2006 Speech

Oil Minister Al-Naimi's address to the Center for Strategic and International Studies
Ali I. Al-Naimi, Minister of Petroleum and Mineral Resources today addressed a energy conference hosted by the Center for Strategic and International Studies (CSIS) in Washington, DC, on "The future of US-Saudi Energy Relations."
Good morning, ladies and gentlemen. It is good to be back in Washington among so many old friends.

First of all, I would like to thank the Center for Strategic and International Studies, and its president, John Hamre, for organizing this prestigious and timely conference. In particular, it is a pleasure to stand here today with my friend, secretary of Energy, the Honorable Sam Bodman. I believe this type of dialogue is important to both our countries and our shared energy future.

Much has changed since we were together about a year ago here in Washington.  But much remains the same. Demand for energy, and especially demand for oil, continues to grow. Our energy supply infrastructure, constrained by years of underinvestment, remains tight.

For the second year in a row, weather related events -- not political developments -- were responsible for a major disruption to U.S. oil supplies. At the same tune, we saw the corrective nature and the benefits of an integrated global oil market at work.

Additional supplies from foreign sources were drawn to the U.S. in the wake of Hurricanes Katrina and Rita, replacing lost domestic production and thereby softening the blow to U.S. consumers.

We are also seeing once again how changing mandated product specifications can challenge the industry's ability to deliver sufficient products to consumers. This occurs at a critical time when refiners are facing the added burden of substituting ethanol for MTBE as they prepare for the peak driving season.

Political tensions, tight petroleum product markets, and talk of the world running out of oil are fostering an environment of fear and uncertainty in oil markets and among consumers. The consequences are clear to us all - prices for crude oil, heating oil and gasoline have risen to record levels. This is not a situation in which anyone can take comfort.

Now recently, Secretary of Energy Sam Bodman was quoted as saying that current prices were "very disruptive." I could not agree more. Prices at these levels are not in the interest of either Saudi Arabia or the U.S. As President Bush and King Abdullah affirmed last year at their meeting in Crawford, our common goal is an oil price level that protects consumers while at the same time ensuring adequate investment.

Last week, Secretary Bodman and I, as well as over 50 ministers from around the world, participated in an International Energy Forum in Doha, Qatar where consumers and producers continued to grapple with the concept of energy security and how best to achieve it. Consensus among producers and consumers on this politically sensitive issue remains elusive. We are stymied by an inability to reconcile our different perceptions of risk and to cast off the long-held myth which maintains that there is no commonality of interest between producers and consumers.

We are at the crossroads on the path to our energy future. The decisions we take today will help determine whether or not we can achieve sustainable energy security.

The global community faces tough choices as it struggles with how to achieve energy security. I believe we must act decisively because the current path poses a real threat of a continuing boom and bust cycle that robs us of the stability and predictability which promotes sound economic growth. At the same time, we must heed the lessons learned during previous eras of energy uncertainty and avoid repeating the costly mistakes of the past.

This morning, I would like to share my thoughts with you on the current energy security debate, including my observations about why consensus has been so elusive. I will then discuss those areas where I believe the United States and Saudi Arabia can work together to promote sustainable energy security.

Energy security tends to be defined most frequently in terms of price and availability. Consumers feel secure when prices are low and supply is plentiful. In such periods, it is of little concern to consumers from where their energy is coming.

On the other hand, producers feel secure when prices are high and demand is predictable. It follows that when prices rise or supply tightens consumers feel less secure.

Alternatively, when prices decline or demand falls producers feel growing insecurity. These divergent views are not surprising given the different perspectives of consumers and producers.

And it’s only natural that price is the central focus of any discussion of energy security. However, I believe that the energy security debate has been hampered by two tendencies. The first tendency is for some to view energy security as a zero sum game; that is to say, gains by consumers can only come at the expense of producers. Conversely, when producers gain, consumers lose. The second tendency is to define energy security in terms of price extremes; i.e., consumers are more secure when energy is very cheap and producers are more secure when energy is expensive. If energy security is defined in these terms, consensus is not possible.

