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Frederick F. Ntido:
Recently, the press has been awash with unconfirmed reports of Nigeria’s planned withdrawal from the Organization of Petroleum Exporting Countries (OPEC). Part of the reasons advanced was the alleged overture of the American Government to its Nigerian counterpart to withdraw from the OPEC Cartel in order for Nigeria to become its main supplier of crude oil. The obvious implication of this is that Nigeria would invariably have to increase its daily production of oil, which is presently severely restricted by OPEC’S quota rate. Nigeria presently supplies 900,000 barrels of crude oil per day to the United States from its 1.787 million bpd allowed by OPEC. It is believed that the American market will require not less than 1.8 million bpd of Nigerian oil.
Whilst the Nigerian Government, through the Presidential Adviser on Energy and Petroleum Resources Dr. Rilwanu Lukman, has denied the alleged withdrawal plans; it has nevertheless been confirmed that Nigeria would certainly canvass for an increase in its production quota at the next OPEC meeting scheduled for September. According to Dr. Rilwanu Lukman it would seem Nigeria is well positioned to make this demand considering OPEC criteria in calculating what production quota is allocated to each member country. These criteria include capacity, reserve base, and historical disposition.
So much seems to be happening in the oil and gas sector of the economy that there is the urgent need to consider certain factors and forces at play in the international oil market. This is necessary because events in the global market impact either positively or negatively on our local industry. It must be stated that although Nigeria is a major producer of crude oil, it is not a major player in the global oil market. Three countries are- Saudi Arabia, United States of America and Iraq (which translates to an OPEC/ US axis). And these countries are presently embroiled in political face-offs, which is being dramatized in the global oil market. It is thus against the background of these external forces that the recent alleged withdrawal plans from OPEC and proposed request for increase in Nigeria’s production quota must be considered.
The Organization of Petroleum Exporting Countries
Dr. Rilwanu Lukman while categorically refuting Nigeria’s alleged plan to leave OPEC stated that “ the purpose of the organization remains, among other things, the protection of the vital interest of its members by ensuring the stability of the oil market and maintaining fair and equitable oil prices, which are critical to the survival of the economies of our members as well as other oil producing and exporting countries”. The question, however, is how effectively and consistently has the organization been able to protect the interest of its members and ensure the stability of the oil market while maintaining fair and equitable oil prices? Or does the cartel exist basically to protect the regional interest of some member nations?
The Organization of Petroleum Exporting Countries is basically a child of circumstance. Prior to its formation, the pricing of oil in world trade was not determined by the competitive forces of supply and demand, but was actually administered, controlled and determined by the international oil companies, mainly by the so-called seven sisters: Standard Oil of New Jersey (Exxon), Standard Oil of California (Social), Standard Oil of New York (Mobil), Gulf Oil, Texaco, Anglo- Persian Oil (British Petroleum) and Royal Dutch Shell. By keeping the price of oil low, they paid less royalties, as they were usually a percentage of the posted price. Furthermore, they marketed their cheap oil to their parent companies, to their own refineries and to their own down stream operation, thus widening the gap between the cost of the main input, namely crude oil and the revenues from the sale of the final products.
As a result of this administered oil pricing there was a disparity of prices particularly between oil originating from the Gulf of Mexico and that originating from the Middle East. From 1948 o 1973, the gap between these two sets of prices was widening overtime. A further decline in the price of oil in 1959 triggered the anguish of oil exporting countries. Therefore based on meetings of Iraq, Kuwait, Saudi Arabia and Venezuela, the Organization of Petroleum Exporting Countries (OPEC) was formed in September 1960. The intention was to form a unified front as a means of collective bargaining with an extremely powerful group of buyers which had dictated an oil policy, in pricing as well as in production, along its own terms.
Performance of OPEC since inception
The Organization of Petroleum Exporting Countries has to an extent been able to exert its influence on the global oil market. For one, the Monopolistic control of the market by the US government and the multinational oil companies has been greatly diminished. For the records, throughout the post world war period exporting countries found increasing demand for their crude oil and a 40% decline in the purchasing power of a barrel of crude. However, in March 1971, the balance of power shifted. That month the Texas Railroad Commission set proration at 100 per cent for the first time. This meant that Texas Producers were no longer limited to the amount of oil that they could produce. More importantly it meant that the power to control the crude oil prices shifted from the United States (Texas, Oklahoma and Louisiana) to OPEC.
