What Does Opec-Plus 2.0 Look Like?

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  • Opec-plus will emerge from its current agreement in a few months as a very different organization.
  • In a murky future, one thing is almost certain: The producer group will work to retain its market clout and unity, with Russia's participation seen as key.
  • On a practical level, the quota system needs attention, with some members massively overcomplying due to lack of capacity.

The Issue

Opec-plus will have an inbuilt bias toward doing as little as is necessary when its current agreement expires in September, particularly if prices and demand remain buoyant. But whatever the price, some change is unavoidable. Capacity inadequacies of many members are becoming increasingly glaring, with underproduction hitting some 2.7 million barrels per day last month. The current quota system is simply not fit for purpose. Longer-term challenges loom in the form of demand destruction concerns and turbulent energy transition politics — alongside fallout from the Ukraine war.

New Realities

Quota restructuring will require deft handling, especially around Russia, given Moscow's own forecast of a 17% production slide this year. Nigeria, Angola, Malaysia, Azerbaijan, Congo (Brazzaville) and Equatorial Guinea have been underproducing for months and are clearly structurally incapable of responding to the staggered monthly increases called for in the current market management regime. By the time September arrives, Kuwait and Iraq might also have joined the "overcompliant" producer club. Even discounting group capacity weakness, Russian output falls alone would arguably require a quota target revamp.

Asked whether there will be a new Opec-plus production deal after September, United Arab Emirates Energy Minister Suhail al-Mazrouei told Energy Intelligence the group would "wait and see" and look at the market. "There are challenges of course. Many of the countries that used to be able to produce the baseline, they can't do it anymore — that's a discussion" the group will have, he said. What's most important is unity, al-Mazrouei said on the sidelines of a Dubai industry event, while citing a number of "moving parts," like Iran's contribution depending on whether a nuclear deal is reached and Russia, seemingly referring to a possible embargo.

This lower Opec-plus capacity suggests the group will have limited ability to respond to any further outage or major price upswing. The wider capacity slippage will further reinforce the dominance of those few producers with the ability to increase output — namely Saudi Arabia and the UAE. Equally, the fact that so few members can increase output makes it less likely they will cheat on their quotas or seek to leave the organization.

Price — and inventory levels — will be a key driver of market management. Should prices fall sharply and strong action be required, the individual targets, laser-like focus on compliance and regular meetings that characterized Opec-plus’ Covid-19 response will likely return. But if the current price range holds, or even if it drifts downward somewhat, say to the $80-$95 per barrel range, it is easy to see Opec-plus taking a more relaxed attitude to management, perhaps even bringing back an overall output ceiling to target — as Opec had in place from 2009 to early 2017.

Investment, Price Conundrum

Falling global capacity is also a clarion call for more oil investment, whether it be within Opec-plus or outside it. For some time, producers have been blaming the energy transition for the investment gap. Speaking at the World Economic Forum in Davos this week, Saudi Aramco CEO Amin Nasser told Reuters “a more constructive dialogue” between producers and consumers was needed. Producer arguments were ignored at last year’s climate conference in Glasgow, he argued. Consumers “say we don't need you by 2030, so why would you go and build a project that takes six-seven years? Your shareholder will not allow you to do it," Nasser said.

The fear of stranded assets implies higher prices will be needed to incentivize investment, especially in the downstream. But the energy transition has also fundamentally disrupted the relationship between producers, prices and consumers. In the past, concern over demand destruction would mollify producers’ natural instincts to seek higher prices. Today, to a certain extent, producers feel politicized transition policies are more likely to drive demand, with fundamentals playing a secondary role in price formation. In other words, if demand is only loosely connected to price, producers might as well enjoy high prices while they can. The danger here is that high prices and especially heightened consumer concerns over security of supply will only accelerate energy transition moves, as can be seen by the EU's ambitious REPowerEU program.

A More Cohesive Core

Capacity shrinkage and the Ukraine situation are major challenges. But in many ways these concerns are offset by the enhanced cohesion Opec-plus now wields, not least as a result of overcoming the Covid-19 demand crisis. Eighteen months ago, there were serious doubts — since faded — over the UAE’s commitment to its Opec membership, with Abu Dhabi seen as wishing to fast-track monetization of its oil as a result of stranded assets concerns.

UAE energy transition concerns may not have entirely gone away, but they are ceding ground to other strategic priorities, such as a desire to strengthen the relationship with Riyadh at a time when the traditional US security guarantee to the region’s oil producers seems shaky. Likewise, Abu Dhabi’s new alliance with Israel has perhaps not delivered as much as originally anticipated. Recent close UAE-Saudi coordination in Yemen underlines how effective their partnership can be in de-escalating tensions. Meanwhile, Kuwait’s commitment to the producer group will have been buttressed by recent joint Kuwait-Saudi partnering in the Neutral Zone.

Most critically, Russia might be grateful for the group’s supply inertia of the past few months, with Opec-plus being one of the very few international organizations in which it still has a powerful voice. If Moscow was previously unconvinced of the value of Opec-plus membership, the strong producer-engineered post-Covid-19 price recovery will likely have impressed. Moscow will be aware that Opec-plus has taken some risks since the Ukraine war with its refusal to heed consumer calls for more oil. This month, for example, saw a renewed effort in the US Congress to enact anti-producer "Nopec" legislation.

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