Allow me to discuss why sustainability is critical to energy security. Experience shows us that energy security is transitory when the underlying conditions necessary for long-term stability are not present. For example, from the mid 1980s until 2000, prices remained low and energy security was not a major concern for consumers. The primary basis for this security was the existence of large quantities of spare capacity in the supply chain. But this period of low prices created the conditions for its undoing. Low prices discouraged investment in capacity and accelerated demand growth. This combination eventually removed the spare capacity on which the sense of security was built. In doing so, the stage was set for a significant price increase and a growing sense of energy insecurity among consumers.

Now producers who associate high prices with energy security have also experienced the illusion of energy security. In the run-up of prices in the late 1970s and early 1980s, many producers thought that they had achieved energy security. Demand was strong. Prices were high, and supply was tight – very much like the conditions we are experiencing today. Yet their sense of security did not last long, as high prices inevitably undermined demand while stimulating capacity expansion. In both cases, energy security was merely a mirage.

Energy security cannot be maintained when prices are at extremes – too low or too high. Truly sustainable energy security for consumers and producers requires three conditions – price stability, supply and demand reliability, and affordability. These are the three pillars of sustainable energy security. Affordability applies to both consumers and producers. If producers are forced to sell their energy resources at low price, they eventually cannot afford to make the capital investments required to maximize long-term capacity. On the other hand, producers undermine their own security when their resources are not affordable to consumers. The foundation of sustainable energy security is a price low enough to avoid harming consumers, yet high enough to assure adequate return on investment for producers. President Bush and King Abdullah in their wisdom recognized and reaffirmed this fact at their meeting in Crawford last year.

I believe our energy problems are global in scope and that the stability and predictability we desire can only be achieved when countries work together. I say this because oil markets are part of a globalized system. The negative consequences of withdrawing from the global economy far outweigh any perceived benefits. Long-term energy security cannot be achieved at the expense of others; it must be a win-win proposition. This means that energy prices must be higher than some consumers would like and lower than what some producers would like.

However, the idea that the energy security is best achieved in cooperation with others unfortunately is not universally accepted. As is common in periods of market turmoil like we see today, there are some who argue for self-reliance or going it alone.

While self-reliance is appealing, the efficacy of such an approach for achieving long-term energy security is an illusion built on the myth that security can be achieved through protectionist measures aimed at blocking certain types of imports or goods and investments from certain regions of the world. Such measures are a retreat from the gains afforded by globalization. Those countries backsliding into protectionism believe that they are better off by withdrawing. The reality is that the world is becoming more interdependent, and prosperity today and in the future is tied to full participation in the global trading system. Not only is a country worse off when it builds walls around itself and slips into protectionism, but the global system as a whole suffers.

Today we have a global oil market where geographical borders are of diminishing relevance. The price of oil today is in fact a world price which is determined transparently in the marketplace. Oil prices are established through the interaction of buyers and sellers in thousands of individual transactions occurring daily from Hong Kong to Houston. Oil has achieved the status of a true commodity and a financial instrument, bought and sold in financial markets with the number of so-called "paper barrels" traded vastly outnumbering the volume of actual physical oil traded worldwide each day.

A popular misconception these days is that a country can decouple its domestic oil prices from international prices by lowering imports. The reality is that oil import levels are not a good measure of economic security or vulnerability to price increases.

Security and vulnerability do not rise and fall with import levels. Even if a country imports no oil at all, its domestic oil prices will move directionally with international prices.

It follows then, that there is no truth, whatsoever, to the popular belief that the dependence on foreign crude oil leads to higher prices for gasoline at the pump. The prices of both domestic and foreign crudes are set globally through the interaction of supply and demand. Any differences in the prices between domestic and foreign crudes are due to variations in quality, taxes, and location. Yes, crude oil prices are an important component in the cost of gasoline. The relative level of a country's dependence on foreign oil has no meaningful effect on the prices consumers pay for gasoline at the pump. For example, consumers in Japan, which imports nearly 100% of its needs, are currently paying about $4.33 a gallon for gasoline. By contrast, in the U.K., which is a net exporter of oil, consumers are paying an average of $5.85 per gallon.

Now I want to address what I believe needs to be done to enhance our future energy security. Let me begin by saying that I take strong exception to the notion that our current difficulties are a harbinger of things to come. The current problems that are resulting in high prices are not insurmountable. They do not warrant the rejection of oil.

