The petroleum industry held course in the first half of 1990 while production in excess of demand drove crude oil prices steadily down. And it will have to hold course in the second half as prices recover-if, indeed, they do.
Futures prices spurted on news of agreements by Kuwait and the United Arab Emirates to cut production by a total of about 700,000 b/d. Each promised to limit flow to 1.5 million b/d, which for the 400 U.A.E. amounts to an Organization of Petroleum Exporting Countries quota significantly higher than the one it has long ignored.
PRODUCTION CUTS ELSEWHERE
To accommodate the 400,000 b/d U.A. E. quota hike, OPEC's more obedient members must produce less. Third quarter demand for OPEC crude probably won't exceed the original quota, so a simple boost of the group total would sustain a buildup of stocks already high relative to demand. That would suppress crude prices even in the fourth quarter, OPEC's earliest hope for demand greater than the original quota.
It's more likely that Saudi Arabia, with token help from others, will trim output by the 400,000 b/d needed to align the quota with expected demand. This is no small gesture. As they demonstrated in 1985-86, the Saudis take market share seriously. They'll want the ground they have yielded back when market conditions enable them to reclaim it.
If they're counting on a demand surge, however, the Saudis may have to wait. Critical variables are U.S. and western European economies. Petroleum demand in both areas is expected to grow slowly but steadily, with economic expansion offsetting conservation and improvements in consumption efficiency. Strongest demand growth will occur in the rapidly developing Asia-Pacific region. East-West Center of Honolulu predicts that area's oil demand will increase by 2.4 million b/d during 1990-95, accounting for 60% of the period's worldwide growth.
Recession in the U.S. or Europe would upset the outlook. The regions still make up 57% of the market. Recessionary demand cuts, even if small in percentage terms, would represent large volumes of oil. And U.S. or European economic troubles would hurt the Asia-Pacific expansion driving petroleum's growth market. U.S. economic growth has slowed, and petroleum demand has stalled. These may not be early signs of recession. In conjunction with fiscal problems and threats of higher taxes, however, they probably give the Saudis and others reason to discount demand projections through at least yearend. And, along with faltering product prices, they make Iranian calls for an immediate $2/bbl hike in OPEC's reference price look absurd.
IRAQI WILD CARD
A more troubling wild card is Iraqi President Saddam Hussein's renewed threat against Persian Gulf overproducers. It's unclear how great a role his saber-rattling played in the production cut decisions. But it is a sobering reminder of the oil market's fundamental instabilities. OPEC members outside the Middle East-especially those, like Venezuela, hoping and able to increase production within a few years-must have watched the latest shenanigans of their exporters' fraternity with despair.
Nevertheless, an oversupplied market is demanding production cuts, and important OPEC producers seem willing to comply. That's the critical first step toward halting the 1990 price slide-a fact traders recognized when they bid up futures prices on the news. Uncertainty remains over near term demand, disposition of stocks, and OPEC politics. But the oil business knows to expect uncertainty. The course is clearly marked: $15/bbl on one side and $22/bbl on the other. The industry's challenge is to hold investments and operations steady within the extremes.
Copyright 1990 Oil & Gas Journal. All Rights Reserved.