OPEC's Balancing Act

Was it really only 22 months ago that oil prices were sliding toward $50 per barrel? Indeed, back in November of 2006, OPEC cut production levels in an effort to offset slumping demand. Once again oil prices are falling; however, this time futures are approaching a benchmark quote of $100 per barrel. After peaking at $145.29 on July 3, oil prices have lost 30 percent en route to a five month low.

As OPEC considers how to respond to a global economic slowdown, the cartel is far from unified. Ahead of the this week's third quarter meeting in Vienna, there was disagreement over growing crude oil reserves. Price hawks, including Iran, Venezuela, and Libya, want OPEC to cut production and keep prices above the $100 mark. These producers are primarily concerned about an oil overhang, in which unchanged production would outstrip the levels of global demand. Saudi Arabia, OPEC's largest member and the only producer with real spare capacity appears unlikely to cut production. The kingdom's oil minister, Ali Naimi, declared the market "fairly well balanced" and within the targets set at the June meetings in Jeddah. 

Earlier this summer, Saudi Arabia increased production to offset the oil spike and is currently producing 9.5 million barrels per day. After bringing its Khursaniyah field online (which has a capacity of 500,000 bpd) the kingdom is pumping an extra 600,000 bpd above its official OPEC quota. While the development in China and India will effectively provide a demand floor for oil, the Saudis are aware that demand in the US (the world's largest market) has shrunk by about 1 mbpd. 

In the last few days, oil futures have fallen with the strengthening of the US dollar and reports that Hurricane Ike will leave the oil-production platforms in the Gulf of Mexico unscathed. Still, many analysts argue that it would be politically infeasible for OPEC (more specifically Saudi Arabia) to cut production and risk further outrage from American consumers. The cartel may want to meet again in a few weeks to reëvaluate the market. Third quarter demand is typically low (as refineries close for maintenance) but fourth quarter demand rises with heating needs in the Northern hemisphere winter. OPEC is unlikely to wait until its next meeting in December, however, as transportation lag-times would compromise the cartel's ability to capitalize on a bull market. 

The current talks in Vienna are designed to accommodate the holy month of Ramadan. OPEC's Muslim officials are no doubt hoping their own fasting does not harbinger further cuts in the global appetite for crude.