(Changes media packaging slug. Jason Bordoff, a former energy
adviser to President Barack Obama, is a professor of
professional practice in international and public affairs and
founding director of the Center on Global Energy Policy at
Columbia University. The opinions expressed are his own.)
By Jason Bordoff
Dec 1 Two years ago, when the Organization of
Petroleum Exporting Countries chose not to cut output and let
oil prices collapse, many pundits penned obituaries for the
producer group. Yet on Wednesday, OPEC seemed to breathe new
life, agreeing to cut output 1.2 million barrels per day (bpd).
While OPEC may have been hibernating, the decision by Saudi
Arabia, OPEC's leading member, to let oil prices crash was
always a pragmatic one, not an ideological one. OPEC has sent
stark reminder that when circumstances change, it can change too
-- and it would be foolish to write off OPEC as irrelevant.
In November 2014, U.S. shale oil output had been rising
annually by around 1 million bpd, a stunning rate of growth.
High and stable prices had pushed hundreds of billions of
dollars into developing high cost sources of supply from the
Arctic to the ultra-deepwater to the oil sands.
Iran had seen its oil exports fall from 2.4 million bpd in
2011 to less than 1 million bpd in 2013, and was expected to
ramp back up once an agreement was reached to begin lifting
sanctions. Moreover, most other OPEC countries, as well non-OPEC
ones like Mexico and Russia, signaled they would not join in any
credible production cut and would let Saudi Arabia do all the
The Saudis had seen this movie before. In the 1980s, Oil
Minister Yamani slashed output to support prices, resulting in
reduced market share and export volumes that took years to
recover. Regarded as one of Saudi Arabia's most costly errors in
oil market management, it is one that the Kingdom did not wish
In addition to all these challenges, it seems clear in
retrospect that Saudi Arabia misjudged how the United States and
other producers would respond. U.S. shale oil production was
expected to collapse with lower prices. It was also assumed by
many that longer-cycle high-cost producers would soon begin
slowing. Moreover, the slowdown in oil demand growth in late
2014, led by China, caught many, including the Saudis, by
There is likely a geopolitical element to all this as well.
Relations between Saudi Arabia and Iran, which have long vied to
be the region's leader, are at a low point. At a time when Iran
was struggling to return to the oil market, Saudi Arabia was not
inclined to make that easier by propping up prices and
potentially ceding market share to Tehran.
The oil market today looks quite different than it did two
years ago. Importantly, so does the economic situation within
OPEC countries, including Saudi Arabia.
Nearly $1 trillion in capital investment in global oil and
gas has been cut or delayed, according to Wood Mackenzie. U.S.
shale oil production has fallen and access to cheap debt is
reduced. Iranian oil production is back to near pre-sanctions
Moreover, OPEC and non-OPEC oil producers are facing severe
economic pressure and budget shortfalls, increasing the urgency
of pumping up prices.
While Saudi Arabia was better buttressed than others by its
$750 billion in reserves in 2014, it is not immune. The Saudi
economy has slowed sharply and concerns of recession abound,
especially in the non-oil sector. The government has cut
salaries and benefits, raised energy prices, and is seeking
other sources of non-oil revenue, but popular discontent with
these austerity measures is rising.
Riyadh has undertaken an ambitious and laudable economic
reform program to diversify its economy but it will take years
to implement. And while low oil prices were a catalyst for
reform, they also make implementing reform more difficult by
weakening the non-oil sector of the economy and hampering
U.S. shale oil remains a complicating factor. While
production has declined about 1 million bpd from its April 2015
peak, the industry has become remarkably more efficient. The
Dallas Federal Reserve estimates that the breakeven cost of U.S.
shale has fallen from $79 per barrel in 2014 to $53 today.
While there remains uncertainty, it is increasingly evident
U.S. shale can rebound sharply when prices recover. Just how
quickly it returns and how quickly global demand grows will
determine whether OPEC's decision to cut output maximizes its
revenue through higher prices or just losing market share to
Both the magnitude and shorter time cycles of U.S. shale oil
are now acting as significant new constraints on OPEC's ability
control oil prices and the producer group may not have the power
long feared following the Arab Oil Embargo of 1973 to manipulate
Saudi Arabia holds little spare oil production capacity to
tap when oil prices spike. It has made clear that it has no
interest in being the swing supplier to prop up low prices
resulting from structural market forces.
But the agreement in Vienna is a reminder that OPEC
collective action is still possible when producers see
opportunities and favorable circumstances to boost revenue. In
addition, looking beyond 2020, significant new OPEC supplies
will yet be needed to meet higher demand.
OPEC may not be controlling the oil market the way it once
did, but reports of its death were greatly exaggerated.
(Jason Bordoff; @JasonBordoff; Editing by Alden Bentley)