Politics

Production cuts and price rises put oil back at the centre of global politics

Riyadh and Moscow will pump less crude for a longer time, setting up the return of $90 a barrel of oil and stoking fierce debate into the US elections

Agencies/Majalla

Al Majalla outlines the main factors for the decision by Saudi Arabia and Russia to cut oil production and how this could impact the upcoming US elections.

Production cuts and price rises put oil back at the centre of global politics

Khaled Hamadeh

last update on 16 Sep 2023

Production cuts from major oil exporters have sent global oil prices over $90 a barrel for the first time in 2023.

The two principal nations in the OPEC+ group — Saudi Arabia and Russia — extended plans to pump less oil to the end of the year, in a move likely to stoke international political controversy as the world grapples with elevated inflation, partly caused by high energy prices.

Riyadh retained the cuts despite pressure from the United States to increase production. The voluntary Saudi cut of 1 million barrels a day started in July and will now run until the end of December.

It means production in the Kingdom will fall to around 9 million barrels a day. That is a drop of about a quarter from the maximum capacity of the world’s biggest oil exporter at about 12 million barrels daily. The cut will be reviewed each month, as part of the ongoing process at the OPEC+ group of oil exporters to keep the oil market in balance.

Moscow’s parallel voluntary cut, of 300,000 barrels a day, will also run until the end of December. Both sets of reductions are described as voluntary because they are over and above OPEC+ agreed cuts.

The production cuts are likely to strain relations with the White House. Washington has criticised Saudi Arabia's close cooperation with Russia, especially after Vladimir Putin invaded Ukraine and his weaponisation of natural gas supplies to Europe.

Al Majalla now puts the cuts in context and looks at the broader reasons behind them and the debate surrounding them.

China slowdown

China — the world’s second-biggest economy and manufacturing powerhouse — is slowing down, raising warning flags over oil demand.

According to a Reuters survey, China’s imports dropped by over 12% in July and exports fell by over 14% in the month. That means the slowdown is deepening from levels revealed in official data from the world’s biggest importer of oil products.

AFP — A worker pulls a cart of elevator parts at a factory in Haian city, in eastern China's Jiangsu province on September 5, 2023.

And that means the prices for oil and derivatives in Asia are falling amid the easing demand from a slowing economy. Analysts expect China’s growth rate to continue to cool.

China — the world's second-biggest economy and manufacturing powerhouse — is slowing down, which means the prices for oil and derivatives in Asia are falling amid the easing demand from a slowing economy.

Data from the construction, manufacturing and service sectors has all eased. Foreign direct investment levels are down, and the country's currency has hit multi-week lows. While economic stimulus measures may follow, Beijing will likely be careful as other countries raising interest rates look more attractive for global capital.

The China slowdown should offset the impact of oil production cuts, which are more likely to stop the market being oversupplied as demand drops, rather than creating shortages. Official data showed China's crude oil imports fell by 18.8% in July, to their lowest levels since January.

OPEC+ in agreement over cuts

Saudi Arabia's voluntary cuts – alongside Russia's parallel move and the broader reductions announced by OPEC+ – will take around 4.6 million barrels a day off the market until 2024.

That amounts to around 4.6% of global demand, which runs at 100 million barrels a day. Some analysts argue that the cuts could create an undersupplied market, potentially sending the oil price to $100 again.

Others see it differently, not least OPEC+, which points out it has no plans to lift oil prices, with policy decisions intended to prevent volatility and ensure balance in the market.

Saudi Energy Minister Prince Abdulaziz bin Salman was also clear, saying: "This market needs stability."

Prices had dropped to nearly $70 per barrel compared to over $130 a year ago when Russia invaded Ukraine. He described his sudden decision to deepen Saudi production cuts as a "crowning achievement of the agreement."

Riyadh and Moscow seem okay with the subsequent fall in oil prices. According to estimates from the International Monetary Fund, Saudi Arabia needs prices at around $80 per barrel to balance its budget.

Riyadh and Moscow seem okay with the subsequent fall in oil prices. According to estimates from the International Monetary Fund, Saudi Arabia needs prices at around $80 per barrel to balance its budget.

In the face of criticism from the US and other major oil-consuming nations, OPEC+ ministers have pointed out that they must act in their own interests and provide for vital long-term investment.

