Conference debates OPEC survival options

What's ahead for World Oil Supply/Demand [17612 bytes]

While Organization of Petroleum Exporting Countries members are increasing their productive capacity, only non-OPEC producers are increasing their output.

This problem for OPEC members and the prospect of a return to oil exports by Iraq were among threats to the long term survival of OPEC debated at a London conference organized by the Centre for Global Energy Studies (CGES).

Among proposals to solve OPEC's problems are phased increases in members' production and increasing involvement of foreign oil companies in development projects in OPEC member nations.

Summing up part of the debate, Alirio Parra, former oil minister of Venezuela and now adviser to CGES, said non-OPEC producers are expected to secure 4.5-5 million b/d of additional oil demand during the next 5 years, while OPEC producers will win only 1.5-2 million b/d.

"Both the big six and the small six OPEC producers plan increases in production capacity over the next 5 years," Parra said. "The big six could increase their total capacity by 6-7 million b/d, while each of the smaller six could increase capacity by 500,000-800,000 b/d."

Fadhil Chalabi, executive director of CGES, predicted the next 5 years will be critical to OPEC's survival, and the organization may soon consider ditching its crumbling quota system in favor of hiking market share by boosting production.

"Since September 1993," Chalabi said, "OPEC production quotas have remained at 24.5 million b/d while worldwide demand has increased by 3 million b/d. Of this 3 million b/d, OPEC's share has been zero."

Without the United Nations' embargo on Iraqi oil exports and the subsequent removal of Iraq's 3 million b/d productive capacity from the world market, Chalabi said, life would have been extremely hard for OPEC of late.

Chalabi said OPEC's future, tied to world crude oil supply/demand balance until 2000, depends on whether Iraqi oil exports will continue to be kept from the market.

Iraqi threat

"If Iraq comes back into the oil market before 2000, it will be impossible for OPEC to maintain its quota system," Chalabi warned.

He outlined the CGES forecast of oil demand, the expected call on OPEC oil, and Iraq's potential effect on productive capacity (see table).

Non-OPEC production could increase by 4.7 million b/d by 2000, leaving OPEC a mean estimate of 1.5 million b/d of increased exports, while the organization will have an extra 7 million b/d productive capacity by then.

If Iraq returns to full oil exports before 2000, Chalabi said, OPEC's quota system would be wrecked because Iraq will produce every barrel of oil it can to fund restoration of its tattered economy.

"If this bleak picture of the call on OPEC oil is what happens," Chalabi said, "the survival of OPEC as an effective player in world markets is extremely doubtful.

"The only solution is to keep Iraqi oil out of the markets until the end of the century or beyond. Then the incremental call on OPEC oil would use 70% of the additional capacity, and OPEC could manage.

"This is not unlikely, given the U.S. policy of containment against Iraq. As long as Saddam is in power, Iraqi oil will be kept under embargo except for limited oil sales.

"People talk about the misery of the Iraqi people, but no Middle East country wants to see a change of government in Iraq. A weak Iraq is better for the U.S. than an Iraq governed by unknown parties."

Chalabi warned that if Iraq is allowed to return to exporting and only a fraction of OPEC's spare capacity is used to meet expected rising demand, OPEC members will abandon quotas and produce flat out.

He said, "The oil price in this case could go below $5/bbl, which would be disastrous for everybody."

OPEC's options

Another possibility, Chalabi said, would be for OPEC to secure market share by phased production increases. This strategy had been approved before the 1986 price crash but did not come to pass.

"I think OPEC should go back to its decision of December 1985," Chalabi said, "by planning a yearly increase in production and by refusing to play the role of swing producer in the sense of producing to meet the call on OPEC oil.

"OPEC has to set for itself a market share. This would be painful because prices would go down, but there would not be a complete crash. If OPEC increased oil production by 5%/year to reach 32.5 million b/d in 2000, the oil price would fall to $12/bbl, but this would increase over time because lower prices will mean higher demand."

Chalabi suggested phased increases would restore OPEC's influence on world markets in line with its productive capacity and would not be as painful to OPEC producers as a collapse of the quota system.

Another suggestion from Chalabi was that OPEC might return to participation agreements with foreign oil companies, while at the same time partially privatizing state oil firms.

