Economics and finance, Environment & energy, Trade and industry, International relations | The World

29 November 2016

The stakes are high at this week’s OPEC meeting in Vienna. Urmila Rao and Manish Vaid take a look at the potential price of failure and the possibility of progress.

The recent glut of oil supply has plagued oil markets driving down the revenues of major oil producers. Concerned producers are meeting on 30 November in Vienna, Austria, with an agenda of cutting oil production and lifting depressed prices. In the ministerial meeting, the Organization of the Petroleum Exporting Countries (OPEC) aims to formalise the agenda on constraining supply through output cuts.

If the actions of the 14-member OPEC countries are anything to go by from the Algiers Agreement in September onwards, reaching a deal in the Vienna meeting is going to be a tall order. In the Algiers meeting, the member countries had agreed to limit the production to a range of 32.5 to 33 million barrels per day. However, even with agreements countries have a habit of breaching quotas and have done so in the past.

Internal strife within OPEC is likely to thwart a clear and implementable agreement on 30 November. Tensions are already running high between the two leading OPEC members, Saudi Arabia and Iran, on issues ranging from regional conflict in Syria and Yemen, and Iran’s nuclear aspirations. Their contentions over oil market share will only add fuel to the fire.

There is also a strong possibility that struggling OPEC member Venezuela may not be too happy with cuts or even a freeze, as 95 per cent of its revenues are driven from oil exports. If Venezuela seeks exemptions from production, a rift may develop among other members. Iraq, OPEC’s second largest producer, has already backed away from suggestions of an output cut, seeking an exemption on the grounds that it needs funds to fight Daesh. Libya and Nigeria are also seeking exemptions.

A deal at this week’s talks seems unlikely under the present circumstances. OPEC’s de facto leader Saudi Arabia pulled out of the talks with non-OPEC producers on 28 November in Vienna, diminishing the possibility of breaking an impasse. The collapse of negotiations with non-OPEC members means an even more difficult path for OPEC to agree on cuts for fear of losing their market share with others. In addition, the cartel has opened roads for another possible price collapse, even as it sits on bloated oil inventories. By ditching the possibility of co-opting non-OPEC oil producers to share the burden of reduction, OPEC may have blundered badly.

More on this: Is it all over for oil?

In the midst of this internal and external conundrum, the House of Saud is worried about protecting its own market share too, facing threats from the US shale oil boom and the over-production of oil by other big producers. The kingdom is dogged by domestic challenges as well: unemployment, political unrest, extremist groups, and economic slowdown. In 2011, during the Arab Spring, Saudi Arabia spent huge sums on military expansion and on domestic handouts to maintain its welfare state and ensure domestic stability. These were financed by oil revenues.

Riyadh wants to overcome its addiction to oil and is keen to diversify its economy to cover a huge budget deficit caused by low oil prices. Against this backdrop, oil price stability is vital for the kingdom’s economic security.

In an attempt to wean its economy from oil, Riyadh recently unveiled an economic plan, Vision 2030, which looks at building up an industrial sector, bringing reforms into the highly-subsidised water and electricity supply, and boosting the private sector and making strategic investments through Public Investment Funds, among other initiatives.

The ambitious targets of its National Transformation Program 2020 are already underway as a part of Vision 2030; State oil giant Aramco, with an estimated worth of approximately $100 billion is planning to sell up to a 5 per cent stake in the company. This is equivalent to around 20 per cent of the Kingdom’s net foreign reserves. A successful deal in Vienna would mean a better price for Aramco’s stake. The kingdom is also introducing a value-added tax beginning in 2018, is levying income tax to expats, and is set to borrow money internationally by issuing bonds, all in a bid to reduce dependence on oil.

All said, it would be in the interest of oil producers to arrive at stable oil prices. Low prices will play havoc with producers’ security, while overly-high oil prices will force importers to develop alternatives to OPEC oil. If the Vienna deal is sealed, OPEC would certainly look at making oil prices to be in the range of $55-$65 a barrel. If not, its members may well have to come to terms with the peak of oil demand and will have to start restructuring their energy outlook.

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Rao, Urmila and Manish Vaid. 2017. "Deal Or No Deal For OPEC? - Policy Forum". Policy Forum.