Opec’s output cut fails to prevent record price fall 1

Opec reasserted its efforts to increase oil prices last week when it agreed the largest single production cut in the cartel’s history at its Extraordinary Meeting on 17 December 2008. Opec announced a 2.2m barrel a day (b/d) cut, in addition to the 2m b/d it has pledged since September. It agreed to cut 4.2m b/d from its September output of 29.045m b/d, bringing its production ceiling to 24.845m b/d in January. These latest developments are likely to be of particular interest to businesses in the oil industry, especially producers and consumers.

However, the announcement failed to inhibit the plummeting oil prices. Oil prices plunged 26.8% last week to $33.87 a barrel, down 77% from the record peak in July, the steepest decline in history. Since the $100-a-barrel level was reached for the first time on January 2, crude has dropped 65%, on track for a record annual decline. The price fall was exacerbated by the expiry on Friday of the January US futures contract, and oil for delivery in February still fell 13.8% during the week.

Market response

Some commentators view Opec’s decision as significant but emphasise that it will take time for the effect to filter into the market. Some doubt whether Opec members will comply with the announced cuts. Abdalla El-Badri, Opec’s secretary general, recognising the challenge Opec faces in enforcing its members commitment to large cuts, emphasised its members’ determination to adhere to their commitments. He noted that further supply cuts would be considered early next year.

Opec acknowledged that crude volumes entering the market exceeds demand. Crude stocks in OECD countries are above their five-year average and are expected to continue to rise. Some analysts fear that if Opec does not manage to decrease output to at least 30m b/d in January, predictions of oil falling to $25 a barrel could materialise.

Forecasts

The market has witnessed a scaling-back of investment plans over past months as a result of low and volatile oil prices. Some analysts forecast a fall of 1m b/d in oil demand next year, which would instigate pressure on Opec, which holds more than three quarters of the world’s proven crude oil reserves, to make additional supply cuts.

Opec’s Monthly Oil Market Report, published last week, highlights that oil price volatility has increased notably since mid-September, following the deepening of the international financial crisis. The report states that the worsening world economy is expected to have a large impact on oil demand next year, especially in the OECD countries. The report forecasts OECD oil demand to show an average decline of 1.3 mb/d y-o-y in the first half of 2009 but expects this decline to shrink to half in the second part of the year as the world economy strengthens. The report notes that the majority of the decline will be related to the decline in US oil demand, while world oil demand growth will be boosted mainly by China, the Middle East, and parts of Asia and is estimated at 0.6 tb/d or 78% of total non-OECD forecast oil demand growth in 2008. Opec expects deteriorating economies in OECD countries to reduce total world oil demand by 0.15 mb/d or 0.2% for 2009 to average 85.7 mb/d.

Time will reveal whether Opec’s 2009 market predictions are accurate, whether its decision on 17 December will have the effect it intended, and to what extent businesses might alter investment plans in 2009 as a result of oil prices in 2009.

To view Opec’s Monthly Oil Market Report, December 2008, please click here.

To read our law-now article entitled ‘Opec plans further production cuts’, please click here.

To read our law-now article entitled ‘Renewed calls for Opec to cut supply’, please click here.

To read our law-now article entitled ‘Oil Tumbles despite OPEC Output Cut’, please click here.

To read our law-now article entitled ‘Taking the strain - the impact of the volatile oil price on natural gas prices’, please click here.