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OPEC To Restore Some Oil Exports, Betting On Rebound In Economic Growth

This article is more than 3 years old.

In May, as the world’s demand for crude oil cratered amid a wave of COVID-19 infections, the group of oil-producing nations known as OPEC and its allies began reducing their oil output by around 10% of total global oil production, desperate to arrest a historic slide in oil prices. 

Today, OPEC and its Russia-led allies agreed to lift some of those output restrictions, saying that the world’s demand for oil is beginning to recover. Starting in August, the countries will ease their collective output cuts to 7.7 million barrels per day (b/d), from the previous 9.7 million b/d that took effect in May, according to reports of the virtual meeting where OPEC delegates deliberated. The producer alliance plans to ratchet back output cuts further to 5.8 million b/d between January 2021 and April 2022. 

Prince Abdulaziz bin Salman, Saudi Arabia’s oil minister and de facto head of OPEC, said that extra supply resulting from the cuts would be consumed by global demand growth. "Economies around the world are opening up, although this is a cautious and gradual process,” he said

Bin Salman said that the cuts might only be reduced to 8 million barrels a day if Nigeria and Iraq, which have a history of flouting OPEC’s agreements to curtail supply, heed calls to stop releasing so many barrels. But their heavily oil-dependent and delicate economies give them little incentive to act any differently this time.

Oil prices rose on news of the agreement. Brent crude oil prices initially climbed about 1% to $43.30 per barrel before later rising further to around $43.65 per barrel, for a gain of nearly 2% from the day before. 

As OPEC begins to unwind its historic May output cuts, it risks overestimating the pace of the oil demand recovery and flooding markets with supply before they are ready to absorb it all. Yet it also runs the risk of not cutting enough. If economic growth charges back and oil supplies don't catch up in time, prices could spike — potentially breathing new life into the U.S. shale sector, OPEC's nemesis.

“OPEC+ will have to work hard to ‘thread the needle’ to allow slight increases in production without unleashing U.S activity," said Regina Mayor, global head of energy for accounting firm KPMG, using shorthand for the group that includes OPEC and its Russia-led allies. "Basically, this will be a classic case of how to boil the frog without it jumping out of the pot.”

Economic activity around the world, which is closely linked to demand for oil, is steadily heating up as governments continue to ease travel restrictions and stay-at-home orders. The U.S. economy showed some signs of strength recently as the housing market and manufacturing sectors perked up, although an ongoing second wave of COVID-19 infections in many states threatens to stall progress. Also encouraging were strong growth in retail sales in the Eurozone economy in May, an indication that Europe could be the second major economy to regain its footing after China’s relatively swift recovery. 

Yet the global economy’s recovery is still tentative and key questions about its fuel demand remain unanswered. The International Monetary Fund (IMF) revised downward its forecast of global growth in 2021 by 0.4% to 5.4% in June, while consultancy Rystad Energy recently predicted that a widespread potential second wave of COVID-19 infections could reduce global oil demand still further, from 89 million b/d to 86.5 million b/d. Even more ominously for OPEC, there is always the possibility that once office-bound employees will increasingly work from home, permanently lopping off a large chunk of fuel demand. Data shows drivers returning to the roads, but insights into long-term behavioral trends remain murky at best. 

If OPEC is lucky, it may not need a strong recovery in demand. Investment in new oil and gas production capacity could shrink by as much as a third this year, the International Energy Agency said in May, leading some analysts to speculate about the potential for massive future under-supply of crude oil and sky-high prices. Of course, that would also goose the U.S. shale oil sector, another outcome OPEC hopes to avoid.

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