OPEC next gathers December 4 in Vienna, just over a year since Saudi Oil
Minister Ali Al-Naimi announced at the previous OPEC winter meeting the Saudi
decision to let the oil market determine oil prices rather than to continue
Saudi Arabia's role of guarantor of $100+/bbl oil.
Despite the intense financial
and economic pain this decision has inflicted on Saudi Arabia, its fellow
OPEC members, and other oil producers, the Saudis have given no indication
they plan to alter course. In fact, Saudis have downplayed the impact of
lower prices on their country, asserting that the kingdom has the financial
wherewithal to withstand lower oil prices.
Presumably swayed by Saudi equanimity, financial markets do not see the
Saudis abandoning their current policy before, during, or after the upcoming
OPEC meeting. CME Brent oil futures project continuity: as of August 18,
2015, CME Brent futures projected the price remaining below $60/bbl until
June 2017. A CNBC
poll of oil traders, analysts, and major fund investors, aired on CNBC
August 17, showed 95 percent believing the Saudis will not alter course.
Are the futures market, CNBC's oil traders, analysts, and major fund
investors, and others, being lulled into an unjustified consensus?
The damage the Saudi decision has inflicted on Saudi Arabia itself
provides reasons for the Saudis to change course.
Saudi Policy: OPEC-centric or Self-Serving?
Stresses within OPEC should add to the pressure on the Saudis to rethink
their strategy. The Saudis sold their change to their fellow OPEC members as
being in OPEC's general interest. They asserted that the their traditional
method of stabilizing the oil market, production cuts, would not work since
non-OPEC producers would increase output; second, that "market"
forces would reduce investment and therefore increase prices in the medium
and longer term and ultimately benefit all OPEC members; and third, that any
Saudi increase in output was aimed at defending its market share, not
reducing theirs.
As the first anniversary of the Saudi decision approaches, it would be
reasonable for OPEC outsiders -- OPEC members, other than the Saudis and
their Gulf Arab allies, Kuwait, UAE, and Qatar -- to interpret Saudi policy
shift as designed to serve Saudi interests and those of its Gulf Arab allies
rather than their interests and those of OPEC in general.
"Market" forces include many components. A key component --
perhaps the key component -- is a country's capability, at a minimum, to
maintain output, and better yet, to increase output. Financial wherewithal is
the foundation of this component. Saudi and Gulf Arab OPEC members' foreign
currency reserves and sovereign wealth funds (SWF) comprise approximately 78
percent of total OPEC member holdings, $2.73
trillion of $3.05 trillion.
As the following table shows, their advantage is particularly large on a
per capita basis. Of the non-Saudi, non-Gulf Arab ally OPEC members, only
Libyan per capita resources exceed the average. (The UAE includes data for
three SWF funds only: Abu Dhabi Investment Authority ($773 billion), Abu
Dhabi Investment Council ($110 billion), and Investment Corporation of Dubai
($183 billion)).
Given the other budgetary demands on their oil revenues, $50/bbl or
$60/bbl oil leaves these OPEC outsiders with little to invest in maintaining
oil output, much less expanding output. Budgetary pressures and limited
financial resources, for example, have forced the Iraqi government to request
its foreign partners, BP in the Rumaila field and Exxon in the West Gurna-1 field,
to reduce spending to cut 2015 investment by $500 million ($1.1 billion vs.
$1.6 billion) and $1 billion ($2.5 billion to $3.5) respectively.
While all OPEC members, including Saudi Arabia, have suffered from the
Saudi decision, they have not shared the pain equally. Saudi Arabia and its
Gulf Arab allies, except Qatar, have increased output, while the output of
other OPEC members, other than Iraq and Angola, has either flat-lined or
decreased, compared to 2014:
Given Saudi determination to defend its export markets, it is interesting
that the percentage gain in their crude exports exceeded the percentage gain
in crude output in 1H 2015, by 2.7 percentage points. For Iran, the only
other OPEC country for which the IEA provides domestic demand data, the
increase in exports, 0.7 percent, matched the increased domestic output.
