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Bigger share of a smaller market.

Opec is managing to maintain its unsteady tightrope act between production discipline and nervous prices. Its share of world output has grown impressively since the mid-1980s. But in the coming years, oil is likely to account for a decreasing proportion of the world's primary energy demand.

OPEC PRODUCERS are misbehaving, but club discipline has not broken down altogether. On Opec's past record since the beginning of the 1980s, that is some cause for discreet congratulation. Since the cartel returned to a production ceiling and formal output allocations in 1986, individual members have regularly found excuses to flout the terms of painfully negotiated agreements. Next month, they meet again to review collective output.

The production ceiling for the second quarter of 1993 was set at a meeting in Vienna in February. The organisation recognised that output constraint was necessary after a prolonged period when members were able to produce at close to capacity while prices held steady. The overall ceiling was reduced by a million barrels a day from 24.58m b/d to 23.58m b/d. Up to the middle of last month, the key price of North Sea Brent crude was still holding steady at around $18.70 a barrel.
Show of restraint

Opec production quotas, 1993
('000 b/d)

 1st qtr 2nd qtr

Algeria 764 732
Gabon 293 281
Indonesia 1,374 1,317
Iran 3,490 3,340
Iraq 500 400
Kuwait 1,500 1,600
Libya 1,409 1,350
Nigeria 1,857 1,780
Qatar 380 364
Saudi Arabia 8,395 8,000
UAE 2,260 2,161
Venezuela 2,360 2,257
Total 24,582 23,582

That was probably the best which could have been expected. According to a Reuters' survey, total Opec output in March was running at 24.28m b/d, with about half the excess production coming from Iran. Kuwait, with an increased quota of 1.6m b/d (the only member of the group to receive a larger slice of output), managed to overproduce by only 50,000 b/d. Given the fact that it lifted almost 2m b/d in February, that can be taken as a remarkable demonstration of self-control.

Estimated production figures for March were watched closely by the markets, but in the event prices did not shift significantly. The cartel has bought itself a little more time.

How Kuwait behaves is something of a barometer of Opec discipline. Early in April, the Kuwaiti Oil Ministry declared that it would stick to its production quota unless "something major happens". On the same day, Kuwait's oil minister, Ali al Baghli, threatened to produce more than the allocated quota if he saw any other country breaking their production ceilings.

"There will be some leaks, but it doesn't matter," one oil analyst was quoted as saying. "The market can absorb it and this is better than expected." A great deal depends on how Iran behaves. According to Gary Ross, chief executive of Petroleum Industry Research Associates in New York, "If Iran doesn't show much of a production decline, I will be quite concerned about the market prospects because it raises the likelihood of Kuwait cheating."

A difficulty facing Opec's next meeting in June is expected to be a demand from Kuwait for parity with the UAE, which currently has a quota of 2.16m b/d. This could mean Kuwait TABULAR DATA OMITTED absorbing all the seasonal increase in demand for Opec output later in the year and bring it into confrontation with Saudi Arabia and Iran. Both countries are faced with revenue shortfalls in 1993 and are keen to maximise their market shares.

Look on the bright side, however. Several market factors are working in Opec's favour. Non-Opec production is falling. Total output from the successor states to the Soviet Union amounted to 10.5m b/d in 1991. Last year it fell to 9.2m b/d and it may fall just as sharply again in 1993. In the long term, production from the Commonwealth of Independent States (especially the Central Asian republics) will bounce back, but only after substantial reinvestment.

No such hope can be held out for the United States. Reserves are inexorably running out. Production of around 10.5m b/d in the mid-1980s dropped to 7.4m b/d in 1991. By the end of this year, annual output is expected to fall below the 7m b/d mark. By contrast, the best that can be expected from the North Sea is a steady 4m b/d. The big fields are looking towards the end of their lives, though it will be some time in coming, and production is only maintained by the exploitation of smaller discoveries.

For the present, Iraq's potential for exports is discounted in Opec circles. Market rumours and press reports in the United States have hinted that Iraq is breaking the UN embargo in exporting its crude. Whatever is going on amounts to no more than a small trickle of crude to Iran.

Under the proposed UN plan, Iraq would be allowed to lift around 550,000 b/d if it was deemed to be fully observing UN requirements. The revenues from that would be devoted to paying for UN aid and peacekeeping efforts, and compensation to Kuwait, but if sanctions were fully lifted, Iraq could pump around 3m b/d onto the market.

The cohesion of the international embargo on trade relations with Iraq is being progressively frayed at the edges. But Iraq is unlikely to be re-entering the oil markets in force this year, so Opec has (if only by default) won another breather.

