US oil futures prices have passed the $35/bbl threshold again, and the Organization of Petroleum Exporting Countries still frets that a price collapse may loom in the second quarter.
OPEC oil ministers in mid-January were insisting that a production quota cut still may be necessary, although they said would take no action until the group's Feb. 10 ministerial meeting in Algiers.
Kuwaiti Oil Minister Sheikh Ahmad Fahd al-Sabah's comments to reporters Jan. 17 in effect added up to: That's our story, and we're sticking to it.
OPEC's story
Al-Sabah was reported as saying that, while the price of oil has remained above OPEC's official target price band of $22-28/bbl for a basket of crudes long enough to automatically trigger a quota cut, "there already exists a surplus" of crude on the market, due in large part to OPEC "overproduction" that he put at 3 million b/d.
That estimate was a bit disingenuous. The International Energy Agency estimated OPEC production at 27.95 million b/d in December, the highest level since March 2001. But IEA pegged output for the OPEC-10 (excluding Iraq) at 26 million b/d, or 1.5 million b/d over quota for those nations. The Kuwaiti minister must have been taking into consideration Iraq's production of about 2 million b/d, which is not subject to an OPEC quota. However, Iraq's production quota prior to Gulf War I was 3.1 million b/d.
Still, Al-Sabah and other OPEC ministers have suggested that global oil stocks may swell tremendously in response to OPEC overproduction and Iraq's returning to normal output and that demand will slump at winter's end. So the ministerial review in Algiers might just take in the possibility of a production cut to avoid a price collapse in the second quarter.
Given the depressed state of the petrodollar and OPEC's new-found itch to preemptively cut output out of market expectations rather than react after the fact, such reasoning should be expected. Whether one accepts it is something else altogether.
Razor's edge
The thing is, the market just doesn't have a lot of wiggle room for production to go in the other direction should an increase be needed.
IEA also estimates OPEC's effective spare capacity at 1.5 million b/d. That normally would be worrisome enough, but bear in mind that US oil stocks on Jan. 2 were already at their lowest level since 1975 before falling another 5 million bbl Jan. 9. In fact, at the resulting level of 264 million bbl, US refiner stocks of crude were below the lower operational inventory (LOI) level defined in 1998 as a minimally acceptable level, according to the US Energy Information Administration.
While EIA points out that the true LOI is actually somewhat lower than the identified trigger point of 270 million bbl, due to greater refinery efficiencies (not to mention fewer refineries), this lack of flexibility for refiners is another contributor to oil markets starting out 2004 poised on a razor's edge. Demand is robust in Asia, Europe, and the US, thanks to cold weather and rebounding economies. US refiners face the problematic switch to ethanol from methyl tertiary butyl ether. And another refinery turnaround season looms.
As James L. Williams, Ohio petroleum economist and president of WTRG Economics, put it: "UIt is entirely possible that refiners are depending upon the SPR [Strategic Petroleum Reserve] for a cushion against a supply interruption with total petroleum stocks," he said in a Jan. 15 report. "UCrude oil is down 12.4 million bbl from last year when Venezuelan imports were cut off."
Speaking of which, the escalating rhetorical war of words between the US and the Venezuelan government suggests there will be little respite on the geopolitical front for oil markets. And not only is Iraq far from secure, but now Iran is seeing some rare civil unrest.
Given the narrow supply cushion, strained physical fundamentals, and geopolitical tumult, a further OPEC cut could help push US crude futures to $40/bbl. An outage in, say, Venezuela, would trigger calls for an SPR drawdown.
It would be the shortest-lived OPEC quota cut in history. And $25/bbl doesn't exactly scream "price collapse," does it?
(Online Jan. 19, 2004; author's e-mail: [email protected])
