OPEC’s perspective on the world oil market

Speech by Dr Adnan Shihab-Eldin, Acting for the Secretary General, to the 5th Russian Oil & Gas Week, Moscow, Russia, 31 Oct.-2 Nov. 2005

[Slide 1]
Excellencies, ladies and gentlemen,

Let me begin by thanking Minister Khristenko and the organisers for inviting me to address the 5th Russian Oil and Gas Week here in Moscow. This annual event has established itself as a major addition to the international energy calendar and attracts top-level participants from every branch of the oil and gas industry, with expertise of the highest calibre.

This is especially the case, because of the key position Russia holds in the world energy sector, particularly for oil and gas. As the world’s second-largest crude oil producer and exporter with the largest proven natural gas reserves, it is also the largest gas producer and exporter. Russia has a big influence on energy developments well beyond its vast borders.

Indeed, this influence is likely to grow in particular next year, as Russia takes over the Chair of the Group of Eight countries. As a country whose recent history — in the 20th century — is very different to that of the other members, as well as one which is such a large producer, exporter and consumer of energy, Russia may be in a position to share perspectives which have not previously come to the fore within that august body. This is reinforced by the fact that Russia is described as being one of the “Brics” countries and, together with Brazil, India and China, is seen as a major new player on the international economic and political landscape.

Over the past decade and a half, OPEC has welcomed the constructive steps Russia has taken in the process of dialogue among oil producers and between producers and consumers, the support it has given to our market-stabilisation measures, and the perspective awareness as major energy exporter it has shown on some of the market realities which may not be so apparent to long-established consumer nations. In an energy world where dialogue and cooperation are already at a more advanced stage than ever before, we believe that Russia, as Chair of the G8, may be in a position to take this process even further, to the benefit of the energy community at large, consumers as well as producers in both developed and developing countries.

It would be a good time to do so, in view of the difficulties experienced in the international oil market over the past two years and the many misunderstandings and anxieties that have accompanied this. Notwithstanding this, OPEC is confident about the ability of the market to bring oil to consumers as a when needed, both now and in the future, and it is committed to doing everything it can to bring this about in a timely, effective and sustainable manner. In doing so, OPEC welcomes Russia’s contribution in what is, after all, a complex, fast-moving and often-over-reactive international market environment. A healthy oil market is central to the pursuit of sound world economic growth, where the benefits should be shared among mankind as a whole, and not just fortunate — and privileged — sections of it.

Looking at the current market situation, we see that a confluence of factors has been at work over the past couple of years, leading to the persistent price rises and volatility. We have also observed a shift in the focus from the upstream to the downstream.

[Slide 2 - 4] The spotlight was initially on the upstream, with the unexpectedly high oil demand growth in 2003 and its acceleration to exceptional levels in 2004. This was connected, in particular, to the high level of economic growth of China and the USA. [Slide 5] It was exacerbated by a notable development on the supply side, when the growth in non-OPEC supply started to fall behind that of world oil demand, reversing earlier trends of matching or exceeding demand growth. However, during the course of last year, it became steadily apparent that the destabilising forces lay more — and increasingly — in the downstream than in the upstream, and this trend has continued to the present day.

[Slide 6] Indeed, this year, while demand growth has remained at healthy, though more modest and sustainable levels, the challenge of providing adequate crude supply is being met successfully. This has been largely due to OPEC’s actions, raising its production by more than 4.5 mb/d since 2003, as part of its market-stabilisation measures. This has, in turn, led to a steady rise in OECD commercial oil stocks, which are now exceeding their five-year average.

[Slide 7] OPEC has also been acting on a second front. Assuming that the high levels of oil demand growth — of about 1.5 mb/d per year — are likely to remain at least in the medium term, our Member Countries have sought to accelerate their plans to bring on-stream new production capacity to meet continued demand growth and to re-establish a comfortable level of capacity and help calm markets during the present troubled period. This spare capacity — which is now at 2.0 mb/d — will be more than adequate to cover oil demand growth throughout this winter and in 2006, with the call on OPEC being around the 2005 level. More increases in capacity have been planned — and are being implemented — for the rest of the decade.

