Global Economics

Saudis Try to Cool Off Oil


But at the June 22 summit, some ministers and analysts said the kingdom's promised production boost is "a drop in the ocean"

Ever since Saudi Arabia's King Abdullah called an emergency energy summit meeting on June 9 to discuss soaring oil prices, the kingdom has been under pressure to deliver specific commitments to cool the red-hot oil market. Abdullah's invitation was answered on June 22 by the chiefs of the world's top oil companies and a host of OPEC oil ministers and Western officials, including British Prime Minister Gordon Brown, who walked into the room with the Saudi king accompanied by an entourage of robed Saudi courtiers and a cloud of incense.

Before this audience in an enormous, ornate conference room at Jeddah's Hilton Hotel, Saudi Oil Minister Ali Naimi promised to boost Saudi production by an additional 255,000 barrels per day in July, to 9.7 million. The Saudis said they would increase production by more than 200,000 barrels a day in June; the kingdom is now producing 9.43 million barrels a day, according to Platts, the energy data unit of The McGraw-Hill Companies (MHP), which also owns BusinessWeek. Naimi also promised to produce additional barrels beyond that "if demand for such quantities materializes and our customers tell us what is needed."

Naimi also tried to give some long-term assurance to a market worried that the oil supply situation is likely to grow worse in the coming years. He said Saudi Arabia was examining a series of mega projects that could bring its total production capacity to 15 million barrels per day. That would be beyond the increase to 12.5 million barrels per day that had been promised by the end of 2009. Naimi said if necessary these projects could be completed in three years. At the close of the conference Saudi Aramco, the national oil company, and Total (TOT), the French oil giant, signed an estimated $10 billion agreement to build a refinery in Jubail, Saudi Arabia. It will be designed to process the varieties of heavy crude oil that the Saudis have trouble marketing because many refineries are unable to handle them; that should ease refinery bottlenecks also thought to be contributing to high prices.

Stubborn Problems

Naimi's promises of long-term increases were something the oil industry and the markets were looking for. But whether these revelations of possible projects actually cool off prices is far from certain. The statements were conditioned as usual on the Saudis' seeing sufficient demand from their customers. In other words, they are reluctant to spend billions on increasing capacity unless they are convinced the demand will be there. "The problem is that in an unrelentingly bullish market, hedged statements of increased capacity can be taken either way," says Raad Alkadiri, an analyst at Washington-based consultants PFC Energy, who participated in the Jeddah meeting.

To be sure, many of those attending the conference saw it as an encouraging sign of recognition that the world does have a serious problem that needs to be addressed. "Everybody tries to blame the other guy," says Jeroen van der Veer, CEO of Royal Dutch Shell (RDSA). "I really admire them (the Saudis) for showing leadership."

But the meeting seemed to be short on substance. One oil company chief sheepishly joked about it being remarkable that the Saudis could snap their fingers and have so many of them dash to Jeddah on a Sunday at short notice. He said the Saudis really hadn't produced much, and called the 200,000-barrels-per-day increase—which had leaked out ahead of the meeting—"a drop in the ocean." It amounts to about one-quarter of 1% of total world oil output. This executive said it was good that energy leaders were talking about these issues now, rather than five years from now when the problems will get more serious.

Pointing the Finger

What could still set markets on edge are the sharp differences, made all the more clear at the meeting, between the top producers such as the Saudis, and the West, particularly the U.S. Essentially, the Saudis and OPEC profess to believe that the markets are currently well-supplied. They blame the doubling of prices over the last year on a number of nonfundamental factors, including the fall of the dollar, growing financial investment in commodities, the U.S. subprime mortgage crisis, and Israeli threats against Iran. In his speech, King Abdullah even chided "the selfishness" of speculators.

On the other hand, U.S. Energy Secretary Samuel Bodman put the blame for high prices almost entirely on a lack of new supply from OPEC and other suppliers. He rejected the notion that the money pouring into the commodities market lies at the root of the recent huge price runup. "Market fundamentals show us that production has not kept pace with growing demand for oil, resulting in increasing—and increasingly volatile—prices," Bodman said. He added, "Capital is following the oil market upward—not leading the movement." U.S. officials say 3 million to 4 million barrels of spare capacity are needed to calm prices. There are only an estimated 2 million barrels of spare capacity in the world, most of it in Saudi Arabia.

"We have been 30 years digging ourselves into this hole," he continued. "It is not something that is going to be relieved in the short term."

OPEC President Chekib Khelil, who said he was speaking in his role as Algerian Oil Minister, was more blunt. It is "easier to blame OPEC than to convince the people in America they need to do more on conservation," he said. Noting that European gasoline prices are double those of the U.S., he asked how conservation can be achieved in the U.S. at just $4 per gallon.

Alkadiri, the PFC Energy analyst, says the Bodman-led U.S. delegation had played "an almost disruptive role." Khelil said he didn't see any reason to add new oil to the markets now. And though Khelil said he was not speaking for OPEC, his remarks could be interpreted as a sign that OPEC disagrees with the Saudis. Edgy markets could take such signs of differences poorly. The danger is they "will confirm the bullish suspicions the markets already hold," Alkadiri says.


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