A Take on the Recent Jeddah Energy Meeting Location: New York Author: John Hall Date: Monday, June 23, 2008 What did this meeting actually achieve? Apart from bringing together major consumers and producers from around the world, perhaps hoping to take home some good news, Saudi Arabia announced that oil output would increase by 200,000bpd to 9.7mbpd and if the delegates had expected something significant to suppress the oil this was not it. With further threat of attack on Iran from Israel and further supply disruptions in Nigeria, the oil price is now destined to rise further. Had Saudi Arabia wanted to make an impact then it should have offered to increase its output by at least 500,000bpd or even 1mbpd. However, even though the market for the Saudi oil is limited, the message that it would have sent to the market could have had an impact on price. Output from Saudi was destined to increase anyway this year and all that has been given if confirmation of this. Looking ahead the promise of increased potential production next year to 12.5mbpd may take time to filter through and will not cause any impact today. At the OPEC Meeting in December of last year, there was much conjecture over whether the price of oil would rise and remain over $100 or stay below. However, OPEC maintaining that the market was well supplied and that supply and demand were in balance, stated that output would remain unchanged. At the Press Conference after the meeting the OPEC President and Secretary General were advised that as a consequence of this action, or lack of it, the opportunity would be given to speculators to increase their activity in the market and potentially push prices over the $100 level. Right up until this moment, I was convinced that OPEC would announce an increase of either 500,000 or 1mbpd. The point being that the market listens to what OPEC says and not what it does. Beforehand, prices had weakened on speculation that OPEC would increase output and when it announced “no change” they rose again. There are many issue affecting this market although day to day focus is very much on OPEC and comments coming from the Secretariat and individual Ministers. The Jeddah Energy Meeting was set up outside OPEC although much of the dialogue has been centred on OPEC particularly as Saudi Arabia accounts for over one third of OPEC capacity and is the only country with a robust supply network that can readily deliver oil and additional supplies as required. The time scale did not allow for widespread discussion but was a forum in which delegates from consuming and producing countries could meet and exchange views while in the background Saudi Arabia would formulate and put forward its own directive. Each attendee would have arrived with a view on the reasons why the oil price has soared to almost $140 and perhaps many may have hoped for a solution to high oil prices but a solution could not be expected at this early stage in global dialogue and certainly not before consensus has been reached on the causes of the crisis. The issues are widespread and price volatility responding to every aspect of bad news while ignoring any positive sounds, if it can. Earlier in the month prices were falling and some believed the “bubble” was bursting and with speculators chasing the price down, the unexpected news came from Israel that an attack on Iran was “unavoidable” if the pursuit of nuclear weapons was progressed further. With that the price moved back up by $12-15 while, fundamentally, nothing had changed. Geo-political tension is one of the more popular reasons given and broadly speaking probably refers more to the Middle East than other parts of the world. Yet there is tension between the US and South American countries, Russia and the US and the EU while general insurgency is rife in Africa, particularly Nigeria. It is not global as such but few countries can claim to be devoid of it. Oil production, according to OPEC, is adequate and even today, OPEC again stated that it would not make any decision on output levels until its next scheduled meeting in September. However, all, apart from Saudi Arabia, are producing as much as they can to benefit from the high prices while some like Iran, Nigeria and Indonesia are experiencing difficulties. Iran has had to cut back output and already has large quantities of its heavy sour crude floating off shore in tankers but due to a shortfall in refinery capacity is unable to sell all that it produces. Likewise, it seems that Saudi has to discount the heavy product that it produces while in Iraq output remains above the 2mbpd level. What is significant about Iraq is that it could probably double its output with sufficient investment and for Iran it too could probably increase to 6mbpd yet investment, certainly from the traditional western oil companies has been curtailed by US directive on sanctions against Iran. Nigeria could increase output to over 3mbpd but is still hampered by strikes and rebel attacks in the Delta region. Nigerian product is high quality and so the cost to consumers and Nigeria alike is high. Yet the internal infrastructure is such that a resolution to the internal problems seems insurmountable. The people do not see any benefit from oil wealth and live in poverty and until some balanced level is demonstrated, this situation will not change. From these three OPEC members alone, output could be increased by another 5mbpd but only with investment and expertise while Saudi Arabia will add another 2.5mbpd next year and more beyond. Of the issues raised in recent weeks we have ranged from Geo-political tension, the falling dollar, insufficient oil supplies – peak oil, lack of output from non-OPEC producers, particularly Russia, insufficient refinery capacity and speculator activity. There has to be an element of reality in each of these although what seems to be happening is that the market is being driven by perception on supply and demand of what might happen in five to ten years time and ignoring the interim. Consuming nations are under pressure from high energy prices and have been for the last three years although it has taken the high price of automotive fuels to bring about global protests and these are exactly the kind of protests that Governments can not tolerate whether in our out of a democracy. They will urgently need to adopt conservation policies. Gordon Brown the UK Prime Minister has continually called upon OPEC to produce more oil. Three years ago when as Chancellor of the Exchequer, he asked OPEC to increase output, another 3mbpd was put on the market but no one rushed to buy! At the same time OPEC publicised its report “Who gets what from oil” illustrating the tax levels imposed on OPEC oil by certain governments of which the UK is the highest. What really irks OPEC is that many EU countries derive greater revenues from OPEC oil than OPEC does by taxation! As OPEC has said before, if those same countries are so concerned about the price of automotive fuels to their people, why not reduce the level of taxation and bring the price down? On this occasion, Gordon Brown widened out his view and instead of calling simply for more oil came up with a plan to address many of the ongoing issues. He would like producers to make the most of energy reserves yet, back home, when the UK sector was hit three years ago with a windfall tax of £2bn in the North Sea, the response was that 250mb would be left there and if any Government wants to encourage