Ambition follows naturally from effective and historically durable coordination of oil production. The Organization of Petroleum Exporting Countries might indefinitely extend the successful effort by itself and nonmember helpers to levitate the price of crude oil by limiting supply. Suhail Al Masrouei, the United Arab Emirates minister of energy and industry and 2018 president of OPEC, said last month that a draft framework for a long-term effort will be finished by yearend.
Last year, 12 of OPEC’s 14 members and 10 nonmembers cut production from 2016 baselines by an agreed 1.8 million b/d and hastened the return to normalcy of global oil inventories, which had reached extraordinarily high levels in 2016. Crude oil prices responded to that effort and demand growth by increasing in the second half of last year. OPEC and its collaborators have agreed to two extensions of the agreement, now to last through the end of this year. In an interview with The National newspaper of the UAE, Al Masrouei said the new hope is for the alliance to “stay together for a longer time.”
Reasons to fail
Ambitious, indeed. Here are reasons to think the effort will fail:
• Cartels usually do. The product of successful supply management, price elevation, tempts cartel participants to overproduce. Supply rises. Prices sag. Quota cheating has undermined past OPEC attempts to limit supply. Yet OPEC claims overall 2017 compliance with the current production agreement of 107%. Even nonmember Russia, with its spotty record on past help with OPEC production restraint, has trimmed output by nearly all the 300,000 b/d to which it committed.
• Potentially large production increases loom from three OPEC members with output limited by internal strife. Two of them, Nigeria and Libya, don’t have quotas and will raise output when they can. The third country, Iraq, wants to raise war-damaged productive capacity to 6 million b/d. Its compliance with the OPEC agreement is marginal now and probably not a priority in economically distressed Baghdad. Any long-term OPEC agreement will have to manage these contingencies.
• Geopolitical tensions among parties to the agreement are extraordinarily high. Saudi Arabia and Iran are openly hostile and virtually at war by proxy in Yemen and elsewhere. Coziness with Iran is part of the reason Saudi Arabia, the United Arab Emirates, Bahrain, and Egypt brazenly ostracized Qatar last year. Russia backs Iran in support of the government in Syria’s multifaceted warfare. But Saudi Arabia and Russia recently have courted each other with economic deals.
• Demand growth for oil is expected to slow if not cease in the next 20-30 years. Coordinated supply restraint works best when demand grows continuously and robustly.
• OPEC members and other countries restraining production face a new form of competition from oil from shales and other continuous, low-permeability reservoirs. When OPEC cut output in the past, oil flowed elsewhere at capacity rates. Non-OPEC supply responded to past price elevation but needed years to progress through conventional steps of exploration, appraisal, and development. In continuous reservoirs, supply can start as quickly as operators drill and complete wells. Prompt supply from US tight-oil plays is much in evidence now. Meanwhile, the offshore industry is reviving, however slowly.
Problem in common
None of this surprises to OPEC planners. In fact, group leaders initially resisted supply restraint when the crude price plummeted in the latter half of 2014, citing the likely futility of the effort and the loss of market share to upstart producers. The agreement it forged late in 2016 after a year’s work resulted from a total reversal of that position.
What’s important now is that all reasons to expect a long-term agreement to fail applied just as strenuously at the beginning of last year as they do today. Still, the agreement worked. And it worked because parties to the agreement, despite all their newly intense antagonisms, share a problem. They’re financially desperate. While desperation in common lasts, supply management might last, too.