Also, next year is expected to see non-OPEC oil supply growth recover to 1.6 mb/d from the exceptionally low level of 0.7 mb/d witnessed this year — this figure includes non-OPEC natural gas liquids and non-conventional oils. [Slide 8] On balance, we expect annual average growth of around 1 mb/d in non-OPEC supply up to 2010, slowing thereafter. Combined with the planned increase in OPEC capacity from 32.5 mb/d to more than 38 mb/d by 2010 and an additional 1.5 mb/d increase in OPEC natural gas liquids over the same period, this means that cumulative world oil production capacity will rise by around 12 mb/d or more, over the next five years. This will be well above the expected cumulative rise in demand of 7–8 mb/d over the same period , and thus it will more than cover the forecast growth in demand.

Also, the fact that the market has, over the past two years, experienced and successfully handled a serious spare capacity limitation, together with the fact that the greater revenues generated by the recent higher oil prices have allowed more funds for reinvestment in the industry — compared with the under-investment in new capacity that occurred previously when prices were much lower — is a very positive sign for the assurance of crude oil sufficiency well beyond the opening decade of this century.

[Slide 9] There is a different picture downstream, however.

The continued serious downstream bottlenecks in some major consuming countries — due mainly to a lack of timely investment and to increasingly stringent product specifications motivated by environmental concerns — have seen refineries operating at near capacity to keep pace with rising demand. Not only is this putting pressure on product prices, but its effects are also felt subsequently on crude prices, especially light, sweet blends — as was demonstrated vividly last month following the disruptions caused by Hurricanes Katrina and Rita to the US Gulf Coast. Clearly, the industry at large must pay more attention to the downstream part of the supply-chain, in the interests of overall market stability. [Slide 10] In particular, concrete measures should be taken on the part of the governments in consuming countries, to create an enabling environment to encourage rapid, sizeable investments in the refining sector, especially in conversion capacity, which has persistently lagged behind market requirements. Without adequate and timely measures from that side of the industry, today’s high and volatile oil prices are likely to remain a feature of the market.

OPEC’s Member Countries, although traditionally associated more with the upstream, have themselves taken the initiative — on their own and in partnership with others — to invest in downstream projects. However, downstream investment is primarily the responsibility of the domestic and international oil companies in consuming countries. [Slide 11] In this context, it should be noted that the recent large revenue increases of the international oil companies have not yet been visibly translated into substantial additional investment, and this includes the upstream, as well as the downstream. There are reports of refiners’ returns more than tripling over the past 12 months, compared with 45 per cent gains for crude producers. [Slide 12] Nevertheless, looking at the overall picture, as it stands now, it does not appear that the growth in refinery capacity will match demand growth before 2007.

[Slide 13] On top of all this, there has been widespread concern about possible future supply disruptions that may result from increased geopolitical tensions or other causes. These factors — taken together — have been reflected in increased speculation in futures markets, particularly through a rise in activity by non-commercials, notably pension and trust funds, which has, in turn, resulted in a rise in open commitments; both have correlated strongly with the price increases of the last two years. Without any doubt, due largely to the perceived capacity constraints, the market has become very nervous and over-responsive to external impulses.

Let me at this point make a few additional observations about the present higher prices.

The global economy has so far shown remarkable resilience to the price rises — a fact acknowledged by such financial institutions as the International Monetary Fund. However, we must not be complacent, as signs of an impact on some economies are beginning to appear, especially on emerging economies with large fuel subsidies.

And, while this is a matter of much concern to us, we must nonetheless point out that the situation is very different to what it was several decades ago. [Slide 14] First, in real terms, crude oil prices, although high, are still well below levels reached in the early 1980s. [Slide 15] And secondly, the world is decreasingly dependant on oil for its economic growth. Globally, oil intensity — the amount of oil required for a pre-defined unit of GDP — has fallen by around 50 per cent since 1970, due to such factors as technology, improved efficiency, government policies and changing consumer behaviour.

Furthermore, it must be stressed once again that OPEC does not welcome prices that remain out of line with market fundamentals as we have seen in recent months. These will contain within themselves the seeds of further volatility, and this will be detrimental to the steady flow of petroleum revenue that is essential for investment in domestic socio-economic development, as well as reinvestment in the industry. This is why OPEC goes to great lengths to promote order and stability in the oil market, with secure supply, steady, predictable demand, reasonable prices and fair returns for investors.

OPEC’s commitment to stability applies equally to the long term. This was underlined once again in Vienna last month, when OPEC’s Ministerial Conference adopted a comprehensive long-term strategy, to provide a coherent and consistent vision and framework to guide our future actions.

