OPEC’s Algiers meeting: Output cut agreed, uncertainty still looming

The OPEC countries have agreed in Algiers, during an informal meeting, to cut oil production in view of higher prices, a decision forged after two years of price war with US oil producers and after eight years since the last similar move. Some analysts call it a victory for unity, others call it a capitulation in front of shale producers, others doubt the actual results on the market. Anyway, it seems the 14 oil producing countries have reached the conclusion that there’s no other option if higher oil prices are targeted. It was undoubtedly a surprise, after the failing talks in Doha in April and the OPEC summit in June, but will it really work?

In the best scenario, if the plan is observed, a 2% cut in output will be operated, which would lead to a fall by 700,000 bpd, given that the oversupply in H1 2016 was of 800,000 bpd. Right after the decision in Algiers world quotations jumped by some 6% up to USD 49 for Brent crude oil, but soon they fell back, on reason that the agreement would be very hard to apply. After all, OPEC is not a big peaceful family, although it produces 40% of world oil, lots of interests are bringing it in turmoil and there is uncertainty about the individual producing quotas to be set at the next summit on November 30 in Vienna. The agreement still leaves hard and difficult negotiations ahead for the individual caps to be set, one analyst said referring to the future meeting. There are also lots of question marks regarding the other players on the market such as the US, Russia, China and Canada, etc. and other disturbing factors.
Cheap oil has brought down the finances of many OPEC countries and Saudi Arabia is no exception, with a budget deficit of some 13.5% of GDP. Here is the reason for its softened stance in regard to Iran, a stance that prevented an earlier deal in April, analysts say. The Saudis have made important concessions to Tehran, its OPEC and regional archrival, among them giving up the request for a proportional output cut. As Iran emerged earlier this year from international sanctions over its nuclear programme, Tehran wanted to recover its share of the market, while Saudi Arabia was unwilling to curb production without Iran doing the same. Now things seem to have changed. Riyadh is offering to cut its own production to 10.2 million bpd from 10.7 million. On the other hand Iran has boosted its oil production already and going higher could be difficult. Saudi Arabia has thus softened its stance. Saudi oil minister Khalid al-Falih, who was appointed after the Doha meeting, reportedly said in Algiers that Iran, as well Nigeria and Libya would be allowed to produce ‘at maximum levels that make sense’.
Another issue turn out to reveal the problems within OPEC, showing the weakness of the deal. Iraq’s new oil minister Jabar Ali al-Luaibi expressed discontent during the Algiers meeting with the setting of the output ceiling at 32.5 million bpd (OPEC’s current output stands at 33.24 million bpd). He argues that the figures for Iraq’s output are not realistic and his country wants to increase production. “These figures do not represent our actual production,” he told reporters. If by November estimates do not change, “then we say we cannot accept this, and we will ask for alternatives”.
Some say the 2% envisaged output cut would be after all, a drop in the ocean. Goldman Sachs estimates that, if the agreement is implemented properly, could increase the price of oil barrel by some USD 10. On the other hand IEA says the output capping at 33 mbd would not be enough to get the supply in line with demand by mid next year.
Nevertheless, as said, lots of question marks are pending. Even in times when individual quotas were set, OPEC countries were rather keen to go above them in order to cash in more money. It is far too easy to cheat the targets. What guarantees are that this won’t happen again?

Russia and shale oil producers

In April, in Doha, Russia seemed ready to go in line with an OPEC decision to curb oil production. Since then, new developments have taken place and Moscow has marched on the opposite trend. In September Russia reached the highest oil output in the post-Soviet era, with some 400,000 barrels per day more against the former level. On the official side, it is not betting on a price increase. Finance Minister Anton Siluanov said Russia goes on the assumption that the average price per barrel will remain around USD 40 during the next three years and is taking steps in drawing up the budget on this and would not take into consideration the OPEC deal. “The price of Russia’s main export blend Urals used to calculate the country’s budget was and remains at USD 40 per barrel,” Siluanov said. “You think it’s stabilized? We need to see how realistically the decisions will be implemented,” he said, adding that should oil trade above the USD 40 per barrel threshold “we’ll spend less from reserves - that’s our approach.”
What about the US shale oil producers? Even the Russians doubt they would not increase the output, which could bring the oil price down again: “Shale projects very quickly get turned around,” the Russian Finance Minister said.
A well known Russian export also expressed doubts about the deal in Algiers: The Algiers agreement does not represent a threat to Russia, whose “oil production has been growing for several years.”
So, is the OPEC deal a ‘capitulation’ to the US shale drillers?
In the US, shale oil producers are fast to get back to the job, and a price hike would stimulate the trend, analysts say. Nevertheless, things are not that simple. Other analysts quoted in international media say that even if prices climb up to USD 50-60, shale producers will need at least six months to begin replacing the personnel and the equipment they let go. On the other hand a USD 50 level would be needed before the US companies engage higher spending. However, the number of rigs targeting oil in the US climbed to 418 in September, the highest level since February.
The US shale drillers proved hard to eliminate by OPEC and mainly by Saudi Arabia during the last two years of fight for the market share. They now seem looking with scepticism at the new deal. But they were hit by the ongoing fight since 2014. More than 60 oil companies went bankrupt in the last 30 months. It remains to be seen if the US shale industry will register a victory or the odds have changed.

A short-lived surprise?

In November, OPEC countries are to negotiate the individual producing quotas, which might prove a hard nut, as seen above not all members are enthusiasts. There are a lot of unknown issues lying ahead in regard to the success of the output cap in terms of oil price increases. Lack of confidence comes right from the inside, some say. “The deal is a bit of a farce!” an OPEC source said. As seen, Iraq is complaining already.
US shale oil producers and Russia are at least two variables to be considered. Canada, another important oil producer, sees the deal as promising, but it has been hardly hit in the past years. The Canadian oil patch has seen more than 100,000 jobs disappear since the price war began in 2014, whereas capital investment has plunged as cash flow levels evaporated.
Besides the surprise deal, another development took observers by surprise. It’s about the stance of Saudi Arabia and Iran, the archrivals that have turned softer and have forced the industry to rethink its assumptions about the supposedly unbridgeable chasm between Riyadh and Tehran, as analysts say.

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