We should not lose sight of the fact that oil is merely a means to an end -- it is, simply put, an efficient energy carrier. Oil provides value and has brought prosperity to many. It can facilitate the process of bringing prosperity to even more of the world's population.

We use oil because it provides the lifestyle we desire. It remains the most efficient and cost-effective fuel for transportation and will until technology dictates otherwise. Forcing consumers to prematurely switch away from oil to less efficient alternatives entails economic costs that must ultimately be borne by the consumer. This is not the way to foster sustainable energy security.

As I said, our current difficulties can be overcome. However, while sustainable energy security is achievable, it is not guaranteed. We must produce and consume energy in the most efficient manner possible so as not to waste valuable natural resources – oil included. We must also work to remove constraints which limit our ability to bring energy supplies to consumers. I believe that Saudi Arabia and the United States, as the largest producer and largest consumer of oil and with a 70-year history of cooperation in energy, are in a unique position to provide leadership in promoting sustainable energy security.

Fostering long-term energy security will require the U.S. and Saudi Arabia to confront four key challenges: improving data, removing impediments to deliverability, protecting the physical security of supply system, and maintaining the flexibility necessary for overcoming unanticipated disruptions.

Challenge number one – while much needs to be done to improve oil market data, there is a particularly pressing need for predictable energy demand data. The lack of reliable information on demand markets makes it very difficult to assess the risks and rewards of investing billions of dollars to increase capacity. When faced with these decisions, producers must evaluate both market-driven forces as well as unpredictable government policies which can either inflate or reduce future demand for energy.

Unfortunately, we fear that some producers, when faced with such uncertainty, will choose a risk-averse approach which means they will not make timely investments in new capacity.

Much work needs to be done in the area of improving oil market data. We have made a significant start with the inauguration of the Joint Oil Market Data Initiative which is known by the acronym JODI. The JODI will shortly release its second report, and with the participation of over 90 countries and six international organizations, I believe we will see notable progress toward the goal of improving oil market data.

Challenge number two – the need to remove constraints on deliverability. Now, resource availability is not a threat to sustainable global energy security. There is plenty of oil left to be produced and technology, as we heard yesterday, will help us recover an ever greater percentage of the oil in place. While availability is not a concern, it is clear that the industry must confront serious bottlenecks and constraints on our ability to deliver products to end consumers. This is what I have termed our deliverability problem. The challenges will increase with the growth in energy demand that is expected over the next 20 years.

We in Saudi Arabia are committed to resolving this deliverability challenge. We are undertaking a massive investment program to increase our production capacity to 12.5 million barrels per day by 2009 with the potential for more later if market conditions warrant. This expansion will make a significant contribution to meeting the world's increasing needs for energy. In addition to our program to increase oil production capacity, the Kingdom is undertaking large projects in a number of areas, including oil and natural gas exploration, petroleum refining, petrochemicals, power generation, water desalination, mining, and manufacturing.

In the downstream, the world faces a problem that is currently very critical to the oil market – limited refining capacity and the mismatch between the available crude slates and refinery capabilities. To help address the limitations of existing refining capacity to process medium and heavy crudes, Saudi Arabia is undertaking a two-pronged strategy. First, we are developing reserves of lighter crudes in our current production capacity expansion program. Second, we are expanding our capacity to refine heavier crudes in domestic refineries and international refining joint ventures. As part of this effort, Motiva, our U.S. joint venture with Shell Oil, just announced last Friday our plans to upgrade and increase capacity at our Port Arthur facility.

While we are confident that we will make a valuable contribution to increasing our ability to produce and deliver energy to the world's consumers, Saudi Arabia, alone, cannot solve the world's deliverability problems. All parties will have to actively participate – consumers, producers and energy companies. Each has a role to play in upgrading our energy infrastructure along the entire supply chain.

