Energy Prices Rise May Trigger A Recession

Since the war in Ukraine began, Russia has attempted to counter Western sanctions and its battlefield incompetence by strangling Western energy supplies, raising prices, and inducing a recession – even if it would eventually cause harm to the Kremlin’s cash flow as prices would collapse. OPEC+’s decision on Sunday to cut oil output by 1.2 million barrels per day is set to have far-reaching economic implications and may create a recession in the West which Russia so desperately wants in a fit of Schadenfreude.

The OPEC+ cartel of oil-producing nations led by Saudi Arabia and Russia and chaired by Alexander Novak, Russia’s Deputy Prime Minister and Minister of Energy, is going to remove nearly 1 percent of total global oil production from the market in an apparent effort to increase prices. Despite earlier signals that OPEC+ would make no further reductions to oil production this year, the recent announcement was framed as a “precautionary measure” to ensure stability in the energy market. With oil prices surging 6.3% on Monday, to $85 a barrel for Brent, the Federal Reserve and other central bankers across the globe trying to get inflation under control, have been thrown a curveball.

OPEC+’s October 2022 decision to cut production by 2 million barrels a day combined with this further cut is pushing the world towards a recession as higher oil price acts as a tax on the global economy. While many analysts believe that gasoline prices in the US will not rise more than 30 cents per gallon, the latest production cut will prove more impactful for the overall economy as it coincides with heightened demand during the summer season, as opposed to the previous cut which happened when gas prices usually drop.

This move also serves as a stark reminder to the Democrats of how vulnerable they are to oil producers abroad, and especially to the Kingdom of Saudi Arabia, with which the US had a strategic relationship since 1945. Given President Biden’s blustering against Crown Prince Mohammad bin Salman in the wake of the gruesome assassination of the Saudi regime’s critic Jamal Khashoggi, and an assault on U.S. fossil fuel production which has reduced incentives for oil and gas investment in the US, the flaccid US influence over global oil markets also resulted in Russia’s increasing sway over other oil-producing nations. That influence will now translate into rising gas prices for the American consumer and headwinds for the Western economy.

Historically, soaring oil prices and economic downturns have a close relationship. In 1973-1974 US support for Israel in the Yom Kippur War that October prompted OPEC to impose an oil embargo against the US and other Western countries. The embargo resulted in soaring prices at the pump. The ensuing recession was exacerbated by existing inflation due to Vietnam War and turned into stagflation.

Russia and Saudi Arabia would do well to remember the result of the OPEC embargo, however. It failed. It damaged the economies of the producing nations far more than the West because of a rule of economics: consumers of raw materials tend to have a long-term advantage over the producers of it in any economic disagreement. This is particularly true today, as automotive transportation is quickly transitioning to electric mobility.

If the latest production cut is going to accelerate the recession and tighten the noose on economic growth, it will have serious political implications for the US entering the highly contested presidential elections season for 2024.

The shifting geopolitics of oil makes this particularly toxic for the Democrats. There has been a seismic shift in Saudi Arabia’s attitude towards Washington since Biden’s fist spat with Crown Prince Muhammad Bin Salman about Khashoggi and Iran in the summer. Washington’s longtime ally in the Middle East is now engaged in a balancing act with Russia and China and determined to keep oil prices high at a time when Russia’s pursuit of high-priced oil to fund its war in Ukraine is incompatible with American strategic interests.

The second is that Biden’s persistent political headache- high oil prices- will just arrive at a bad time as his Administration gears up for reelection. The impact of high gasoline prices on fueling a recession can be blunted by opening the spigots back home, as the White House recently did by greenlighting the big oil project on Alaska’s North Slope known as Willow.

The US can also encourage other oil producers such as Brazil, Canada, and Norway to raise production levels. Authorizing the Keystone XL pipeline from Canada to the US Gulf Coast may not be immediately feasible but could represent an important symbolic gesture of newly rediscovered energy policy sanity. The administration could also boost bipartisan unity by facilitating shale drillers in Texas to boost crude production output by 1 million barrels a day.

OPEC+’s new doctrine to act preemptively to secure its interests is gaining favor among its increasingly anti-American leading members. Thankfully, the US has plenty of tools ready to mitigate or prevent such a recession, if Washington can summon the political courage to do what is practical and necessary. A big if indeed.

Co-written by Shallum David.