous body dedicated to objective research and policy relevant studies on all aspects of defence and security. Its mission is to promote national and international security through the generation and dissemination of knowledge on defence and security-related issues. The Manohar Parrikar Institute for Defence Studies and Analyses (MP-IDSA) was formerly named The Institute for Defence Studies and Analyses (IDSA).

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