OPEC + And the Cartel’s Impact on the Market

Last week the Organization of Petroleum Exporting Countries + at its monthly conference reached a critical decision to cut it’s oil production by 5.86 million barrels per day (representing 5.71% of the total global oil production), which includes a 3.66 million barrel cut extended into the year 2025, while also extending the 2.2 million barrel voluntary cut by 8 member states which is now due to expire in September 2024 by virtue of the said extension.

The body further emphasized that it was also keeping a close eye on monetary policy rates decisions by key central banks, despite agreeing to only extend the current 2.2? million barrel voluntary cut till September, given the fact that oil prices tend to perform better in expansionary monetary environment as lower borrowing costs translate to increased commercial activity and high demand for energy sources derivative products of oil, either heavy or light distillates, translating into higher oil prices. Read more here.

It however appears that markets reacted to this decision in an absurd but slightly expected way as a significant number of traders had the consensus that the body’s decision to announce its plan to phase out the current voluntary cuts by September this year could potentially lead to a further over supply of oil barrels, given the fact the market is already even in a state of oversupply. Read more here.

Note: Marked Points show Market Reaction to pricing following the OPEC+ announcement.

The above makes it more than apparent that OPEC+ decisions definitely impact global oil prices, it therefore becomes important to examine what the body is and why its decisions are significant enough to have an impact on oil prices.

Founded in 1960 and currently with 12 members (following the recent exit of Angola), OPEC was founded as a bloc created for the purpose of coordinating petroleum policies and securing fair and stable prices, the bloc currently controls 30% of the world’s global Oil output. OPEC+ however consists of a coalition of OPEC members and other ten of the world’s major oil producing countries, the bloc currently accounts for 40% of global oil production.

It is important stating that global non-OPEC+ oil production has significantly outpaced OPEC+ production, led by the USA with a current production capacity of 12.94 million barrels per day as reported by the United States Energy Information Agency (USEIA). Read more here.

Thus, further begging the question of how the bloc’s decision affects the direction of oil markets since it does not even control most of the global oil output in the first place.

It would be important to state that a number of other factors must be in place if the body’s output policy would have an effect, for example when the global oil markets finds itself in a state of significant oil supply, a decision by OPEC+ to cut production based on the agreed number could have a significant but not long lasting effect on prices. Where as in any case where the markets nears an oil supply deficit or say for example in a case where there are significant geo political tensions that could largely affect oil supply, an OPEC+ decision would have a significant impact on prices, a very good example of this would be earlier this year when Houthi rebels in response to Israel’s offensive on Gaza? attacked oil carrying vessels in the red sea forcing Oil carry vessels to explore longer and more expensive routes (e.g. the Cape of Good Hope), OPEC+ decision to maintain its’ production cut during the said period would have contributed to the premium pricing for oil futures.

However, one of the major ways through which the body adjusts its output policy is what is referred to as “Spare Capacity” which serves as an indicator of the state of global oil markets, the EIA defines spare capacity as the volume of produced oil that can be brought online for 30 days and sustained for 90 days. Read more here. In a simplified manner, Spare Capacity can simply be defined as the differential between the total volume of oil produced per OPEC+ members and the actual volume of oil they bring online for consumption, think of it like a savings deposit for OPEC+ members, so in essence all cut barrels go into the Spare Capacity classification.

Generally global prices tend to factor in a risk premium in pricing when OPEC+ spare capacity reaches low levels, as this shows the global market could as well be nearing a state of under supply, forcing the bloc to tap into its Spare Capacity, and when its Spare Capacity reaches high levels then futures are priced at a discount as it serves as an indication that markets are in a state of oversupply.

Usually, the body sets a production quota for all members, and the excess of this usually forms its Spare Capacity, however historically OPEC+ has struggled with its members complying with their allocated quotas. For example, the body’s current production quota stands at 39.34 million barrels per day, however historical data shows that since the beginning of the year the body has failed to meet that quota, per the OPEC monthly report, May Edition.

Most notably the Iranian government also recently announced that it would be increasing its oil output to 4.6 million barrels from its current 3.2 million barrel per day levels, a decision that has been seen as controversial, although some of these barrels might be channelled to the republic’s Spare Capacity Read more here. The constant menace of its members over producing beyond its quota, is something the body has always struggled with.

There is no doubt or controversy over the influence of OPEC+ as a bloc over oil prices, however certain factors the most notable of which is the over production of its members has to a fair extent limited the blocs influence. Expectations remain that going forward, the body would be looking to adjust its policy by increasing output in order for it to match the market share of its rivals such as the US, particularly as global central banks are expected to cut rates prompting demand, with this being made evident with the body’s announcement that it would start phasing out voluntary cuts by September this year.