With media attention focused squarely on the conflict in Gaza and the COP28 climate change conference in Dubai, the decision by OPEC+ to make a deeper production cut announced on November 30 hasn’t made the intended splash. Russian president Vladimir Putin’s hastily arranged visit to Saudi Arabia and the United Arab Emirates on December 5 seems to have been intended partly to remedy that. However, the fact remains that crude oil prices are still down sharply from where they were in September and immediately prior to the OPEC+ announcement.
The crux of the problem is that the market is collectively doubtful about the commitment to further production cuts despite the relatively high degree of cohesion that the group has displayed in recent years. That doubt is fueled by the fact that recent production restraint has failed to boost Saudi revenue, and there have been times when the kingdom has had to let go of restraint and seek to reclaim market share. We may be nearing a point where such policy changes could make sense, though it would be an extremely bitter pill for Crown Prince Mohammad bin Salman (MBS) to swallow. Both the kingdom and Russia also have politically driven reasons to delay a decision.
The November 30 OPEC+ announcement came after the formal meeting was delayed by four days due to a lack of agreement among the participants. Crude oil had been falling back from its late September highs, with Brent briefly above $97 per barrel on a worsening fundamentals picture—weaker than expected demand, particularly in Asia, and surging non-OPEC production, again driven first and foremost by the United States, where September liquids output was up a whopping 224,000 BPD from August to a new record volume of 13.24 million BPD. The problem with production cuts is that by propping up prices, they can stimulate the growth of competing production. For instance, U.S. shale production is now drastically shortening the timeframe for additional volume response.
Of critical importance to the market’s reaction, OPEC+ did not agree to alter its “group quota” or the implied volumes for each member into Q1 2024, but rather for a slate of 2.2 million BPD of “voluntary” production cuts by eight countries, with 1.3 million BPD of that being Saudi Arabia and Russia rolling over their previous voluntary cuts in excess from June in excess of what they had pledged along with OPEC+. Russia also pledged 200,000 BPD in extra cuts, and others making pledges for Q1 2024 included Oman, the UAE, Iraq, Kazakhstan, Kuwait, and Algeria.
The move was a win for Saudi Arabia in the sense of getting others to share the burden of production cuts, but less credible than a formal cut, especially given the inclusion of participants like Iraq and Kazakhstan, which have cheated in the past, and the absence of a consensus or participation outside this group of eight states. Brent crude fell 2 percent on November 30 on the announcement to around $80 and has fallen further to below $75 since then.
We also have reached a point where the math is no longer working for the Saudis. After the June unilateral cut, their production is down to around 9 million BPD, out of a claimed capacity of 12 million BPD. But giving up their market share has not succeeded in sustainably pushing prices to the $90 they would prefer or even the $80 they could probably tolerate. The cuts by others now are to the Saudis’ benefit in terms of burden sharing. Still, the market clearly does not see them as enough to offset the external supply and demand factors. It seeks a price level that will curtail investment in short-cycle volumes, particularly American shale production. Meanwhile, the Saudi government has shifted its financial projections to tolerate fiscal deficits for the next several years due to heavy spending on off-budget projects intended to diversify its economy. Those deficits were projected at 2 to 3 percent in September when the forecast came out with crude prices above $90 per barrel, but with the crude price assumptions having shifted, that looks much less favorable now.
In the short term, Saudi Arabia can borrow for this spending as it still has a relatively low debt level. In the long term, the kingdom must adhere to a revenue-maximizing production strategy. Unless demand growth strengthens significantly, that may mean unwinding their production cuts despite the short-term price impact to impede competing production and take back market share. This comes amid a 2024 outlook with competing production already in the development pipeline and the “call on OPEC+” looking like it will be flat at best.
President Putin’s visit on December 5 to discuss oil policy is likely a gambit to push back the timeframe the Saudis would consider moving to retake market share. MBS is not facing acute financial problems, and a policy shift could be seen as a loss-of-face for him, though it is analogous to previous shifts in Saudi policy, such as those in the mid-1980s. Putin has a more acute need for current revenue, given the war in Ukraine, and Russia would definitely suffer from an uncoordinated Saudi shift. Both likely want to see President Biden lose the 2024 election as well, as Putin would like to see U.S. aid to Ukraine curtailed. MBS has continued to cultivate financial ties to the Trump family despite the Biden administration’s warming relations with Riyadh. That is probably an additional factor that would pull both leaders toward wanting to avoid a sharper dip in oil prices than what we have already seen in the timeframe, which could help Biden with reelection.