Interestingly, also, the Saudis increased their share of OPEC average
daily output in the first half of 2015 over 2014 average daily volume -- and
their share of average daily global output. Their share of OPEC output
increased to 26.6 percent in 1H 2015, from 26 percent on average in 2014,
while their share of world output increased to 10.4 percent from 10.2
percent.
For the OPEC outsiders, this should be particularly distressing, since the
increase in output likely deepened the decline in prices the Saudi decision
to abandon its role as guarantor precipitated.
Both results continue trends seen since 2010. Saudi share of OPEC output
increased three percentage points, from 23.6 percent in 2010 to 26.6 percent
in 1H 2015. At the same time, the Saudi share of world output increased 1.1
percentage points, from 9.3 percent to 10.4 percent, during the same period;
during the same period, OPEC output as a share of global output declined
slightly, from 39.5 percent to 39.2 percent.
In fact, over this period, Saudi Arabia and its Gulf Arab allies increased
their total output 18.1 percent while the output from the other OPEC members
decreased 5.4 percent. During this period, the Saudi and Gulf Arab share of
global output was flat, declining only 0.1 percentage point, while the share
of the other members declined 1.5 percentage points, from 16.7 percent to
15.2 percent.
Impact on Non-OPEC Producers as Advertised?
In defense of their policy, the Saudis could point to IEA
projections that show the rate of growth in output from major non-OPEC
producers slowing substantially in 2016, particularly in North America, a
major Saudi target, and Brazil:
However, it is reasonable for the OPEC outsiders to question the actual
efficacy of Saudi policy on non-OPEC producers and the benefit it will bring
them. In both the United States and Russia, each of which produces roughly as
much as Saudi Arabia, output increased in 2015 rather than decreasing, and
will continue to increase in 2016 in the U.S.
The IEA projects Brazil's output, despite Brazilian political turmoil,
growing 6.45 percent in 2016. Moreover, Saudi policy, combined with the
impact of U.S. and EU sanctions on Russia, led to the undesirable result for
OPEC (and other oil exporters) that Russian exports have increased, from 7.21
million barrels/day in 2014 to 7.55 million barrels per day in 1H 2015, in
part because as Russia's economy contracted, reducing domestic crude demand
to 3.47 MMbbls/day in 1H 2015 from 3.65 MMbbls/day, while crude output
increased to 11.025 MMbbls/day from 10.86 MMbbls/day.
Moreover, any comfort the OPEC outsiders gain at best may be cold comfort.
While the IEA projects surplus production will begin to recede in 2H 2016,
they are suffering now (and in any case, it is a projection). As we have
pointed out, RBC Capital's fragile
five, Algeria, Libya, Nigeria, Iraq and Venezuela, the pain is intense.
Also, it is wealthy Saudi Arabia and its Gulf Arab allies and non-OPEC
members, in particular the U.S., Canada, Mexico (foreign investment), and
also Russia (Chinese investment), that will have the financial
wherewithal to grow output to satisfy the 18 million barrel per day
increase in demand that OPEC sees by 2040.
The December 2015 OPEC Meeting
Given the Saudi decision's positive impact on their and their Gulf Arab
allies' relative position within OPEC and its negative impact on OPEC
outsiders, it is possible, perhaps even likely, the Saudis will face an OPEC
outsider revolt at the December 4 OPEC meeting.
The Saudis and their Gulf Arab allies would seem to have three possible
approaches, should a revolt occur:
Reconciliation, as Saudi Arabia acquiesces in the wishes of OPEC's
weaker members to bring price increases forward through OPEC production cuts,
Saudi Arabia bearing the brunt;
Separation, as the Saudis and their Gulf Arab allies ignore their
fellow members' entreaties and force them to wait for "market"
forces to balance supply and demand; or
Divorce, as the Saudis and their Gulf Arab allies decide to exploit
their financial wealth and go their own way, therefore forcing their fellow
OPEC members, unable to finance their domestic oil industries, unwillingly to
bear the brunt of global production cuts.
In October 2014, the Saudis began signaling their intention to abandon
their role as guarantor. It is unlikely however, that whatever Saudi decision
makers are now considering, they will show their hand in advance of the
December meeting, since this would reduce pressure on the non-OPEC producers
that the Saudis claim to be targeting, before necessary.