OPEC : OPEC-IEA cooperation and the international oil market outlook

OPEC-IEA cooperation and the international oil market outlook

These are highlights from a keynote speech made by Dr Adnan Shihab-Eldin, Acting for the OPEC Secretary General, at the OPEC/IEA luncheon, sponsored by the Saudi Arabian Oil Company, “Saudi Aramco”, at the 18th World Petroleum Congress, in Johannesburg, South Africa, on 28 September 2005. The Executive Director of the International Energy Agency, Mr Claude Mandil, also addressed the luncheon.

Dr Shihab-Eldin addressed the five following themes.

1. OPEC-IEA cooperation: the recent past and now
2. Current oil market developments: factors behind the oil price rises and OPEC responses
3. Tightness in the supply chain: what has been done and what more should be done?
4. Oil outlook and future challenges: where do OPEC and the IEA agree and disagree?
5. Looking ahead: areas to enhance existing active cooperation

 

1. OPEC-IEA cooperation: the recent past and now

• Much has changed since the first-ever joint press conference was held between OPEC and the International Energy Agency (IEA) at the World Petroleum Congress in Rio de Janeiro, Brazil, on 5 September 2002. Former IEA Executive Director Robert Priddle said on that occasion: “We speak for oil consumers everywhere; but we also have major oil producers as our members. A good watch-dog can see both sides of the fence.” OPEC is, of course, a group of major oil-producing/exporting developing countries; we speak for most, if not all producers — even those in producing provinces in developed countries! Our membership includes some of the largest oil-consuming developing countries as well; so we can appreciate, directly from within, the needs and concerns of consumers — as we should. Nevertheless, we must engage the broader spectrum of consumers in both developed and developing countries. That is why we have been keen on expanding our dialogue and cooperation with major consuming groups, the IEA, the European Union, China and others, and are seeking to strengthen the role of the specialist producer-consumer dialogue body, the International Energy Forum Secretariat (IEFS), in facilitating this global dialogue.

• The OPEC President, HE Sheikh Ahmad Fahad Al-Ahmad Al-Sabah, made this point succinctly when he said in Vienna last week that dialogue was “no longer with just producer and consumer; (it is) with everybody.” (HE Sheikh Al-Sabah, who is also Kuwait’s Minister of Energy, was addressing the press conference held at the conclusion of the 137th Meeting of the OPEC Conference on 20 September).

• Mr Priddle also said at the joint press conference three years ago that the IEA and OPEC shared many views about the future of world energy and that communication between the two groups was now “open and frank”. However, there were still some differences, he added. For example, while both sides wanted greater price stability, “we agree on the objective … but not on the means.” The need for price stability and working jointly to maintain and enhance this is more evident today than in the past!

• As part of the consumer/producer dialogue, OPEC and the IEA now contact each other at many formal and informal levels, to exchange ideas and information and generally enhance the well-being of the oil industry and oil market stability. There have been three joint OPEC/IEA workshops, on investment (twice) and the Middle East/North Africa region, and a fourth is planned for 2006, on future demand. There have been high-level consultations in difficult market conditions, such as in 2003, with the outbreak of hostilities in Iraq, and over the recent past, to help calm markets after the devastation caused by Hurricane Katrina. Such actions have had immediate beneficial results for the market, and this has been recognised by the market and governments. There has, moreover, been much regular contact on such technical matters as the Joint Oil Data Initiative (JODI), which also involves other major intergovernmental organisations, and this will henceforth benefit from the overall coordination of the IEFS in Riyadh.

• Clearly such enhanced dialogue and cooperation have led to much greater understanding between the two groups and among their members, building upon areas of agreement and helping take a more pragmatic and harmonious approach to handling issues where fundamental differences remain.

• Improved understanding of, and common perspectives on, some of the issues have led some to mistakenly confuse the main interests and the responsibilities of the two groups. A case in point concerns the recent OPEC/IEA consultations and complementary actions, in the aftermath of Hurricane Katrina. Here I refer to the official communiqué from the International Monetary and Financial Committee (IMFC) meeting of the International Monetary Fund in Washington DC this past weekend, which stated: “The Committee welcomes the action by members of the International Energy Agency and oil-producing countries to continue to increase supplies to the market.”

2. Current oil market developments: factors behind the oil price rises and OPEC responses

1. No doubt, the key driving force behind much of the of recent and present oil market behaviour, with its unrelenting price increases and volatility, is tightness across the supply chain, on account of strong economic growth and the consequent unanticipated oil demand surge, especially in 2004.