Challenge number three – the pressing need to protect our energy infrastructure. Terrorism is a threat to us all, and both our countries have suffered at the hands of those who wish us ill. In their efforts to strike at us, the terrorists have begun to focus on disrupting our energy infrastructure. The recently foiled attempt on the facilities at Abqaiq in Saudi Arabia is just one example of the threat we face. In Saudi Arabia, we have been aware of the potential threat to energy facilities for some time and we have invested heavily in both technology and manpower to protect against such acts of violence. The threat from terrorism to the world's energy infrastructure is not limited to any one country or region. We must all be vigilant and prepared to protect our facilities from those deviants whose aim is to disrupt the flow of energy to the world's economy.

As recent developments over the past year have demonstrated, terrorism is not the only threat to the security of our energy infrastructure. Natural disasters, like hurricanes and earthquakes have the potential to seriously disrupt our energy supply system for extended periods of time. Just look at what happened to oil and gas production in the U.S. Gulf of Mexico after the hurricanes of 2004 and 2005. While the solutions may be different, Saudi Arabia and the U.S. need to look at ways to harden our systems against these potential threats.

Challenge number four – maintaining sufficient flexibility in our energy system to meet unexpected developments that can adversely affect markets. We in Saudi Arabia have long recognized the value of spare capacity to enhancing the security of the global energy system. That is why it has been and will continue to be our policy to maintain 1.5 to 2 million barrels per day of spare crude oil production capacity. Over the years, the existence of spare production capacity in Saudi Arabia and in other countries has acted as an insurance policy for consumers, helping to lessen the negative impact on prices of wars, strikes, and natural disasters.

The world's cushion of spare capacity unfortunately has been eroded over the past few years. Experts attribute this to surging global demand and insufficient investment in production capacity during the low price environment of the 1980s and 1990s. Saudi Arabia and the U.S. share an interest in restoring a greater measure of spare capacity to the global system.

Producers are not the only ones that can take steps to improve the flexibility of our petroleum system to deal with unexpected disruptions. Consuming countries can also play a role as many do through their commitment to maintain strategic reserves of crude oil or refined petroleum products. As recently as last year, we saw the value of these reserves. A coordinated use of petroleum stocks among the members of the IEA in consultation with Saudi Arabia helped avert an even more pronounced increase in prices due to the major destruction inflicted on the U.S. energy infrastructure by hurricanes Katrina and Rita.

Our ability to restore flexibility to the system and improve deliverability is greatly enhanced in an environment that offers sufficient incentives for the industry to invest in new capacity. While this may not be a concern in the current price environment, it was the case for many years, and may again be an issue in the future.

Before closing, I would like to say a few words about the U.S.-Saudi relationship.  We in Saudi Arabia are committed to fully integrating our economy with the global economy. Under the guidance and direction of the Custodian of the Two Holy Mosques, King Abdullah, we are taking bold steps to reform and diversify our economy. As part of this effort, Saudi Arabia joined the World Trade Organization in 2005. We are privatizing industries and developing new organizations and legal structures to encourage both domestic and international investment in the Saudi economy. As a result, Saudi Arabia is experiencing unprecedented economic growth, and we look forward to a strong and diversified economy.

The kingdom is undertaking a number of major ventures in natural gas exploration, petroleum refining, petrochemicals, power generation, water desalination, mining, and manufacturing which will create investment and employment opportunities for Saudi Arabia and its citizens. I believe that they will also create attractive opportunities for American companies and American employees. Successful completion of this massive undertaking will require technological prowess, resourcefulness, and a standard of excellence for which American companies are recognized. We look forward to partnering with them once again in exciting new endeavors.

In summary, I believe that sustainable energy security is only achievable through dialogue and cooperation. Growing demand for energy will create considerable challenges for producers and consumers. Both will share a common interest in, and derive mutual benefits from, cooperative efforts to ensure a healthy global economy.

Through our collective efforts Saudi Arabia and the U.S. can do much to ensure the availability and reliability of reasonably priced supplies of energy for consumers. By doing this we will make a significant contribution to the prosperity of the world’s people. I look forward to working with my friend, Sam Bodman, to explore ways to enhance our shared energy security.

Finally, it is my firm belief that the future will offer many opportunities to deepen and expand U.S.-Saudi commercial relations. We know that Saudis and Americans, working together, can achieve great things. We hope American companies will join us in building a strong and vibrant Saudi economy for the future.

Thank you, ladies and gentlemen, for your kind attention, and sorry for a long speech.