When no less than Russian President Vladimir Putin put his authoritative stamp on a proposed extension of the OPEC-non-OPEC Vienna output agreement into 2018, it sounded to us like an echo of European Central Bank President Mario Draghi’s famous “whatever it takes” vow in 2011 to defend the Euro.
In this case, the two key oil powers, Saudi Arabia and Russia, are making it clear they will indeed do just about whatever it takes to nudge oil prices back to within a target $50-$55 range.
*** Crucially, it was no coincidence that Putin’s remarks, and the earlier joint statement by the energy ministers of Russia and Saudi Arabia vowing a nine month rather than six-month extension, were made in Beijing. As we noted in an earlier report (SGH 5/5/17, “Oil: A Strategic Underpinning to Higher Prices”), Chinese President Xi Jinping personally promised both countries China’s full support for their efforts to stabilize oil prices and that it would purchase additional crude oil if needed to push oil prices back above $50 a barrel. ***
*** Both Saudi Arabia and Russia have strong domestic incentives to extend the output cut agreement to the end of March 2018: Putin wants stable oil prices and no dangers to the Russian budget before the Presidential elections in March next year, while the Saudis are likewise seeking stable oil prices in the run up to the Saudi Aramco IPO, which they still hope could come as early as March or the first half of next year. Moscow’s commitment was especially important to Riyadh, which more than offset the continued exemptions for Nigeria, Libya, and Iran. ***
It seems likely that the commitments by the two key oil powers, Saudi Arabia and Russia, to extend the output cuts under the terms of the Vienna agreement between OPEC and eleven non-OPEC oil producers by nine months to March 2018 is likely to be endorsed by the other oil producing states at the OPEC meeting on May 25.
A Saudi Willingness to Extend Nine Months
It appeared the Saudis were previously reluctant to commit to the output cuts beyond a six-month extension without ending the exemptions for OPEC members Nigeria and Libya, and even more so, unless Iran committed to a hard quota that incorporated some output cuts to share in the burden of stabilizing oil prices.
The Saudis softened in their negotiating stance going into the May 25 meeting for several reasons. For one, and for both the Saudis and the Russians, the Chinese vow of support to bid up oil prices below $50 a barrel was critical to their willingness to extend the current output framework.
Even if the Chinese purchases are not needed, or are in minimal amounts, that strategic vow of support from such a key player in the oil markets was enough to bolster the Saudi confidence to press ahead with the output agreement and more to the point, that the Russians would adhere to their commitments on the 300,000 bpd in output cuts.
The Saudis were increasingly frustrated with how slow the Russians were in trimming their output through the first months of this year, only hitting the 300,000 bpd mark this month. Riyadh oil officials were equally anxious whether the Russians would stick to their output cut commitments now that a period of maintenance shut-ins was over or whether the Russian oil companies would lift output when and where they could to take market share in the highly competitive Asian markets.
But Saudi Energy Minister Khaled al-Falih and Russian energy Minister Alexander Novak have worked closely together in the last few months, deepening the degree of trust that was missing this time last year between Novak and al-Falih’s predecessor, Ali al-Naimi.
And underpinning that trust, Russian President Putin put a personal stamp of support to the oil output agreement. Putin, it is said, has come to see the value in stable oil prices above $50 a barrel, and does not want any volatility or downward spiral in oil revenues to upend the budget and government spending in the run up to the Russian elections in 2018.
The Saudis equally prize a stability in oil prices above $50 a barrel, perhaps even more, with an eye on launching their high stakes partial IPO of Saudi Aramco, which they still hope to get underway next year, perhaps by March or at least in the first half of next year.
We understand that this convergence of domestic interests, underpinned by the Chinese support for the Saudi-Russian strategic oil alliance, hardened into an agreement to push at the May 25 OPEC meeting for an extension of the output agreement to nine months instead of six months in a series of exchanges between officials in all three countries in the last ten days or so.
Iran on Board
The Saudis likewise backed away from demands the exemptions for Nigeria, Libya and especially Iran be ended at the upcoming meeting. Much of that was the reality that neither Libya nor Nigeria were probably able to commit to much of anything since their governments are so fragile.
The Saudis were also seeing some success in bringing other non-OPEC producers like Turkmenistan and Egypt to attend the May 25 meeting in Vienna, and to potentially join the agreement. Between them, they produce 700,000 bpd and the thinking is that getting a commitment from them to at least hold to those levels or ideally, agree to a modest cut, will be enough to offset continued exemptions for Libya and Nigeria.
In the case of Iran, Iranian officials have already said they will “support whatever OPEC agrees to” in Vienna. Current Iranian oil output is still barely 3.8 million bpd. The Saudis will nevertheless still press the Iranians to accept a hard quota, but that the Iranians are severely limited on any near term increase in output even if they wanted to is probably going to be enough to satisfy the Saudis.
The Saudis are also invariably betting that Tehran will be especially compliant on its oil output commitments in the wake of US President Donald Trump’s visit to Riyadh this weekend and the alliance of interests and countries in the region adopting a more hardline stance against Iran.
Rebalancing Supply to Demand
It is noteworthy that the Saudis no longer cite an upper price band of $60 to the target price range. The reason is the fear of triggering too much US shale output if prices ever look to exceed the $60 a barrel mark on a sustained basis.
While US shale output has surged since the OPEC-non-OPEC output agreement last November, the Saudis continue to bet the efforts to unify new quotas and output cuts by more than 25 oil producers will be enough to still bring the oil market into a supply and demand balance — just that it will take longer than they originally envisioned.
In addition Riyadh and its Gulf oil producing allies are also weighing some modest near term crude oil output cuts for their psychological effect, but with deeper output cuts possible before year-end if necessary.
In Saudi Arabia, current exports under the output caps will be declining to make room for meeting the surge in summer domestic demand. But they also believe the end to subsidized prices for domestic gasoline and electricity use will reduce domestic demand in the latter months of the year. That, in turn, could make room for more substantial cuts in output if needed to keep prices from slipping below $50 on a sustained basis.