A timely agreement

For oil-supply management by the Organization of Petroleum Exporting Countries and its collaborators, a seemingly modest agreement announced July 24 in St. Petersburg came none too soon. The group has mustered extraordinary compliance with the coordinated production cut that took effect Jan. 1. Inevitably, however, strain began to show last month.

The International Energy Agency says OPEC compliance with the agreement to trim group output by 1.2 million b/d from a October 2016 baseline slipped to 78% in June from 95% in May. Offsetting the effect somewhat, compliance by 10 non-OPEC exporters also agreeing to cut supply rose to an estimated 82% from 74%. OPEC discipline since January, despite June's slippage, remained at an historically impressive 92%, IEA reports in its July Oil Market Report.

Weakened resolve?

A weakening of OPEC resolve, if that's what the June numbers reflect, is understandable. Global inventories, while shrinking, remain stubbornly above target levels, and the crude price loiters below $50/bbl. For production restraint as an antidote to price weakness, payoff remains below promise.

OPEC's nemesis is competition from start-ups of legacy offshore projects and from prompt supply from tight-oil plays. This is new. Supply management by the exporters' group worked better when all other production flowed at near-term capacity rates. Now, non-OPEC production from known hydrocarbon accumulations can respond meaningfully to price elevation in the time required to drill and complete wells. In a statement after the St. Petersburg meeting, the group expressed doubt about durability of the shale-oil phenomenon. Time will tell.

The immediate challenge is to keep supply coordination intact long enough to shrink inventories. At some indistinct point in the future, demand growth and depletion will relieve the pressure abundance now exerts on the market, suppressing prices and distressing producers. Coordination attempts to limit supply unnaturally and hasten the return of more-comfortable prices as an act of collective will. Sometimes it works.

This time, OPEC cum non-OPEC production restraint has lasted half a year after winning an interim extension through March 2018. It has managed at least to alter the trajectory of inventories. And it has endured more than competition from unconventional supply.

Antagonisms within the exporters' group are unusually intense. Conflict between Saudi Arabia and Iran has reached dangerous levels, manifest in proxy warfare in Yemen. There and in other Middle Eastern hotspots, Russia aligns itself with Iran. Other Sunni monarchies generally align with Saudi Arabia, which-with the United Arab Emirates, Bahrain, and Egypt-has boycotted Qatar ostensibly for the emirate's coziness with Iran and support for the Muslim Brotherhood. Qatar, with Turkish support, is in conflict over Libyan governance with the UAE, which is supported by Egypt. That a group with so many fault lines reached any agreement at all to trim production attests to the seriousness of participants about the crude price. A test will come if prices fall enough to tempt producers to bolster revenue by raising output.

Forbearance for Libya and Nigeria already tested patience. With production suppressed by internal problems, those countries were spared quotas in the OPEC agreement. In the past few months, their output increased by a combined 700,000 b/d, according to IEA. "For fellow OPEC members, who agreed to reduce production by 1.2 million b/d, to see their cut effectively diluted by nearly two thirds must be very frustrating," the agency observed.

Nigeria's agreement

The frustration raises importance of Nigeria's agreement in St. Petersburg to join the OPEC effort when its output reaches 1.8 million b/d, possibly next month. OPEC's production-cutters must be further heartened by Russia's progress toward a promised 300,000-b/d phasedown. IEA said compliance by the most important of the 10 nonmember countries collaborating with OPEC reached 93% in June and has averaged 66% since January.

OPEC isn't alone in needing encouragement. A June price slump made clear that traders were losing confidence in supply coordination. Outcomes of the St. Petersburg meeting should help. After all, inventories, however slowly, are declining.