The heat is on

Ensuring that oil prices remain stable has always been one of OPEC’s top priorities. But as oil prices reach an all-time high – topping US$100 for the first time in history – 2008 begins with a degree of uncertainty over the future. Here, HE Abdalla Salem El-Badri speaks about high prices, increasing demand and the long-term outlook for the industry.

OPEC countries have weathered many turbulent times: two serious oil pricing crises in the 1970s as a result of the Arab oil embargo in 1973 and the outbreak of the Iranian Revolution in 1979, a further pricing decline in the 1980s and again in the 1990s following the economic downturn in Southeast Asia in 1998. Harmonising and establishing stability in the marketplace has been a key priority of OPEC ever since it was founded in 1960 – an initial collaboration between Iran, Iraq, Kuwait, Saudi Arabia and Venezuela to assert their position in a marketplace dominated at the time by the ‘Seven Sisters’ multinational companies. First and foremost, its aims are to secure prices so they remain fair for petroleum producers; and to maintain a regular, economic and efficient supply of petroleum to consuming nations and a fair return on capital to those investing in the industry.

Over the years, the total number of oil-producing member countries has reached 12, with the association now firmly established as a powerful voice in the industry. With OPEC members’s proven reserves representing 77 percent of the world’s total of 1200 billion barrels, its influence in the market is set to solidify as some of the world’s strongest economies – particularly the US and Europe – increasingly look to OPEC members for their energy needs.

A high price to pay
Energy prices remained a contentious subject yet again in 2007. As the price of oil jumped again, pressure has been mounting on OPEC – particularly from the US – to increase production further. Throughout the turbulence, OPEC Secretary-General Abdalla Salem El-Badri has reiterated that keeping prices stable is a priority and that OPEC countries will work together to achieve this. In fact, the high prices have been a key discussion focus over the last few months and have created volatility in the global energy industry. Prices have quadrupled in four years, rising by an incredible 57 percent last year.

Speaking exclusively to O&G MENA, El-Badri highlights how there has been a recent disconnect between high oil prices and market fundamentals. “The high oil prices that we have seen have not been because of a shortage of oil, but because of a combination of factors such as market speculation, the weakening of the US dollar, geopolitical tensions and constraints in the US refining system,” he says. “Of major concern to me is that the higher oil prices that we have witnessed since last September are mainly because financial speculators – such as hedge funds and investment banks – have become increasingly involved in the oil markets. This has created heightened volatility and high oil prices, which are not reflective of the real physical market.”

Crude oil production from member states currently stands at 85 million barrels per day or 40 percent of global crude production. To put things in perspective, total oil revenues for OPEC countries was expected to be around US$658 billion in 2007, while projections for 2008 put the figure at US$750 billion. Despite the high prices, El-Badri dismissed suggestions that OPEC were enjoying an unexpected boom. “If you look at the low dollar, the high cost of producing oil, the high cost of investing, it’s really not a bonanza for us,” he said. “I don’t want to say it’s a golden age, but it is a fair time.”

Like so many others in the industry, El-Badri is concerned about current conditions. “Oil is now a financial asset, the same as other commodities,” he says. “Large amounts of money are flowing into the commodities markets to balance portfolio risks and to seek higher returns. Let us remember: the market faced a dramatic supply interruption in 2005, with the US losing most of its production and refining capacity in the Gulf of Mexico due to hurricanes. Even then, the market did not witness such sharp price fluctuations as today.”

Demanding times
Such have been the worries over prices that George W. Bush recently intervened and pressured OPEC to expand crude output to help cut the cost of energy. The US increasingly looks to OPEC for its oil needs, having neglected to increase its own refining capacity over the past 30 years. The economic powerhouse now finds itself in the tricky position of consuming 21 million barrels a day but only being able to refine 17 million. During a meeting with King Abdullah of Saudi Arabia, as part of his recent tour of the Middle East, President Bush raised the issue and expressed concerned how the price of gas had been “hitting American families where it hurts”. As the US slips ever-increasingly towards recession, the cost of energy remains a major concern, although El-Badri suggests fears that oil prices will worsen economic conditions are unfounded and insists the mortgage crisis and other financial market problems will play a much bigger part in any forthcoming downturn. Although keen to stress that there is currently no need, OPEC has maintained that its members are prepared to increase production if they saw evidence that supply and demand were out of balance. “Let me be clear: the high prices we are witnessing are not because of any shortage of crude oil in the market,” says al Badri.

