OPEC in a Better Light
By Robert J. Samuelson
Wednesday, February 18, 2004; Page A19
We ought to reconsider OPEC (the Organization of the Petroleum Exporting Countries). For years, we've imagined it as a monstrous conspiracy designed to gouge oil-consuming countries and deprive Americans of cheap gasoline. OPEC's only saving grace, we've believed, is that it isn't effective. Well, we may be wrong on all counts. Since 1999, OPEC has increasingly succeeded in setting oil prices, and this hasn't much harmed us. It may not in the future, either.
Just last week OPEC announced a 10 percent cut in production that, by the standard logic, is ruinous. Prices already hover around $30 a barrel, and OPEC's 11 members provide about two-fifths of the world's supply. If they cut output, prices will jump, possibly jeopardizing economic recovery. The OPEC retort is simple: We're trying to stabilize prices, not raise them. Global demand peaks in the winter, when many countries need more oil for heating. As demand slackens in the spring, OPEC says it will cut production to cushion any decline in prices. Even so, prices may drift toward $25, Saudi Oil Minister Ali Naimi told the Middle East Economic Survey.
We'll see. What's clearer is that our interests also lie in fairly stable prices -- to be sure, at reasonable and not exorbitant levels -- rather than swings between exceptionally low and destructively high prices. To understand why, consider our basic oil problems.
The first is that oil is concentrated in the world's least stable region, the Middle East. Persian Gulf suppliers provide about 25 percent of world production, and they represent two-thirds of the world's 1 trillion barrels of proven oil reserves. Since 1970 there have been some modest supply interruptions, but never a catastrophic loss. But this remains a possibility -- from war, terrorism or revolution -- and it would devastate the world economy.
The second problem is that the oil will someday run out. The world now uses about 80 million barrels a day; that's almost 30 billion barrels a year. The International Energy Agency (IEA) projects oil demand at 120 million barrels a day in 2030; that's almost 45 billion barrels a year. A lot of oil will have to be found. The IEA reckons there are nearly 1 trillion barrels of undiscovered oil, about 70 percent outside the Middle East.
Now, low prices don't help with either problem. The cheaper the price, the more oil we'll use and the more vulnerable we'd be to a catastrophic shutdown. Low prices also discourage exploration outside the Middle East, because oil elsewhere -- in Siberia, offshore Brazil -- is more expensive to find and produce. For this reason, low prices would probably be temporary. Rampaging demand would ultimately overtake existing supplies. Prices would shoot up.
It's this roller coaster that OPEC wants to avoid. Low prices deprive producer governments of their biggest source of money and thereby threaten their existence. Oil instability promotes political instability, which may cause more oil instability.
We have no interest in fostering this cycle among producers. If OPEC doesn't push prices too high -- choking economic growth -- producers and consumers share common interests. What's too high? Hard to say. But OPEC's target range ($22 to $28 a barrel) seems reasonable. Prices slightly exceed this now, although after adjusting for inflation, they're lower than in 2000 and in the 1973-85 period.
The interesting question is how much OPEC controls prices. Until recently, the answer was "not much." In the 1970s and early 1980s, a variety of factors -- the Yom Kippur War, the overthrow of the shah of Iran -- temporarily increased the power of OPEC. Since then widespread cheating on production quotas has undermined the cartel. But the collapse of prices to below $10 in 1998 after the Asian financial crisis was traumatizing.
"They [OPEC countries] got more discipline in 2000 and 2001," says oil analyst Adam Sieminski of Deutsche Bank. "They reacted well to the September 11 decline in demand by trimming production." As Sieminski notes, some temporary events -- the Iraq war, a strike in Venezuela -- have also cut supply and helped OPEC's largest producer, Saudi Arabia, police the market. The longer-run outlook depends heavily on whether rising demand from China and Asia outstrips increases in production.
OPEC is the cartel we love to hate, and no politician will defy public opinion by admitting we ought to have a shared agenda. But by their silence, government officials behave as if we do. Assuming OPEC shows similar restraint -- not trying to move oil to $40 or $45 a barrel -- it's a valuable alliance. Unfortunately, it has limits. We still need to be filling the U.S. Strategic Petroleum Reserve past the goal of 700 million barrels to 1 billion or more. This represents insurance against the ultimate oil horror, which, though it hasn't happened, remains a constant danger.
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