OPEC's Lever Loses Its Pull on Oil: Influence Weakens Amide Complexity of Modern Market

WALL STREET JOURNAL
10/24/07
OPEC's Lever Loses Its Pull on Oil
Influence Weakens Amid Complexity Of Modern Market

NEIL KING JR.

Oil prices are hovering near historic highs, but consuming nations shouldn't expect quick relief from OPEC, the world's only source for big, quick supplies.

For several reasons, the Organization of Petroleum Exporting Countries has neither the clear leverage nor the inclination to open the spigots and drive down the price of crude, which jumped past $90 a barrel in intraday trading in New York last week for the first time.

Analysts say the cartel could make a modest move to increase output, either during a heads-of-state meeting in Saudi Arabia next month or at a ministerial gathering in Abu Dhabi, United Arab Emirates, in early December. The high price of oil has stirred concerns among some OPEC members that soaring energy costs could spark a recession in the U.S., the world's largest oil consumer, and blunt global demand for oil.

But OPEC officials insist that geopolitical jitters and speculative cash are driving the price surge, not a crimp in supply. Any step to boost output would come on top of the cartel's decision last month to add about 500,000 barrels a day to world supplies as of Nov. 1, a move that did little to calm the market.

The cartel, which satisfies nearly 40% of the world's demand of 86 million barrels of crude a day, is estimated to have slightly more than two million barrels a day in spare capacity, nearly all of it in Saudi Arabia.

Using a large share of that capacity now would erode the ability of major oil-producing countries to intervene later if prices surge even further.

OPEC and its de facto leader, Saudi Arabia, have fought for more than a year to reassert the group's ability to modulate oil-price swings. But the thin margin between the world's strained supplies and growing demand results in wide price swings in both directions. Saudi Arabia's ability to influence markets also is hampered by a lag of as long as three months before new supplies hit markets.

Last autumn, with prices hovering around $60 a barrel, OPEC ministers agreed to cut output by 1.2 million barrels a day, or about 4%, to try to drain off what they saw as overly large international oil inventories.

The cartel agreed to a second cut, of 500,000 barrels a day, in December. But oil prices responded by falling abruptly in January to near $50 a barrel, their lowest level since mid-2005.

Prices have gyrated in the past 15 months despite OPEC's moves to calibrate production, hitting a then-high of $77.03 a barrel in July 2006, then falling early this year before climbing again. Late last week, the price of oil settled at $89.47, setting a record. At the close of trade on the New York Mercantile Exchange yesterday, the price of oil for December delivery had eased, ending down 0.9% at $85.27 a barrel. (Please see related article on page C9.)

The turmoil has revived a longstanding debate over whether OPEC has any real ability to calibrate a market that has grown infinitely more complex since the cartel's heyday in the mid-1970s. "OPEC has become more a responder to events than a mover of events," says Joseph Stanislaw, an energy adviser at Deloitte & Touche USA LLP. "OPEC can promise but it can't always deliver."

OPEC officials and ministers have expressed similar exasperation in recent days, arguing that the price surge had nothing to do with the one lever they command. "The market is very well-supplied," OPEC Secretary-General Abdalla Salem El-Badri said in a statement last week. Rising oil prices, he said, were "largely being driven by market speculators," though he cited refinery bottlenecks, the falling U.S. dollar and geopolitical jitters as other factors.

Saudi Arabia's powerful oil minister, Ali Naimi, has boasted that OPEC is now immune to political infighting. But member countries such as Iran and Venezuela, faced with slumping production and widespread economic travails, have an interest in keeping supplies tight and prices high. Saudi Arabia, on the other hand, sees itself more as a steward of the world economy.

The cartel has been fixated for some time on the growth of government and private stockpiles in the industrialized economies, and the role of speculative cash that is betting vast sums on rising oil prices. Both forces have added to the unpredictability of the market.

Leo Drollas, chief economist at the Centre for Global Energy Studies in London, contends that for the Saudis, the "nightmare scenario is surplus oil chasing dwindling demand."

That scenario is exactly what played out in 1997, when Saudi Arabia and other Arab exporters decided during a summit in Jakarta, Indonesia, to boost production in the middle of the Asia financial crisis, a combination that caused oil to plummet by early 1999 to below $10 a barrel.

The world's economy is more robust now. But "the ghost that haunts the Saudis," Mr. Drollas says, "is still the ghost of Jakarta."

Over the longer term, high oil prices could have the unusual effect of boosting consumption in one increasingly important growth spot: the Middle East. Saudi Arabia and its neighbors are using more oil, natural gas and gasoline to fuel their own surging energy needs. Higher oil prices could fuel even headier economic growth, which will in turn deepen the region's thirst for energy and limit exports.

Saudi Arabia has little to fear from the world's other major producers, such as Russia, which in decades past have ramped up supplies in an effort to capture a greater market share. But at the moment, the world's major producers for the most part are already pumping flat-out.

"They have little competition from non-OPEC suppliers and few worries about losing market share," says Jeffrey Currie, senior energy economist at Goldman Sachs in London.