Short- and long-term oil price trends in the aftermath of the events in Iraq

Delivered by Dr. Alvaro Silva Calderón, OPEC Secretary General to the 28th Annual Conference of the Japan Cooperation Centre for the Middle East, Vienna, Austria, 21 August 2003

Ladies and gentlemen,

I should like to begin by thanking the organisers, the Japan Cooperation Centre for the Middle East, for inviting me to deliver this keynote lecture at their 28th annual conference.

In fact, I should also like to emphasise the two middle words in their name — “Cooperation Centre” — because this sums up a fundamental part of OPEC’s philosophy in recent years — cooperation. And, when the words “Cooperation Centre” link “Japan” with the “Middle East”, where most of OPEC’s Member Countries are situated, then I feel that we are already well on our towards having a productive meeting today!

OPEC — and, in particular, the Middle East — has had a long and fruitful relationship in the energy sector with Japan, which is the world’s second-largest importer of crude oil and consumer of refined products and the third-largest importer of natural gas. Petroleum accounts for around three-fifths of Japan’s primary energy, with crude oil alone having a market share of almost 50 per cent. More than 85 per cent of Japan’s crude comes from OPEC’s Member Countries, as well as a significant amount of its imported refined products. Around one-sixth of OPEC’s crude oil exports are destined for Japan. OPEC countries are also major suppliers of liquefied natural gas there.

Our Middle East Members are responsible for nearly all the OPEC petroleum that goes to Japan, although significant quantities also come from Indonesia, which, of course, is physically closer than the other OPEC countries.

The OPEC-Japan relationship is an extremely important one. This is felt even here in Vienna, where, for many years, there has been close contact and fruitful dialogue on energy issues between the OPEC Secretariat and the Japanese Embassy, headed by the Ambassador himself. Indeed, it was with the generous assistance of Staff from the Embassy that, last September, we held a Meeting of our Conference of Oil Ministers in Japan’s second-biggest city, Osaka — with the gracious consent of the Government of Japan, Prefecture of Osaka and City of Osaka. This was timed to occur in the run-up to the Eighth International Energy Forum, which was also held in that city and whose central premise is the enhancement of dialogue between energy producers and consumers. A meeting of the recently formed Gas Exporting Countries Forum, in which OPEC Members are well-represented, was similarly arranged for that week in Osaka. As well as the direct benefit our Organization derived from the meetings themselves, we took the opportunity to build upon the excellent relations that already exist between OPEC and Japan, as well as enjoying the warm hospitality provided by our hosts.

At an official dinner held during that week, Japan’s Minister for Foreign Affairs, Her Excellency Yoriko Kawaguchi, commented on the relationship, saying that Japan and OPEC countries were faced with common challenges of how to achieve sustainable development using limited energy resources and that there was a need to have closer contact and enhance dialogue in order to effectively address these challenges. This very much echoes our own feelings.

It is clear from all of this that Japan, which produces more than four-fifths of its refined products domestically, relies so heavily upon imported crude oil that even a small change in market conditions can have a significant effect on its domestic economy — an economy which is the world’s second-largest and which has been experiencing many difficulties over the past decade.

Therefore, Japan, more than almost any other country on the planet, requires order and consistency in its crude oil supply, with stable, reasonable prices, as it seeks to end this protracted economic downturn and enter a new era of sustained growth and prosperity.

This fits in very much with OPEC’s way of thinking. We have been around, as an Organization, for a long time — more than four decades — and have first-hand experience of the way the oil market operates in conditions that range from sustained periods of calm to sudden, sharp volatile episodes.

We concluded a long time ago that the market thrives on stability, consistency, transparency and equity and that this can best be achieved in an atmosphere of dialogue and cooperation, involving all the major parties in the market. This was one of the reasons why we were so keen to go to Osaka last year, because the constant theme throughout the meetings there was the need to exchange views and share understanding of topical energy issues, so that we could be better equipped to handle new situations as they arose, to the benefit of the world community at large.

These meetings took place shortly after the World Summit on Sustainable Development in Johannesburg, which had heightened global awareness of the important role the provision of modern energy services can play in the early 21st century, particularly in helping to ease the dire plight of the impoverished nations.

Thus, when we examine the short- and long-term oil price trends in the aftermath of the events in Iraq, we do so in a manner that views oil issues and energy issues in a broader human context.

The short-term oil price trends are with us now. Since the end of the war in Iraq at the beginning of May, there has been a steady strengthening of crude oil prices, from around the middle of the range of OPEC’s price band of US $22–28 per barrel for our Reference Basket to the top end of it and above. This has been partly due to uncertainty about the state of the Iraqi oil industry and the rate at which its oil will flow back onto world markets. But there have also been other factors at play, such as continuing disruptions in some other oil-producing countries, the perception of low stocks worldwide and high natural gas prices in the USA. On top of all this are speculative pressures, which, as usual, have the effect of exaggerating impulses on the market.

At the Meeting of the OPEC Conference three weeks ago, held in our Secretariat in Vienna’s second district, we decided to maintain the current production level of 25.4 million barrels a day for OPEC-10 — that is, OPEC’s Member Countries, excluding Iraq — until our next Meeting on 24 September. This was after examining the demand and supply prospects for the remainder of the year and noting that the market was stable and well-supplied with crude and that prices were within the OPEC band.

