The Real Reason Why OPEC+ Won’t Open The Taps

1 week ago 5

The United States announced a release from its Strategic Petroleum Reserve (SPR) on Tuesday, saying at the same time that it hopes OPEC+ would continue to add 400,000 barrels per day (bpd) to its production every month as per the plan outlined in July.

While the U.S. Administration wants the OPEC+ alliance to pump more oil and thus help lower high oil and gasoline prices, the group dominated by Middle Eastern oil producers and Russia can't do much more than it's already doing—even if its only goal were to help U.S. consumers pay much lower prices for gasoline (which it is not).

The key reason lies in the diminishing spare capacity of OPEC+ to pump oil, concentrated in just a few major producers in the Middle East. The OPEC+ group as a whole has been struggling with pumping to its overall quota for months as African OPEC members have been significantly underperforming because of a lack of spare capacity and investments.

Analysts say that the spare capacity is even lower than official estimates.

So, even if OPEC+ were to heed the incessant calls and coordinated efforts from consuming nations—led by the United States—to pump more, it is unlikely to raise production fast. Leaving spare production capacity at relatively low levels would make the market—and oil prices—more vulnerable to supply disruption shocks.

Spare Oil Production Capacity Is Shrinking

"As the bloc ramps up production, its spare capacity will dwindle. Compared with a cushion of 9 mb/d in 1Q21, effective spare capacity could fall below 4 mb/d by 2Q22 and be concentrated in only a few Middle Eastern countries, although supply is expected to exceed demand," the IEA said in its monthly report in October.

And it also returned to the message with which it was created during the oil crisis in the 1970s—keep global oil supply reliable to meet demand.

"Shrinking global spare capacity underscores the need for increased investments to meet demand further down the road," the IEA said last month, despite the fact that it had suggested earlier this year that a net-zero emissions world wouldn't need new investment in oil beyond 2021.

The industry also warns of shrinking spare capacity.

"The industry's spare capacity, currently at 3-4 million barrels per day (bpd) is providing some comfort to the market, however, my concern is that the buffer ... might diminish, especially next year when demand is expected to pick up further," Saudi Aramco's CEO Amin Nasser said earlier this month.

"[Q]uestions around whether OPEC+ group has sufficient spare capacity and the implications for oil prices are increasingly dominating trader and investor discussions," consultancy Energy Aspects said after the alliance's monthly meeting in November.

"Our analysis finds that OPEC+ holds much less spare capacity than some key institutions and many market participants assume. Moreover, the spare capacity is not evenly distributed within the group, and various countries face obstacles to raising production, complicating assessments of the actual amount of supply that OPEC+ will add over the next year," Energy Aspects' analysts added.

OPEC+ Struggles To Raise Production As Planned

In a more recent note, carried by Reuters, Energy Aspects said "Recent data support our long-held expectation that a growing number of members are running out of spare capacity."

Some members have been struggling with reaching their quotas in recent months, so OPEC+ is actually adding less than the per-agreement increase of 400,000 bpd each month.

OPEC's latest Monthly Oil Market Report showed what data from analysts, tanker-tracking firms, and previous OPEC monthly reports showed: the cartel has been undershooting its collective production quota.

Ironically, but not surprisingly, one of the biggest laggards in compliance in the earlier deals—Nigeria—is now pumping some 200,000 bpd below its quota due to a lack of investment, while frequent force majeure events have also contributed to the much lower production than allowed under the deal.

Within OPEC+, the picture is basically the same—the group's compliance rate with the cuts is estimated to have increased to 116 percent in October from 115 percent in September.

Will OPEC+ Change Course?

While OPEC+ is struggling to meet the 400,000-bpd monthly increase in production, the market has been speculating whether the group would react at next week's meeting to the announcement of the U.S. SPR release in coordination with other major oil consumers such as China, Japan, India, and South Korea.

The releases are not notable in volumes, as they are worth between half a day (China) and two and a half days (the U.S.) of the respective petroleum consumption of the countries releasing crude from strategic reserves. But the message is clear: the U.S. Administration is fed up with OPEC+ continuously ignoring its calls for more oil supply.

Speculation is already ripe as to whether the SPR release would serve as yet another reason for OPEC+ to adjust the pace of easing the cuts and add less than planned production or even pause the monthly output increases.

The U.S. hopes OPEC+ will stay the course.

"OPEC Plus has said they will release an additional 400,000 barrels, and our hope and expectation is that they will continue and remain — abide by that commitment when they meet next week," White House Press Secretary Jen Psaki said on Tuesday after the SPR release announcement.

The first comment from OPEC+ came from the UAE Energy Minister, Suhail Al Mazrouei, who said on Tuesday, as quoted by Arabic energy news outlet Attaqa, "I don't think we're changing the plan."

"OPEC has no incentive to increase production aggressively and the SPR release probably comforts them," Damien Courvalin, Head of Energy Research & Senior Commodity Strategist at Goldman Sachs, told Bloomberg Television on Tuesday.

Expectations of an oil market surplus as early as Q1 2022 and the COVID surge in Europe—with lockdowns in Germany not being ruled out—would probably have a larger impact on any potential OPEC+ decision next week to deviate from the course than the SPR releases.

By Tsvetana Paraskova for Oilprice.com

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