OPEC production cut boosts oil price, but uncertainty looms
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The 2016 presidential election was exceptional in many ways, but one of the least talked about aspects was that, in contrast to nearly every other modern presidential election, oil prices had virtually no impact on the electorate.

After two years of inaction following a global price crash, OPEC’s announcement to cut production last week may ruin the party for American drivers and could propel oil back onto the Washington agenda.

The OPEC decision to significantly cut global oil production led to an immediate boost in price -- $55 a barrel -- the highest level in over a year.  While it looks like the price will climb further in the run-up to the meeting between OPEC and non-OPEC producers on Dec. 10, there are several obstacles that should create increased volatility in the coming months.

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Still, short-term price changes should not cause us to doubt that the long-term price of oil is likely headed upward.

The decision by OPEC members on Nov. 30 to cut production by 1.2 million barrels per day came after significant changes to the global market in recent months. Today, the gap between supply and demand is about a million barrels a day.

At the beginning of the price crash, the disparity was closer to two million. It makes sense that a significant reduction in supply will meaningfully affect the price now.

In addition, Iran seems to have reached a post-sanctions plateau in its production growth, making it likely to comply with the cut.

Several issues largely outside OPEC’s control may prevent the production cut’s impact from having real staying power. First, to hit the mark, OPEC must receive compliance from non-OPEC producers, namely, Russia.

Saudi Arabia and Russia have often talked about common production cuts, but none have ever occurred.

Next, Saudi Arabia has previously been unwilling to undertake a large cut because it fears its rivals, namely, Iran, would benefit from it. It is not clear if the Saudi view on Iran has changed, but the U.S. election results and the anticipated change in U.S. policy toward Iran have almost certainly lowered the country’s level of concern.

Another potential impediment to a long-term impact is that the raised price will encourage greater U.S. shale production. Increased availability of American oil could easily wipe out the benefits OPEC members hope to achieve through the cut.

Overall, OPEC’s ability to ruin low gas prices for Americans is quite limited, but there are other reasons for concern about the future. The last two years have seen the biggest drop in investment in new oil production since data began being tracked in the 1950’s. 

If we see further declines in 2017, new oil will not be in place when global demand picks up. While demand growth is more modest now than it was over the last two decades, it is still rising. 

It is clear that some of the major oil companies believe the price will go up over the long term. Chevron recently decided to invest $37 billion to develop the Tengiz field in Kazakhstan and BP just announced a decision to invest $9 billion in the Mad Dog phase two oil production in the Gulf of Mexico.

Moreover, while a million-barrel supply gap in the market may sound substantial, it will only take instability in a medium-sized producer, like Nigeria or Kazakhstan, to eliminate that gap and send the price soaring.

When it comes to the price of oil, political leaders and consumers tend to believe that whatever is here now is here to stay. But, history has shown that oil prices work in cycles and a return to higher levels is on the way. This is something to remember for anyone thinking about that SUV as a Christmas gift this year.

 

Brenda Shaffer is a visiting researcher and professor at Georgetown University’s Center for Eurasian, Russian and East European Studies, a Senior Fellow at the Atlantic Council’s Global Energy Center,  and the author of the book Energy Politics.


 

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