2. Upstream, the tightness has been further pressured recently by oil production problems, for technical, political and natural reasons (e.g. Hurricanes Katrina and Rita).

3. But, while upstream tightness has stabilised and the market is set to regain more comfortable spare capacity in the years to come, thanks to the acceleration in investment by OPEC and other producers, the focus now is more on the downstream, with the growth in refining capacity lagging behind demand and with refinery bottlenecks — as well as with the need to meet a wave of strict new regulations, mainly environment-based, in leading consumer markets. There is no sign of improvement before 2007 at the earliest, however.

4. The recent persistent price increases and volatility are attributed mainly to:

* The upward pressures on prices in such a tight market situation — with the expected prolonged downstream bottlenecks — in particular, prices of light products and related benchmark crudes, like West Texas Intermediate;
* Concern about future supply, again fed and amplified by worries about future product shortages;
* (Leading to) greater speculative activity in futures markets, and hence upward cycles of increased prices and volatility.

Clearly, the market remains nervous, over-responsive and out of line with fundamentals.

Acknowledging this, Mr Randal K. Quarles, US Under Secretary for Domestic Finance, said in Washington DC last week that official regulators should undertake a more comprehensive review of hedge fund activities — this was the first time a US Treasury spokesman had endorsed official German anxieties over hedge fund activities and their impact on prices.

While real prices remain below the levels of the early 1980s, and although the global economy has, so far, shown remarkable resilience to the price rises, we should not be complacent. Signs of impact on some economies are beginning to appear, especially in developing countries, and it would be better for all of us to combine our efforts and work harder to moderate prices. Here again, we share a common perspective with regard to the objective, but have differing views on what constitutes a comfortable price level for both producers and consumers and, more importantly, on the means of achieving this.

On the OPEC side, our response to these market developments reflects our commitment to market stability and concern about the persistent price rises. We have acted on two broad fronts:

1. Big production increases, to ensure the market remains well-supplied with crude and that commercial inventories are at comfortable levels:
• OPEC’s production ceiling has been raised by a total of 4.5 million barrels a day since spring 2004;
• There have been actual increases in OPEC production of more than 4.5 mb/d since 2003;
• Last week (20 September), the OPEC Conference announced that it would make immediately available to the market all the current 2 mb/d spare capacity, if called for in the final quarter.

These actions have resulted in OECD commercial stocks, especially crude, being well above their five-year average, enabling the market to deal with, for example, the post-Katrina crude supply disruptions in the US Gulf.

2. Accelerated capacity expansion programmes, to restore a comfortable spare capacity cushion as soon as possible. The current spare capacity on-stream is 2 mb/d.

3. Tightness in the supply chain: what has been done and what more should be done?

As previously stated, OPEC Member Countries have embarked on significant investments, both upstream and downstream, to ensure that the world economy is benefiting from regular, secure oil supplies. A substantial upstream capacity expansion in these countries is underway, extending to 2010, with crude production capacity expected to exceed 38 mb/d by 2010, from the current 32.5 mb/d.

Moreover, Member Countries have undertaken, on their own, downstream investment both at home and abroad (mainly joint ventures). This will result in more than 2 mb/d of additional refining capacity in the coming years.

Nevertheless, downstream investment is primarily the responsibility of consuming countries and the international oil companies (IOCs).

The recent large revenue increases of the IOCs over the last two years have not yet been visibly translated into substantial additional investment, particularly in the downstream. The Washington Post issue of 25 September showed that, in the USA, as a result of the most recent increase in the price of gasoline to the final consumer, crude producers are gaining around 45 per cent over their take of the year before, while refiners have gained more than 250 per cent in the same period. While this may, indeed, be a “snapshot” in one location on a particular day, the overall picture nevertheless remains valid.

There have been some encouraging signs of late from some of the majors, but more evidence of a turnaround is needed and needed quickly.

Downstream investment should be large, rapid and focus on lighter, cleaner products; this means refineries must be able to better handle heavy, sour crude, as this becomes increasingly abundant. If this does not happen, the downstream sector will remain a source of tightness and volatility for years to come.

We are encouraged by the recent acknowledgement by consuming countries of refinery bottlenecks and tightening capacity as being key contributors to current market turbulence:
G-8 meeting in June;
IMF International Monetary and Financial Committee communiqué The G-7 group, specifically, calls for more exploration and production, greater refining capacity and better energy infrastructure;
The IEA have also underlined the importance of this factor in their recent statements.