The cartel can also derive encouragement from its steadily recovering share of world oil production. In the 1980s, Opec saw its cut of the market drop from almost 40% to just over 30%. In 1992, it is estimated to have boosted its share back above 40%. The International Energy Agency (IEA) in Paris projects Opec's share of worldwide crude production rising to 44% by 1994.

In 1985, demand for Opec crude sank dismally below 16m b/d. Today it is running at around 24m b/d. Give a few hundred thousand barrels a day either way, this is still rather too close for comfort to Opec's notional ceiling of 24.58m b/d.

Opec members will have to cross their fingers and hope that demand from the industrialised OECD countries will pick up during 1993 if they can pick themselves out of the trough of recession. Much also depends on the state of the Russian economy. Potentially, Russia is a major actor on the international oil markets (The Middle East, September 1992). Strapped for hard currency and stuck with a shrinking economy, it may tilt the market balance during the year by exporting surplus output even as production declines.

One more cause for encouragement is that oil exporters are probably getting unnecessarily worked up about US and European moves to impose energy taxes. In the United States, the Clinton administration has proposed an import fee based on a 5% tax on all forms of energy. GCC oil producers are talking about a retaliatory oil export tax.

At the end of the day, all of this is nonsense. Taxes on oil exports can only harm the Gulf oil producers and trigger off a trade war. As one official Gulf Arab source was quoted as saying during last month's GCC foreign ministers' meeting, the exporters "are not in a position to take strong counter-measures that could escalate a trade war or confrontation with their major trading partners."

Nor is the effect of an oil import tax in the United States likely to be significant, even if it is adopted. The American Petroleum Institute (API), the mouthpiece of domestic producers and refiners, has claimed that a gasoline tax of $0.50 a gallon would cut oil imports by 10%.

No chance, say the sceptics, who seem to be winning the day in the debate. The import fee will not serve the purpose for which it is intended, simply because energy demand is expected to increase by 1.5%-2% over the next few years and domestic production cannot keep pace. Tax revenues will boost the government's income, but import duties are unlikely to have any effect on consumption. The same holds true for the European Community's $10 per barrel import tax. Governments would happily pocket the tax, but the impact on fuel use would be negligible.

Now the less-good news. Carbon taxes in the United States and Europe (however environmentally-friendly they are structured) will slow but not reverse the demand for Opec crude. The Gulf producers can probably live with that. But they will be far less comfortable with financing their capacity expansion programmes.

All sorts of figures are thrown about. In April, the Centre for Global Energy Studies in London suggested that Opec members could run up a cumulative bill of $67bn if it aimed to achieve capacity growth to 39.2m b/d. If extra revenues from capacity expansion run to $75bn, the argument goes, Opec producers will earn a surplus of $8bn.

But if demand for crude from the industrialised countries slows down, the cost of installing new capacity might drop below revenues. Once again, Saudi Arabia seems to be ahead of the game.

Oil production capacity was due to expand last month by 500,000 b/d when the first stage of Saudi Aramco's five year expansion scheme came on stream. The target of 10m b/d of sustainable capacity is well within reach and the implementation programme is well ahead of schedule. The kingdom now seems to be slowing down the pace of the programme as a result of high capital costs and nervousness about producing too much excess capacity.

"Investment is perceived as the best chance of stabilising prices and exports," Nordine Ait Laoussine, a former Algerian oil minister, was quoted as saying recently. "Volume becomes the sole determinant of ability to improve revenues." If that is the case, Opec members will be tempted to compete for capacity share rather than output share.

Share of what, however? The dominance of the Gulf in the world's crude markets may be growing, but the long-term effects of the sudden oil price shocks of 1973 and 1979 are inexorably making themselves felt.

In 1973, crude oil accounted for 51.5% of world primary energy consumption, while natural gas took up 19.7%. By 1980, the share of crude had dropped to 47.4% while natural gas remained static. But in 1991, crude oil made up only 40.2% of primary energy demand, while natural gas jumped to 22.8%.

Nuclear power, hydroelectricity and natural gas have all made inroads into crude oil's traditional preserve. Power generation is decreasingly reliant on oil, while growth in demand for gasoline is slowing. Gulf hydrocarbons producers may still be able to benefit from their under-utilised gas reserves if the balance of demand continues to shift away from crude oil. What price then for Opec's crude capacity expansion plans?
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Title Annotation:OPEC attempts to stabilize price of crude oil
Publication:The Middle East
Date:May 1, 1993
Previous Article:Focus for Islamic banking.
Next Article:Agents runs amok.

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