Gluttons for punishment

Saudi supply games expose OPEC impotence

The oil price is in free fall, down 27 per cent since June and 13 per cent so far in October. Saudi Arabia, the world's traditional swing producer, has done nothing to defend the $100 a barrel floor price for Brent crude, which had not been breached since July 2012. Why?

The indifference seems to be intentional. The kingdom increased production last month despite concerns that rapid growth in US shale oil production, recovering output in Libya and Iraq and a slowing pace of demand growth may tip the market into surplus. Reuters reported on Monday that Saudi sources were comfortable with the price trends - although Prince Alwaleed bin Talal, the billionaire Saudi businessman, has expressed reservations on Twitter.

The laissez-faire policy is not only at odds with the country's historical practice. It also looks politically unsustainable. The current $84 a barrel price is below the $89 a barrel, which the International Monetary Fund estimates the Saudi government needs to fund spending at the high level promised in the wake of the Arab Spring in 2011. The Saudis have big foreign currency reserves and can borrow if necessary, but the change of tack is still puzzling.

One theory is that the Saudis want to discourage investment in non-OPEC supply, to support higher prices in the long run. But while Western oil majors may struggle to justify new investments in deep water or Arctic wells at current prices, the most rapid growth in production is coming from American shale oil. To discourage investment there, the oil price would have to fall below $80 a barrel and stay there.

A simpler explanation is that the Saudis are trying to browbeat other OPEC members into acting like members of a cartel. In recent years, the kingdom has been forced to act largely alone to steady the market. Letting prices fall should turn up the pressure on slackers such as Venezuela and Iran, which need far higher crude prices than Saudi Arabia to pay their bills, ahead of OPEC's next meeting in November.

Whatever the explanation, the Saudi brinkmanship is hardly a sign of strength. It suggests a once-mighty cartel is being driven by markets, rather than the other way around.