Saudis Announce Oil Deal (In Your Dreams)

Either the kingdom's been wrong, or the policy's worked.

Oil prices are low, and producers are hurting. Iraq is the latest OPEC nation to publicly say next week's meeting in Algeria can conclude with steps to tackle a global supply glut and raise prices. Without the Saudis on board, that is no more than a dream. 

For a meaningful impact, any agreement would need to remove crude from the market, not just freeze production. Algeria's Noureddine Boutarfa puts the size of the cut needed at 1 million barrels a day.

Awash in Oil

Hopes for a production freeze, or reversal, in Algiers look faint given that some big producers are pumping out supply either at or near record levels.

Source: Bloomberg

NOTE: The figure for Iran is its highest post-revolution production. Output briefly exceeded 6 million barrels a day in 1976-77.

Saudi Arabia would have to bear the brunt of any reduction: it's the biggest producer in the group, it's increased supply by a million barrels a day in the past two years, and a decent-sized cohort will either seek to be excused from cutting or want to raise output to restore lost volumes.

Were it to implement a meaningful cutback, it would be resuming the swing producer role it abandoned in Nov. 2014.

Is that likely? Let's not hold our breath. 

True, like producers everywhere, the kingdom has been hit hard by the fall in oil prices. It's burning through its foreign reserves at a furious rate and cost-cutting may lead it to cancel $20 billion worth of projects. It has a clear incentive to act to lift oil prices. But for Saudi Arabia this was never about short-term income. 

Burning Through Reserves

Saudi Arabia is spending $9 billion a month of foreign reserves - 1 1/2 times as much as in 2008-2009.

Source: Bloomberg

To make such a volte face, it will have to do one of two things. It could claim that supply and demand are now in balance, and it's time for OPEC to manage production again and boost prices. That would stretch the limits of credibility when OPEC's just published forecasts that rebalancing won't happen until the second half of next year.

Or it could admit to its fellow OPEC members that it had got it wrong.

You can just picture the scene in Algiers:

Saudi Arabia's oil minister Khalid al-Falih (rising to his feet): Gentlemen, the Kingdom of Saudi Arabia now realizes that refusing to cut our production to support oil prices in Nov. 2014 was a mistake.

Sharp intakes of breath from the other delegates in the room

Al-Falih: We were wrong to believe that allowing the price to fall would quickly bring an end to growth in U.S. shale oil production and the cancellation of projects to develop new high-cost reserves.

Widespread nodding of heads

Al-Falih (aside, audible only to his team): Even though that is exactly what has happened.

Al-Falih (speaking to the delegates again): We recognize that our decision has cost you all billions of dollars in lost revenue and pushed some of your countries close to collapse. Sorry for that.

As a token of our humility, we will cut our output by a million barrels a day, while you all go on producing as much as you can, raising your output where possible.

We won't try to follow a policy that seeks to preserve a market for our oil in an increasingly challenging environment, where future demand for the one commodity on which we all depend will be undermined by a surge in rival production, while improvements in energy efficiency and growing environmental concerns shrink the market for oil.

Yes, oil will remain an important fuel for the next 20 or 30 years -- which will be more than enough for many of you who have limited reserves -- but which is a mere blink of an eye for the rest of us.

No longer will we take a long-term view of oil supply and demand. Instead, like everybody else, we will focus only on the next six months and hope the future takes care of itself.

In short, we will bury our heads in the sand -- after all, we have plenty of that too.

Al-Fahli sits down amid stunned silence

Somehow, I just can't see it happening. Hopes that a deal will be struck got a lift at the end of last week from rumors about offers the Saudis made to Iran. The reality is that these are no more than words in the wind. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

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