Oil market dynamics change

Nikolay Kozhanov

Earlier this month, the Organisation of the Petroleum Exporting Countries (OPEC) and its allies, a grouping known as OPEC+, announced their decision to stick with their planned output increase of 400 000 barrels a day in January.

The grouping’s decision came at a time of heightened concern for producers and consumers and shone a spotlight on the new realities and changing dynamics of global hydrocarbon markets.

On December 2, OPEC+ countries came together at a virtual meeting to decide between two scenarios: continuing to increase their production volume or temporarily freezing it.

On the surface, there were many strong motivations for them to opt for the latter option: the expected oversupply in the first half of 2022; the fear that a new strain of coronavirus could further reduce the rate of oil consumption; and the decision by the United States and a number of other countries, including India, China, Japan and South Korea, to release large volumes of oil from their strategic reserves to the market to reduce prices. However, despite hearing strong arguments for a freeze, the cartel decided to hold the line on its current output plan.

There were multiple reasons behind the cartel’s decision: First, the current economic development strategies of the key OPEC+ players (and, especially Gulf monarchies) make freezing (or reducing) production quotas an undesirable scenario.

In the long run, global oil demand is expected to decline, seriously reducing the incomes of oil exporters and turning some of their oil fields into stranded assets.

To avoid this, producers are working to diversify their economies and to make renewable energy a viable part of their economic structures. For now, the only viable source of funding OPEC+ countries have for their diversification efforts is their oil resources, and they are under increasing pressure to turn these resources into cash before the predicted decline in demand and fall in prices devalue them.

This means, for OPEC+ countries, the self-imposed output limitations can be nothing more than temporary measures to stabilise the oil market and delay the fall in prices — in the long run, it will always be more beneficial for oil producers to increase production volumes.

Second, the volume of the predicted market oversupply in 2022 remains unclear. Indeed, there is no unanimity among experts on the longer-term prospects of the oil market.

While many expect the market to be significantly oversupplied, encouraging greater competition between the players, others warn that continued underinvestment in the oil sector can result in producers significantly failing to meet the demand.

This means OPEC+ members are somewhat blindly walking through a minefield, and trying to avoid making wrong choices which could result in significant loss of income and halt their efforts to adjust their economies to new post-hydrocarbon realities. Thus, they are reluctant to reduce production volumes, but they are also not willing to increase them beyond the already established quotas.