OPEC agreed on 30 November 2016 to a production cut, the first agreement in 8 years. Trimming production by 1.2 million bpd to 32.5 million bpd, this 3.56% reduction is further supplemented by a 600,000 bpd cut from the Russia led non-OPEC bloc adding another 1.78% reduction in supply.
In an immediate reaction to the turning off of the tap, crude prices jumped with Brent breaching the US$50 mark and WTI settling a dollar under.
The agreement that was reached after almost a decade of impasse, rested fundamentally on Saudi Arabia and Iraq, two of the three largest producers in the cartel, agreeing to third placed Iran’s request to maintain its production at 3.8 million bpd.
5 things we learnt from this decision of OPEC.
- It is the first concerted effort by OPEC to reach an agreement after years of being looked at as an ineffective market stabiliser. But it cannot be discounted that the decision could very well have been driven by the desire to dispel the rapidly growing and widely accepted assessment of the impending death of OPEC.
- The price escalation following the production cut brings long awaited cheer to the decimated industry. At the forefront of the positives however are the shale producers who would become economically viable at the current prices if it stabilises for the near to medium term. With a production cost of about US$40 to US$50 a barrel, the supply from the shale industry start up could very quickly nullify the effect of OPEC’s production cut. This is a near probability as it is further augmented by President elect Trump’s clear policy to increase US oil production.
- On a more macro level, the price strengthening would augur well fiscally for the carbon producing countries and lift growing pressures from the budget deficits that emanated from the oil price collapse. Saudi Arabia’s mammoth US$17.5 billion bond sale in October lays testament to the need to fund the deficits while awaiting the stabilisation of long term structural cost optimisation measures.
- Geopolitically, Saudi Arabia’s recognition of Iran’s “exemption” from the production cuts is a telling sign of the Kingdom setting aside the historical animosity between Sunni and Shia. It cannot be discounted that it may be the first step towards the closing of ranks in the Muslim world following the election of Trump who’s Islamophobic election rhetoric had many on tenterhooks. A subtle message cloaked in an OPEC decision could be the harbinger of much closer cooperation of countries in the Middle East.
- Politically, this decision would augur well for President Hassan Rouhani who will be seeking a second term in office in May 2017. With a price escalation and the allowance of keeping to its production rate of 3.8 million bpd, this sets Iran up to recover from sanctions much faster than anticipated. That plays into the plan to grow a stronger Middle East in preparation to a now yet unknown US policy that may be set for the region from Trump.
© FT Corporate Consultancy 2016.
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