The jobs of the US Federal Reserve and of Opec are somewhat similar. They are driving a car on an undulating mountain road, only able to look through the rear-view mirror, and with just one control: the brake, which works with at least a month’s delay.
A further challenge for Opec is that it has several drivers, who don’t always agree on the destination.
But for now, the oil exporters’ group is back on the road. It took a quarter longer than expected, but Opec+'s brakes – supply cuts – finally seem to be having the desired impact.
The group’s meeting last Wednesday confirmed production cuts would stay in place until at least the end of June. Brent prices finally jumped above $90 a barrel for the first time since October.
Last year, observers anticipated that the market would tighten significantly in the fourth quarter, and that $100 per barrel was within reach. Instead, a surge of US oil production collided with economic concerns over China and prices tumbled by almost $20 a barrel by mid-December, bottoming out around $73, before mounting a halting recovery.
Compliance to Opec+ targets remains pretty good. Iraq is the main over-producer, at about 300,000 barrels per day above its allocation in March, because of the revival of output in the Kurdistan region, even while the main export pipeline through Turkey remains shut. Kazakhstan and, on a much smaller scale, Gabon, have also been above target.
Nigeria remains below it but is nevertheless producing a lot more than last year. Kazakhstan, in the wider Opec+ group, was more than 100,000 bpd over target in March.
Members who have been overproducing have been exhorted to provide plans of how they will cut back to compensate. It is unlikely that Iraq will fully offset past months' excesses, even if it does trim current production. Output in Iran, Libya and Venezuela, which are not bound by targets, is up on last year in every case, by almost half a million barrels per day for Iran.
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After a stellar 2023, US output dipped in January, hit by winter storms – not an unusual occurrence. Expectations are for a much more subdued year, with a rise of 260,000 bpd, according to the Energy Information Administration. Interestingly, the EIA sees stronger expansion next year.
One of the remarkable features of the current market has been the huge divergence in demand outlooks between Opec and the International Energy Agency. Opec has essentially held the line on its bullish call, seeing an increase of 2.25 million bpd, while the IEA pushed its estimate up in March, but still only sees gains of 1.3 million bpd. Meanwhile, the EIA comes in at 1.43 million bpd. Most analysts fall somewhere in the space between Opec and the IEA, but generally towards the lower end.
While China continues to be a concern, the US economy is strong. It may avoid not just the dreaded hard landing, but even a soft landing, this year. With US inflation rebounding, the Federal Reserve is pushing back expectations of interest rate cuts. Last year’s one-off deflationary pressure from easing supply chains and lower energy prices, not just in the US but in Europe and Australia, has probably run its course.
Geopolitical factors have not had any real impact on overall prices. Dramatic as they are, and troublesome for oil trade and shipping, the Houthi attacks on vessels in the Red Sea have not affected supply. Nor have Ukraine’s drone attacks on Russian refineries, which have successfully cut petroleum product output but not yet significantly affected crude.
That could be about to change. Tighter enforcement of US sanctions on Russian shipping has hit exports to India, and could further crimp Russia’s output if it has to switch away from using its damaged domestic refineries. The US may also reinstate sanctions on Venezuela if, as seems increasingly likely, its presidential election in July is not considered fair.
Most dangerous is the prospect of a conflict involving Israel and Iran. Israel has stepped up attacks on Hezbollah targets in Lebanon, might have been behind explosions on gas pipelines in Iran in February, and killed several senior Revolutionary Guards commanders with a missile that destroyed the Iranian consulate in Damascus last Monday.
Iran has been restrained so far, but that may not last. Israel would hope that the US would also be sucked into any outright war.
Even if there is no serious disruption of production anywhere, if Opec+ sticks to its production cuts throughout the year, there will be a substantial deficit – as much as 4 million bpd in August. Chinese demand is also expected to strengthen in the second half.
These hints of the road ahead are important. Opec+ could follow one of two paths.
First, it could hold to its current policy and keep the cuts in place until prices rise above $100 per barrel, possibly well above, and when there is more data on the economic and demand outlook for the year’s second half.
The risks here are that higher prices spur a further surge in US output, push up inflation and result in delaying interest rate cuts. The general economic picture may weaken. If Opec+ gets stuck in a repeat of the fourth-quarter situation of tepid demand and strong competition, it cannot cut much further. Saudi Arabia would not want to deepen its voluntary reductions further, while there is increasing fatigue on cuts, especially from Iraq and the UAE.
Or, the group could believe its own strong demand forecasts. After a long period of cuts, it could then begin charting its path back to fuller output. That particularly applies to members with the most spare capacity – the UAE and Saudi Arabia.
After the hairpin bends of Covid, then the Russian war, the oil market is back to relative normality – and that implies Opec+ should also seek a smoother ride.
Robin M. Mills is chief executive of Qamar Energy, and author of 'The Myth of the Oil Crisis'
