Global Oil Glut Keeps Pressure On OPEC

Robert J. Beck
Associate Managing Editor-Economics

Worldwide Supply and Demand [48,276 bytes]

Growing worldwide supply of crude oil crossed paths with slowing growth in worldwide demand for petroleum products in 1998.

The surplus pushed oil prices to their lowest level since 1986.

Prices started sliding late in 1997 and continued to drop throughout 1998. The average price of world export crude oil dipped as low as $9.32/bbl in mid-December.

The demand slowdown-largely resulting from Asia's economic collapse-came as heavy production investments of prior years brought new supply to the market.

The Organization of Petroleum Exporting Countries must again struggle to trim output in order to balance the market. Not recognizing the extent of the market downturn, it increased the group quota at the end of 1997.

Since then, the market has become glutted. Stock levels jumped but did not absorb all of the excess supply. Prices slumped.

World demand is expected to increase this year but not enough to absorb the excess supply. Non-OPEC supply will increase but not as much as demand. However, this won't raise the call on OPEC oil. Instead, it is expected that the huge inventories accumulated in 1997 and 1998 will be worked off, reducing the demand for new production.

In order for oil supply and demand to balance in 1999, OPEC will have to further limit production. But even unusual quota discipline won't solve the problem of Iraqi exports allowed under the United Nations's oil-for-food program.

World economic growth

Worldwide economic activity is expected to increase in 1999.

A recent International Energy Agency (IEA) world energy outlook through the year 2020 covered several scenarios, with the most likely being called "business as usual." Under that case world economic growth is expected to average 3.1%/year during 1995-2020, compared with 3.2%/year in 1971-95.

Economic growth as measured by gross domestic product (GDP) will slow in most regions, but a major collapse or even significant slowdown is not expected.

Average economic growth in East Asia is projected to be 4.5%/year, compared with 6.9%/year in the earlier period. The rate of economic growth in China will slip to 5.5%/year from 8.5%/year earlier. The growth rate for South Asia will drop to 4.2%/year from 4.6%/year.

In Latin America the economic growth rate in the future is expected to average 3.3%/year, down from 3.4%/year. For Africa it will average 2.5%/year compared to an earlier 2.6%/year. The economic growth rate will remain constant at 2.7%/year for the Middle East.

The economic growth rates for countries of the Organisation for Economic Cooperation and Development (OECD) will drop more. For OECD North America the economic growth rate will slip to 2.1%/year from 2.7%/year. For OECD Europe it will drop to 2%/year from 2.4%/year and for OECD Pacific to 1.8%/year from 3.5%/year.

For 1999, the OECD projects the GDP growth at 1.7%, compared with 2.2% in 1998 and 3.2% in 1997. The 1999 growth rate for the seven largest OECD industrial countries is projected at 1.4%, down from 2.1% for 1998. Economic growth in the U.S. is expected to slow to 1.5% in 1999 from 3.5% in 1998. But European Union economic growth is projected at 1.7% in 1999, up from 2.8% last year.

Japan is expected to come out of recession, its economy growing 0.2% this year after a decline of 2.8% in 1998. Economic growth for Germany is estimated at 2.2% in 1999, down from 2.7% in 1998. In Canada the economy is forecast to expand 2.4% vs. 3% in 1998.

For the 22 smaller OECD countries, the 1999 economic growth rate is projected at 2.8%, up from 2.7% in 1998.

World oil demand

According to the IEA, average world oil demand climbed to 74.3 million b/d in 1998 from 73.7 million b/d in 1997, 71.9 million b/d in 1996, and 70.1 million b/d in 1995.

The IEA projects an increase in petroleum demand this year to an average 75.7 million b/d. Prior to 1998 a significant part of the increase in world demand was in the developing areas in Asia. Due to the economic turmoil in that area oil demand remained constant last year.

Demand in the OECD industrial countries slipped to an estimated 46 million b/d in 1998 from 46.7 million b/d the year before. OECD oil demand is expected to increase to 47.3 million b/d in 1999. Most of the increase will be in North America with a return to normal weather.

