Cultural Change

OPEC Bulletin Commentary March 2005

Has a fundamental shift in the call on oil taken place for 2Q?

Important decisions were taken by OPEC at its 135th Meeting of the Conference held in Isfahan, in the Islamic Republic of Iran. Firstly, the Organization decided to raise, with immediate effect, its oil output ceiling by 500,000 b/d to 27.5m b/d, and proposed an additional 500,000 b/d increase, should oil prices remain at current levels or continue to rise. Secondly, OPEC announced the acceleration of existing capacity expansion programmes, as well as making timely investments to expand capacity over the long-term by Member Countries. Furthermore, the composition of the OPEC Reference Basket of crudes would be increased, from the current seven streams to 11, representing the main export crudes of all Member Countries, weighted according to production and exports to the main markets.

These decisions should have sent clear signals to the market and global oil consumers that the persistent rise in crude oil prices in recent weeks is a matter of concern to OPEC, and that the Organization has the will, and the capability, to increase its oil output ceiling when it is needed, in the hope to achieve more price stability.

Disappointingly, instead of oil prices cooling, they rose on the subsequent days after the meeting. Yet both producers and consumers have acknowledged on many occasions that the market has been well-supplied in recent times, indicating that such prices are not justified given supply/demand fundamentals, especially considering that the build in crude oil stocks is now above its five-year average.

But markets are markets, and it seems that nothing can stop oil from rising of late. Of course there are fundamental reasons for this, rational or irrational, but some of the more concrete factors are: a later winter in the northern hemisphere; unusually strong demand; and price pressure and volatility coming from the increased activity of non-commercials in the futures markets, exacerbated by continuing geopolitical tensions and bottlenecks in the downstream.

If one was to make any attempt to further understand the reasoning behind these price levels, perhaps it would be to subscribe to the view that there may have been a fundamental shift in the call on oil. As the OPEC President of the Conference, Kuwait’s Minister of Energy, Sheikh Ahmad Fahad Al-Ahmad Al-Sabah, put it at the press conference after the meeting — it appears as if “the culture of the market has changed.”

The usual drop in oil demand which is anticipated for the second quarter (2Q), over 1Q demand, is not as large as the historical trend, as well as there being rising forecasts for 3Q and 4Q crude oil demand. This is due to the continued growth coming from the developing world, particularly in the emerging Asian economies, where China and India have registered very strong growth, as well as in the United States — the world’s largest oil consumer.

However, it is precisely the ability of these emerging economies to be able to continue to cope with current price levels that signals cause for concern for organizations like OPEC, because while it seems as if there is no stopping world economic growth, the ultimate question is, how long can this be sustained? The President of the Conference noted several times after the meeting that this was an issue that OPEC was worried about.

If we are committed to raising the living standards for our collective global citizens, then in an ideal world one would hope for oil prices that have the interests of all players at heart. And while markets are being used more and more as financial instruments for profit, and hedge funds and investors in the developed world may be able to afford oil at $51/b, we should stop and think of the real people who are affected by this — consumers — both rich and poor.

But it is the world’s poor we cannot ignore, and as they continue to realize their potential, the fundamentals of the energy world may well be transformed as demand rises — thus the perceived cultural change in the oil market, which OPEC is accounting for in accelerating its capacity expansion plans. Perhaps we are seeing the start of such a positive trend? Let’s hope so.

This Commentary is taken from the March 2005 edition of the OPEC Bulletin, which can be downloaded free of charge in PDF format from the OPEC website.

OPEC Bulletin (March 2005)

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