OPEC+: Not a mega cut

Today’s OPEC+ meeting confirmed several things. 

• They prefer to boost revenues prices in the face of weak demand. 
• OPEC has little interest in making it easy for the G7 to implement the price cap. 
• There was a need to reset targets to (partly) adjust for massive under production from many producers
• producers are concerned about global demand, despite their continued public optimism about Chinese demand. 

In their meeting today, OPEC+ members announced a cut from prior (August) production targets by 2 million barrels a day. In practice, the country composition suggests the net reduction is likely closer to 1 million barrels a day as many countries were underproducing. That is a meaningful decline, though not as great as some rumors which proposed cuts from current production not aspirational targets. Despite theoretically committing to these targets for over a year (through December 2023) some members including Russia may be set to take larger voluntary and involuntary cuts in the coming months as the oil price cap faces a rocky implementation. 

The framing of the announcement was clearly political, confirming the commitment to the OPEC+ grouping and especially Russia’s role in it, something which is not particularly new. The tone of oil ministers at the press conference reinforced that interpretation, especially after the US had taken to strong (almost desperate) lobbying to prevent a cut in recent days. OPEC, feeling vindicated that energy transition would lead to underinvestment, now is concerned that the complex due diligence and payment process to avoid sanctions will add to volatility. 

However it also marks a reset in OPEC+ concerns about global growth and global demand. Although OPEC had recently been surprisingly upbeat on 2023 demand growth, especially in China, they may now have capitulated, preferring to “cut” production and boost spare capacity throughout all of next year. While there are some signs Chinese demand may pick up a bit, much depends on zero covid policies and struggling property markets.  Many OPEC members are increasingly concerned that rising costs of other parts of the energy complex (especially gas) as well as food and other prices will weaken demand for goods including oil. Furthermore its an opportunity to reset actual production levels to new targets rather than the aspirational ones of the summer, which many producers failed to meet. OPEC is responding to softer demand, and sending a message that it prefers higher prices per barrel rather than more barrels.  

As for the price cap, the move was a clear reminder that OPEC members will not make it easy to implement the measure. To some extent this makes sense, why should a producers cartel make it easy to operationalize a set of tools that might allow buyers to bandwagon. It also reflects the real geopolitical difference between the impending shift in barrels associated with Russian supplies and those of Iran a bit more than a decade ago. At that point other OPEC members (especially in the GCC) boosted production to offset supplies coming offline from Iran. Although markets seemed tight at that point, several factors make this different. There was broader, not just developed market consensus, security concerns from GCC players about Iranian nuclear policies and smaller volumes to replace at least all at once. Overall, Saudi Arabia and others are wary of helping facilitate this policy, even if they may benefit from imports of cheaper discounted oil products. Overall, these trends increase the risk that the US will move from their Carrots first (cheap fuel) to sticks (clearer penalties). 

The US response too was political. Indeed, this began even before the announcement when some White House actors labelled any cut as a ‘hostile act’, a rather dangerous assertion. While the White House has belated tried to raise concerns about developing economies who are most vulnerable to higher oil prices, a welcome focus given the earlier focus on US and developed consumers, it risks overpoliticizing. The plan to consult Congress about new tools to reduce reliance on OPEC raised questions about changes in anti-trust policies, the often announced and never passed NOPEC and a potentially dangerous oil product export ban which could undermine US neighbors and the vary allies it is working with on Russia policy. There are policies that could be done including smart use of the SPR, permitting and even shockingly encouraging fuel and consumption efficiency. 

Overall, the US still remains in part constrained by its sanctions policy on other countries including Iran and Venezuela, which limit its ability to reduce reliance on Russian fuel, even if they would do little to reduce global reliance on OPEC and of course these countries too might participate in cuts. Significant sanctions relief remains unlikely given the state of negotiations (Iran) and the lack of a settlement that would justify sanctions relief Venezuela), but they are a reminder that significant sanctions on a major producer increases reliance on other producers. 

Overall, oil prices are likely to rise as cuts to production (even if more modest) offset the new increase in spare capacity in GCC. It remains to be seen if the higher prices OPEC hopes for will actually lead to greater investment among OPEC+ and other producers as many oil ministers professed. Overall, it suggests that oil prices may again become a contributor to broader price pressures, arresting the recent declines. They will still pale in comparison to gas prices, where Europe is outbidding other countries and even each other despite price caps, but will add to the broader price volatility.