OPEC to Halt Yearlong Oil Cuts But Markets Want More

Copyright (c) 2007 Dow Jones & Company, Inc.

Starting Thursday, the Organization of Petroleum Exporting Countries will officially ditch a yearlong policy of cutting production, giving world markets more crude to ease record-high oil prices.

At two meetings at the end of 2006 and after a 25% drop in U.S. oil prices, OPEC scrambled to reduce its production by 1.7 million barrels a day, or 2%, of global demand to reduce inventories and pull crude prices above OPEC's unofficial target at the time of $60 a barrel.

This strategy has worked well for OPEC: Global oil inventories have dwindled to normal levels and crude prices have stayed above $60 a barrel the past seven months, delivering OPEC a flood of oil revenues.

Prices hit a nominal record of $93.80 a barrel Monday, about 60% above where they were when OPEC started cutting output a year ago.

To be sure, geopolitics, refining glitches, supply problems in OPEC members Nigeria and Iraq and speculative buying have all helped push prices up recently, but many traders and analysts think OPEC's effort to prune inventories has worked so well that its decision last month to pump an extra 500,000 barrels a day from Nov. 1 won't be enough to ease a tight global market.

Even some OPEC delegates aren't convinced the group's output increase is sufficient at a time when the world's biggest energy consumers in the U.S. and Asia are headed into winter and consumers are facing the fallout of U.S. financial problems. The increased output amounts to less than 1% of worldwide demand.

"I believe the increase from Nov. 1 was not enough... These prices we're at are not healthy for consumers," an OPEC delegate told Dow Jones Newswires recently. Production from the 12-nation OPEC accounts for four out of 10 barrels consumed every day globally.

Global oil inventories have fallen to normal levels in recent weeks but energy demand has remained resilient so far, despite U.S. economic problems.

OPEC's November hike "won't be enough to bring oil prices down this winter. They have the capacity now and they'll have even more next year to deal with the situation we are in today," said Leo Drollas, deputy executive director and chief economist at the Center for Global Energy Studies in London.

The center estimates that OPEC's total spare production capacity in 2008 will grow to 4.9 million barrels a day, or 5.7% of total world oil consumption, up from 4.6% in 2007.

Other analysts, including the International Energy Agency in Paris, say OPEC's effective spare production capacity will grow incrementally next year and stand at around 2.8 million to 3.5 million barrels a day, or roughly 4% of world demand, with the bulk of that held by Saudi Arabia.

The growth is a function both of OPEC pumping less oil the past year, which automatically raises what it has on hand to fill supply disruptions, and of new capacity from new multibillion-dollar projects in places like Saudi Arabia.

PFC Energy in Washington forecasts OPEC production capacity will rise by 682,000 barrels a day in 2008 from this year, up from a net rise of 359,000 barrels a day this year from 2006.

Various OPEC ministers said markets are well-supplied and that the group will fill any supply problems if they occur. Backup crude stocks stand at a decent level of 53.5 days of so-called "forward demand cover" in the U.S. and other industrialized nations.

"OPEC has managed to provide a more balanced market for producers and consumers the past year. Our commitment to this is reflected in the new (production) increase," Odein Ajumogobia, minister of petroleum for Nigeria, told Dow Jones Newswires recently.

But analysts said the downward trajectory of oil stocks - if it continues - is what concerns them. Inventories fell during the third quarter, a time when they typically rise.

Some OPEC ministers also haven't been quite convincing that the group's production policy is all about crude inventories and a "balanced market." Earlier this year, various ministers put a "reasonable" oil price for consumers and producers at around $60 to $65 a barrel.

"Beyond $65 or $70 a barrel, we are worried" about the impact on consumers, top Libyan oil official Shokri Ghanem said after OPEC's March meeting.

But what OPEC members consider a reasonable price today is anyone's guess, because the group has grown comfortable with the idea that the world economy can continue growing solidly even with oil at $80 or more a barrel.

Gholamhossein Nozari, acting oil minister of Iran, an OPEC price-hawk, said recently that $90-a-barrel oil was "still cheap" because of the impact of a weaker U.S. dollar, according to the Iranian state news agency.

Other analysts said that despite the recent tumble in inventories, world oil supplies aren't in a danger zone.

"OPEC has done its job to bring inventories down to a more manageable level... We are seeing a tighter market, but we're not at a low level of supplies," said David Kirsch, an analyst at PFC Energy In Washington.

The producer group could spring a surprise and opt to raise production by another 500,000 barrels a day when the leaders of the members nations and their oil ministers meet in the Saudi capital, Riyadh, Nov. 17-18 for a summit.

"I will be pushing another 500,000 barrels a day (in Riyadh) if the market continues the way it has," the OPEC delegate told Dow Jones Newswires, adding he believes Saudi Arabia would be among the countries that might push for another output increase.

Copyright (c) 2007 Dow Jones & Company, Inc.