Slower oil price rises are in Saudi interests

The kingdom is in a powerful position when it comes to deciding how to manage the price of black gold, and it knows when to make a measured intervention.

Ali al Naimi, the Saudi oil minister, signalled Opec is ready to boost production to meet growing fuel demand. Amr Nabil / AP Photo

When it comes to international oil markets, Saudi Arabia, the biggest OPEC exporter, has unparalleled power to move prices.

Knowing this full well, neither King Abdullah nor his oil minister Ali al Naimiare prone to making off-the-cuff remarks. So when one of them does make a statement on oil, traders from New York to Singapore sit up and listen.

In late November 2008, King Abdullah took a decisive and uncharacteristic step by entering the oil fray and declaring US$75 per barrel for crude a "fair" market price for both producers and consumers.

His statement set the stage for Opec to agree on the record production cuts needed to slow and eventually halt the 80 per cent slide in the price of oil that had begun more than four months earlier, when crude tumbled from its all-time high of $147 a barrel.

By the following October, crude had recovered from below $34 to a price band of between $70 and $80 a barrel from which it seldom strayed in the ensuing 12 months.

It was no coincidence that the implicit Saudi price target was smack in the middle of that range. But since October, crude has headed ever nearer to the $100 barrier.

This development has alarmed energy consumers, especially those in Europe and North America, the regions that are struggling hardest to shake off the lingering effects of the worst economic downturn in decades.

In the past two months, the Paris-based International Energy Agency (IEA), which advises countries on energy, has repeatedly warned that rising crude prices could derail global economic recovery. For the first time in three years, the phrase "demand destruction" has resurfaced in energy analysts' reports.

Meanwhile, Opec and its de facto leader Saudi Arabia have seemed content to sit on the sidelines.

At its final ministerial meeting of last year, the group stuck for the sixth time last month with the output target it had set two years earlier.

Several of its ministers have argued that $100 a barrel would be a "fair" price for crude in light of the dollar's decline in value against other major currencies, and would not be sufficient reason for Opec to convene an extraordinary meeting. The group's next scheduled meeting is in June.

But on Monday, Mr al Naimi signalled that Opec stood ready to boost production to meet rising global fuel demand.

"Opec's policy, as is well known, is to meet any increase in oil demand to maintain the supply-demand balance," he said in a speech in Riyadh. "Some Opec countries will increase their production capacities, thus maintaining Opec's spare capacity at approximately 6 million barrels per day."

Those countries would include Saudi Arabia, the UAE and possibly Iraq. Both Saudi Aramco and Abu Dhabi National Oil Company continued investing in oil development during the downturn and now have significant idle capacity. Iraq, which is not bound by an Opec quota, has embarked on an aggressive programme to boost crude production; one that has already yielded tangible results.

Most other Opec countries are thought to be already pumping crude at nearly their current capacities, as the group's compliance with its official output target has slipped to slightly more than 50 per cent.

Mr al Naimi went on to say he was "optimistic" about energy markets and that his country expected "healthy" growth in global oil demand this year of between 1.5 million and 1.8 million barrels per day (bpd).

That is slightly above the IEA estimate of 1.4 million bpd of demand growth, and significantly ahead of the Opec secretariat's projection of 1.2 million bpd.

The effect on oil markets was immediate, with most crudes losing ground. North Sea Brent crude was trading below $97 a barrel yesterday in London, after approaching $99 last week. In New York, West Texas Intermediate crude slipped below $88.

Nearly full storage tanks at the Cushing, Ohio delivery point contributed to the near-record spread between the European and US benchmark crudes, as did the shutdown of three Norwegian North Sea production platforms due to a leaking pipeline.

"While high demand forecasts should generally be regarded as a token of bullishness, in the case of Saudi Arabia's announcement the reverse was seen as the country could at any time ramp up production, potentially flooding the market with crude," the Vienna-based JBC Energy said in a research note yesterday.

It is significant that Mr al Naimi chose to remind traders of that fact by explicitly referring to "excess capacity" and setting 6 million bpd as Opec's de facto target.

This week, Goldman Sachs, the US investment bank, suggested Opec might already be bringing its spare capacity to market.

"While this would slow the drawdown of global stocks, it would accelerate the drawdown on Opec spare capacity," the bank said in a research note.

That theory, if widely believed, could support high crude prices by stoking market fears of future oil shortages.

So what message should be drawn from Mr al Naimi's recent statements?

First, that Saudi Arabia, with its presumed 4 million bpd of spare capacity, is determined to retain its role as Opec's swing producer, and the political and market influence that confers. Second, that the kingdom is, indeed, concerned about high crude prices destroying demand for petroleum fuels.

Even setting aside environmental concerns, most of the world's big energy consumers are seeking to bolster energy security. Invariably, their first target is to cut oil imports by whatever means are available.

Consumers around the world are also feeling the impact of rising oil prices on food, which has high associated fuel costs for transport.

The impact of higher food prices, just as much as Tunisia's continuing "jasmine revolution", is helping to stoke political unrest in the Middle East, including in Yemen and Egypt, which have borders with Saudi Arabia.

For all these reasons, it is in the kingdom's interests that crude prices should moderate. Price stability lay at the heart of Saudi Arabia's oil policy, Mr al Naimi said on Monday.

"I expect prices to continue to be stable at last year's [levels]," he said.

There will therefore be no need for Opec ministers to meet formally before June. Saudi Arabia has spoken.