Will the Vienna Pact between OPEC and non-OPEC Producers succeed in stopping the downward spiral in an over-supplied oil market?
Memories of the summer of 1986 when oil prices dipped below $10 a barrel, and an imminent financial crisis have compelled producers to accept emergency output cuts. Markets are volatile and oil is no exception. Within a timespan of fifteen months the price of Brent Blend, a global benchmark, more than halved from a high of $25 a barrel in January 1997 to a low of $11.5 in mid-March 1998.
A global oil glut that has built up since the second half of 1997, due to a warm northern hemisphere winter, Asian deflation and the commencement of UN approved Iraqi exports, has shifted fundamentals firmly against producers.
Average daily surplus is estimated at between 1.5-2 million barrels a day (b/d) this year. Against a weak market OPEC, which accounts for 41 per cent of world output, has little choice but to impose some discipline.
Under the Vienna accord, which became effective on 1 April and will run until 31 December, and is the first such agreement to include both OPEC and non-OPEC producers since 1986, core OPEC members, excluding Indonesia, have agreed cuts of 1.245 million b/d, and five non-OPEC producers, including Norway and Mexico 270,000 b/d. Total reduction of 1.515 million b/d represents two per cent of global output of 75 million b/d.
However, the markets had anticipated cuts of at least two million b/d. This shows. that producers are unwilling to address the problems of chronic over-production.
Individual countries' contributions are Saudi Arabia (300,000b/d), Venezuela (200,000b/d), the UAE (150,000b/d), Kuwait (125,000b/d), Iran (140,000b/d), Mexico (150,000b/d), Norway (100,000b/d), Algeria (50,000b/d), and Qatar (30,000b/d). Russia, the world's third largest producer after Saudi Arabia, and the US has decided against cutting output.
The market's response to the globally coordinated cutback has been largely negative. After a brief rally of $2 a barrel, spot prices have again slipped to a near-critical level of below $14, thus indicating the market's pessimism about the efficiency of the plan. Removing some 1.5 million b/d from the market will not eliminate the current glut. Producers will be hard pressed to achieve an average price of $15 a barrel for the next three months. However, at least the present pact has reduced risk of on dipping below $10. Producers nonetheless are facing their bleakest prospects since 1986....