Although OPEC have made it clear that simply upping output will not resolve the volatility in the market, pressure to increase production is mounting. El-Badri believes there are a number of issues to be addressed first, however, including the challenge of obtaining more comprehensive data on the global energy sector (in particular on oil demand). There is a need, he says, for a correct assessment of demand in order to gauge how quickly it is growing. This is essential given the large investments member countries are making in order to expand their production and refining capacity. “In the same way that consumers need to see security of supply, we need to see security of demand,” he argues. “Investing in what could be idle capacity would not be a positive step for our members, who could instead invest in much needed social programmes such as healthcare and housing. At OPEC’s Secretariat we are taking the issue of demand data very seriously. OPEC already plays an important role in strengthening global producer-consumer cooperation and dialogues. The Secretariat held talks with the EU on a range of topics last summer, including demand. I also visited China in 2007, where I met energy officials. I intend to continue such dialogues and plan to travel to Japan later this year.”

As the trend for energy security continues, attention has turned to the development of gas resources and downstream sectors such as refining and petrochemicals. As bottlenecks in refining have been one of the challenges plaguing the industry, many member countries have been investing in the downstream to help alleviate the problem. As an example, OPEC countries have invested up to 2012 in new projects at a cost of US$150 billion, which will provide additional capacity of six million barrels in four years. “Demand for energy is set to continue to grow and oil is expected to maintain its leading position in meeting the world’s energy needs for the foreseeable future,” says El-Badri. “The expected increase in demand for oil products translates into a rising volume of crude that needs refining. Therefore, it is essential to focus attention upon the downstream sector as this is a key element of the supply change and market stability.”

Energy efficiency has also been an important subject for OPEC member countries. OPEC welcomes any efforts being made to tackle climate change and is supportive of its members having diversity in their energy mix, although El-Badri has some reservations, and calls for caution when it comes to certain alternatives – particularly biofuels. “OPEC welcomes any efforts being made to tackle climate change and protect the environment,” he says. “OPEC has no objection to the development of any forms of alternative energy, although we are concerned that too much investment may be placed on, for example, the development of biofuels, which may not come to fruition. The production of biofuels comes at the expense of land and water. OPEC is playing its part in helping to achieve better energy efficiency. Our member countries are significantly reducing flaring, while Saudi Arabia, Kuwait, Qatar and the UAE have also pledged US$750 million into a fund to research environmental problems. I believe other OPEC members will also follow this example.”

Outlook
Demand for oil is set to keep rising well into the future, with OPEC’s oil outlook reference estimating that the figure could reach 40 percent by 2030. Member countries are expecting to increase their capacity to cope with demand and ensure markets are adequately supplied at all times. By 2012, capacity is expected to increase by over five million bpd, while ensuring a “comfortable cushion of spare capacity” is also an OPEC priority.

Developing countries such as China and India will be driving much of the new demand, with the transportation sector putting the biggest strain on resources. El-Badri is confident that future demand will be met through the use of crude and other sources, whether this be through non-conventional oil, biofuels, natural gas liquids and others. He predicts that OPEC’s share in global oil supply will not be very different from today, even in 2030 – yet member countries will be more than capable of ensuring the market is supplied. The only obstacle, he foresees, will be a continuation of the current uncertainty. “At present, we are witnessing many uncertainties surrounding the global economy. However, I do not believe, despite the current weakening in the global economy, that it will actually crash. Nor will this softening have a major impact on oil demand growth in the months ahead. OPEC does not forecast oil prices. But I do expect oil prices to remain volatile in the coming

EIA outlook

• Both motor gasoline and diesel prices are projected to average over US$3 per gallon in 2008 and 2009, with monthly average gasoline prices peaking near US$3.50 per gallon this spring.
• World oil consumption is expected to rise by 1.6 million bpd in both 2008 and 2009 compared with the estimated one million bpd increase recorded last year.
• Non-OPEC production is expected to rise by about 900,000bpd in 2008 and by 1.6 million bpd in 2009.
• EIA projects that OPEC crude oil production will average about 32.6 million bpd in 2008 and 31.8 million bpd in 2009 compared with the 31.7 million bpd seen during the fourth quarter of 2007.

OPEC at a glance
The Organization of the Petroleum Exporting Countries (OPEC) is a permanent, intergovernmental Organization, created at the Baghdad Conference on September 10–14, 1960, by Iran, Iraq, Kuwait, Saudi Arabia and Venezuela. The five Founding Members were later joined by nine other Members: Qatar (1961); Indonesia (1962); Socialist Peoples Libyan Arab Jamahiriya (1962); United Arab Emirates (1967); Algeria (1969); Nigeria (1971); Angola (2007) and Gabon (1975–1994). Ecuador joined in 1973, but suspended its membership from 1992-2007.