Aytaç Eren, Chairman of Turkey’s Petroleum Platform Association (PETFORM) provides an expert analysis of the current state of play regarding global oil prices, as well as their effect on the Turkish economy. He also looks at options for the association’s members for regional exploration and Turkey’s pivotal role in connecting East and West gas markets.
G20 countries are responsible for some 80% of global energy use and 60% of oil and gas production. All have been affected in different ways by the price volatility in the oil markets over recent years. When can we expect to see some normality in oil prices and what can be done at the G20 level, if anything, to try to induce some stability in prices?
I think first we should talk about what the G20 is. It’s 19 countries plus the EU and there are eight big oil producers in the group, including Saudi Arabia, Mexico, the US, the Russian Federation, Canada, and Brazil. The other 12 are big oil consumers. Therefore, when you talk about the G20, both sides, producers and consumers, are represented under the same roof. What affects the price formation? The answer is simple: expectation for the future. Although the answer is simple, there are plenty of dynamics that shape expectations like supply and demand balance, geopolitical risks, global macroeconomic developments and the perceptions of the traders.
These eight countries at the G20 table are producing oil and they want to sell it. The 12 others want to use it at the cheapest price possible. How can you handle this situation? You have to have a balance between supply and demand. When prices started to fall last year, beginning in June 2014, at first everybody was very skeptical. Many analysts were thinking that it was a conscious initiative of the Western countries to punish Russia. But now it’s been almost a year, and when I look at the picture, the major reason for the current price level is the result of common expectations that the global growth rate will not be the same as what we have seen during the past 10 years. This negative outlook for the world economy was also supported by the new supply sources, mainly due to new technologies for tight oil and offshore production, which caused substantial volumes of oil production as well as storage surpluses.
On the other hand, low oil prices led to tough discussions among OPEC members regarding pricing strategy and sparked a war in the group on who could get a bigger market share. Therefore, it seems like it’s more of an economic situation, and if it is more economic, that means that prices are going to be dependent on how much oil goes into the market and how high demand is based on expectations.
As you know, in the last month, OPEC reached its highest production level for the past five years. That means that they’re pushing hard to produce more oil. If you produce more oil, the price is going to decrease. On the other hand, there is some demand right now, but you have to remember that the Northern hemisphere is in summer, the season when everyone uses their cars. When winter comes, I don’t know if the demand is going to be the same. Remember, too, that Iraq has recently produced 3.8 million barrels, an all-time record. So they’re coming back into the market. The Libyans are also coming into the market, producing 500,000 barrels a day.
Also, sanctions on Iran have been lifted and more Iranian oil will come to the market, maybe not this year but probably in 2016. It takes some time. When it comes to price, how long do we want stability? For the producers, the distributors and even the consumers the price doesn’t matter, all we want is stability and predictability. I think $60 seems feasible, and it makes all the producers and even the shareholders happy, including the producers in the US. I think they can take it, at $60 or $65. However, if the production goes higher and higher, and demand drops, you might even see it at $50-55 by the end of this year. My expectation even in 2016 is in that range, $60-65, perhaps even going down into the $55 range. If there’s going to be any increase up to the $80 range, it will be in 2017, but not before that.
I don’t think you can do much about it. Saudi Arabia is a G20 member. I don’t think the G20 can order them to cut their production. It’s not easy to say that, but maybe the G20, since they’re developed countries, can give a better estimation of their oil dependency, how much they’re going to spend in the following years. If you give us a better estimation of the numbers, how much oil you are going to use, then of course the production can make its adjustment. If that’s done it’ll be easier to balance. Other than that, I don’t think the G20 has enough power to establish price stability. Rather than expecting direct moves from the G20 regarding oil prices we should pay attention to the policies being implemented by these countries that may affect the price formation.
What impact have these low oil prices had on Turkey economically, and also on PETFORM’s members involved in exploration and production?
Lower prices are always considered as a positive development for Turkey since we import almost 92% of our annual crude oil consumption. From a direct perspective, it seems that we enjoy low prices. On the other hand, Turkey trades with Russia, the Middle Eastern countries and Europe; these are our main trading partners. Low oil prices affect Russia very badly. This summer, Russian tourists have been coming in the lowest numbers ever to Turkey. That means that it affects the Turkish economy. On the other hand, the Middle Eastern countries make money from oil and if they sell and the price is low and they increase their production, it’ll still have a bad effect on Turkey because it will affect our exports. Europe is not in good economic shape either. So, for Turkey, lower oil prices seem good for macroeconomic balances, but they also negatively affect our export and tourist economies.
In addition, when oil prices go down in Turkey the dollar exchange rate goes up. For instance, since last June, there has been a 40% decrease in oil prices but the dollar ratio increased by 20%. Sometimes these factors almost balance each other. Turkey also imports natural gas with long-term oil indexed contracts. That means that when oil prices come down, those import prices also come down. In 2014, we imported around 49 billion cubic meters of natural gas, which is quite a big volume. We import 99% of our annual need, so the low prices are good for natural gas prices since they bring them down.
