Energy & Environment

Success of OPEC cut depends on how US producers respond

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After a year of contentious negotiations that finally yielded a deal to cut a mere 1 percent of world oil production in a bid to prop up prices, the Organization of Petroleum Exporting Countries (OPEC) has begun 2017 with surprising discipline, defying skeptics of its resolve and shrugging off its own spotty history of breaching quotas.

An S&P Global Platts analysis of OPEC output in January, the first month of the six-month deal, found 91 percent compliance with the required cuts — not perfect, but above expectations. The oil market has, so far, responded bullishly to the signs that OPEC, which controls one-third of global oil production, is sticking to the deal.

{mosads}Refineries in demand growth markets in Asia, which largely rely on crude from the Middle East, have been buying heavily to lock up supply in anticipation of a tighter market in the months to come, due to the OPEC cuts. 


But key to whether OPEC succeeds in its goal of stabilizing the oil market and preventing another slump in prices is how U.S. producers respond.

The output deal appears aimed at holding oil prices within a $50-$60 per barrel range — high and stable enough to provide producing countries a lift, while not going too high as to encourage a flood of U.S. shale oil back onto the market, which would prolong the global oversupply and send prices lower.

The agreement, inked on Nov. 30, requires 10 of OPEC’s 14 members to cut a combined 1.256 million barrels per day (b/d) of output. Libya and Nigeria, two countries with oil industries wracked by militant attacks, are exempt from the deal. Meanwhile, Iran, which is recovering from U.S. and EU sanctions that were lifted in January 2016, is allowed a slight rise in production.

Eleven non-OPEC countries, led by the world’s largest oil producer, Russia, subsequently pledged to lower their production in concert by a combined 558,000 b/d.

In all, the 10 OPEC members covered by the agreement achieved 1.14 million b/d in cuts in January, according to the Platts analysis — taking just more than a North-Dakota’s worth of production off the market, though increases by the exempt countries have blunted some of the impact.

With oil prices having risen close to 20 percent since OPEC finalized its cut agreement, U.S. producers have been busy putting rigs back in action. Platts RigData analysis shows that the U.S. rig count stood at 773 in January, 9 percent higher than it was in December, when prices began to climb.

That increase in rig count has had a marked impact on expectations for supply growth out of the U.S. Most notably, there has been a flurry of activity in the U.S.’ most prolific basin, the Permian in Texas and New Mexico.

The Permian is touted for its relatively good quality oil, significant amount of existing infrastructure and established personnel, along with its proximity to major refineries and export terminals in the U.S. Gulf Coast.

The US Energy Information Administration — the statistical arm of the Department of Energy — already estimates that Permian production will grow by 120,000 b/d from January to March alone, according to the agency’s latest Drilling Productivity Report.

Platts Analytics forecasts Permian production could grow by 500,000 b/d by the end of the year, as long as prices remain above $50/b. The U.S., as a whole, produces just shy of 9 million b/d.

Demand forecasts from the U.S. and countries like China and India will also factor heavily into the market’s assessment of whether the OPEC cuts are effective enough to clear the oversupply. Within OPEC, all eyes will be on Saudi Arabia, the organization’s largest producer and a key negotiator of the deal.

OPEC’s own history of cheating on previous production cuts — and the failure of previous agreements with non-OPEC producers to endure — has many market watchers dubious that this deal will hold up.

For now, Saudi Arabia is shouldering the bulk of the cuts, allowing other members to get away with lesser cuts in January. Saudi production fell to 9.98 million b/d in the month, according to Platts estimates, below its allocation under the deal of 10.058 million b/d.

The durability of the deal, then, may depend on how long Saudi Arabia, which has historically played the market’s “swing producer” role to help keep the market balanced, will be amenable to covering for any members not hitting their target.

With OPEC having no mechanism to enforce compliance beyond peer pressure, the market will have to place its faith in Saudi Arabia’s judgment of supply and demand balances and the willingness of producers to cooperate.


Herman Wang is an OPEC specialist and senior writer of oil news for S&P Global Platts. Anthony Starkey is a manager of energy analysis for Platts Analytics, a forecasting and analytics unit of S&P Global Platts.


The views expressed by contributors are their own and not the views of The Hill. 

Tags Energy economics oil shale OPEC Petroleum industry Petroleum politics Price of oil

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