November 14 – After spending a couple of days meeting with officials in Saudi Arabia, I remain skeptical that OPEC will be able to get an agreement on a production cut as outlined in the Algeria meeting in late September. Before I jump on my flight home, I wanted to provide some notes from the road here in Riyadh.
Saudi Arabia would like an OPEC deal. But unlike previous deals when Saudi did all of the heavy lifting, the Kingdom wants other OPEC members to participate as well. As we have seen over the past few weeks, this is like herding cats. Moreover, OPEC production in October has increased since the Algiers meeting which would now translate into deeper cuts that Saudi Arabia and its Gulf allies would have to make. Deeper cuts for Saudi Arabia makes the deal less likely.
Iran and Iraq continue to present major impediments to an output deal and with time running out before the November 30 OPEC meeting in Vienna, we may instead see a “Plan B.”
The most optimistic Saudi official put the chances of a deal at 50 percent. Here’s why:
Iran
The Saudis continue to maintain that Iran must participate in any deal to limit output. So despite media reports to the contrary, there is no Iran exemption. They readily admit that Libya and Nigeria are exempted from the Algiers deal but there is no understanding that Iran is also exempted. Even in public statements by Saudi Energy Minister al-Falih, he is very careful in his wording not to acknowledge an Iran exemption. For its part, Iran wants its output ceiling set at a self-defined pre-sanctions level of about 4.5 million barrels a day, and then they would agree to “cut” a couple hundred thousand barrels from that level. Under this vaporware arrangement, Iran hopes to continue to increase production from current levels. Both sides seems to be talking past each other, and I was told that “Iran continues to be stubborn.”
Interestingly, Saudi Arabia also believes that Iran is currently producing at its peak – at least by itself until western participation and investment takes place in its sector. So I ask them: why not allow an Iran exemption if you think Iranian production has peaked at least temporarily in order to get a deal? The answer is that the market is not convinced Iran’s production has leveled off so it is not an option.
Iraq
It was described to me that Iraq poses a more difficult challenge to a deal. OPEC uses “secondary sources” of production data as a baseline in order to determine what each member needs to cut as part of the Algiers deal. Iraq disagrees with the secondary source production data and maintains its production levels are much higher. Therefore, Iraq wants to use its own data source to determine its production and implied cut under the deal. The Saudis say that if Iraq is allowed to use its own production data, every member will want to do the same and a deal will be impossible.
Plan B
OPEC’s Algiers “deal” has raised expectations that it can agree to limit output on November 30. Failure to get an agreement could send oil prices further down by at least 20 percent. Therefore, we believe it is now looking increasingly likely that there will be a “Plan B” that could take two forms: 1) an agreement akin to a production freeze at current levels with no enforcement mechanism or 2) an OPEC press statement saying that great progress was made on an output limit and a special follow up meeting is scheduled for early next year. Whether the market will view a Plan B approach as credible is an open question.
Therefore, we believe there will be some type of an agreement in order to avoid failure on November 30. But there just won’t be a deal as outlined in Algiers.
Miscellaneous Notes:
Trump & OPEC
There is tremendous interest here in Riyadh in President-Elect Trump and his potential impact on energy policy and geopolitics. I gave a speech on the topic to the Saudi-sponsored International Energy Forum (IEF) to an audience consisting of the energy and diplomatic communities. As you can imagine, a tougher US approach on Iran would be a welcome development in Saudi Arabia. However, many are skeptical that Trump will renew Iran sanctions though this skepticism seems to be rooted in a belief that Congress or the EU can stop Trump on sanctions. Many here seemed surprised when I informed them that sanctions can be reimposed by executive order.
Also, there is news out today about a Merrill Lynch Bank of America report that forecasts the Trump win makes an OPEC deal more likely. Almost no one here in Saudi Arabia believes this to be the case.
Russia
I was asked by an official from the Russian embassy in Riyadh today whether the US government under Trump would join OPEC in a production cut. This shouldn’t amaze me because I have been asked similar questions about US participation in a production freeze by other foreign government officials and even by business news anchors. I explained to my new Russian friend that the US is a market-based economy and that these decisions are made private companies not the US government. He kind of winked at me so I am not sure he believed my answer.
