The Qatar meeting confirms OPEC's new-found pragmatism
by Sadek Boussena
OPEC ministers meeting in Qatar on 11 June took advantage of current prices (the OPEC basket of crudes was at $ 26.86
a barrel during the week before the meeting) and decided not to cut quotas, while agreeing to improve compliance. The
meeting maintained the limit of 25.4 mm bpd that was set after US troops entered Baghdad on 22 April.
The organization thus preferred to consolidate its profits by leveraging the positive news of recent weeks. A number
of supply-side factors are underpinning prices: the delayed resumption of Iraqi exports, doubts over PdVSA's real
production capacity, inventories below those of recent years, reduced output by Saudi Arabia for June and the support
pledged by major non-OPEC producers including Mexico, Russia and Norway.
Moreover, demand is relatively strong for the time of the year: the SARS crisis is having less of an impact than
expected, fuel has replaced nuclear electricity production in Japan, the ratio of US gasoline demand to stocks is
high, and relatively high natural gas prices are encouraging the use of fuel-oil as a replacement in the USA. In
addition to these bullish factors, prices are being buoyed by the non-quantified risk premium related to residual
geopolitical uncertainties in the Middle East following the security problems in Iraq and Afghanistan, the terrorist
attacks in Riyadh and persistent tensions in relations between the United States and Iran.
OPEC knows full well that these bullish factors will not last, that the situation is fragile and that it will take
very little (even just a rise in stocks) for this to change, with a significant risk of a rapid slide in prices. As
the organization's president Mr 'Attiyah said before the meeting, the level of prices during the past week -- at a
three-month high -- is more "psychological" than the mark of a shortage of oil.
Yet OPEC did not anticipate events. Members are relatively unconcerned about prices for Q3 2003, expecting that at
least some of the bullish factors willremain in place during the summer (which, moreover, is when stocks are rebuilt)
and that the protection mechanism will ensure that prices remain in the target trading range. As such, OPEC has
chosen to take advantage of these favourable elements until it receives tangible proof to the contrary.
In hindsight, this explains the unexpected decision taken last April to reduce effective production while increasing
the official limit by 0.9 mm bpd. By luck or by judgment, OPEC ministers correctly anticipated the difficulties
encountered and the time required for Iraqi exports to resume in substantial volumes. They may simply have concluded
that with more than 85 % of OPEC capacities being used, they could not do without a source of production the size of
Iraq. They therefore decided to raise official quotas while prices were high in order to bring them closer to actual
production levels and thus stake a formal claim to market share with respect to non-OPEC producers (whose support
they are counting on).
As such, the decision comes as no surprise; OPEC could do little else. At best it could ask members to cut effective
production by demanding compliance with quotas, but it has done so without too much insistence. In the current market
environment, any other measure affecting actual or official production levels would have been poorly received on all
sides. In the run-up to the meeting, the drop in quotas that seemed necessary a few weeks earlier was no longer as
urgent.
On the one hand, a drop in production could have triggered a sharp rise in prices, while on the other, with a
potential surplus looming on the horizon, OPEC could not reasonably be expected to raise quotas and thereby run the
risk of bringing about the collapse in prices that had been expected for some weeks.
Iraq was not represented at the meeting, but was the focus of attention. While its future attitude remains uncertain,
in the short term, the country's continued absence from the market enabled OPEC to maintain current production
limits, thus allowing other members (apart from Saudi Arabia) to produce almost at their maximum sustainable capacity
(with overproduction by some countries offset by the shortfall from others such as Venezuela and Indonesia). OPEC's
future strategy will depend on the resumption of Iraqi exports, which are set to return to pre-war levels before the
end of the year.
The new element is the major role played by Saudi Arabia in managing overall market equilibrium. Given that other
members are more or less producing at maximum capacity, the decision to maintain the 25.4 mm bpd limit gives Saudi
Arabia free reign to balance the market, at least during the next quarter. Saudi Arabia was the only country able to
announce a credible reduction in supply of 900,000 bpd as of 1 June 2003. In doing so, it accepted its new quota of
8.2 mm bpd, which it considers as a minimum.
So, we can expect Saudi Arabia to assume the role of swing producer in the months ahead, adjusting its production in
line with the various variables, in particular the level of Iraqi exports. In other words, Saudi Arabia alone will
produce what Iraq is not yet exporting, serving as a double swing producer, at a global level and within OPEC. By
guaranteeing and defending prices in this way, the country will reinforce its position in forthcoming negotiations.
Unlike in the 1980s, this time the role of swing producer is not being imposed on the country, but is sought by it.
At a time when some observers are beginning to question Saudi Arabia's leadership in the oil world, this is an ideal
opportunity for the country to reiterate its strategic importance and highlight its responsible attitude with respect
to the global oil market.
Saudi Arabia's leadership role will be reinforced by the unity that has characterized OPEC's functioning for some
time. The consensus often forms around its initiatives and proposals. There is one important difference in relation
to the past, namely that the country is demonstrating its efforts and intention to lead. Evidently, this is only
possible because no other member is willing to risk undermining the current optimum combination of high prices and
high production levels.
As such, we note that OPEC meetings are no longer preceded or followed by criticism of Saudi actions by other
members, and that this has been the case since the kingdom has actively maintained prices within the $ 22-$ 28 a
barrel trading range, and in particular since it has demonstrated its clear preference for a minimum of $ 25 a
barrel.
The frequency of recent meetings and the nature of decisions illustrate the organization's current approach, which
consists in bypassing problems and avoiding taking risks -- a working method that reflects its new-found pragmatism.
Ministers are no longer tempted to anticipate events too soon, thereby running the risk of getting it wrong like they
did in Bali in 1997.
This is particularly true during periods of uncertainty and when the market is highly reactive. They prefer a
short-term approach, as shown by the fact that a meeting has been called for 31 July, even though one is already
scheduled for 24 September in Vienna. So why raise the thorny issue of quotas, which will evidently move back up the
agenda when a production cut is discussed?
A reduction in quotas could be seriously envisaged if the threat of a collapse in prices comes about. For example,
statements made by ministers in the run-up to the Qatar meeting pointed to two alternatives -- a drop in quotas or
the status quo. The debate does not appear to have been heated, and a consensus was quickly found. As we stated
above, no other decision was justified in light of current prices (though this should be seen in perspective with the
drop in the US dollar) and the uncertainties as to global demand and stock levels.
Two things justify OPEC's wait-and-see approach, with both resulting in the same outcome. Either, for various
reasons, crude prices will remain in the $ 22-$ 28 a barrel trading range, in which case the situation can be
reviewed at the next meeting, or overproduction will become apparent, notably via a sharper-than-expected rise in
stock levels and a sustained collapse in prices (to below $ 22 a barrel, or even $ 20 a barrel), in which case, there
will still be time to cut production under the adjustment mechanism or at an emergency meeting.
This will raise the delicate issue of how the production cut will be shared between members, something that will be
easier to negotiate -- both within OPEC and with non-member producers -- on the basis of production of 25.4 mm bpd.
Even if such short-term management is easier with high prices, OPEC should not forget the lessons of the past. First,
high prices over a long period eventually influence overall demand, and that for OPEC oil in particular.
Moreover, even if some countries have not deliberately overestimated their production with a view to quota
negotiations, as soon as Iraqi production begins to rise sharply, the organization will have to adopt a longer-term
view so asto avoid nasty surprises from a market that has a tendency to over-react.
Sadek Boussena was the Algerian Minister of Energy and OPEC President and currently Special Adviser to Societe Generale (SG).