producers back in to that arena to retrieve lost oil reserves, some careful thinking on taxation will be required. As prices rise, consumers have to look elsewhere and this is something that each country will have to take on for itself, I really don’t think this is the role of the oil producing countries and if the “West” wants Middle Eastern oil producers to invest in alternative energy supplies and particularly those that use oil for generation purposes, it certainly needs to take the nuclear option off the list before more countries follow Iran and acquire sanctions. It’s all very well to come up with plans at the last minute but a reality check in the market place is urgently required and for this each country needs to look at its own activities. Gordon Brown has also suggested that oil producers should invest in consuming countries and those consuming nations can then in return offer their expertise in developing the infrastructure of the producing countries. This is exactly what has not happened! Producers have kicked out the International Oil Companies – namely from western consuming nations – in favour of their own National Oil companies, because they were unhappy with the level of return as the oil price rose. The underlying fundamental problem here that has stifled the industry for the last sixty years is the geo political tension that exists over Middle East Peace and although today in this context the world looks at Iraq and Iran the reality is Israel – Palestine. The countries that traditionally have had the resources to get the oil out of the ground and refine it have been western, and usually siding with the US behind Israel while those countries in the Middle East with the reserves, but needing the western external support, have sided with Palestine and, as with sanctions against Iran today, western companies have been warned of retribution if they deal with Iran. Until Middle East peace is found this situation will prevail. One can look back at the issues in the Middle East over the last six years and then follow them through since the invasion of Iraq to see how geo political tension has intensified. Furthermore, any talk of an escalation in military activity in the Middle East, such as an attack on Iran, will have absolutely dire consequences for the region and oil production and prices in general. Speculation is a prime contender in terms of oil price movement and if there weren’t any exchanges where would the price be. How can a price move by $12-15 in one day without any change in the supply demand situation? Fundamentals play a role but in recent months rumour has played a greater role. World stocks are good although the US crude stocks are low for the time of year but the US has been concentrating more on its Strategic Petroleum Reserve and the two categories together are perfectly adequate. These are the figures that are waited for each week and the market moves in advance on perception and then adjusts afterwards on the reality! Refinery utilisation is of greater importance and with that hovering around the 88-90% level one can probably not hope for any more. While the market closely follows US stock figures it should be able to look wider and follow the supply/demand ratio in many of the developing countries like India and China as these are the countries cited and blamed for the increase in demand which in all probability will offset the decline in demand from the developed OECD countries. Much of the increase in demand in non-OECD countries results from the migration of western manufacturing units away from the EU and the US to more attractive economic bases in non-OECD countries such as India and China. Yet data is not readily available from these countries and with 25% of product currently being consumed by them it is almost more important than the US data which accounts for less than 25% of world demand. The developing countries subsidise their oil products and until recently their people had not been exposed to the higher oil prices but those subsidies are now being reduced and therefore demand can be expected to fall although conversely refiners are now able to produce product profitably and will certainly increase output which in turn could lead to greater demand. At what level should governments be able to tax the use of oil products? Within the EU the current price level paid for gasoline ranges from $7.5 to $10 per US gallon while in the US it has just breached the $4 level and in China just below $3. One can argue that perhaps any country below the EU level will have an advantage and in the interests of conservation should this be maintained? On the other hand, producing countries invest their oil wealth in areas not related to the industry and as a consequence have not developed their own infrastructure and now have to import refined products like gasoline and diesel putting greater pressure on refinery capacity in the non oil producing countries. They need to look at their own demand and infrastructure too. Concern over mounting oil prices has reached every country whether directly or indirectly. A few months ago we heard that debt relief in Africa had been wiped out by high oil prices yet those countries do not have the political strength to affect a change. Saudi Arabia has always been concerned over the so called “demand destruction” theory and knows that demand will fall with higher oil prices and does not want to see a price collapse and as the senior and controlling member of OPEC has taken this opportunity to bring all countries affected by the high oil price together for this meeting. We could not have expected a real outcome but hopefully some meaningful dialogue will be started and followed through. Data is not readily available on either Middle Eastern reserves or demand and consumption levels and it needs to be. Saudi Arabia has been under pressure from various world leaders including George Bush of the US and Gordon Brown of the UK yet is aware of the political implications of acquiescing at their bequest when the OPEC President Dr. Khelil reacted so strongly to a request for more oil from the US President earlier in the year. However, a meeting with the UN secretary general Ban Ki-moon offered a different perspective and perhaps on humanitarian grounds Kind Abdullah felt more able to respond. Kind Abdullah has had to be careful not to undermine OPEC yet who else other than King Abdullah has the resources to formulate such a meeting on the global stage? Saudi is dependent upon western support, particularly for defence, and buys in western goods and services which are become less plentiful and more expensive so although we could not expect any short term resolution from this meeting the gesture should be very much appreciated and one hopes beneficial in the long run. In so far as increased oil output, Saudi had already intended to increase output this year anyway and not doubt the announcement has tied in well with the Jeddah meeting but in terms of putting more oil on to the market to calm down prices, it’s really just too little and too late this time. So, for now, the price is more likely to rise than fall and we await the directive that OPEC will put forward at its next meeting in September and Dr. Khelil the OPEC President made his point again today – “The market is well supplied with oil”. For those of us who had hoped for something more positive to lead towards lower oil prices, there was little on this occasion to support that.