Demand in the non-OECD countries increased to 27.7 million b/d in 1998 from 27 million b/d in 1997 and 25.9 million b/d in 1996. In the developing Asian countries oil demand remained constant at 6.8 million b/d. The growth in oil demand last year was in Latin America, the Middle East, China, and Africa.

Non-OECD oil demand is expected to increase to 28.4 million b/d this year. The largest increase will be in the Middle East, where demand is projected to increase to 4.8 million b/d from 4.5 million b/d in 1998. Demand in that region was 4.2 million b/d in 1997.

Demand in China is expected to increase to 4.4 million b/d from 4.2 million b/d in 1998. Demand in China increased from 3.3 million b/d in 1995 to 3.7 million b/d in 1996 and 4.1 million b/d in 1997.

Oil demand in Latin America is expected to increase to 4.8 million b/d this year from 4.7 million b/d in 1998 and 4.5 million b/d in 1997.

Other Asia demand will move up to 6.9 million b/d from 6.8 million b/d the last two years. Demand in Africa is expected to remain at 2.4 million b/d. Demand was 2.3 million b/d in 1997.

Demand in East Europe is expected to remain constant at 800,000 b/d, the same as 1998 and 1997. Former Soviet Union demand is also projected to remain constant at its 1997-98 level: 4.3 million b/d.

Worldwide supply

According to the IEA, OPEC crude oil production increased to 28.5 million b/d in the first quarter of 1998 then slipped to 28.2 million b/d in the second quarter and 27.3 million b/d in the third quarter.

Stocks continued to move up in the third quarter, although more slowly than in the earlier part of the year.

OGJ estimates that OPEC crude output averaged 27 million b/d in the fourth quarter. OPEC output will average 27.8 million b/d for 1998, up from 27.2 million b/d in 1997 and 25.8 million b/d in 1996.

In addition, OPEC output of NGL and condensate averaged 2.9 million b/d in 1998, compared with 2.8 million b/d in 1997 and 2.6 million b/d in 1996. OPEC total liquids production thus averaged an estimated 30.6 million b/d in 1998, up from 30 million b/d in 1997 and 28.5 million b/d in 1996.

IEA estimated average non-OPEC supply at 44.6 million b/d in 1998. This includes processing gains of 1.6 million b/d. Total non-OPEC supply averaged 44.4 million b/d in 1997, 43.6 million b/d in 1996, and 42.5 million b/d in 1995. Most of the increase last year was attributed to gains in Latin America. where output averaged 3.7 million b/d, compared with 3.4 million b/d the year earlier.

F.S.U. production increased to 7.3 million b/d from 7.2 million b/d in 1997. North American output slipped to 14.5 million b/d from 14.6 million b/d in 1997. This was due to the drop in U.S. liquids production to 8.46 million b/d from 8.61 million b/d in 1997. Elsewhere in the non-OPEC areas, production remained relatively constant with the 1997 level.

Supply outlook

IEA expects non-OPEC liquids supply to move up to 45.4 million b/d in 1999, an increase of 800,000 b/d. Supply this year will include processing gains of 1.7 million b/d, up 100,000 b/d from 1998. Therefore, liquids output is expected to average 43.7 million b/d, compared with 43.0 million b/d in 1998.

There will be some seasonal fluctuation, with non-OPEC supply averaging 45.2 million b/d in the first quarter, slipping to 45.1 million b/d in the second quarter, and then moving up to 45.2 million b/d in the third quarter and 46 million b/d in the fourth quarter.

The greatest increases in non-OPEC output are expected in Europe (the North Sea) and Latin America. Production in OECD-Europe is expected to move up to 7.3 million b/d in 1999 from 6.7 million b/d in 1998. Continued development of prospects in the North Sea, both Norway and the U.K., will contribute to the growth this year.

IEA expects Latin American output to increase to 3.9 million b/d from 3.7 million b/d in 1998. In addition, output in the non-OECD Asian countries is projected to increase to 2.2 million b/d from 2.1 million b/d in 1998.