This approach would attract investment from major oil companies, which since nationalization of OPEC members' oil industries in the 1960s and '70s have been putting their money elsewhere, and overcome OPEC members' cash shortage problems.

"Politically and financially painful though it may be," Chalabi said, "a dual strategy of boosting market share and inviting renewed company participation could help OPEC successfully play a stabilizing role in an oil industry that is expanding healthily.

"Without such a strategy, it is extremely difficult to imagine how OPEC, including Iraq, can survive as an effective player in the world oil industry."

Euphoria

Ahmed Zaki Yamani, CGES chairman and former oil minister of Saudi Arabia, said rising oil prices preceding the conference had inspired euphoria among OPEC members.

He said, "At present, OPEC is enjoying a period of unexpectedly high oil prices despite its output soaring to a level around 1.2 million b/d above its quota total.

"This is not surprising. The Northern Hemisphere has endured a colder than average winter, and cold weather has lingered for weeks at a time. Also, oil production outside OPEC during the last two quarters has not attained the levels expected, particularly in the North Sea. This has resulted in OECD's oil output undershooting anticipated levels by as much 500,000 b/d."

Yamani said world oil inventories have been depleted by 240 million bbl during the last two quarters, with U.S. crude oil stocks at their lowest level in almost 20 years. Products stocks in the U.S., Europe, and Japan are at 10 year lows.

Such market conditions are not expected to last. Yamani predicted that by the third quarter stock cover will have returned to the level of last year, while there is a possibility that limited Iraqi oil sales will take place this year.

"Unfortunately for OPEC," Yamani said, "the return of Iraqi oil probably will occur after stocks have been rebuilt, adding to downward pressures on oil prices and presenting OPEC severe problems."

Radical approach

Yamani said OPEC needs to show the world it is best placed to supply the incremental demand barrel, "which means chasing higher sales volumes."

But he said most OPEC members cannot boost production volumes because of their weak financial positions.

"Most of them look to higher prices as an answer to their financial problems," Yamani said, "yet higher prices require volume sacrifices that most are unwilling to undertake.

"What is more, higher prices encourage non-OPEC producers to keep on exploring for and developing and producing oil, which in turn raises the stakes and requires ever higher sacrifices from OPEC in a vicious circle."

A radical new approach is needed from OPEC, Yamani said, in which OPEC governments invite foreign oil companies back into their upstream sectors to discourage them from investing elsewhere.

"It is encouraging to note that some members of OPEC, notably Venezuela, Algeria, and Iran, have already followed this course of action. However, we must bear in mind that foreign involvement in OPEC's upstream sector is no short-term panacea. It will take years to bear results."

Non-OPEC cash

Joe Darby, chief executive of London's Lasmo plc, said oil companies will pursue developments in OPEC's relatively low cost areas in preference to higher cost plays outside the OPEC sphere.

Of 1 trillion bbl of remaining discovered and predicted oil reserves worldwide, 63% lie in OPEC countries.

Darby said, "Undiscovered non-OPEC reserves are estimated at about 100 billion bbl, excluding the F.S.U., but apart from a few exceptions those reserves are likely to be thinly spread."

Much of the world's frontier basins outside OPEC members are in remote interior regions, covered by ice, or in environmentally sensitive and protected areas.

Darby said oil companies outside OPEC invested $400 billion in 1985-94 at a fairly steady rate of about $40 billion/year.

If OPEC members opened their doors to foreign firms, they should attract most of the oil companies' spending because of low finding, development, and operating costs.

But Darby said three factors count against OPEC:

High government takes negate the attraction of low costs.
Accessibility remains limited, so oil companies are investing elsewhere.
Political and economic risk in some countries may limit banks' willingness to provide financing.

"It might be thought," he said, "that in a low price environment with limited access to low cost OPEC areas, investment in high cost areas will simply dry up for economic reasons, leading to a strengthening of OPEC's position.

"This is not necessarily the case.

"Experience suggests that for a period, which may be lengthy, investment would continue in high cost areas, motivated not only by the prospect of higher prices in the long run but also by companies competing for survival and their reluctance to return capital to shareholders."