Thursday, October 19, 2006

And not a minute too soon 

OPEC has finally decided to act. In the face of declining, though still high, oil prices they have finally agreed upon a cut of 1.2 million barrels per day:

OPEC agreed on Friday to curb its output by 1.2 million barrels per day,
its first cut for more than two years, to halt a precipitous fall in

The reduction, amounting to 4.3 percent of OPEC's September production, was deeper than anticipated and the biggest since January 2002. It trims OPEC output to 26.3 million bpd from November 1.

"The credibility of OPEC is at stake," Algerian Energy and Mines
Minister Chakib Khelil told Reuters before the meeting that began Thursday and ended in the early hours of Friday.Some ministers said a further cut of 500,000 bpd could follow when OPEC next meets in Abuja in December, to address high fuel stocks in consumer countries, particularly the United States, and a projected drop in demand for OPEC oil in 2007.

U.S. oil rose 73 cents to $59.23 on the news.

In a statement issued after the meeting, OPEC expressed concern that
oil supplies were far outstripping demand.

"The over-supply situation and imbalance in supply/demand fundamentals have destabilized the market," it said.

Khelil said all 10 OPEC members subject to quotas would participate in
the cut. Only Iraq, struggling to get its oil industry back on its feet after
war and sanctions, was exempt."Everybody has a share," Khelil told

Ministers were aware their failure to speak with one voice in the two
weeks leading up to the hastily arranged talks had contributed to oil's slide to $58 a barrel this week, 26 percent off its mid-July peak and near its lowest level this year.

Once in Doha the group that pumps over a third of the world's oil presented a united front.Saudi Oil Minister Ali Al-Naimi broke his public silence to say the world's leading exporter fully supported the plan to cut supplies and he flagged further cuts may lie ahead.
"This is not the end of the road," he told Reuters.

Gary Ross, CEO at PIRA Energy consultancy, said it was clear OPEC meant business."OPEC sees itself being challenged by financial speculators and will respond aggressively to make clear to the market its price objectives and willingness to cut volumes to achieve these objectives," Ross said.


Arriving in Doha, ministers already had a pretty clear idea of their
individual production cuts. There was broad acceptance that reductions must be made to real oil supplies rather than nominal quotas that have little relation to the barrels pumped.

But members jealously guard their quotas that are bound up with national price and market share.

In the days before the meeting Iran and Venezuela, struggling to meet their official limits, were wary of a supply-based cut that would see them ceding market share to OPEC producers that were pumping far above quota, notably Algeria.

OPEC found a middle ground on Friday.

To sidestep the issue of quotas and market share, it published only a
list of individual cutbacks without giving the basis for the calculation or new national limits.

OPEC's biggest member Saudi Arabia, will shoulder around 32 percent of the cut, amounting to 380,000 bpd.

Iran, Kuwait and Venezuela will cut at least 100,000 bpd.


Analysts said OPEC's next task was to prove to the market it really was
curbing supplies. Saudi Arabia said it had already notified its customers of cuts to November exports.

"The group must provide the market with a credible scheme or prices may fall further," ABN AMRO analyst Geoff Pyne said.

Algeria's Khelil said a $50-$60 price range for OPEC's basket of
crudes, last valued at $55.27 a barrel, would be acceptable to oil producers and consumers. That would put U.S. crude between $55-$65 -- three times its price in January 2002.

"A price of $60 for U.S. oil is perceived as a level that does not harm
world economic growth whereas $70-$80 does, or at least raises enough concern that central bankers start increasing interest rates," said analyst Mike Wittner of Calyon.

OPEC's official ceiling has been at 28 million bpd since July 2005.
During that time output has shifted around 500,000 bpd either side of the official limit.

There are several positive developments here. First, OPEC recognizes the need for a significant cut with even the most consumer accomadating member, Saudi Arabia, making a very large cut. More encouraging, they recognize that these cuts alone are probably not enough and are already talking about cutting another 500,000 at a later time (though I think they should do it right away).

The best news though is there seems to be consensus within the organization that a $50 - $60 price band is what they should work for. That seems quite reasonable and would allow OPEC members to still reap historically high prices. It may not be the highest price attainable, but it could well be argued it is the highest SUSTAINABLE price. If OPEC members can put rivalies aside keeping prices in that range should be a realizable goal.


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