Oil beyond 2018: what lies ahead for 'Super Opec'

If efforts succeed to establish the new group, what should it do after oil production deal expires at the end of 2018

Suhail Al Mazrouei, UAE Energy Minister, at the International Petroleum Week conference in London. Chris Whiteoak / The National

In an exclusive interview with The National a week ago, UAE energy minister Suhail Al Mazrouei, who currently presides over Opec, said that plans to formulate an "Opec supergroup" are in the works. The new group would aim at longer-term cooperation with the 24-member "Vienna group" of Opec countries and allies, beyond the expiry of their production cut deal at the end of 2018.

If efforts succeed and such a group is indeed formalised, what should it do?

The current grouping includes the Opec countries plus Russia, Oman, Mexico, Kazakhstan and some smaller oil producers. Since their December 2016 accord, they have agreed to limit their oil production to reduce over-stocked inventories, an implicit effort to raise oil prices that had languished since the mid-2014 crash.

The progress was frustratingly slow at first, but most countries have complied closely with their targets and, helped by strong demand in the second half of last year, crude prices have indeed risen and inventories are falling closer to the group’s target levels.

The deal to curb output is set to expire at the end of 2018. However, Mr Al Mazrouei and the deal’s other two leading lights, Saudi energy minister Khalid Al Falih and his Russian counterpart Alexander Novak, have increasingly talked of a framework for future cooperation.

This super-Opec faces essentially four challenges:

Firstly, it needs to wind down the current deal before a damaging spike in prices, but without a disorderly exit that would lead to a new price crash. As Reuters analyst John Kemp observes, Opec has historically failed to do this well, usually acting too late and setting off a new boom-and-bust cycle.

Secondly, the group has to avoid encouraging too much competing production, particularly North American shale but also from Brazilian deepwater, and the possibility of the shale revolution spreading into other countries such as Argentina.

Thirdly, it has to guard against competition within its own ranks. Iraq has the most tangible and realistic plans for major production expansion, and has already been one of the least compliant of the deal’s members. But Iran, Russia, the UAE, Kuwait, Kazakhstan and Mexico all have their own plans for growth. Of course, new production will be needed to meet growing demand and compensate for declines elsewhere, but this means some members will lose market share to their peers.

Fourthly, the long-term outlook for oil demand is uncertain, due to growing efficiency, maturing demographics in some key markets, environmental pressures and the rise of electric vehicles. Demand will keep growing for now, but with many forecasters seeing a peak in the 2030s or 2040s, the super-Opec may at some point have to manage competition between its members over a shrinking or at least stagnant market.

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The International Energy Agency (IEA), representative of the wealthy OECD countries, has not been standing still either. India and China, the two most important countries for future demand growth, have become associates of the IEA, and last Monday, Mexico became a full member – putting it in the anomalous position of being a member both of the Vienna-Opec pact and the IEA.

Faced with these pressures, some Opec members might chose to expand production more rapidly, hoping to make up on volume what they lose on price, forestall other competitors and ensure that they produce as much as possible from their resources before demand dries up.

Others might decide to expand production only gradually, to keep prices relatively high but accept a shrinking market share. And yet others, such as Venezuela, Algeria or Ecuador, would find that they are not able to play either game – because of domestic political instability, a lack of resources or high production costs.

So the super-Opec’s most important task would be to manage these tensions.

The key is Russia: no other really large producers, such as Brazil, are likely to join, and the inclusion of more smaller producers, mostly from Africa, does not help the framework much. They add to complexities, slow down the decision-making process, and their cooperation makes little difference to overall production. If one of them should be lucky to make a large discovery, it will probably exit the pact or at least cease complying.

Some of the second-tier producers, such as Oman and Azerbaijan, which each have output a little under 1 million barrels per day, could become members without affecting the group’s strategic balance or politics very much.

But Russia is a completely different beast. Its oil output is about equal to that of the US and Saudi Arabia as the world’s three biggest producers. It is also the world’s largest gas exporter by a long way, with exports twice that of second-placed Qatar.

Though its economy is rather moribund, its GDP is still twice that of the largest Opec member, Saudi Arabia. It is a nuclear-armed power with a permanent UN security council seat, which can exert control through diplomatic and military channels, not just through the functioning of the oil market. It was invaluable in roping Iran and some former Soviet countries into the Vienna deal.

Cooperation with Russia is essential if the super-Opec is to have enough power and market share to execute a meaningful strategy. But Russia’s interests extend beyond just oil. As in the popular fake photo of Vladimir Putin riding a bear, Opec may find that it is easier to get on than to dismount.

Robin Mills is CEO of Qamar Energy, and author of The Myth of the Oil Crisis