Here's how the OPEC+ cartel still controls global oil pricing

In a move that surprised many and threatened to prolong inflationary pressures on the global economy, oil prices spiked after 23 OPEC+ producers announced on April 2 that they would  cut oil output by 1.66 million barrels per day (bpd). The move pushed oil prices up by 6.3 per cent, the highest rise in more than a year.   

The OPEC+ cartel—of 13 member countries and 10 other nations—is looking to further constrict oil supplies from May to support prices that had fallen within days of the Silicon Valley Bank crash in the US on March 10. “OPEC has a granular understanding of the demand-supply factors. They seem to have decided that the world economic situation is not hunky dory and that oil demand may collapse faster than what has been anticipated. To that extent, this is an attempt to bring stability to oil prices,” says Harshavardhan Dole, Energy Analyst at IIFL Securities, adding that the move may be a combination of fundamental demand-supply factors and geopolitics, where OPEC+ wants to assert its control over the global oil market.

“The OPEC+ cut in oil output was no surprise, but the way they negotiated and announced the cut and the timing of it was unexpected; a harbinger of more surprises to come,” says Bhushan Bahree, Executive Director of Oil Markets, Downstream and Chemicals Team at S&P Global Commodity Insights.

The latest curtailment follows the cartel’s October decision to cut output by 2 million bpd, thus taking the overall suppression quota to 3.66 million bpd. The cuts represent a total of 3.7 per cent of the global oil demand currently. “With the lion’s share of the cuts having been absorbed by Saudi Arabia and Russia, supplies to eastern markets, including China and India—the second and third largest oil consumers, respectively—are likely to be affected. Such cuts will significantly build up other inflationary pressures on oil prices in the short- and medium term,” says Deepto Roy, Partner at law firm Shardul Amarchand Mangaldas & Co. To put this in perspective, the cut represents almost 90 per cent of India’s total oil imports in FY23. 

Most analysts feel, the possibility of oil breaching the $100-mark a barrel, is remote. “Our base case for this year had already assumed that OPEC+ would first cut production this May and then increase the output later in its quest for more than $80 per barrel,” says Bahree. The increase depends on the extent of oil demand growth this year, particularly in China, which is struggling to put its economy back on track after three years of lockdowns as part of its Zero Covid-19 policy. “Any further increase in oil prices will lead to demand destruction,” says Dole.

Roy sees oil prices potentially climbing to the $100-105 range in the short and medium term, “on the back of the easing of Covid-19 restrictions in China and then potentially correcting in the long run to the current levels of $80-85, as a result of the easing of demand after the onset of the expected harsh winter in Europe”. However, if the ever-looming recession threat becomes a reality, it could end up being a significant headwind against oil prices.

But can the spike in prices be checked if major non-OPEC producers decide to release supplies in the market? Market observers think that’s highly unlikely, as the cut has been announced by OPEC+ countries and not just the usual 13 member countries. “This means that there is a larger market force at play than just the traditional or usual players. In any case, evidence has always been inconclusive about non-OPEC supplies being able to correct prices or even indirectly contributing to such corrections,” says Roy. There are two key non-OPEC members, namely the US and Venezuela. And while Venezuela has its own set of problems related to political instability, it would need to make substantial investments for any meaningful increase in production. 

As for the US, it is in a peculiar situation, as although it has the ability to increase production, companies there are unwilling to invest in fossil fuels due to environmental, social and governance (ESG)-related concerns. “More importantly, they have realised that they are swing producers. Now, if they start producing more, they will be bringing down oil prices. So, it’s to their own benefit that they don’t ramp up production,” says Dole. 
The OPEC+’s decision perhaps best embodies the increasingly uncertain times that we live in. “There is no reason to any longer assume that scheduled meetings of OPEC or OPEC+—in-person or virtual—are the only occasions for group decision-making. Another lesson is that a subset or subsets of OPEC or OPEC+ countries can come together to voluntarily adjust production within the overall framework of a formal agreement and output targets,” says Bahree. For now, it appears that oil prices still have some ground to cover before they impact the global economy again.