The question, however, is how has OPEC faired since gaining the power to control crude oil prices? The answer to this question is important in order for us to determine whether the withdrawal of Nigeria from the cartel or the total disintegration of the organization would result in oil prices crashing to “below 10% a barrel”.
OPEC has seldom been effective as a cartel. During the 1970s there were two oil pricing crises, triggered by the Arab oil embargo in 1973 and the outbreak of the Iranian Revolution five years later. As a result of fundamental imbalances in the market; both resulted in oil prices rising steeply. During this period of rapidly increasing prices, Saudi Arabia’s oil minister repeatedly warned other members of OPEC that high prices would lead to a reduction in demand. His warnings fell on deaf ears. The rapid price increases caused several reactions among consumers: better insulation in many new homes, increased insulation in many older homes, more energy efficiency in industrial processes, and automobiles with higher mileage. These factors along with a global recession caused a reduction in demand, which led to falling crude prices.
Unfortunately for OPEC only the global recession was temporary. Nobody rushed to remove insulation from their homes or to replace energy efficient plants and equipment-much of the reaction to the oil price increase of the end of the decade was permanent and would not respond to lower prices with increased demand for oil.
1982 to 1998.
From 1982 to 1985 OPEC attempted to set production quotas low enough to stabilize prices. These attempts met with repeated failures, as various members of OPEC would produce beyond their quotas. During most of this period Saudi Arabia acted as the swing producer cutting its production to stem the free falling prices. In August of 1985, the Saudis tired of this roll. They linked their oil prices to the spot market and by early 1986 increased production from 2million barrels per day to 5 million barrels per day. Crude oil prices plummeted below $10 per barrel by midyear. It is instructive to note that this happened at a time OPEC was in control of the prices of crude oil. It had not been pressured to disintegrate from external influences but was tragically self imploding due to its members’ actions.
At December 1986 OPEC price accord set to target $18 per barrel was already breaking down by January of 1987. Prices remained weak. The price of crude oil spiked in 1990 with the uncertainty associated with the Iraqi invasion of Kuwait and the ensuing Gulf War, but following the war crude oil prices entered a steady decline until 1994 inflation adjusted prices attained their lowest since 1993. The price cycle then turned up. With a strong economy in the United States and a booming economy in Asia increased demand led to a steady price recovery well into 1997. This came to a rapid end when OPEC underestimated the impact of the financial crisis in Asia. In December, OPEC increased its quota 10 per cent to 27.5million bpd but the rapid growth of the Asian economies had come to a halt. From 1997 to 1998 the price of crude oil declined further, thus drastically reducing OPEC’s share of the world crude oil market.
1999 to 2002
The period beginning March 1999 marked a positive move on the part of OPEC to rapidly cut on the quotas of its members to ensure the stability of crude oil prices. This bore initial results as the members complied with their quota restrictions. By September 10, 2000 OPEC reached an agreement to increase production by 800,000 barrels per day. There is nevertheless at the present the ongoing struggle between the United States and OPEC as to who controls the world crude market.
The Future of OPEC
If Nigeria’s continued membership of OPEC is premised on ensuring stability in the prices of crude oil, which invariably would translate to more revenue for the government then this position is worth reviewing. The signs presently are not too promising with regards to the future of the Organization. There is an ongoing plot on the part of oil consuming nations to bust the OPEC trust. The oil cartel is famous (or infamous as some insist) for its huge influence on oil prices, and therefore on the world economy. This is no doubt because OPEC countries produce about 40 percent of the world’s oil.
However, right now there is a rough parallel in the production activity of OPEC and non-OPEC producers, who often take their cue from the oil cartel. But if a behind- the –scenes effort among several Western nations is successful, OPEC’s dominance of oil prices could change over the next few years. The initiative is centered on buying more oil-through commitments now to oil futures-from non-OPEC nations. Sixty percent of the world’s oil comes from these independent seller nations, including seven of the top 10 in oil production.
Furthermore, if the United States and other major oil consuming nations can start buying less from OPEC, the oil trust would experience a glut of oil on the world market at some point down the road. The thinking apparently is that this might force OPEC to offer membership to more oil producing countries. This might open up a way to reconstitute the structure of OPEC- and allow big Western oil consumer nations to hamper the market power of the cartel by having a bigger say in how things are done.
