Saudi Arabia’s plans to explore its vast shale gas reserves—potentially the fifth largest in the world—will take years. The success of this project will depend on the economic feasibility, especially in regards to limited water supplies that would require a robust desalination capacity expansion.
Saudi shale gas could become a game changer for the country and for world oil markets. The evolving technology could eventually allow the country to significantly boost its insufficient natural gas production, which is indirectly eating into its oil revenue, while government spending increases.
Limited gas supply is the Kingdom’s Achilles’ heel, and the problem is only getting worse as domestic demand soars due to the growing population and economic expansion.
Exploring for shale gas (or any natural gas source, for that matter) is therefore urgent. Saudi Arabia already has to burn around a quarter of its oil production of nearly 10 million barrels per day to meet domestic demand, more in per capita terms than any industrialized nation. Its oil use in relation to its economic output is twice the global average.
“The obvious conclusion is that it’s in their interest to substitute oil in power stations with gas. They can get more from selling oil. It’s a no-brainer,” said Paul Stevens, a senior energy research fellow in Chatham House, a UK think tank, and an expert in the political economy of the Middle East. “If the government wants to develop its shale gas faster, it will. It’s not like Europe, where there are regulatory barriers. The barrier there is water, but they can overcome it,” Dr. Stevens said.
There are multiple alternatives to shale gas, of course, from developing nuclear or renewable power to cutting generous subsidies or importing gas from Qatar or Iran. But the easiest—and potentially the cheapest—option is clearly to produce more gas at home.
Without more gas, Saudi oil exports and revenue will be increasingly constrained, as will its ability to preserve its global geopolitical and economic clout. A crucial concern is regional stability as the Arab Spring continues to spread. The Saudi government committed $130 billion in subsidies and $500 billion in infrastructure projects to stimulate the economy.
“We have rough estimates of 600 trillion cubic feet of unconventional shale gas. The potential is very huge and we plan to exploit it,” said Saudi Minister of Petroleum and Mineral Resources Ali Al-Naimi earlier this month. Exploratory drilling will begin this year, he said.
In absence of any other game-changing alternative, shale gas reserves could address the mounting challenges to Saudi Arabia’s energy conundrum.
“It’s a question of an energy trade off. How much energy will it take to get gas off the ground? The arithmetic probably makes it worthwhile to do, particularly if they can liberate the oil,” Dr. Stevens said.
The only obstacle is uncertainty over the economic viability of such a project. Shale gas is extracted by hydraulic fracturing—commonly known as “fracking”—which is an energy- and water-intensive technology that blasts pressurized water, sand and chemicals into vertically- and horizontally-dug wells in shale formations.
“They have the resources, they have the experts, and they have the money, so it makes sense to explore for shale gas. As to whether they will develop it, will depend on costs at the time,” said Manouchehr Takin, a senior petroleum analyst specializing in exploration and production for the London-based Center for Global Energy Studies, a think tank.
The feasibility of producing shale gas will largely depend on the real volumes of production, which will not be known for years. The volume would have to be huge, because a portion of any extracted gas would first have to supply the associated power generation and water desalination capacity that is required.
Once all of the additional infrastructure required to connect the distant reserves to the markets are factored in, the ultimate question for officials will be whether developing costly shale gas is politically and economically more feasible than the other alternatives.
Saudi Arabia’s gas demand is soaring, in large part due to the rapidly expanding petrochemical, power and water desalination industries. Even more, lack of viable electricity generation alternatives and the need to increase water desalination plant capacity, as well as heavily subsidized consumer and industrial energy prices, will continue to diminish Saudi Arabia’s oil export potential.
Its conventional reserves of nearly 290 thousand cubic meters (Tcm) are already the world’s fifth-largest, behind Russia, Iran, Qatar and the United States, but most of it is associated with oil production projects. This means that output growth is constrained. Furthermore, demand will increasingly be met with output growth that is significantly more costly than its conventional production, because it is in the form of offshore high-sulfur gas, which requires refining and infrastructure.
Shale gas in the desert could change energy dynamics in Saudi Arabia, even if it requires significant investments in the form of power and water desalination capacity. Leaders in fracking technology such as Halliburton, Baker Hughes and Schlumberger are already running research centers in Saudi Arabia.
The lengthy development process is an advantage because power and water costs of fracking in Saudi Arabia will continue decreasing as technology improves the water efficiency of fracking and the power intensity and cost of desalination.
The challenge is to make shale gas development economically feasible. Breakeven costs will not be only consideration, as the equation will depend also on how much oil can be freed up from local consumption to export, as well as on international prices. Political sensibility to consumer price increases will also be a factor.
It is ultimately too early to tell what role shale gas will play. “All this is conjecture. It’s too early,” Dr. Takin said. “They need to find huge quantities that can be produced at low costs.”
Riyadh knows it faces some tough choices this decade. It has to adapt to increasing global supply, mainly from the US and Iraq. Oil markets will be well supplied this decade despite robust demand from developing countries, putting bearish pressure on international prices.
Emerging economies—including those in the Middle East, but led by China—will cause rapid increases in demand, but additional North American and Iraqi supplies will boost output significantly throughout the decade and space capacity will increase.
US oil production has already reversed years of insufficient net loss, and for the first time in years global production gains will outpace demand gains in 2013 and inventories will build. Prices will not plummet, since they are supported by the higher costs of production associated with the new output that will gradually come online over this decade, whether from unconventional deposits like those in shale rock formations or from deepwater exploration and drilling.
Saudi Arabia is the most exposed. “There is the looming prospect of Saudi Arabia having to absorb output cuts to offset gains in production capacity elsewhere in OPEC, particularly Iraq,” according to Eurasia Group, a risk consultancy firm. Furthermore, “Any reversal of sanctions against Iran, which would put substantial additional Iranian volumes on the market, would serve to intensify and accelerate this effect.”
The Kingdom will sooner or later have to address the challenges posed by the new landscape in order to balance its domestic political concerns with the need to protect its oil revenue. Saudi Arabia relies heavily on a subsidized economy to achieve its political stability; it relies on its oil market leverage to gain geopolitical clout.
In this market, shale gas could become the best of many less attractive options.