OPEC and its competitors

The unstable oil market-1

When members of the Organization of Petroleum Exporting Countries meet next week in Vienna, they should spend time discussing exploration and development in places like the Caspian Sea and offshore West Africa. For OPEC, the activity means future competition.

Action has slowed in both exploratory theaters, especially in the Caspian region. Recent drilling there has produced disappointment. The Caspian International Petroleum Co. consortium folded in January. Unconfirmed reports circulated last week about at least one other pullout.

No one is ready to write off, or even severely discount prospects for, the whole Caspian area. A few dry or non-commercial wells cannot geologically condemn an historic oil-producing region, still underexplored, that has yielded such modern finds as Kazakhstan's giant Tengiz field.

Greater challenges

Geology, in fact, remains the least of the challenges facing Caspian operators. Most immediately pressing of those challenges is economics. A slump in the price of crude oil has chilled activity in the Caspian, as it has off West Africa and everywhere else.

When the prices recover, however, there will remain the Caspian's transportation difficulties, all rooted in politics. Every possible pipeline route leads to trouble. A northern, largely Russian route crosses maverick Chechnya and thus is susceptible to sabotage. A more westerly route must deal with conflict between Azerbaijan and Armenia. And from the opposite side of the world the U.S. aggressively promotes the longest and most expensive pipeline, through Turkey to the Mediterranean port of Ceyhan, in part to preclude the Persian Gulf outlet through Iran.

For now, therefore, producers with a suppressed financial incentive to explore for Caspian oil must face doubt that they would be able to move to market whatever they found and brought onto production. Under such conditions, it is small wonder some companies have decided to decamp.

The West African offshore faces no such transportation problem. There the challenges are water depths measured by the thousands of feet. OPEC members might well wonder what possesses oil companies to flock to these promising but difficult places in such large numbers.

The Caspian and offshore West Africa occupy roughly equal positions on the global spectrum of production costs, notes Robert Priddle, executive director of the International Energy Agency (OGJ, Mar. 1, 1999, p. 30). Their costs are lower than those of Russia and the North Sea. But they are above those of the Middle East, which has neither transportation problems nor deep water but which is largely off limits to direct investment of capital from abroad.

At a conference in London Feb. 18, Priddle estimated oil reserves of the four countries other than Iran with Caspian shores at 15-40 billion bbl. "The Caspian," he said, "could be another North Sea but not another Middle East."

So if the transportation issues are solved, if companies persist despite the inevitable dry holes, if Armenia and Azerbaijan don't go back to war, and if Chechnya doesn't rebel again, the Caspian will indeed be another North Sea: yielding important but incremental supply at times economically marginal but normally flowing at capacity. Offshore West Africa, despite the water depths, will be a North Sea in relative supply terms, too.

Other incremental supply

There will be many others-important sources of incremental supply flowing at capacity near the margin of economics-as long as OPEC conducts business as it has done since 1983. While beneficial overall, this prospect has its drawbacks.

It helps the oil-consuming world that OPEC has diversified petroleum supply by creating so much competition for itself. In the process, though, it has made the market unstable to the point that adjustments become lurches like the one now financially destroying producers-OPEC members included. On that topic, more next week.