Global Economics

OPEC Sees Good Reasons to Maintain Production


Iran and Venezuela have both lagged in complying with existing cutbacks, so Saudi Arabia won the debate over cuts at OPEC's Vienna meeting

The Mar. 15 decision of the OPEC oil producers' cartel to resist the temptation to announce further production cuts was not a huge surprise. But it's welcome news for the beleaguered world economy, which can ill afford a price hike at this time. "We just don't want to add more problems to what is going on—things are really getting ugly," said Abdallah El Badri, OPEC's Secretary General and a former senior Libyan oil official. He was speaking to journalists, who had been cooped up for the day at OPEC's cramped 1960s-style building in Vienna.

Analysts believe that OPEC's decision to hold pat in the face of sharply falling demand for oil was not an easy one. Key producers such as Iran and Venezuela have spent liberally on social programs in recent years and will be strained financially by sharply lower prices. But on the other hand there is a realization in the organization that it will be difficult to achieve significantly higher prices anytime soon, and that a big jump to OPEC's last-year target of around $75 per barrel would be very destructive—if it could even be achieved. "The Gulf countries would prefer not to have too fast an increase in prices that would hamper the world economy," says Vera De Ladoucette, an analyst at Cambridge Energy Research Associates. "They would prefer that prices slowly edged up."

It's also possible OPEC wanted to avoid beginning relations with the new Barack Obama Administration on a sour note. According to the White House, President Obama called Saudi Arabia's King Abdullah on Mar. 13, just ahead of the meeting, to discuss the need to coordinate the response to the global economic crisis. In a most unusual comment for an OPEC official, El Badri noted "positive signals" from the Obama Administration and its apparent willingness "to have a dialogue."

Iran and Venezuela lag in cutting back

For the rest of this year and perhaps longer, OPEC policy is likely to be determined by debates between those countries—mainly Saudi Arabia—that are deeply concerned about the possible impact of higher prices on their customers' economies and, thus, on demand for their main source of income, and other countries—including Venezuela and Iran—that want more money now. The Saudis, one analyst said, are the only OPEC government that has showed real concern for the world economy during the last 18 months.

What makes such discussions even edgier is that the burden of recent cuts has not been evenly distributed. Saudi Arabia has trimmed more than it agreed to and as of February had implemented 46% of the overall cuts of about 3.4 million barrels per day. The UAE and Kuwait have kept their full commitments, according to figures provided by Washington-based consultants PFC Energy. At the other end of the spectrum, Iran's compliance in February was only 33%. The second-largest OPEC producer is only contributing 6% of the cuts, according to PFC. Venezuela's compliance is about 50%. PFC says Saudi Arabia's Oil Minister Ali Naimi recently sent a letter to OPEC, urging all members to comply fully.

At their Vienna meeting, OPEC delegates heard enough positives to be persuaded not to cut production further for now. Oil prices have crept up from a December low of around $33 per barrel to the mid-$40s range of late. That's low, but out of OPEC's red zone: below $40 per barrel.

Moreover, there are signs that the bloated inventories that forced oil producers and others to put into service roughly two dozen large tankers for storage are starting to moderate. An optimist in OPEC could take these indicators to mean that the organization has caught up with the precipitous drop in demand and can now afford a wait-and-see attitude.

Saudi Arabia Got What It Wanted

OPEC is also encouraged that despite foot dragging by Iran and Venezuela, the organization is now gaining about 79% compliance on the 4.2 million barrels per day in cuts it announced last fall. Historically, the organization only gets about 60% compliance on such cuts. El Badri said additional compliance, which he expected in the coming months, would subtract up to 800,000 further barrels per day of supply, reducing the overhang in the markets.

David Kirsch, an analyst at PFC Energy, thinks Saudi Arabia—the largest OPEC producer and key decision-maker—got the decision it wanted from the meeting, which it entered with an open mind. "This shows the Saudis won't let themselves be bullied by [other OPEC members] or the market," Kirsch said as he walked through Vienna's old town in a cold rain after the meeting.

Reed is London bureau chief for BusinessWeek.

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