Opec could gain from aggressive increase in output

Generals are said always to be preparing to fight the last war.

Opec, led by Saudi Arabia, is now re-fighting the campaign of 1986, with some signs of success. But does an entirely new battlefield demand a complete change of strategy – and, if so, what would that be?

As several recent publications – by Columbia University, Citigroup and a provocative new book by Roberto Aguilera and Marian Radetkzi – suggest, the new oil world is not a continuation of the last but something entirely different. The advent of North American shale means that oil production is essentially unlimited at a price of US$60 to $80 per barrel – and possibly less, as technology advances in this still-infant industry.

With the right economic incentives, it is surely inevitable that widespread shale oil output will emerge in countries such as Argentina, Australia and Russia.

At the same time, growing attention to climate change threatens to constrain long-term oil demand. Even if the widely trumpeted Paris agreement is toothless in itself, it does herald tightened national and regional policies, carbon taxes, funding for alternative energy and other approaches to reducing the use of oil.

So far, Opec’s choices have been framed in terms of its two basic strategies over the past 40 years. The organisation could cut production to shore up prices, as the former Algerian energy minister Nordine Ait-Laoussine advocated both in 1986 and this May, or it could go in the direction Saudi Arabia has followed, keeping production close to capacity and prices low to maintain its market share and smoke out high-cost competitors.

There does not seem to have been much discussion of a more radical approach. Saudi Arabia’s 267 billion barrels of reserves amount to 64 years of production at current rates; the UAE’s, to 72 years; Kuwait’s, 89 years. Aramco planned in 2008 to expand its reserves to 450 billion barrels by 2020, and believes its ultimate resource base could be 700 billion to 900 billion barrels. These reserves are cheaper to produce than almost any outside Opec.

At its high point in 1973, Opec produced more than 51 per cent of world oil. That figure now stands at only 41 per cent. So the major Opec producers – Saudi Arabia, the UAE, Kuwait, Iraq, Iran and Venezuela – could easily expand output well beyond current levels. They would aim to gain revenues through higher volumes even at a lower oil price and raise their share back to more than half of the market.

Aggressive increases in production capacity would have several benefits. Prices, although low, should be more stable, allowing easier planning. High-cost non-Opec reserves would remain undeveloped and even competition within the organisation would be reduced. Low prices would slow or halt the spread of the shale revolution worldwide. They would also allow higher global economic growth and so increase oil demand.

A higher market share would boost the political importance of the big oil producers. And if climate policy limits the amount of petroleum burnt over the next 50 to 100 years, most of it would be Opec’s.

The decision to implement such a strategy would require careful study. Countries would have to be confident they could raise production high enough and sustain it. They would need to be sure that, under a range of scenarios, their long-term revenues would outweigh the unavoidable years of short-term pain. They would consider the impact on Opec peers without sufficient reserves or political stability to follow their plan, such as Ecuador, Libya, Nigeria or Algeria.

But the idea is at least worth considering. Major Opec states have long borne the burden of sustaining prices for high-cost competitors. As the late US general George Patton said: “No one ever won a war by dying for his country. He won it by making some other dumb guy die for his.”

Robin Mills is the head of consulting at Manaar Energy and the author of The Myth of the Oil Crisis