OPEC looks for deeper cuts

• DOI: http://doi.org/10.1111/oet.12744
• Date: 01 November 2019
• Published date: 01 November 2019

LOOKING AHEAD

OPEC looks for deeper cuts

Slowing oil demand growth linked to weak economic

data, combined with continued US output growth, has

recently weakened crude prices, increasing the likelihood

of deeper output restraint from OPEC and its allies. But

shrinking market share, flexible shale output and other

upside supply risks, such as a return of Iranian exports,

could make it difficult for the group to control prices over

coming years.

Since 2016, supply constraint from OPEC and an

11-member coalition led by Russia has yet to bring oil

prices back up to where many OPEC members need

them to balance their budgets, which is at least $80 to

$90/bbl for most. Instead, the group has seen its market

share shrink by 2 mn bpd since 2016, with US shale

absorbing most of the 4.25 mn bpd rise in global demand

over the period.

OPEC itself projects demand for its crude in 2025 will

still be lower than in 2018, with gains of less than 1.5 mn bpd

by 2023—suggesting supply restraint will have to go on for

some time. At its last meeting in July, OPEC agreed to a

9-month extension of the 1.2 mn bpd supply cut agreed last

December (before that there had been a 1.8 mn bpd cut from

late 2016 to early 2018). Talks are currently focused on

whether to extend or expand existing output cuts beyond

March 2020 and above 1.2 mn bpd, with Saudi Aramco's

upcoming IPO adding to pressure for higher prices.

Currently (late October), demand forecasts are clearly

under pressure, which is increasing the likelihood of

deeper output cuts at OPEC's next official meeting in

early December. Based on OPEC's current output and lat-

est demand forecasts, global oil stocks would build in

2020 and any stock draws this year would be limited.

Some analysts say the group may need to cut by as much

as 2 mn bpd (up from 1.2 mn bpd), to have any signifi-

cant impact on stocks and prices.

This could leave Saudi Arabia in a difficult position.

It has so far bourn more than its share of the cuts, driving

compliance to high levels (hitting 182% in May). Several

other members of OPEC-plus, however, have not been

abiding by their quotas, including Russia, Iraq and Nige-

ria, and the Saudis have insisted they come into compli-

ance before deeper cuts are introduced. But up to 500,000

bpd of new capacity in Iraq and Nigeria in the next year

will make it even more difficult for them to cut back.

Pressure on Ecuador to restraint its output within quota

contributed to its decision to leave (see below).

If these over-producers do not bring output into com-

pliance, Saudi may have to cut more deeply itself again.

While the kingdom is increasingly concerned about los-

ing more market share, budgetary demands and grand

economic diversification plans means it has little choice

but to defend oil prices, especially during the upcoming

Aramco IPO period.

Fortunately for OPEC/the Saudis, US sanctions on

Iran and Venezuela, which are not subject to quotas

under the current deal, have removed at lot of supply

from the global market this year and last. Iranian exports

are currently below 400 000 bpd, down from 1.7 mn bpd

in March, although production has fallen by less. Vene-

zuelan exports have dropped steadily from 1.5 mn bpd in

January last year to under 500 000 bpd now.

Nevertheless, OPEC's tie-up with non-OPEC members

has given the grouping renewed strength, allying Russia

and Saudi Arabia, the world's two biggest net oil exporters.

Combined output from the wider OPEC-led group has

fallen by over 3 mn bpd since last November, according to

S&P Global Platts. There is also some encouragement from

signs of slowing US output growth—which has been key

in undermining the group's power. US increases next year

may not be able to absorb global demand growth, which

would intensify the impact of supply constraint on under-

lying stock levels and price.

Since late 2016, cutting average OECD oil stock levels

has been a top priority for the OPEC-led coalition, after

they rose to a record of more than 400 mn bbl in mid-

2016. OPEC successfully drove them down to lows close

to the five-year average in March 2018, which helped

push oil prices back to over $86/bbl in October 2018,

before they quickly fell back as stocks built again.

The focus has now switched to the 5-year average for

2010 to 2014 (rather than the last 5 years), which is

214 mn bbl below the 2014 to 2018 average (7.5% of the

total 2.89 bn bbl) because recent high stock levels have

pushed up the average. Some suggest the target is becom-

ing less relevant, as it excludes emerging markets where

demand growth is now focused.

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