The strategy explicitly recognises the important role of oil in the world economy at large in the future, recalls and delineates further the objectives of the Organization, identifies the key challenges it faces now and in the future, and explores scenarios for the energy scene. In doing so, it covers such important elements as the oil price, upstream and downstream investment, technology, the role of OPEC national oil companies, multilateral agreements and negotiations related to energy, and the relationships with both producers and consumers, as well as with international organisations and institutions.

Regarding oil prices, the strategy builds upon the fundamental recognition that extreme price levels, either too high or too low, are damaging for both producers and consumers, and it points to the need to be proactive under all market conditions. It also re-emphasises OPEC’s commitment to support market stability and, in achieving this, stresses the role of other producers, as well as, especially with regard to the downstream sector, consuming countries. Hence, the dialogue among producers, and between producers and consumers, constitutes a crucial element of the strategy, which recommends that such dialogue should be widened and deepened to cover more issues of mutual concern, such as security of demand and supply, market stability, investment, technology and the downstream. OPEC’s adoption of such a comprehensive long-term strategy should be highly reassuring for the market at large.

[Slide 16] According to our own forecasts at a global level — based on the reference case scenario from the OPEC World Energy Model — world oil demand is expected to continue to rise in the early decades of the 21st century, with annual growth averaging 1.5 per cent up to 2025, when demand will reach 113 mb/d. [Slide 17] During this period, non-OPEC output is expected to continue to grow and reach a plateau of 55–57 mb/d after 2010. This will mean that the call on OPEC oil will increase substantially, with the Organization’s output, including natural gas liquids, rising by more than 70 per cent to 57 mb/d in 2025, compared with 33 mb/d in 2005. By then, according to this scenario, OPEC’s market share will have penetrated the 50 per cent barrier, from around 40 per cent now.

[Slide 18] Even though the numbers involved are very large, the global resource availability is not a constraint. OPEC itself has the reserves to meet the growing oil requirement, to ensure that the market remains well-supplied with crude at all times, at reasonable prices that are compatible with robust growth in the world economy. However, for geological reasons, OPEC will increasingly be accessing reserves that are on the heavier side, and therefore future refineries will have to be designed and equipped to process these into the more highly demanded lighter products. The Organization is committed to maintaining and developing sound investment strategies, to provide the required production capacity for oil that is cleaner, safer and more efficient than ever before. In pursuing such strategies, Member Countries will choose the models of collaboration with the international oil industry that best suit their particular environments.

But there are many uncertainties which make sound investment planning a hazardous business. Future economic growth rates, consumer government energy and environmental policies, technological advances and the oil price path lie at the heart of these uncertainties. Over-investment implies heavy costs to be borne by producers, while under-investment will lead to severe price movements. Contrasting scenarios, explored by OPEC to identify the impact of such uncertainties, show differences as large as 10 or 11 mb/d in world oil demand within a decade and a half. The implications of such uncertainties for investment requirements are obvious and could translate in over $150 trillion. Thus every effort must be made to reduce uncertainties and share the risks involved.

All of this is more than just a question of quantity, however. Crucially, it also involves quality. It is necessary for producers everywhere to bring the right type of oil to the market, as and when required. This includes, for example, the production and use of cleaner petroleum-based fuels and the development of technologies that address climate change concerns, such as carbon dioxide sequestration in depleting oil and gas fields for which, when combined with enhanced oil recovery, could truly lead to a “win-win” situation.

Excellencies, ladies and gentlemen,

I began this address by referring to the important — and growing — role Russia plays in the international arena. In the context of this Oil and Gas Week, I noted three points of significance: Russia being a major energy producer and consumer; Russia being a “Brics” country; and, specifically for the near future, Russia holding the Chair of the G8 in 2006. On top of this, through its actions, the Government has been giving a clear message that it considers its oil and gas sector to be a key part of the country’s economic development in the years ahead and that the sector’s continuing evolution must be in harmony with this.

OPEC is encouraged by this and looks forward to opportunities to expand cooperation and dialogue, so as to help Russia achieve its energy goals in a stable and progressive environment in the years ahead.

Let me conclude by emphasizing that in the 21st century the benefit from oil as most influential fuel for development and economic growth should and could extend to all countries in particular developing countries most of whom missed out in the past.

[Slide 19] Thank you.

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