OPEC and its Russian-led allies, the OPEC+ group of oil producers, reached a speedy consensus at a virtual meeting on June 1 to stick to their planned production strategy, agreeing to complete the cycle of production cuts by July and maintain output at the same level until the end of April 2022.

OPEC+ members that are party to the agreement will raise production by a combined 441,000 barrels per day in July while Saudi Arabia will restore the last tranche of the 1 million barrels per day it had removed voluntarily at the start of the year. The ministers chose not to tackle the tricky subject of Iran’s return to the oil market should nuclear talks in Vienna result in lifting U.S. sanctions against Tehran.

By holding fast to the agreement, OPEC+ will be withholding 5.8 mb/d for nearly a full year despite projections by OPEC and the International Energy Agency that demand will outstrip supply in the third and fourth quarters of the year. OPEC projects supply will fall short of demand by 1.8 mb/d in the fourth quarter while the IEA expects a bigger gap of 2.4 mb/d. Oil prices rose above $72 per barrel for benchmark Brent blend crude, the highest level in two years, partly in response to the OPEC+ deal and falling inventories.

In April 2020, OPEC+ agreed to slash collective output by 9.7 mb/d in response to the dramatic slump in oil demand due to the coronavirus pandemic. Some analysts had expected the group to ease the restrictions in response to the anticipated strong demand recovery and temper the price rise that may hurt the economies of importing countries.

Prince Abdulaziz bin Salman, the Saudi energy minister, insisted the agreement would stand when asked by reporters if there was a need for extra oil in view of the tightening market. Asked repeatedly if OPEC+ might consider relaxing the cuts before April 2022, he was adamant, saying the group was still committed to the April 2020 agreement “verbatim.” This means that after the rollback of the last tranche of the output reductions is implemented in July, the OPEC+ members would maintain their collective production at just over 38 mb/d until April 2022.

OPEC+ Production Targets for June and July vs October 2018 Baseline

Ministers will still hold monthly meetings to monitor developments and will not leave the market exposed, Prince Abdulaziz said. He said that, while the demand picture had “shown clear signs of improvement” as vaccine rollouts had accelerated in much of the world, there were still “clouds on the horizon.” Prince Abdulaziz stressed, “We should continue to consult and closely monitor market fundamentals and be proactive to ensure market stability.” However, he qualified his remarks with a word of caution on the strength of the demand recovery saying, “I’ll believe it when I see it.”

Angolan Minister of Mineral Resources and Petroleum Diamantino Pedro Azevedo, current holder of the revolving OPEC presidency, also advised caution, referring to the rise in coronavirus cases in India, Japan, and Brazil. “This is evidently having an impact on oil demand, particularly in the Asian region, which needs to be monitored carefully,” he said. The producers also need to consider the impact of sovereign debt levels in some parts of the world, the risk of inflation and central bank responses, as well as the return of oil to markets, he added.

OPEC+ Not Quite There Yet

The article “Not Quite There Yet” in the May issue of the OPEC Bulletin, a monthly review of the 13-member group’s activities, reflected the same views. The article referenced the surge in coronavirus cases in India – the second-most populous country in the world and the third-largest importer of oil. “Until this latest bump in the road, India was expected to contribute roughly ten per cent of all demand growth this year, and thus any ripple in its progress clearly impacts the global recovery dynamic.”

The remarks by the Saudi and Angolan ministers imply that the OPEC+ producers are more concerned with demand-side fundamentals, where there is still an element of uncertainty with the potential for a downward revision if more countries are forced to clamp down on mobility because of a surge in infections as Japan did recently.

Supply, on the other hand, is available from OPEC+ and other producers not party to the agreement with significant spare production capacity available if needed. Saudi Arabia alone, at current production of 8.4 mb/d, has 4.1 mb/d of spare capacity, while Iran could bring on an additional 1.5 mb/d of production by April 2022 if freed from U.S. sanctions.

Iran and Libya are exempt from the OPEC+ output cut agreement – Iran because of the sanctions, and Libya was allowed time to restore its output after a decade of civil war. Libyan oil output recovered from near zero in January 2020 to just over 1.3 mb/d in March 2021, its highest since early 2013. Any further increase would hinge on whether the National Oil Corporation is granted additional funding from the provisional government, which has failed to approve a budget. Even then, Libya cannot produce much more without investing in new capacity and repairing energy infrastructure.

These additions, while outside the OPEC+ agreement, would be added to global supply, thereby easing pressure on OPEC+ to relax supply curbs beyond July and might explain why Iran was not considered an urgent matter at this point. Prince Abdulaziz said this was not because Iran was not relevant but “the jury is still out” on the prospects of Iran’s return.