Another thing is that every $10 decrease in oil prices provides $4 billion in savings to the Turkish economy. So if I were the Turkish Prime Minister, I would welcome low oil prices. They are very good for Turkey. But as PETFORM, representing our members in the E&P sector, it affects us very badly. For instance, we produce oil in Turkey despite the fact that Turkey is not an oil-rich country. Our potential is very limited, and therefore our production is very limited. Unfortunately, drilling is very costly in Turkey due to the geological conditions. Therefore it’s not easy for local companies, and even outsiders, to make money at $60 or $70 a barrel. It’s not good for producers.
The energy needs of Turkey are rising every year. What is the potential of Turkey’s indigenous hydrocarbon reserves to help meet its growing energy needs?
Not much. As I said, Turkey imports 92% of its oil needs and also almost 99% of the gas that the country consumes right now. We are very much dependent on imports. Turkey’s oil reserves right now are about 40-45 million tons. With current consumption as it is, those reserves will last only 15-20 years. We don’t have too much oil, actually. When it comes to exploration, there are only two basins that are available for oil exploration, which are in southeastern Turkey, next to Syria and Iran, and the other one is in the Thrace basin. Thrace has already been deeply explored, almost all potential is known. It’s a producing region. In the southeast we produce oil. We’ve done a lot of exploration there in the last 40 or 50 years. And so, this is all we have, 40-45 million tons. It’s not much. Current production is 40,000 barrels per day inside Turkey.
Once we thought our main potential was in the Black Sea, so we invited companies like Chevron, Exxon, Petrobras, BP, and Shell – they drilled seven deep and expensive wells in the Black Sea, each cost about $300 million. Unfortunately, the results were not promising. Our hopes in the Black Sea were dampened. They tried to do the same in the Mediterranean, especially after they found the gas in East Med. So, Turkey’s trying to explore the Mediterranean, especially off Northern Cyprus and between Cyprus island and the mainland, and also in the Western Anatolian region. Unfortunately, there hasn’t been any recent drilling. We drilled some wells earlier, and they were dry. They have Shell over there, with a TPAO partnership. Seismic studies are ongoing and drilling wells will be treated following these surveys.
How much is left unexplored in southeastern Turkey? Maybe 10-20% of the area, overall, especially in the easternmost part of Turkey. We couldn’t enter the territory due to terrorist activity in the last 20 years. Now hopefully it’s going to get easier. We will increase exploration in those parts. Even if we’re successful there, how much of our needs are we going to meet? Maybe another 5-10%. So if we’re producing 8% of our needs now, maybe we’ll be at 12%. I don’t think we’ll ever get to half of our needs with indigenous production.
Where do you see the most potential for your members in neighboring countries?
Iraq is naturally the place we should be in. Turkey’s oil exploration should be in Northern Iraq and Iran. We are sitting just next to the two biggest oil producers in the world, Iran and Iraq, and unfortunately we have not been able to touch the oil historically. I’m talking about since the 1950s. The Turkish government should have done something to help the national company or private companies to get licenses to produce in those countries. Due to practical and political factors, we couldn’t do it. It’s never too late, so I think TPIC has some licenses in northern Iraq, and TPAO has some licenses in southern Iraq. We’re doing something good, I think. I hope that the political situation in Iraq improves so that we can go there and operate more efficiently. Iran is also a big potential area, not only for oil production, but also for drill contracting. We represent many drill contractor companies, so we can go there. I hope they solve their problems by the end of this month. Everybody can go there, because it has big, big potential.
The buzz phrase around the G20 is “energy security”. The Turkish presidency is leading efforts to try and bring about global energy security. Linking that to what you were saying about Turkey’s location being next to Iraq and Iran, Turkey is very important to the energy security of the EU, in terms of its pipeline network. How do you assess Turkey’s progress towards its objective of being a vital energy transit state and energy hub?
I think Turkey figured out its role and how important it is about 20 years ago when the Soviet Union broke up and new countries like Kazakhstan, Azerbaijan and Turkmenistan emerged, since historically we have had good relations with them. Turkey realized that there was oil and gas there and that we were between those countries and the big consumers. So first the Kirkuk-Yumurtalik (Iraq) pipeline was built. Baku-Tbilisi-Ceyhan pipeline (BTC) followed it. Last but not least, KRG-Turkey pipeline was also built two years before which is bringing KRG oil as well as Baghdad crude to the Ceyhan port of Turkey. The Baku-Ceyhan pipeline was more important because it connected a new region to the Mediterranean and opened that region to the world market.
Then, gas came in the 1980s. We brought gas from Russia to Turkey and started using natural gas in almost every city. Therefore, Turkey’s consumption is only about 50 bcm per year. If you’re a big producer, of course, you have your eye on other sources. We started getting gas from Iran and building a gas pipeline in Azerbaijan and also Nebuchadnezzar’s big project, which was cancelled.
This last project played an important role in Turkey, not only for us, but also in the eyes of the Europeans. They hadn’t realized how important Turkey was until they wanted to bring gas from East to West. Turkey played this role well, and it was, in a way, good for our own energy security. If you’re depending on other countries for your own usage of natural gas, you have to bring gas from very different sources to balance security, supply and the pricing. You have to do that.
