The OPEC deal is a sign of ‘tough economic circumstances’

Daily News Article — Posted on December 2, 2016

(by Elena Holodny, Business Insider) — OPEC (Organization of the Petroleum Exporting Countries) finally agreed to curtail output during its meeting in Vienna on Wednesday.

This marks the cartel’s first cut since 2008 and reverses its two-year strategy of pumping as much oil as desired.

OPEC agreed to collectively cap output at 32.5 million barrels per day, a decrease of 1.2 million bpd. The Saudis will bear the brunt of the cut, reducing output by 500,000 barrels per day, to about 10.1 million bpd.

Additionally, non-OPEC members, including Russia, are slated to tag along. This would bring the collective OPEC and non-OPEC cut to 1.8 million bpd, or about 2% of current global output.

The decision reflects producers’ desires to end the global oil supply glut, which has kept prices depressed for over two years.

The cartel originally reached an “agreement” to limit its production back in September at informal talks in Algeria, with the intention of officially putting the plan into action come November. But most analysts were beginning to doubt whether OPEC would actually pull the trigger, arguing that geopolitical tensions and strategic market interests would prevent the group from cooperating.

However, beneath the regional rivalries, major oil producers are increasingly facing growing financial stresses at home, which theoretically could translate into political stresses, making domestic concerns a possible factor in coming to an agreement.

“As with the Algiers Accord, we believe that [the] announcement reflects the tough economic circumstances faced by the sovereign producers and the desire for a measure of relief to shore up domestic support,” Helima Croft, the global head of commodity strategy at RBC Capital Markets and whose team has long argued that the cartel would come to an agreement, wrote. …..

As a final note, for what it’s worth, the late oil watcher Robert Mabro once quipped that OPEC should change its logo to a tea bag “because it only works when in hot water.”

Reprinted here for educational purposes only. May not be reproduced on other websites without permission from Business Insider. Visit the website at businessinsider .com.

The Organization of the Petroleum Exporting Countries (OPEC) was created at the Baghdad Conference in September, 1960, by Iran, Iraq, Kuwait, Saudi Arabia and Venezuela.
OPEC is now a group of thirteen countries located in the Middle East, Africa and South America.
[Note: Gabon is not identified on this map. Gabon terminated its membership in January 1995. However, it rejoined the Organization in July 2016.]

Facts about OPEC (Organization of the Petroleum Exporting Countries):

The Organization of the Petroleum Exporting Countries (OPEC) is an intergovernmental Organization which was founded in Baghdad, Iraq, with the signing of an agreement in September 1960 by five countries: Iran, Iraq, Kuwait, Saudi Arabia and Venezuela.
These countries were later joined by Qatar (1961), Indonesia (1962), Libya (1962), the United Arab Emirates (1967), Algeria (1969), Nigeria (1971), Ecuador (1973), Gabon (1975) and Angola (2007).
Ecuador suspended its membership in December 1992, but rejoined OPEC in October 2007. Indonesia suspended its membership in January 2009, reactivated it again in January 2016, but decided to suspend its membership once more at the 171st Meeting of the OPEC Conference on November 30, 2016. Gabon terminated its membership in January 1995. However, it rejoined the Organization in July 2016.
This means that, currently, the Organization has a total of 13 Member Countries.
Since 1965 it has been headquartered in Vienna. (from OPEC website)
…
OPEC’s stated mission is “to coordinate and unify the petroleum policies of its member countries and ensure the stabilization of oil markets, in order to secure an efficient, economic and regular supply of petroleum to consumers, a steady income to producers, and a fair return on capital for those investing in the petroleum industry.”
As of 2015, 14 OPEC countries accounted for an estimated 43 percent of global oil production and 73 percent of the world’s “proven” oil reserves, giving OPEC a major influence on global oil prices.
Two-thirds of OPEC’s oil production and reserves are in its six Middle Eastern countries that surround the oil-rich Persian Gulf.
According to the US Energy Information Administration, OPEC’s combined rate of oil production (including gas condensate) represented 43 percent of the world’s total in 2015,[5] and OPEC accounted for 73 percent of the world’s “proven” oil reserves, including 48 percent from just the six Middle Eastern members (from wikipedia)

Questions

NOTE: Watch the video under "Resources" below on what OPEC deal means for the U.S.

1. What is OPEC? (When was it established? List the member countries. What percent of the world’s oil do OPEC members produce? )

2. The first paragraph of a news article should answer the questions who, what, where and when. List the who, what, where and when of this news item. (NOTE: The remainder of a news article provides details on the why and/or how.)

3. What is the significance of the OPEC agreement?

4. By how many barrels per day (bpd) have OPEC (and non-OPEC members, including Russia) agreed to cap output?

5. Why was a finalized OPEC agreement doubtful?

6. What is believed to be the main reason for OPEC finalizing the agreement?

CHALLENGE: Read the “Background” below [which was originally published by Business Insider as the second half of this article]. Write a one paragraph summary that explains why Saudi Arabia has signed on to this agreement.

Background

Those domestic concerns could be especially important for Saudi Arabia, which has been pushing forward with spending cuts and reforms and has been working on curtailing its "addiction" to oil via the Vision 2030 plan. Although there have yet to be major protests from the population, the austerity measures are front-loaded, which has created a challenge for the government.

"We note that even a recovery into the mid $50s still leaves our fragile five at heightened risk for instability and supply disruptions, but will help Saudi Arabia achieve some of its key Vision 2030 priorities, avoid an increase in borrowing costs, and find notable public support," she added.

Back in September, the kingdom announced several fiscal-consolidation measures, including cutting ministers' salaries by 20% and canceling bonus payments for state employees, in an effort to reduce its record budget deficit. That was significant given both that two-thirds of working Saudis are employed by the state, meaning consumption could take a hit and the wage cuts could increase political risk. The kingdom's earlier cuts on electricity and water subsidies were not well received by the public.

"These will not be the last such moves, and we expect the government to introduce new measures over 2017, in line with Vision 2030 and the National Transformation Plan (which lay the reform path to follow to diversify the economy away from its overreliance on oil and the public sector)," argued a BMI Research team in a note to clients.

Meanwhile, the unemployment rate for Saudis rose to 12.1% in the third quarter of 2016 — the highest since 2012 — compared to the overall unemployment rate of 5.7%, which includes both Saudi nationals and foreign workers. "Employment growth in the private sector will be limited, given the economic slowdown. As a result, the rate of unemployment for Saudi Arabian nationals will continue to increase over 2017. Higher unemployment will translate into lower demand from Saudi Arabian households, further hurting the non-oil economy," the team added.

Plus, the Saudis face several other problems: The campaign in Yemen has been "prohibitively expensive." Their foreign-exchange reserves have fallen since oil prices started plummeting. Bloomberg reported back in September that the kingdom could cancel over $20 billion worth of projects, and there have been ugly economic data points.

"We believe that the Saudi Arabian economy has still not felt the entire impact of the government's fiscal consolidation reforms," the BMI team wrote.

And so, Wednesday's "decision will likely be very well received by the Saudi public, which is struggling in the face of sharp spending cuts and austerity measures," according to Croft.

"Oil in the $50s will also help the Kingdom avoid costly credit ratings downgrades as it ramps up borrowing. As long as Saudi Arabia remains firmly committed to the deal, which is slated to last for six months (or longer with a six-month extension option) we believe that the arrangement will hold." (from the Business Insider article above)