However, the Staff at our Secretariat are constantly monitoring market movements, in line with our commitment to achieving and maintaining order and stability. The price band mechanism was introduced in the year 2000, with this in mind. If prices settle outside the limits of the band for a prescribed period — 20 consecutive days above $28/b and ten consecutive days below $22/b — then we will take the appropriate measures to restore them to within the desired range. The mechanism, in other words, combines the need for flexibility with the need for a realistic target. Since its introduction, it has won wide acceptance among producers and consumers alike and, accordingly, has met with a high degree of success.

Because the price band mechanism has now become an established tool of OPEC policy, the clear implication is that it will influence longer-term oil price trends. However, we do not wish to sound complacent about this, since the dynamics of the oil market may require us to revise the range of the band or the way the mechanism operates some time in the future.

The degree to which developments in Iraq may affect the oil market in the years ahead is difficult to tell at the present time. We are as much in the dark about the pattern of events there as any other outside party. We hope, however, that there is an orderly transfer of power — real power — to the Iraqi people themselves in the near future, so that they can quickly become masters of their own destiny. Iraq has a proud OPEC heritage, which I am sure its people are eager to continue. OPEC was formed in Baghdad in September 1960 and Iraq, as one of its five Founder Members, has played a major role in its subsequent struggles to become an established and respected intergovernmental Organization. As the country seeks to rebuild its oil industry and become a frontline player on the world energy stage once again, there is little doubt — within my own mind, at least — that, if left to its own devices, it will wish to do this from within the OPEC family.

We hope that this happens sooner rather than later. This would be in the market’s overriding interest, to ensure that a stable pricing structure is in place if producers are to meet the big rise in oil demand that has been forecast for the opening decades of the 21st century. OPEC — as a group of 11 active Members — will have a big role to play in this. The reference case from OPEC’s World Energy Model (OWEM) predicts that world oil demand will rise from 76 million barrels a day in 2000 to 89 mb/d in 2010 and 107 mb/d in 2020.

It sees a marginal drop in oil’s share of the energy mix during this 20-year period, from 40.1 per cent in 2000 to 38.4 per cent. World energy demand will grow by an annual average of around two per cent up to 2020, with the rise in developing countries being at three-to-four times the rate of that of industrialised countries.

With non-OPEC oil production likely to reach a plateau, OPEC’s Member Countries will be expected to satisfy most of the projected new demand, due to these countries’ strong resource base of low-cost, abundant reserves. OWEM’s projections see OPEC producing 36 mb/d of crude in 2010, which constitutes 40 per cent of global supply, rising to 52 mb/d in 2020, a share of almost 49 per cent.

OPEC is also well-endowed with gas reserves, and these will serve to good effect as the use of gas almost doubles over the next 20 years, according to our projections. Gas’s share of the energy mix will rise from just over 23 per cent in 2000 to 28 per cent in 2020, overtaking that of solids, which will fall to 25 per cent. This is because gas has a more favourable environmental profile among the fossil fuels, and is a reliable and highly efficient source of power generation. It is now relatively low in cost to produce, although still expensive to transport to consumers. In all, about two-thirds of the world’s commercial energy is expected to come from petroleum — oil and gas together — in 2020.

With regard to the understandable calls for the development of renewable sources of energy, notably at last year’s World Summit in Johannesburg, the fact remains that the technology for this is still in its infancy. As was recognised by the Summit, the setting-up of an infrastructure for renewable energy is still too expensive to have a fixed goal attributed to it, at the risk of real, workable solutions. Therefore, while the technology is being developed, all other available, suitable resources must be accessed, enhanced and utilised.

Petroleum is already well-placed to provide such energy. Advances in petroleum technology continue to make oil and gas cleaner fuels, and this is accompanied by improved infrastructure and transport, particularly for gas. The successful development of carbon dioxide sequestration technology will ensure that the use of fossil fuels is entirely compatible with sustainable growth and that they will continue to serve the needs of mankind for decades to come. OPEC can, therefore, make a major contribution to an evolving energy system, which is closely tied to the demands of sustainable development.

However, a vast amount of investment is required for this. This relates to not just the upstream sector, but also to the downstream sector and transportation, as well as to the development and application of technology.

Our projections estimate spending of nearly $100 billion by 2010 and $209 bn by 2020 for our Member Countries alone, in order to sustain their existing production capacities, as well as cater for the projected large rise in demand. For the high-cost, non-OPEC producers, investment forecasts are much higher — at around $600 bn by 2010 and over $860 bn ten years later.

When looking more closely into investment, we find ourselves facing many areas of uncertainty, including changing regulations, fiscal regimes, strategic and political factors, evolving life-styles, natural disasters and, of course, human error. There is the need for stability and harmony in the long term, as well as clarity and consistency about future levels of demand. Meeting the challenges presented by all these factors requires transparency, consultation, meticulous planning, careful scheduling and an underlying sense of equity. This involves all the major energy producers and consumers, energy companies, financial institutions and other interested parties. Energy markets are too important to be left to the free market alone, and developing countries need solutions by governments that will guarantee that poor communities can also receive energy at affordable prices.

In conclusion, OPEC, with its strong resource base and vast experience of oil matters, will continue with its longstanding mission of enhancing the welfare of the international oil sector, so as to ensure secure supply, reasonable prices and fair returns to investors, both now and in the future. But, in doing this, it requires the full cooperation of other leading parties in the industry.

This brings me back to where I began the lecture, by emphasising the two words in the middle of the organisers’ name, “Cooperation Centre”. You can now understand why I did this!

Thank you.