Hamish McRae: Central banks should fear an Opec surpriseComments Off on Hamish McRae: Central banks should fear an Opec surprise
If you have low expectations you won’t be disappointed — not a bad way to approach life, let alone economics. But it is particularly appropriate when approaching Opec meetings, for the tensions within what has always been a disparate group of countries are greater than ever.
Meeting after meeting of the oil cartel has resulted in stalemate. Conventional wisdom says that will happen again this Wednesday when the 14 Opec members have an informal meeting in Algiers, after the International Energy Forum there which starts today. A top-level Russian delegation is at the forum, and it may join the Opec discussions.
Yet there is a chance that this one might be different, and there might be an agreement on a production freeze between Russia and Saudi Arabia, and a cap on production in Iran. If that happened there could be a real impact on the oil price.
There’s an “I can pump more than you can” game going on in the oil market, for in recent months both Russia and Saudi Arabia have been increasing production to record levels. In July, Russia produced 10.6 million barrels a day, and Saudi pumped 10.5 million. So Russia became the world’s largest oil producer — but only for one month. Saudi retaliated by upping production to 10.7 million barrels per day in August, its highest ever, regaining top spot.
Meanwhile Iran, in theory freed from sanctions, has been rebuilding its oil industry, producing 3.6 million barrels per day in August, and planning to increase that to four million.
Iraq, despite the ravages of civil unrest, is producing more than four million barrels per day. On my quick back-of-an-envelope tally those four countries account for 38% of global oil production. That is huge.
Notwithstanding their efforts to pump at record levels, and thanks to sharp cuts in production from non-Opec countries, the oil price has managed to recover to a little under $50 per barrel. Had they not boosted output in this way the oil price would have recovered much faster.
Will they agree? The rumours fly. One story is that Russia will not join any talks with Opec unless and until the members agree on production levels. Relations between Saudi Arabia and Iran remain tense. Another story is that Saudi Arabia is trying to signal some sort of understanding with Iran that would enable Iran to raise production to pre-sanction levels and that this might lead to a more explicit production cap in a few months’ time.
That would be difficult, but it is so much in the interest of the producers to reach an agreement that one cannot rule out the possibility that some sort of understanding could be reached. And then, just as hardly anyone predicted the collapse in the oil price that began two years ago, note that hardly anyone is predicting a recovery to, say $80 a barrel now.
“Opec and Russia are likely moving to some sort of soft curb, which could be made more explicit later.”
If there were indeed a deal it would have huge consequences. For a start it would end deflation. Already prices are on an upward trend in the US and over here and underlying inflation is starting to creep up in Europe too.
For the moment the stance of all the major central banks — bar the US Fed — is that we should prepare for looser monetary policy, not tighter. As for the Fed, though it has indicated that the markets should expect another rate rise later this year, it has been extremely cautious in the speed at which it has tightened policy.
The big point here is that ultra-low inflation has given cover for the central banks to maintain ultra-low interest rates. And though ultra-low inflation was initially driven by weak demand, more recently it has been largely the result of the collapse of oil and most commodity and food prices.
If oil goes back to $80 a barrel, inflation in the US, here, and maybe the eurozone will climb well above 2%. That would kill the present loose monetary policies, and lead to a much faster rise in interest rates than the markets at present expect.
To be clear, I’m not saying that there will be an agreement in Algiers this week, though given Opec’s capacity to surprise, don’t rule it out. What is more likely is that Opec and Russia are moving to some sort of soft curb on production, which could be made more explicit later in the year, perhaps at the next official meeting in November.
Even a soft curb, combined with cuts elsewhere and a general move for supply to run behind demand, could flip the oil market from glut to scarcity. The oil price will eventually recover to a more normal level of around $80 a barrel, just as inflation and interest rates will eventually recover to more normal levels. But the timing of the price rise is in the producers’ hands, which is why all Opec meetings are fascinating — and this one in Algiers more fascinating than most.