Oil markets have been facing a shock. The scissors of supply and demand are moving against one another, generating increasing pain on the oil industry and the political and financial stability of oil-producing countries.
Global oil demand is dropping due to the recession induced by the COVID-19 shut down of economic activity and transport in the most industrialized countries. Goldman Sachs predicts that global demand could drop from 100 million barrels per day (mdb) in 2019 to nearly 80 mdb in 2020. If confirmed, this would be single biggest demand shock since petroleum started its race to become the most important energy source in the world.
Until few days ago, global supply had been increasing due to the “oil price war” triggered by the Saudi decision on 7 March to offer discounts and maximize production, increasing output to a record high of 12.3 mbd. The Saudi government had reacted to the refusal by Russia to contribute to a coordinated OPEC production cut of 1.5 mbd, thus shelving the OPEC Plus alliance than had been forged in 2016 precisely to prevent a continuous drop in oil prices. Nonetheless, on Easter an historic accord has arrived after four days of tough video conference negotiations. It also marks the biggest oil-production cut on record, coming in at more than four times what was approved during the last financial crisis.
As part of the agreement the US, Brazil, and Canada will contribute an additional 3.7 million barrels on paper amid a production decline, while other Group of 20 nations will offer 1.3 million, Bloomberg reported.
Mexico won a diplomatic victory as it will only cut 100,000 barrels — less than its pro-rated share, having blocked the deal since the plan was first revealed on Thursday.
Further, production cuts will persist beyond the initial two-month period, albeit at a tapered pace. After June, it will be decreased to 7.7 million barrels a day through year-end. Then it will be cut again to 5.8 daily barrels from the start of 2021 through April 2022. The deal goes into effect on May 1.
The agreement marks the end of a price war between Russia and primarily Saudi Arabia that transpired at a time when the global coronavirus outbreak was already sapping demand for oil. By threatening to boost production and flood the market with cheap oil, the warring sides pushed prices for WTI crude prices down as much as 67% year-to-date. The commodity plunged more than 50% in March alone.
“Unprecedented measures for unprecedented times,”said Ed Morse, a veteran oil watcher who is head of commodities research at Citigroup. “Unprecedented in historical discussions of production cuts, the U.S. played a critical role in brokering between Saudi Arabia and Russia for the new OPEC+ accord.”
“Perhaps what’s most remarkable about Saudi Arabia and Russia delivering one of the largest supply cuts ever is that the person who brought them back together and pressured hardest to cut was historically OPEC’s harshest critic, President Trump,” said Jason Bordoff, a former White House official during the Obama administration and now at Columbia University.
Indeed, the biggest winner appears to be Trump, who refused to actively cut American oil production and personally brokered the deal over phone calls with Mexican President Andres Manuel Lopez Obrador, Russian President Vladimir Putin and King Salman of Saudi Arabia.
We might actually be witnessing the beginning of a new oil era.
The main novelty is that we might now have reached “peak oil demand” due to a combination of cultural, financial and political shifts in the largest industrialized countries, combined with the ever-increasing pressures for “deglobalization”, heightened by the recent shock from the global pandemic. While the price “counter-shock” of 1985/86 led to a massive expansion of global oil consumption that fueled the neoliberal globalization of the 1990 and 2000s (global oil consumption increased from 60 mbd in 1985 to 100 mbd in 2019), it is unlikely that the price shock of 2020 will bring global oil demand back beyond the peak of 100 mbd. This will be especially true if state investment plans to counteract the COVID-19 induced recession will be also oriented toward boosting “green” technologies and infrastructures.
With countries around the world extending their lockdown, the death toll mounting in New York, and unemployment exploding in America, the oil market is now far more worried about consumption than supply. OPEC itself acknowledged the challenge, with its chief warning ministers demand fundamentals were “horrifying.” In an internal presentation seen by Bloomberg News, OPEC told ministers it expected global oil demand to plunge 20 million barrels a day in April.
“Demand is down by more than double the 9.7 million barrels-a-day cut agreed,” said Amrita Sen, chief oil analyst at consultant Energy Aspects Ltd. “And with the issue with Mexico taking so long to sort, the credibility of the group has taken a hit”.