OPEC+ has changed its course: the decision not to extend voluntary production limits beyond September 2024 means that Saudi Arabia and Russia have finally abandoned their intentions to maintain prices at extremely high levels.
The markets reacted to this decision with a temporary decline in oil prices, and the Russian government revised its forecast for oil and gas revenues downwards. However, we should not expect a more serious decline in quotations until the third quarter, when additional volumes will enter the market.
The cartel's strategy change is related to the increase in production by non-OPEC+ countries. Currently, there is a surplus in the market. And although forecasts for future oil demand growth by OPEC+ and the International Energy Agency differ twofold, there is no forecast for an oil deficit in any scenario.
However, the Russian government has started to prepare for a possible price drop. Next year, tax innovations should bring the budget 2.6 trillion rubles. Thus, Russian taxpayers will compensate the government for the reduction in oil revenues by about a quarter of today's level.
This also means that the government will likely be able to finance current spending levels even at a price of $45-50 per barrel. This does not mean, however, that the economy will feel good at this level of revenue and tax burden.
On 2 June, OPEC+ unexpectedly announced a gradual phase-out of additional restrictions on oil production. In addition to the usual quotas of member countries, this year Saudi Arabia, Russia, Iraq, UAE, Kuwait, Kazakhstan, Algeria and Oman limited production by 2.2 million barrels per day. Saudi Arabia (approximately 1 million barrels per day) and Russia (500,000 barrels per day) accounted for most of the reduction. However, from October onwards, this will not be extended, and this volume will start returning to the market. By the end of the year, OPEC+ plans to increase production by 0.75 million barrels per day. The remaining volume (1.45 million barrels per day) will enter the markets in 2025.
The quotas that were in place before the introduction of these restrictions have been extended to 2025. They envisaged a reduction of about 3.7 million barrels per day. However, the UAE is allowed to increase production by 10%, or 0.3 million barrels per day. As a result, by the end of the year, OPEC+ will produce 1 million barrels more than it is now, and by the end of the next year, 2.5 million more.
The gradual abandonment of additional restrictions means that OPEC+ leaders, Saudi Arabia and Russia, recognise the futility of attempts to return world prices to the levels of 2022, when a barrel of Brent averaged over $100, says Bloomberg columnist Javier Blas. According to the IMF's April estimate, for Saudi Arabia's budget to be deficit-free in 2024, the average barrel price should be just under $100. As we previously reported, the efforts of Saudi Arabia and Russia have been unsuccessful due to increased production in non-cartel countries, primarily in the US (the world's number one producer), as well as in Canada, Brazil, and Guyana. (→ Re Russia: OPEC minus).
OPEC+'s decision triggered a momentary drop in global prices, although the new oil volumes will only start entering the market in the autumn. In less than a week, the price of Brent crude fell from $84 to $77. The ‘objective’ reason for this decline was the news from the US, where economic growth is slowing down and oil reserves are growing faster than expected. However, the reason is broader: the oil market is currently in surplus, according to Bloomberg. Traders are still expecting demand to rise in the summer. However, Saudi Arabia and Russia's abandonment of the fight for expensive oil indicates that the balance is shifting in favour of consumers.
OPEC+ is very optimistic about the prospects of the global economy and, consequently, the growth in oil demand: according to its forecasts, in 2024, it will increase by 2.25 million barrels per day, and in 2025, by 1.85 million barrels per day. If these forecasts were realised, the market would remain balanced even after the restrictions were lifted. However, demand growth may be much more modest. For example, in the latest report from the International Energy Agency (IEA), the forecast for demand growth in 2024 has been reduced to 1.1 million barrels per day. The forecast for 2025 is 1.2 million barrels per day. According to the forecast of the US Energy Information Administration (EIA), demand will increase by only 1 million barrels per day in 2024 and by 1.2 million barrels per day in 2025, as in the IEA forecast.
The demand growth expected by the IEA and EIA can be fully met by the US and other non-OPEC+ countries. According to the EIA forecast, they will increase production by approximately 1.8 million barrels per day in 2024. US production growth could continue at even lower prices. As we have previously written, the development of new shale fields in West Texas and New Mexico is profitable at $60-70 per barrel of Brent (→ Re:Russia: Oil Puzzle). Production at already operating fields will continue at $30-40 per barrel. Guyana, where a consortium headed by US ExxonMobil is developing fields, will more than double its production to 1.3 million barrels per day in the next three years, according to the EIA forecast.
However, until autumn, when OPEC+ will start increasing supply, there is no reason for prices to continue to decline – rather, they will remain near $80 per barrel of Brent, according to Javier Blas from Bloomberg. Oil supply will increase slowly. In addition, by announcing the abandonment of production cuts, the cartel has a clear reservation: if the market’s conditions are not in its favour, the decision may be reconsidered.
Meanwhile, the Russian Ministry of Finance has already revised its forecast for oil and gas revenues of the budget in 2024 downwards by 519 billion rubles. As a result, according to its estimates, they will amount to slightly less than 11 trillion rubles (which is still 25% more than in 2023). The budget law assumed an average price of $71.3 per barrel of Russian oil for the year — now the Ministry of Finance is targeting $65. At the same time, the parameters of production and exports have not been changed, although in the second quarter Russia had to reduce production in accordance with its OPEC+ commitments, which it assumed after the budget was approved. This suggests that the updated forecast for oil and gas revenues remains somewhat overstated, according to the MMI Telegram channel.
However, the Russian government seems to be seriously preparing for a scenario of price decline in 2025. This is evidenced by the emergency ‘fine-tuning’ of the tax system. The increase in corporate profit tax from 20% to 25%, changes in the tax regime for small and medium-sized businesses, as well as the introduction of a progressive tax scale on citizens’ incomes, according to government expectations, should generate 2.6 trillion rubles in 2025.
According to Bloomberg's calculations, oil and gas revenues amounted to approximately 4.2 trillion rubles in the first quarter, of which 3.5 trillion came from oil. Almost the same result – 4 trillion – was recorded in the fourth quarter of 2023. Over the past six months, when the exchange rate stabilised at around 90 rubles per dollar, budget revenues from oil totalled 4.7 trillion rubles. This means that, at this exchange rate, additional revenues from ‘fine-tuning’ will make it possible to compensate for at least a 25% drop in budget revenues from oil exports. Moreover, the price of oil may decline significantly, as supply volumes are expected to increase slightly after the voluntary production cuts are lifted. In essence, this means that the budget is likely to sustain the current level of expenditures even with oil priced at $45-50 per barrel. However, this does not imply that the economy will fare well at this level of revenues and tax burden.