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An oil output freeze would have a limited impact
Published in The Saudi Gazette on 09 - 03 - 2016


Economist at Asiya
Investments Company
JEDDAH — The Russian energy minister announced on Tuesday that over 15 countries had already announced their intention to join the agreement. According to the Russian energy minister, that would be equivalent to 73% of global oil supply, a substantial success. That number seems to be exaggerated or inaccurate. Assuming that the United States, Canada, China and Iran are not in the agreement (they account for 26% of global production), it would imply that all other oil producers in the world have agreed to the freeze.
A coordinated oil output freeze will have little impact on global supply since the group of countries in the agreement will freeze production at record-high levels. OPEC members and Russia are already producing around record highs with little room to produce more. Thus, a freeze would only succeed at controlling a small part of the potential increase in future oil output. Exceptions are (a) Iran and Iraq, which will most likely be given an output allowance since both countries are producing much less than their full capacity and will not accept any cap at current levels‎, and (b) Libya, which despite producing much less than full capacity remains severely handicapped by a disrupting civil war.
Despite having little effect on actual oil production, the agreement would produce important benefits for oil exporters. First, the deal would create a wider-than-OPEC framework for decision-making. Second, it creates a mechanism for producers to track each others' production levels – the details are already under discussion. Transparency has been a recurrent problem for OPEC members and steps on this direction will improve the effectiveness of future decisions. Finally, a production freeze is a prerequisite to potential coordinated output cuts. Although production cuts remain unlikely for this year, an agreement would open the door for such a possibility.
In spite of the potential agreement, the clearing of the supply glut is underway, because US output, the main source of production increase in the last decade, has already started to adjust. Between January 2012 and December 2014, global oil supply rose from around 76.5 million barrels per day to around 80 million bpd. The main contributor was the US, whose production surged by 3.5 million bpd. US crude oil output peaked in May 2015 at 9.6 million bpd, and has since fallen by around 500,000 bpd, because of the high cost of extracting shale in a low oil price environment. Saudi Arabia's decision to ramp up production in 2015 in a bid to fight for market share led to the sharper decline in oil prices in the second half of last year. With US production already falling and global output peaking, an agreement between the major oil producers is not necessary to clear the supply glut, especially if Iran would not have to immediately comply to the freeze. Moreover, tensions in the Middle East – marked by a bruised relationship between Iran and Saudi Arabia, and Russia and Arab states – further suggests that such a deal would have to come out of necessity.


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