And North American output is projected to move up to 14.6 million b/d from 14.5 million b/d in 1998. The increase will be in Mexico and Canada. U.S. output is expected to continue to slide this year. F.S.U. production is expected to slip in 1999 to 7.1 million b/d from 7.3 million b/d last year. Elsewhere, non-OPEC output is expected to remain constant this year.

OGJ estimates that the call on OPEC crude oil and NGL will slip in 1999 to an average 29.6 million b/d from 30.6 million b/d last year. This will include 3 million b/d of NGL and condensate, up from 2.9 million b/d in 1998. The demand for OPEC crude oil alone will slip to 26.6 million b/d from 27.8 million b/d in 1998. This is based on the assumption that stocks will be reduced at a rate averaging 700,000 b/d for the year. World stocks increased at an average 1 million b/d in 1998.

Iraqi production will continue to cloud the picture. It is impossible to predict whether OPEC will be required to accommodate a further increase in Iraq output. Iraq has petitioned the U.N. for a lifting of the embargo, and there are some sympathetic countries. However, recent air raids indicate that the U.S. and the U.K. remain opposed to any relaxation. In fact they appear willing to further reduce Iraq exports by closing off the illegal flow of smuggled oil through Jordan, Iran, and Turkey.

Iraqi output averaged an estimated 2.1 million b/d in 1998, up from 1.1 million b/d in 1997 and only 580,000 b/d in 1996. The increase in Iraq was a major reason for the OPEC excess output last year. It is doubtful that Iraq's output will climb higher in 1999.

The eventual call on OPEC oil will depend on the level of oil demand, non-OPEC output, and the extent of the stock draw.

In June last year the OPEC countries agreed to a production level of 24.387 million b/d, excluding Iraq. Iraqi production of 2.1 million b/d puts total OPEC output at 26.5 million b/d. That is approximately what OGJ projects as the demand for OPEC crude oil in 1999. If production is constrained to this level there may be some tightening of the market and an accompanying increase in prices.

However, it is a very tenuous situation. Compliance with the pledge by individual OPEC producers is always a problem. World demand may not live up to IEA estimates if economic problems develop. And there are seasonal fluctuations in demand that may prove to be troublesome.

The ability of OPEC to balance the market and lift prices will be tested in the first quarter. World demand is expected to average 76.3 million b/d, up from only 74.9 million b/d in the first quarter a year earlier. The demand for OPEC oil is forecast to average 26.9 million b/d, down slightly from the fourth quarter last year. Accompanying this will be a stock draw averaging 1.2 million b/d.

If OPEC countries adhere to their pledge and Iraq's output remains steady, oil prices could firm or there could be a sharper than anticipated reduction in stocks.

However, market problems will reappear in the second quarter, when world demand for OPEC oil drops seasonally to an expected 25.8 million b/d. Output will have to be cut to prevent prices from weakening and stocks from rebuilding.

The need for OPEC oil will rise to 26 million b/d in the third quarter and 27.5 million b/d in the fourth quarter. Demand for OPEC oil will not return to the average output levels of 1998 and 1997. However, if the OPEC producers exhibit discipline there could be improvement in oil prices by the fourth quarter of the year.

Prices

The economic slowdown in Asia started reducing oil demand late in 1997. Warmer than normal winter weather in Europe and the U.S. further reduced oil demand and weakened oil prices. Oil prices started to slide in December 1997 and continued to fall throughout 1998.

The average price for world export crude oil was $18.27/bbl in November 1997, $16.50/bbl in December 1997, and $14.10/bbl in January 1998. Excess oil supply coupled with the normal seasonal slump in demand resulted in a further erosion of the world average export crude oil price to $11.56/bbl for March last year.

Prices moved up to an average $12.56/bbl in May but slumped again to $11.12/bbl in June and $11.37/bbl in July. Preliminary purchases for the winter heating season nudged prices to an average $12.69/bbl in October. But the huge overhanging stock levels and the continued excess supply pushed the average price of world export crude oil to $9.32/bbl in December 1998.

For the year the price of world export crude oil averaged an estimated $11.90/bbl, down from $18.38/bbl in 1997 and $20.04/bbl for 1996.