This is one area where it is clear that we now share same perspective. But we believe the consuming countries must go one step further, by taking immediate action to create an enabling environment to encourage rapid and sizable investment in the expansion and upgrading of refinery systems, to handle, in particular, heavy and sour crudes that will constitute the major part of new oil additions, the 2006 exception notwithstanding.

Further, we believe there is a need for major consuming countries to re-examine their fiscal, energy and environmental policies, with a view to better harmonising and rationalising them with economic growth policies.

4. Oil outlook and future challenges: where do OPEC and the IEA agree and disagree?

General While it is clear from the recent exchanges between the two groups that OPEC and the IEA hold similar views on many topical oil market issues, there are still distinct differences in some areas, stemming from the fact that OPEC’s principal objective is to address the interests of oil-producing, developing countries, while that of the IEA concerns primarily oil-consuming, developed countries. But OPEC has always known that, in order to further its own interests, it is necessary to understand and to accommodate the interests of consumers, ensuring steady and economic supply of oil. This then ties in closely with the greatly increased readiness of both sides for effective dialogue and cooperation on major topical issues that relate to the oil market.

• As highlighted yesterday by HE Ali I. Naimi, the Saudi Minister of Petroleum and Mineral Resources, the key challenge facing the oil industry is not of availability — for the resource base is acknowledged by all serious industry officials as being sufficient to meet the rising demand for many decades to come. Rather, the challenge is one of deliverability. He underlined the need for collaborative international efforts to address the challenges and overcome the constraints across the supply chain.

Long-term issues There is agreement on the fact that resource availability is not a constraint for the foreseeable future, as well as on the importance of timely and adequate investment to meet future demand. We agree also on the need for making efficient use of this valuable, but ultimately depletable resource and that technology can provide an attractive path to increase supplies of clean fuels, while reducing concern over potential climate change. However, differences remain on such issues as level of investment, the linkage between security of supply and demand (in particular, factors that lead to high uncertainty over future demand levels), upstream access, the path to economic diversification into other energy sources, government involvement, and so on.

Different interpretations/views on the approach to energy security Let us recall that OPEC had ample spare capacity just a few years ago and used it effectively to address the strengthened and rising global demand. Recently, we have accelerated expansion of our production capacity, which, when combined with an allowance for reasonable expansion by non-OPEC over the medium term, up to 2010, should be more than enough to meet demand and leave a comfortable cushion of spare capacity. For the long term, producers have ample resources and stand ready — and interested — to continue to invest, once they are sure of the demand picture.

• Therefore, security of demand is as important for producing countries as security of supply is for consuming countries. Thus the various ways of achieving the energy security objective through efficiency, diversification or alternative fuels, according to government policy, should not lead, for example, to a bias against a single source, which would, in turn, lead to an unpredictable environment for oil demand — especially at a time when producers are engaged in making timely and costly investments. In other words, the policy decisions of consuming countries should not lead to an environment that feeds into demand insecurity, thus undermining the supply security itself. Otherwise, wild boom and bust cycles will remain a feature of the future energy scene.

5. Looking ahead: areas to enhance existing active cooperation

Build upon and develop existing joint practices

- Consultation on best approaches to handle oil market crises
- Joint workshops
- Joint Oil Data Initiative
- Exchanging data and information

Explore and develop new areas

- One area is energy technology co-operation. Joint research into areas of mutual interest e.g. cleaner oil technologies, carbon capture with enhanced oil recovery. OPEC is currently looking into participation in IEA greenhouse gas research and development (R&D).
- Here, it may be appropriate to call on all oil and gas producers to consider initiating a strong global R&D programme to explore fully the potential of carbon capture and storage in conjunction with enhanced oil recovery with “win-win” potential. OPEC’s recently adopted long-term strategy (at its 137th Conference last week) called for increasing international collaboration in this very promising technology.
- There could also be a more pro-active approach to examining outstanding areas of fundamental difference. Understanding and improving global demand forecasts constitutes another key area that needs global cooperation. The planned OPEC-IEA workshop on demand in 2006 may provide the basis for an expanded global effort that may be pursued by the IEFS, to complement the important study of the global oil supply system proposed by HE Naimi.

Conclusion

Dialogue among producers and between producers and consumers constitutes a crucial element of OPEC’s long-term strategy. It is recommended 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.

Finally, genuine dialogue is the key to looking forward. Cooperation should be pursued by taking into consideration the concerns of all parties, with growing interdependence. It is recommended, in this context, that policy options on important issues should not be developed or applied in isolation.