Uninterrupted energy supply depends on prices that can pay for investment in a world not yet ready to live without oil. There are already concerns that fragmented policies over the transition to low-carbon energy have held back what is needed to keep the lights on and the wheels of the global economy turning.

And the voluntary cuts from OPEC+ leading nations do not mean the group is disunited, as its secretary-general, Haitham Al-Ghais pointed out.

Managing a volatile market

OPEC+ must also deal with a market prone to volatility.

After dropping to less than $75 per barrel for most of the first half of the year, global oil prices rose by more than $10 per barrel during the summer due to security risks in Gabon — an OPEC member — and the threat of oil production disruptions in the Gulf of Mexico in August following Hurricane Idalia.

Brent crude oil is currently trading around $92 and has not dropped below $90 since the first week in September.

After dropping to less than $75 per barrel for most of the first half of the year, global oil prices rose by more than $10 per barrel during the summer due to security risks in Gabon — an OPEC member — and the threat of oil production disruptions in the Gulf of Mexico in August following Hurricane Idalia.

Saudi Arabia's position

As the world's biggest oil producer, the Kingdom carefully defines its policy on output. It still relies on oil revenues even as it implements its Vision 2030 reforms.

Reducing oil production immediately reduces national income, while any subsequent rise in the global oil price is not guaranteed and takes time to come in if it does.

Raad Alkadiri, an analyst with Eurasia Group, a Washington-based risk consultancy, points out: "The reality is that for the Saudi budget and Prince Mohammed bin Salman's long-term aspirations, oil needs to be priced at around $85 per barrel or higher... Projects like NEOM cannot be realised at $70 a barrel."

Cutting production is not as straightforward as it may seem.

The national oil firm Saudi Aramco typically runs annual contracts guaranteeing minimum supply levels. While waivers can sometimes be agreed upon, customers can insist on receiving the amount specified in the contract. That can, in effect, undermine voluntary supply cuts.

An employee near a pipe carrying CO2 to the pipe line at the Hawiyah Natural Gas Liquids Recovery Plant, operated by Saudi Aramco.

But output has fallen by around 4% in the latest quarterly data, the first drop since the second quarter of 2021. It came after voluntary production cuts in May of 1 million barrels a day that extended to the end of August and then again to the end of the year.

This highlights the importance of the Kingdom's plans to diversify its economy.

The IMF projects a non-oil growth rate of 4.9% in 2023 and 4.4% in 2024. The statement also commends the substantial efforts to boost revenues, noting that non-oil revenues have doubled since 2017.

The reality is that for Prince Mohammed bin Salman's long-term aspirations, oil needs to be priced at around $85 per barrel or higher... Projects like NEOM cannot be realised at $70 a barrel.

Raad Alkadiri, an analyst with Eurasia Group

Gas price hike impact on approaching US elections

Washington has remained tightlipped over the extension to the cuts.

US Secretary of State Anthony Blinken said: "We will look at this carefully in the days and weeks ahead to see the results that it actually produces."

Production cuts and higher oil prices — especially if they lead to increased gasoline costs at the US pumps — can do political damage to President Joe Biden into elections due next year.

The timing of the extension to the cut could undermine efforts from the White House to highlight the success of its "Bidenomics" policies.

Richard Bronze, co-founder of the Energy Aspects consultancy, said: "The danger for the White House is that rising gasoline prices have the power to reverse the sense that the situation is improving, and inflation is coming down."

There are also implications from higher gasoline prices for the Federal Reserve's fight against inflation after it has already taken interest rates to a 22-year high.

All of this contributes to fears that Vladimir Putin will seek to use oil supply to influence the looming US election. Much is at stake, not least with one of the candidates for the White House, Donald Trump, the former president, much less likely to support Ukraine in its war with Russia.

Former US President Donald Trump delivers remarks at Trump National Golf Club Bedminster in Bedminster, New Jersey, on June 13, 2023.

And Biden's rivals in the Republican party have already started using energy prices to attack the sitting president.

Trump told Newsmax: "They're using the environment to just destroy people. We have liquid gold right under our feet. We were making a fortune. And then he turned that off," adding, "We're going to drill, baby, drill . . . We're going to get the energy prices way, way down."

National Security Advisor Jack Sullivan pledged that the White House will maintain "ongoing communication with the Saudis" after the announcement of the production cut.

He also emphasised that the ultimate measure" of President Biden's success will be "the price of a gallon of gas for the American consumer."

+ / -