In less than a month, Brent crude oil prices have dropped by about $10 a barrel. Last week, crude oil prices dropped to below $100, the first time since October. However, what appears to be symptomatic of the current global economic situation may see a reversal after July 1, when all the sanctions against Iran are expected to become effective.
Many analysts believe macroeconomic indicators would have resulted in a further drop in oil prices, had Asian countries, primarily Japan, Russia and Korea, not stocked up ahead of the sanctions on Iran. A weak outlook for the Chinese economy, coupled with the European debt crisis (primarily in Spain and Greece), led to the fall in crude oil prices.
In May, average Brent crude oil prices were $10 less than those in April, though historically, May doesn’t see a fall in crude oil prices. A recent Barclays report had stated crude oil prices fell in May for three years. Compared to April, May saw a fall of about 8.4 per cent in Brent prices. As in May 2010, the key driver was the sovereign debt crisis.
The coming days would be crucial to the post-July scenario. A ministerial meeting of the 12-member Organization of Petroleum Exporting Countries (Opec) is scheduled to be held in Vienna this week. The Iran issue, as well as the global crude oil scenario, could come up for discussion there. Ahead of the meeting, Youcef Yousfi, Algeria’s minister of energy and mines, has indicated the Opec group would address the situation arising out of the economic slowdown in Europe, one that had hit oil demand. That Opec was worried about the fall in demand and about the availability of enough oil in the market was evident when Yousfi said, “Opec will study the price decline.”
The next fortnight would also see talks between Iran and P5+1, a group of five permanent members of the United Nations and Germany, over the nuclear standoff. This would determine whether or not all the sanctions on Iran kick in from July 1. Iran is the second-largest producer of crude oil among OPEC members, which control 40 per cent of global crude oil. The potential danger is after all the sanctions on Iran are put into effect, about 0.8 to 1 million barrels a day of oil would be sucked out from the market.
To overcome the demand pressure and the short supply from Iran, Opec producers have, over the past few months, increased output, with April volumes at nearly three million barrels per day (mb/d) above the levels in April 2011. Opec crude oil supply in April rose by 4,10,000 barrels a day to 31.85 million barrels, with Iraq, Nigeria and Libya accounting for about 85 per cent of the rise. “Higher Opec production has, in part, offset constrained non–Opec supplies, stemming largely from unplanned outages, now forecast to average a steep 1.3 mb/d in 2012,” the International Energy Agency (IEA) had stated in its latest report.
Prominent among those supplying more crude oil is Saudi Arabia. The world's biggest oil producer has ramped up output to meet increased customer demand in response to the potential disruption in Iranian crude flow in the coming months. “It has more-than-made-up for the less Iranian crude available, by supplying a million barrels a day extra this year. Moreover, Libya was not producing oil last year, but is doing so now,” said Amrita Sen, oil analyst, Barclays Capital.
The kingdom was currently producing crude oil at a rate exceeding 10 million barrels a day, Saudi Aramco chief executive Khalid Al-Falih recently said in an interview with Dow Jones Newswires. Opec’s ‘effective’ spare capacity fell to an estimated 2.38 mb/d in April from 2.54 mb/d in March. According to the IEA, Opec is producing nearly two mb/d more than its collective target of 30 mb/d agreed at its meeting in December.
|KEEPING MARKET WELL-SUPPLIED
Lower Iranian supply has been more than made up by other Opec members
|World oil production (mn barrels/day)|
|2010||2011||Feb 12||Mar 12||Apr 12|
|* Condensates, natural gas liquids and oil from non-conventional sources
Source: International Energy Agency
Sen says there are two factors that could raise crude oil prices after the sanctions on Iran. Though production by Saudi Arabia has risen, it is at the cost of spare capacity kept as reserve to be brought into production within a month of a notice, often to manipulate prices. This has left it with less room to manoeuvre. She adds if there are more supply glitches from countries such as Libya or Iraq, the probability of a rise is very high.
While some of Iran's primary buyers — Japan, South Korea and India — are gradually reducing Iranian crude oil imports, countries such as Turkey and South Africa appear to have ramped up imports ahead of the July 1 deadline.
If the Iranian embargo does happen and is prolonged, an oil crisis is feared. In the 70s, too, when the first oil shock hit the global economy, it was supply constraints that led to many countries seeing crises. This time, however, that fear is hand-in-hand with those of an economic slowdown. During the economic crisis in 2008, oil had played a slippery game — it touched $147 a barrel in July 2008, but soon fell below $40.
The gloomy economic scenario is currently keeping oil prices under control. Even after July 1, how high oil prices rise would depend on how low global economic indicators fall.
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