I think Turkey’s doing very well. Right now we’re bringing gas from Azerbaijan to Europe and from Iran – we use Iranian gas in Turkey. In the future, we’d like to use Iraqi gas. They have big energy sources there. They will come to Turkey, for sure. Hopefully we’ll solve the problems in Cyprus and then East Med gas will be used in Turkey and may go to Europe through Turkey – it’s the only way, it can’t go anywhere else. Turkey is a natural hub for the gas trade.
As PETFORM, our main objective is to see Turkey as a trading hub, not to only be a transit country. We don’t want to just have big pipelines. We want to be in other ventures. We have to create an energy trading hub in Turkey. This should be the major strategy of Turkish decision-makers I believe.
Turkey is in the process of developing its power and natural gas exchanges. What is needed to enhance the competitiveness of Turkey as an energy trading hub?
The power market has a long history when compared to the natural gas market. It became operational in 2007, first with the establishment of the power balancing market. It initially helped to balance the system. Following this step, the day-ahead market was also launched. The day-ahead and balancing markets provide opportunities to power plants and trading companies to plan their productions and portfolios and also help system operators to balance the system via effective market mechanisms, protecting any imbalances before happening. That’s why those markets are extremely important.
In the day-ahead market they started to predict consumption of D+1, and then they started to create a reference price. This reference price became another benchmark price for investments in the Turkish electricity market. So, in the meantime we have seen that many investors have come to Turkey – either from Turkish companies or foreign companies – and they invest a lot in electricity.
Now, as you said, at the beginning of July, they are going to implement the intraday market, which is extraordinarily important in establishing an electricity exchange in Turkey. All these three market mechanisms will be operational under the Energy Markets Operating Company (EPİAŞ). This will ensure futures contracts – in the next two, three, or four years – as well as helping to better understand the produce reference price of gas. This is going to increase and boost investment in the electricity and natural gas market. It’s a reliable and effective form of risk management for the private sector.
When it comes to the natural gas market, 50% of electricity comes from natural gas. So this is extraordinarily important to better understand the developments in the natural gas market and impacts on the electricity market as well.
On the natural gas side, we are trying to follow the same path taken in the electricity market. We want to establish the balancing gas market and to track it in order to create benchmark mechanisms.
Then, we are offering to establish a day-ahead market and an intraday market. We have continued dialogue with the Ministry of Energy and we’re collaborating very well on this. Structural reforms are necessary for it to be successful, especially for the liberalization of the gas market. We have a 20% market share of imports in the private sector and 80% is done by BOTAS, which is the state incumbent and dominant player in the market. It holds 80% of the Turkish wholesale market in the domestic market, so the BOTAS price automatically becomes the benchmark price. This subsidization was a big problem for price formation because BOTAS was selling to the internal market at a 15-20% lower price than its imports. So you could not compete with these big market players.
In 2015’s third quarter, subsidization will also be lifted because of the reflections of lower oil prices in the natural gas price. Then we can focus on a kind of a transparent price formation process in the natural gas market. We always say that if you keep the liberalization of the Turkish natural gas market at a certain level, then further steps in the electricity market can be limited because direct correlation directly affects the price and the marketplace. In order to better promote the liberalization of the electricity market as well as establish the electricity exchange in Turkey, we should also be making some structural reforms to the natural gas market, in which we are cooperating. We are contributing to the Energy Ministry in this regard.
This is our main strategy: to convince everybody that a liberal gas market is good for Turkey. It’s good for the government, for the people who use gas every day, and for pricing and security. It’s hard to convince all these people, especially the government, but I think they are coming around, by establishing EPIAS and by doing the same thing for electricity, they realize that it works. Eventually we will establish a gas trading hub like they have in Germany or in England.
Finally, could you summarize your overarching vision for PETFORM and the private energy sector here?
PETFORM, as I said, has two arms: the E&P and natural gas sectors. On the E&P side, we have done a lot since 2013. We have worked closely with the government and finally we have a new petroleum law and regulations.
On the other hand, in the gas market, of course we have a long way to go. Our vision for PETFORM is to take the lead on this long road to the liberalization of the gas sector. We are going to be in every part of it and take a lead and operate not only in Turkey, but internationally with our European partners. We would like to have the same liberal style of gas trading, importing and exporting, as they have in Europe.
I also would like to add that we see Turkey as an important state in an important region with a strong private sector as well as the government companies that are still operating in neighboring regions and globally in order to ensure Turkey’s oil and gas security of supply. We want to see Turkey as a regional and hopefully multi-regional trading hub for gas and oil because the security of supply is an important issue. On the other hand, price security is extremely important for Turkey as well as for Southeastern Europe. So, if we can create a liberal market with functioning mechanisms so that the benchmark price will be set by the market players, I believe this will contribute to Turkey’s energy supply security and price security, as well as that of the wider region.
We want to see Turkey as a big trading hub for oil and gas and we want to contribute to this process while decision makers and regulators take concrete steps.