The OPEC oil cartel is struggling to put a floor under plummeting oil prices, but even its largest production cut in history Wednesday failed to prevent prices from falling to a four-year low near $40 a barrel.
Oil producers are being squeezed so hard by the global recession that Russia, the world’s second-largest producer, is flirting with joining the cartel - a move that only six months ago would have sent oil prices soaring to $200 a barrel, analysts say.
The 2.2 million barrel production cut announced after a meeting in Algeria, coming on top of 2 million barrels of earlier cuts, elicited a collective yawn from the oil market, with premium crude falling $3.54 to end at $40.06 after dipping briefly below $40 on the New York Mercantile Exchange.
“We’re in a nasty global recession and oil demand will go down,” said Bob Doll, global chief investment officer for BlackRock. “Is it going to $30? No. Our view is that $40 is a flash point for many of the Middle East countries. They will protect the $40 price.”
Saudi Arabia, the largest producer, started cutting production even before the meeting and is now pumping 8.2 million barrels a day, down from 9.7 million in August. It has identified $75 as a “fair” target price. But the kingdom indicated Wednesday that a price around $40, which is close to the cost of production for much Middle Eastern oil, would suffice.
“The purpose of the cut is to bring the market into balance and avoid the gyrations of the price,” Ali al-Naimi, the kingdom’s oil minister, told reporters in Algeria. “The cut may lead to higher prices or may not.”
“You must understand the purpose of the $75 price is for a much more noble cause,” he said. “You need every producer to produce and marginal producers cannot produce at $40 a barrel. Therefore we believe that $75 is probably more conducive to marginal producers,” whose output will be needed when the world economy starts growing again.
Countries like Russia and Venezuela that have to spend far more than $40 a barrel to extract oil, and which have ambitious social programs to fund with their oil revenues, have been hit particularly hard by the collapse in prices.
Russia, whose economy has been in a deep crisis since August, sent a delegation to the OPEC meeting to announce it is curbing output by 320,000 barrels a day - an amount that analysts said reflects the natural decline of production in fields where Russian oil companies have not kept up investments needed to maintain output.
Russian delegates said they have decided against joining the cartel for now.
Fiona Maharg-Bravo, analyst at Breakingviews.com, said the market is ignoring OPEC’s efforts to stabilize prices for several reasons.
“It doesn’t believe that all OPEC members will deliver the cuts,” since OPEC nations frequently in the past have cheated by producing above their quotas, she said. Only a little more than half of the 2 million barrels of production cuts announced earlier this fall were actually carried out, she said.
Also, “the influx of speculation in the oil market has also weakened OPEC’s power,” she said. Speculators drove the price of oil to unprecedented highs above $147 in the first half of the year as they focused single-mindedly on the scarce supplies of oil at the time. Now, they’re focused “one-dimensionally” on the drop in demand brought on by the recession and the pressure that puts on oil prices.
“Cash-strapped hedge funds have been selling, pushing down the prices,” she said. “That’s not to say OPEC won’t ever recover its pricing power. Once the world economy, and hence demand for oil, shows signs of recovery, traders will start focusing on the supply side again.”
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