The tsunami that got furious, courtesy the credit crunch in the US housing market, after having sent tremors through the global banking and financial sector — the very foundations of the capitalist economy — is now all out to derail and upset the energy markets too. “The oil bubble has well and truly burst,” claims the London-based Center for Global Energy Studies (CGES), hurrying the OPEC into action and rightly so. Inaction could have simply been suicidal in the emerging scenario.
Recession is round the corner. Global crude demand has nosedived. Prospects of an economic turnaround are minimal — to say the least- in the short term. OPEC action — of bringing forward the Nov. 18 extraordinary meeting to Oct. 24 — is to be seen in this perspective. Reasons were solid!
Demand is slipping and slipping fast. Global consumption may show a full year contraction in 2008, for the first time in 15 years. Signals are ominous all around. In the US, the world’s largest oil consumer, oil demand over the last few weeks was down 8.9 percent, or 1.82 million barrels a day, to 18.6 million barrels a day, the lowest level since June 4, 1999, the Energy Information Administration said. Since Oct. 10, demand this year is off 5 percent, or 1.1 million barrels a day. On an annual basis, it is the biggest drop since 1981. Global demand is taking a direct hit. They have gone down by almost 8.9 percent over just the last four weeks. Crude demand had already fallen in the US, the world’s largest consumer, by 8 percent in September. Japanese oil consumption has also tumbled by 12 percent in August over the same month a year ago, and though consumption could still be growing in some emerging economies, yet even in those economies, global oil demand growth is undeniably slowing down as compared to recent years.
When coupled with the situation in the financial markets, this is a recipe for disaster for the crude markets. Dabbling in commodities markets has already fallen out of favor with investors abandoning the sector in droves as energy and metal prices slide. Commodity prices, which have surged for most of the past six years, have imploded over the last three months. Estimates by Citigroup and Barclays Capital put third-quarter losses in the asset class at between $50 and $60 billion.
Many wealthy investors made an unusual foray into commodity markets in recent years, as booming demand from China and India fuelled a rally in prices and spurred interest in the asset class, said Julius Baer Chief Operating Officer Boris Collardi.
But it is apparent that the global appetite for the assets has faded just as quickly after prices starting tumbling in recent months over worries of falling demand and a looming recession. “Many investors did participate in the commodity cycle and certainly in the last six months there has been less of an interest in that sector,” said Barclays Wealth Vice Chairman Gerard Aquilina.
Knowing fully well that the fast-building inventories in US and elsewhere, in combination with halting economic growth, all over the world were a sure-fire recipe for sustained price weakness, the OPEC needs to do something.
The OPEC meeting today is thus taking place in very different circumstances. It is no more that rosy as it used to be in recent months and even years. Eyes are focused on Vienna. Analysts are ratcheting up estimates of how big an axe OPEC will have to swing today at its Vienna talks, as if the axe is bound to fall.
For the time being, it is unclear what price range the oil the grouping wants to establish. Some OPEC members including Iran and Venezuela have repeatedly stated it would like to see prices stay around $100 per barrel — a level that some influential members within the grouping seemingly believe to be simply unsustainable as the global economy sinks into recession, sapping energy demand. Members such as Iran, Iraq and Nigeria will be hoping, some now say, that by implementing a cut in production, they will put at least a floor under recent price falls.
The meeting “sends a clear signal that OPEC is concerned about the speed with which oil prices are slipping away from a preferred price of around $80 a barrel,” says Lawrence Eagles of J.P. Morgan.
The drop in prices has already created problems for oil producers. Iran and Venezuela both need oil prices at $95 a barrel to balance their national budgets. Russia needs $70 and Saudi Arabia needs $55 a barrel, according to Deutsche Bank estimates. Algeria’s oil minister and the OPEC chief, Chakib Khelil, said last Thursday that the “ideal” price for crude oil was somewhere in between $70 and $90 a barrel.
In Russia, which is not part of OPEC, the drop in prices is threatening the country’s ability to increase production, as elsewhere too. The Russian government has reportedly agreed to allocate $9 billion to its four major producers — Lukoil, Gazprom, Rosneft and TNK-BP — to help them cope with investment needs amid the credit crisis.
Now the question, in case a cut in output is pronounced today, as is widely believed, what would be the level of it? Although it could be hazardous, professionally, for any one to forecast the next OPEC move, some signals are already been there. Qatar’s Oil Minister Abdullah Al-Attiyah said last week he expected OPEC to cut oil production by one million barrels per day (bpd) or more at the hurriedly called extraordinary meeting. “All members agree that oil inventories are very high and supply is higher than demand by around two million bpd,” underlines Khelil, the OPEC chief. The 1 million barrel-a-day cut floated by some is now being thought of as a minimum level. There have been comments that OPEC may also agree to a two-stage reduction. Ecuador’s Oil and Mines Minister Derlis Palacios is also on record saying, OPEC should cut output, although he did not specify by how much.
And that is a big if. Everything is in the air — as yet and the world would be following up the OPEC meeting with great interest. The debate inside the ballroom in Vienna today would decide if the cut could halt the downslide. And then the question who would cut and how much is also open to debate — and a heated one.
Fireworks, and this is the hallmark of the OPEC, are definitely on the cards as the ministers meet in completely altered circumstances to view this crucial issue from their respective prisms.
