15.11.23 Review

Rising oil production outside OPEC+ is challenging Saudi Arabia and Russia’s attempts to manipulate prices

Despite a global surge in demand, the increased oil output outside the OPEC+ alliance poses a challenge to Saudi Arabia and Russia’s attempts to manipulate prices. Production cuts in Saudi Arabia and Russia, designed to boost global prices, are being partially offset by production growth in non-OPEC+ countries. The United States, Brazil, and Iran are major contributors to this surge in production, with the US enabling increased supply by relaxing sanctions enforcement. As a result, the market deficit by the end of 2023 might not be as acute as had been anticipated, according to a new report from the International Energy Agency (IEA). Price dynamics indicate that the tension in the market is subsiding. The price of a barrel of Brent in November fell below $80 for the first time in months. This was also helped by the reduced risk of a drastic escalation of the conflict in the Middle East. However, the outlook for demand in 2024 remains uncertain. The IEA predicts that its growth will slow down significantly. OPEC+, on the contrary, expects acceleration. In this scenario, Russia may fall short on export revenues, even if it along with Saudi Arabia continue to curtail production. This mechanism of control becomes less precise with the increase in supply from other producers. Moreover, it is not only market conditions that threaten Russian revenues. The US and the EU have not given up their attempts to make the price cap on Russian oil work more effectively.

The ability of Vladimir Putin's regime to sustain its war in Ukraine and maintain internal stability is directly tied to Russian oil revenues. These revenues allow the Russian government to finance additional military spending and mitigate the negative effect of sanctions.

Global oil demand is growing faster than forecasts. According to the latest reports from the IEA, it will reach 2.3 million barrels per day (bpd) by the end of the year, surpassing the more modest September forecast by 100,000 bpd. As a result, world oil consumption will reach 102 million bpd. The new OPEC+ report contains similar figures (demand growth — 2.46 million bpd; year-end estimate — 102.11 million bpd). Two-thirds of this demand growth is attributed to China, while the US is experiencing its lowest gasoline consumption in two decades.

At the same time, global oil production is also exceeding predictions. According to the IEA, it is set to increase by 1.7 million bpd in 2023, reaching 101.8 million bpd. With Saudi Arabia and Russia cutting production, the US, Brazil, and Iran play significant roles in this rise. Recent months have seen the US enabling increased Iranian supplies by easing sanctions enforcement, preventing a dramatic surge in global prices due to reduced output from Saudi Arabia and Russia. In October, the US temporarily eased similar restrictions on Venezuela. Overall, the production surge in non-OPEC+ countries will cover almost half of the increase in demand in the fourth quarter, reducing the effect of production cuts in Saudi Arabia and Russia.

As a result, the market deficit in the coming months might not be as severe as anticipated. A month ago, economists at Bloomberg warned that OPEC+ data indicated the threat of the most acute deficit in more than a decade. However, the latest IEA data suggests that the fourth-quarter deficit may only be 900,000 bpd, 30% lower than earlier agency forecasts and three times lower than Bloomberg's estimate from a month ago, based on OPEC+ data. The IEA expects the market to become surplus as early as the first quarter of 2024.

Recent price trends indicate a market easing, with the price of a barrel of Brent dropping below $80 in November for the first time in three months. Thus, the effect of production cuts by the Saudi Arabia-Russia tandem has been less pronounced than expected. Moreover, Israel’s military operation in the Gaza strip has not yet affected oil supplies from the Persian Gulf. Bloomberg notes that the futures contract quotes are no longer accounting for the risk of a radical conflict escalation, indicating a considerable reduction in the market's anticipation of a major war. Economists at the agency were previously forecasting that if conflict escalated and Iran was directly involved, a barrel of Brent could have surged to $150.

Brent Crude Futures, 2022–2023, USD

Demand forecasts for 2024 remain contradictory. While OPEC+ expects growth of 2.25 million bpd to 104.36 million bpd, the IEA forecasts a slowdown in consumption growth to 930,000 bpd. These organisations also differ in their long-term forecasts. The IEA expects oil consumption to peak by 2030 (after which it should plateau), whereas OPEC forecasts this only to occur by 2045. A year ago, IEA experts were predicting a peak in the mid-2030s, with the refinement of the forecast attributed to the war in Ukraine. Experts believe that the rise in energy resource prices in 2022 will prompt leading economies to hasten their energy transition.

When planning the budget for 2024, the Russian authorities operated on the assumption that a barrel of Brent would cost around $85, i.e. higher than current prices. An important event for the market will be the upcoming OPEC+ summit on November 26. Cartel members may negotiate new measures to support prices. Saudi Arabia and Russia previously agreed to extend production cuts until the end of the year. According to the IEA, Russia's revenues already saw a slight dip in October due to price drops, which has made them interested in prolonging production cuts. In the past, this mechanism yielded positive results: the threat of a deficit due to supply constraints from Saudi Arabia and Russia drove prices up, allowing both countries to offset reduced production volumes. However, with increased supply from other sources, this mechanism might become less effective.

However, it is not only market conditions that threaten Russian revenues. The West is still seeking a more efficient control mechanism for the price cap on Russian oil. The EU's 12th package of sanctions may contain new measures. According to the Financial Times, the EU may suggest that Denmark block tankers carrying Russian oil if they traverse its waters without Western insurance. This could be a significant blow as the Danish straits facilitate around 60% of Russia's maritime oil exports. Additionally, as per Reuters, the US Treasury has sent notices to shipping companies from 30 countries, whose tankers have allegedly been used to bypass sanctions imposed on Russia. This amounts to about a hundred vessels. Moreover, in October, the US imposed sanctions on two violators of the price cap from Turkey and the UAE.