China first reported COVID-19 to the World Health Organization on the 31st of December 2019. WHO declared it an international public health emergency almost a month later, on the 30th of January 2020. The onset of COVID-19 marked the beginning of a downward spiral for the global economy, with today’s market losses and rising unemployment expected to be worse than the 2008 recession. One area of the economy feeling the economic dislocation of COVID-19 and new geopolitics, are energy markets, especially oil. Energy markets were jolted by China’s demand shift, as jet fuel demand declined and factories closed while parts of the country were under quarantine restrictions. China remains the most significant global importer, buying over 10.1 mbd in 2019. 2020 is shaping up to look very different, with oil demand now cratering beyond China’s borders. Some analysts estimate a global oil demand loss of 10-12 mbd in this quarter.

The other energy story exacerbating the already devastating impacts on energy markets is the oil war between Russia and Saudi Arabia. The relationship began to take new shape in 2016, when the two countries came together to stabilize oil prices, agreeing to production cuts and forging what became known as OPEC+. Narratives of the end of OPEC didn’t factor in the organization going beyond its permanent members and asking Russia and other countries to join together to cooperate around market stabilization. Things worked pretty well for OPEC+ between 2016 and the beginning of 2020, but the most recent OPEC+ meeting in Vienna exposed weaknesses in both strategy and country-specific national interests.

In a recent surprise move, Russia, the largest producer in the OPEC+ group, declined Saudi Arabia’s move to cut production by another 1.5 mbd, on top of the 1.7 mbd cut already in place. Saudi Arabia assumed Russia would agree given demand destruction was impacting all producers. With demand cratering and prices moving into freefall, decisive action was required. Saudi Arabia made it clear what needed to happen, reduce supply, and get a floor on the price. Russia said no, and left Vienna with no cooperative strategy in place.

Amazing what a weekend can bring. Two days after the March 6th OPEC+ breakdown, Saudi Arabia decided to do a dramatic reversal, and increase its production from 10 mbd to over 12 mbd starting in April. This change represents an increase of more than 2.0 mbd from current levels and .3 mbd above sustainable capacity, what some have called “escalating to negotiate.” Saudi Arabia also lowered the price for its crude and further drove the oil market into a frenzy. In the two weeks since the OPEC+ talks broke down, oil has gone from $50 a barrel to under $25. Some expect it to decline below $20 – there’s no price floor in place. The world started 2020 awash in oil, and with the COVID-driven collapse in demand, there’s nothing to support higher prices without a concerted decision to reign in production. There will be blood for cash-strapped producers, and this is especially true for indebted producers in the United States.

Why would Saudi Arabia jeopardize its economy with an asymmetric move? Is it a retaliatory move to punish Russia for not agreeing to production cuts of 1-1.5 mbd, an opportunity to capture market share from US shale, or an internal calculus that with global oil demand cratering Saudi decided to go against market logic and flood the markets to secure larger purchases from China and beyond? Two weeks later, the answer is all of the above. Adding intrigue, on the day Saudi Arabia was negotiating with OPEC and OPEC+ partners, Mohamad Bin Salman was further consolidating his power and hold over internal Kingdom politics.

Russia’s decision to end its role in OPEC+ caught many in and outside of OPEC by surprise. Its decision to walk away from its OPEC + relationship and formerly break up with Saudi Arabia presented a new calculus around Russian oil production. Producers, not wanting to be curtailed, went against the OPEC crowd, or more precisely, Saudi Arabia, and declined participation in production cuts. Two weeks into this new paradigm, Russia is not rushing to the negotiating table; all responses since Saudi Arabia’s move show a willingness to ride out lower prices. Russia’s Finance Ministry has said the country could withstand $25-30 a barrel oil for as long as 5-10 years, though testing that position would ultimately strip the economy of a cushion for other financial shocks.

Some look to Igor Sechin, CEO of Rosneft, and close confidante of Putin for the answer. Rosneft was recently targeted by US sanctions for trading Venezuelan oil, putting salt on an already deep cut of US sanctions against Russia. Refusing to participate in production cuts provided Sechin with a chance to hit the US over the sanctions they had in place against Russia since the spring of 2014. In his thinking–why keep US shale alive by increasing prices and deepening loss of market share? Why not drive shale rock back into the ground by making it uneconomical to produce? Already cash strapped and struggling, the deepening oil price collapse means less US production, though it is still too early to determine if Russia’s strategy can decimate US production. Survival instincts are strong on both the Russia and US sides of this oil war battle.

So, what next?

There’s much attention on how US producers will respond. The United States has a representative in place to talk to Saudi Arabia with the hopes of bringing more balance to the market and getting them to reverse the decision to flood an already saturated market. There were even talks of putting quotas on US producers. Many in the oil patches of Texas and beyond believe this goes against free markets and will set a bad precedent, even if quotas were once part of managing the US and global oil production.

There’s also the question of oil-producing countries which started this downturn facing instability, both political and economic. Oil-producing countries in OPEC, Nigeria, Angola, and others are feeling deep pain from the decisions of its higher members, Saudi Arabia and UAE, who have the most power in the cartel. 2019 exposed severe vulnerabilities in Iraq, Nigeria, and Venezuela. How these countries navigate price decimation is still to be determined. Countries that depend on oil revenues for the bulk of their budgets and GDP face an insurmountable battles so expect fallout over the months and years ahead.