A good spaghetti western tends to have an anti-hero with the odds stacked against them. OPEC and its oil-producing allies have been in this predicament many times, from the ravages of Covid-inflicted demand weakness to the market-share eating power of US shale. Movie—and OPEC—watchers know how this story ends.
The flexible approach that OPEC+ has shown to managing the market gets its plaudits when oil prices are high and critics when the mood turns bearish. So when the eight OPEC+ members—Saudi Arabia, Russia, Iraq, the UAE, Kuwait, Kazakhstan, Algeria, and Oman—that had voluntarily decided in June to keep an additional 2.2m bl off the market agreed to extend that cut from October to December, it was not that much of a surprise that oil prices failed to recover.
Nevertheless, journalists and analysts rushed in to explain that they had been right all along and make painstakingly obvious remarks as to why OPEC+ faces an uphill struggle. But the same folks who said OPEC’s demand growth forecasts were unrealistic (still currently at over 2m b/d for 2024 even if they have been trimmed recently) earlier this year were not also telling us China could be facing a deflationary spiral or the US an inflationary headache that would leave interest rates higher for longer.
China’s economic struggles have been well-documented; the country’s deep property downturn, now in its third year, has hit domestic demand while intense competition in manufacturing is pushing down prices. But there is a creeping dread this could all become entrenched, prompting companies to cut investment, wages and costs. Meanwhile, the outlook for the US economy remains uncertain given the potential fallout from persistently high interest rates in a bid to bring down inflation.
Well-worn phrases from OPEC critics that the group may be boxed into a corner and recycled speculation that the group may implode are to be expected. After all, there is plenty of truth in the fact that the group’s much-lauded ability to keep oil prices stable has enabled non-OPEC producers such as the US, Brazil, Canada and Guyana to take market share. There is also validity in the arguments that oil prices have struggled to go higher when there is 5m bl being kept out of circulation thanks to the production cuts, with the burden as usual falling heavily on Saudi Arabia.
For a few dollars more
OPEC’s de facto leader must also manage the voices from those within its inner circle telling the Kingdom what it wants to hear, some of whom have played down the China and US economic doubts.
A high-price narrative cannot be a work of fiction, and it seems even many of the bullish analysts have scaled back forecasts to closer to the $70/bl mark from expectations in excess of $80/bl. The apologists and sycophants that are welcomed are potentially as dangerous to OPEC as the cynics that are oft-sidelined for their bitter cartel-bashing diatribes.
Look at some of the projections back in 2023 that US shale had peaked or that oil demand is completely price inelastic. These have both been shown to be false conjectures, with US production hitting new records and demand responding to the lagged effects of higher interest rates. Even arguments that compliance with production cuts would be strong due to the fact that some producers cannot increase output have proven to be naive, with patchy records from the usual suspects such as Iraq, Russia and Kazakhstan, while Iran continues to defy the odds in the amount it can supply under sanctions.
Saudi Arabia and its cohort must learn from these mistakes and carefully filter the noise and the data. And they most probably will. The group continues to adapt and evolve, with the formation of OPEC+, with regular dialogue, with enhanced data, with a multi-speed approach to cuts and the way it handles market trading and its short-termism based around sentiment and headlines rather than fundamentals.
While some have criticised the fact that OPEC can now mean the OPEC+ 22 countries, the OPEC 12 or the informal voluntary eight, some could call it the group’s greatest strength and has allowed different circumstances around compliance to cuts to be tolerated. The alliance has removed close to 6m b/d, or about 6%, of global oil demand since 2022 to provide stability and, in general, that has worked. But it still needs to ensure the burden is fair and is a continual process of adjustment and conversation, as getting it wrong can cause members to leave—such as Angola less than a year ago.
OPEC+ must put a greater focus on tracking supply even more than production, and look closer at product inventories and refining margins and not just crude and at what price levels supply in various sectors responds. It must also better understand not just who to trust but also who to listen to: it is an important distinction. The group is getting better at it all the time, but there is still room for improvement.
OPEC+ will keep a cool head around exaggerated assumptions over an oil glut and about collapsing demand. There are still likely to be oil inventory draws in the months ahead even if not at the level that may have been previously expected. In fact, reasonably lower prices— $60–70/bl—may be an acceptable price to pay to create a new stable normal in the near term until the US turns a corner and China is on firmer footing.
But do not rule out OPEC+ reinforcing an unwritten oil price floor at the $70/bl mark at the December meeting with an extended level or deeper set of cuts. The threat of Saudi Arabia flooding the market and crashing the price looms large, and it is one the Kingdom has used in the recent past. Forget tea bag analogies, when there is trouble in the oil market, do not bet against the oldest gunslinger in town.
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