We need to ask ourselves what our position in OPEC would be should the above-described scenario become a reality. Maybe the Nigerian Government is resolved to either sink or sail with the cartel. But it must be constantly borne in mind that the issues of quota allocation, market stability and pricing of oil is not as simple and straightforward as is often presented. This will become obvious as we consider these issues in the light of Nigeria’s proposed request for an increase in its production.
Nigeria's Production Quota
If the thinking in Government circle were that the likelihood of the success of its proposed request for a raise in production quota would hinge on the criteria of capacity, reserve base and historical disposition (as Dr. Rilwanu Lukman recently suggested), then Nigeria might be in for a big surprise come September. The fact is OPEC seldom employs these criteria anymore, which overtime has been falsified by members in order to get a production raise. Many countries increase their production capacity, either by themselves or through international companies, with the expectation of an increase in global demand. If this doesn’t come, they have to rethink again. It will be dealt with at that point.
Interestingly, Nigeria’s current production capacity is put at 2.6million barrels per day and this is expected to grow to about 3.3 million barrels per day in 2004. Logically, Nigeria’s current capacity and its proven reserve of 32 billion barrels should result in an increment from the present quota of 1.787million bpd. Though logical, it is both not feasible and practicable. Reason. Nigeria is not the only OPEC member with increased reserve base or improved production capacity. Saudi Arabia has production capacity of over 10million barrels per day, although it’s present quota is just over 7.5million barrels per day. Algeria has recently known increased foreign investment in its oil sector, which has seen it busting its quota and angling for an increase in its production allocation. Majority of the Gulf States OPEC members have production capacity above their quota rates.
OPEC’s Conditions for Production Increase
There are three factors that OPEC usually considers before consenting to an increase in production and by implication quota allocation. These are:
- The OPEC basket price (OPEC collects pricing data on a “basket” of seven crude oils, including Algeria’s Saharan Blend, Indonesia’s Minas, Nigeria’s Bonny Light, Saudi Arabia’s Arab Light, Dubai’ Fateh, Venezuela’s Tia Juana Light and Mexico’s Isthmus) which has been placed since March 11 at between $22- $28.
- The world supply-demand outlook; and
- Whether or not oil inventory levels are high.
The first condition is already close to being satisfied. The OPEC basket price has been above $22 per barrel since March 8, the lower end of OPEC’s target range (or price band) for the OPEC basket price. OPEC basket prices averaged almost $24 per barrel in June 2002, reached $25 per barrel during the first week of July and has recently just hit the $30 per barrel mark based on fears over a possible disruption of supply if America attacks Iraq.
The timing for meeting the other two conditions is a little less certain. The continued slump in global oil demand and a warm winter led to a counter seasonal rise in OECD (Organization for Economic Co-operation and Development) inventories during the early part of the year.
However, the EIA (Energy Information Administration) still projects a demand recovery. Although, the U.S. demand projections have been revised slightly downward for the fourth quarter, the U.S is still expected to be engine of growth for the remainder of 2002, accounting for over half if the increase in world oil demand growth during the second half of the year.
There is presently talk of OPEC adopting a much simpler criterion in determining whether to increase quotas. This would be based solely on fourth quarter oil demand growth. How this would favour Nigeria is still difficult to determine yet and might even pose the greatest obstacle to quota increase. This is because despite the present $30 per barrel price fourth quarter world oil demand is projected to be only 1.2million barrels per day. This is far below the assumed figure of between 1.5 – 2.0 million barrels per day.
Conclusion
Nigeria would have to consider seriously whether it wants to hinge its economic well-being on market forces that is well beyond its control. The Organization of Petroleum Exporting Countries has no doubt contributed immensely to Nigeria’s economy. The problem, however, is that an oil based economy is bound to be anemic. Even Saudi Arabia, the world’s largest producer of crude oil with current proven reserves of about 250 billion barrels only enjoyed a budget surplus this year after a long period of deficit spending. We should be more concerned about diversifying our revenue base and not be solely taken up with an uncertain increase in our production quota or continued membership of OPEC as if the future of our country depended on these only. |