Iran, the Wild Card on the Supply Side

According to the June Oil Monthly report from the Oxford Institute for Energy Studies, the potential return of Iranian supplies “is not expected to disrupt prices and oil balances as the oil market appears better suited to absorb the returning Iranian barrels in H2 2021, conditional that the strong demand expectations materialise.” It estimated Iranian production in April at 2.34 mb/d and exports at between 600,000 b/d and 1.2 mb/d. Chinese refineries have been the main buyers of Iranian oil despite the sanctions. If the nuclear negotiations are concluded before Iran’s presidential election on June 18, Iranian oil output could rise by around 1 mb/d to reach 3.5 mb/d by December and rebound to a pre-sanctions level of 3.8 mb/d by April 2022, according to the report. This would still leave the market in slight deficit in early 2022 before rebalancing for the whole of 2022 as a slight surplus starts to build beyond the second quarter, the report noted. This compares with a base case scenario in which no deal is reached, leaving the market in deficit by around 2.01 mb/d in the fourth quarter of 2021 and 1.56 mb/d in the first quarter of 2022. These projections look at the near-term impact of the coronavirus pandemic, where oil demand is expected to register some growth though at a lower rate than previously projected as a result of the global transition away from fossil fuels now under way.

In its Net Zero 2050 report issued in May, the IEA stressed that drastic measures were needed if there is to be a fighting chance to attain carbon neutrality by 2050 and limit global temperatures to 1.5 degrees Celsius. This would mean no further investment in new oil and gas projects, which would see oil’s share of total energy supply fall to 24 mb/d by 2050 from around 90 mb/d in 2020. Gas demand would decline by 55% while coal would make up just 1% of total energy use.

Saudi Minister Dismisses IEA Report as Fantasy

“No new oil and natural gas fields are needed” in a net-zero pathway, the IEA noted, and “supplies become increasingly concentrated in a small number of low-cost producers.” OPEC’s share of a shrunken market would rise to 52% by 2050 in a net-zero world from 37% currently. But that comes at a price to the producer economies, which, by the IEA’s calculations, would result in a 70% reduction in net income from oil and gas in the mid 2030s and 80% by 2050.

Income from Oil and Gas Sales in Producer Economies in Net-Zero Emission Scenario

Prince Abdulaziz dismissed the report as a fantasy, saying the scenario is a “sequel” of the “La La Land movie.” He asked, “Why should I take it seriously?” But he followed up with a teaser that appeared directed at the IEA, saying the kingdom, the world’s top oil-exporting country, was on track to raise oil production capacity by 1 mb/d and hinted that a further increase was in the cards. He said, “Saudi Arabia is no longer an oil country, it’s an energy-producing country … a very competitive energy country.” He continued, “We are low cost in producing oil, low cost in producing gas, and low cost in producing renewables and will definitely be the least-cost producer of hydrogen.”

While it is true that Saudi Arabia has put plans in motion to diversify its revenue sources away from heavy dependence on oil exports, it will need to generate enough cash to invest in the non-oil sector while capitalizing on its huge oil reserves before peak demand sets in.

The Saudi government instructed Saudi Aramco in April 2020 to raise production capacity from 12 mb/d to 13 mb/d, a decision that was announced after Saudi Arabia and Russia entered into a tussle for market share that precipitated the collapse in oil prices. Prince Abdulaziz suggested there was more to come though he declined to give details.

While international oil companies have come under pressure from governments, consumers, and climate activists to transform their businesses and divest from fossil fuels, national oil companies that are wholly or majority owned by their governments, as is the case with Saudi Aramco, do not face the same strictures. Aramco prides itself on the low carbon intensity of its oil operations compared with shale oil operators in the United States. The kingdom is deploying carbon capture, storage, and utilization technology as a way to further decarbonize its mainstay oil industry and ensure that it has a space in a more carbon-constrained global economy.

Saudi Arabia is investing in developing its gas reserves for use in power generation and has stepped up its renewable and clean energy programs, which include production of hydrogen. The kingdom is building the world’s largest green hydrogen plant near the northern futuristic city of Neom at a cost of $5 billion. Green hydrogen is produced using renewable energy, and demand for the clean fuel is growing fast, particularly in Europe. This and similar projects elsewhere in the Gulf Arab region could potentially generate revenue to make up for declining oil exports, though it will take time to develop sufficient capacity and secure markets for hydrogen to replace oil.

Momentum is at last building in Saudi Arabia’s renewables sector. Nonetheless, the kingdom is determined to preserve and even maximize its dominant role as an oil producer and exporter before the curtain falls on the fossil fuel era.