By John Richardson
NO SMOKE without fire? Perhaps, as there more and more reports that China will buy into next year’s Saudi Aramco IPO.. This would further cement already strong economic and geopolitical ties between China and Saudi Arabia. It was Reuters that first reported back in April that China was interested in buying into Aramco through a Chinese consortium comprising state-owned banks and Sinopec and PetroChina.
So, what’s in it for each of these countries in building a closer relationship?
Saudi Arabia hopes to find a home in China for its oil as it has lost exports to the US because of the US’s move towards energy independence. Total US imports of crude have fallen from almost 14 million barrels a day in 2007 to only 8 million in the first half of this year, thanks to the fracking revolution.
Another benefit for Saudi Arabia is that securing more market share in the China oil market would enable it to build a hedge against the strong likelihood that we are approaching peak global demand for oil. Peak demand might arrive a lot quicker than many people think because of greater fuel efficiency and the rise of electric-battery driven cars etc. in response to growing climate-change concerns.
Specifically on the Aramco IPO, China might also be more willing than western investors to accept the $2 trillion Saudi valuation of the company. This valuation is important if Saudi Arabia is going to realise its targeted $100 billion from the listing.
Raising this amount would help Saudi Arabia plug a budget shortfall resulting from the big drop in crude prices. The money would also go towards funding its ambitious Vision 2030 reform agenda
Meanwhile, China would secure oil at the right price and in the right quantities to guarantee its long-term economic prosperity.
China has no chance of by itself becoming energy independent because of strong demand growth for oil versus declining domestic production. China imports more than 8.5m barrels of oil each day which is 2.5m b/d higher than in 2014, as production from local fields such as Daqing and Shengli declines.
Using oil as a direct cracker feedstock
And in petrochemicals, China’s closer ties with Saudi Arabia will allow it to realise its ambition of much greater, or even complete, self-sufficiency. This will come via both Saudi-China investments in Saudi Arabia and in China.
Investing in China’s refining and petrochemicals sectors is also a further means by which Saudi Arabia can monetise its oil reserves. By building more refineries in China, Saudi Arabia will guarantee captive offtake of its crude.
Naphtha crackers will also be added downstream of refinery investments – along with, of course, derivatives plants downstream of the crackers. This will help China realise its petrochemicals self-sufficiency ambitions. For example, in May Aramco signed an agreement with a privately-owned Chinese company to develop a refining and cracker complex in Panjin in the northern province of Liaoning.
Aramco and SABIC have also developed a technology which allows crude to be used directly as a feedstock for steam cracking. Saudi Arabia has said that it wants to work with China on further developing this technology as there are synergies with China’s expertise in coal-to-chemicals.
The benefit here for China is that in a world where oil prices look set to remain at $50/bbl or lower, using crude as a direct steam-cracker feedstock is some $200/tonne cheaper than cracking naphtha on a cash cost basis. China could thus have access to a very cost effective way of further raising its petrochemicals self-sufficiency.
As for Saudi Arabia, using crude as a steam cracker feedstock is another means of ensuring that it will not be forced to leave its oil reserves in the ground as demand for gasoline and diesel in transportation declines.
Mutual Geopolitical benefits
One of the reasons why the US remains the No1 global economic and geopolitical superpower is the role that the US dollar plays in the global economy. China is, as result, eager for the yuan to start competing with the dollar as a global currency.
As OilPrice.com writes, this is another reason why China might want to get closer to Saudi Arabia through investing the Aramco IPO.
It could increase Beijing’s bargaining power to convince Aramco to accept yuan payments for its oil instead of U.S. dollars, as China is trying to make its currency a global one.
Although there is no indication yet that Aramco would want yuan for its oil, the Saudis said a couple of weeks ago that they would be willing to consider issuing yuan-denominated bonds, in what could be a break from the practice to issue debt only in US dollars.
The US and Saudi Arabia have a defence-for-oil pact that dates back to 1945. This followed a deal struck by President Roosevelt and the Saudi King, Ibn Saud.
Does the US need to play as big a military role in the Middle East now that it is moving towards energy independence? Further, how will President Trump’s “America First” approach effect the US’s traditional role as global policeman?
Saudi Arabia, like the rest of us, doesn’t know the answers to either of these questions. As a hedge against a very uncertain future relationship with the US it therefore makes sense for Saudi to get closer to China, as China is quite clearly expanding its global military presence.
From China’s perspective Saudi Arabia is also a key member of its $1 trillion One Belt, One Road (OBOR) initiative. Closer relationships with Saudi will make it easier for China to succeed in its OBOR project, with success essential if China is going to achieve its broader agenda of economic reforms.