Energy

Julian Lee is an oil strategist for Bloomberg First Word. Previously he worked as a senior analyst at the Centre for Global Energy Studies.

Enough of this drip-feed of trying to slowly whittle away oil inventories. If OPEC wants to bring down excess stockpiles, it needs to find its courage when it meets on Thursday, dust off its old playbook and make a big cut as it did in the past.

"We’re going to do what it takes to bring the industry back to a healthy situation,” Saudi Arabia's Energy Minister, Khalid Al-Falih, said in a Bloomberg Television interview in Washington back in March. Nice words, but it's going to take a lot more than words to get oil inventories, or prices, back to where OPEC wants to see them.

What It Took
The impact of OPEC's latest output cut looks puny in comparison with the past
Source: Bloomberg
Note: Iraq was exempt from OPEC output deals during this period

In 1998 -- yes, I've been doing this long enough to remember all that time ago -- OPEC slashed output by more than 4.5 million barrels a day to try to rebalance the market after the Asian financial crisis. Three years later it had to do even more as recession hit demand again, and it cut its collective output target by 5 million barrels a day. In 2008 it was forced to make another huge sacrifice, with members deciding to chop daily supply by around 4.7 million barrels.

The OPEC cuts agreed last November begin to look rather puny in comparison -- the effective reduction in April was around 1 million barrels a day, against a plan of more than 1.7 million. In that last big deal Saudi Arabia agreed to cut its own production by almost twice as much as the 486,000 barrels a day it pledged this time, taking it down to little more than 8 million barrels a day.

The consensus view, which the group has done nothing to dispel, is that members will agree to extend the initial six-month cut to last at least 15 months and possibly longer, if inventories don't start falling faster than its own analysts expect.

Undermining The Cuts
Output cuts have been undermined by non-compliance and rising U.S. production
Source: Bloomberg

But the latest cuts have been undermined both from within and from without and simply prolonging them may not soak up the excess even by next March. The short, sharp intervention envisaged in November has turned into a long, slow grind. If OPEC wants to drain inventories and boost prices, even if only to around $60 a barrel, it needs to cut deeper, not just longer. 

Some of the non-OPEC participants have been slow to implement the full reductions they promised -- Russia only met its target at the end of April -- while rising U.S. production is taking an increasingly big bite out of the cuts that have been made. A new worry is that output is now rising in both Libya and Nigeria, the two OPEC countries exempt from the deal. They could add around 450,000 barrels of new supply, if recent gains can be consolidated, and will almost certainly get another free pass this time around.

Less Than It Seems
Saudi net exports of crude and products have fallen much more slowly than production
Sources: Bloomberg, Joint Organisations Data Initiative
Note: Net export cut includes exports of crude plus net exports of refined products. Both series reflect change from October 2016 baseline. Export data for April is not yet available.

Even the reported cuts in output have not immediately translated into reductions in exports. Figures provided by Saudi Arabia to the Joint Organisations Data Initiative show how the cut in the country's exports of crude and products has lagged well behind the headline drop in output. Imports into the U.S. from Persian Gulf OPEC countries also highlight the problem, with inflows at levels not seen since before the shale boom began.

Cuts? What Cuts?
U.S. imports of crude from Persian Gulf OPEC states are near levels last seen before the first shale boom
Source: Energy Information Administration
Note: 4-week moving average of imports from Saudi Arabia, Iraq and Kuwait

And though there have been hints, there are few prospects that more countries will join the deal beyond Equatorial Guinea, which is due to become OPEC's newest member this week.

Looking back at the group's previous big market interventions, they have all been done as a series of cuts, with additional reductions of between 1 million and 1.5 million barrels a day agreed about every six months. OPEC needs to spring a surprise when it gathers on Thursday.  

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

((Corrects spelling of energy minister's name in second paragraph.))

To contact the author of this story:
Julian Lee in London at jlee1627@bloomberg.net

To contact the editor responsible for this story:
Jennifer Ryan at jryan13@bloomberg.net