Explained | What Does OPEC's Move to Cut Oil Production Mean for India?
Brent crude, the international benchmark, was up 28 cents or 0.3%, at $92.08 a barrel after the cut was announced.
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On Wednesday, 5 October, the grouping of the world’s largest oil-producing countries, the Organisation of the Petroleum Exporting Countries (OPEC) and its allies decided to cut oil production by 2 million barrels per day (bpd).
As the law of supply and demand suggests, that can only mean one thing: higher prices are on the way for crude, and for the diesel fuel, gasoline, and heating oil that are produced from oil.
The move came despite the Biden administration lobbying for the exact opposite. This is the largest cut since the beginning of the COVID 19 pandemic. Brent crude, the international benchmark, was up 28 cents or 0.3 percent, at $92.08 a barrel after the cut was announced, Reuters reported.
What is OPEC?
As mentioned earlier, OPEC is the grouping of the world’s largest oil-producing countries. Established in 1960 by founding members Iran, Iraq, Kuwait, Saudi Arabia and Venezuela, OPEC was created to ensure a unified oil and petroleum policy across member countries and ensure the stabilization of oil markets. It now has 13 member states. With the addition of another 11 allied major oil-producing countries that include Russia, the grouping is known as OPEC+.
What is the Objective of OPEC?
According to the OPEC website, the objective of the organisation is to “coordinate and unify the petroleum policies of its member countries and ensure the stabilisation of oil markets in order to secure an efficient, economic and regular supply of petroleum to consumers, a steady income to producers and a fair return on capital for those investing in the petroleum industry."
Why is OPEC Slashing Oil Production?
Oil prices went up after Russia’s invasion of Ukraine in February. They have since begun to soften over the past few months, before dropping sharply to under $90 in September due to fears of a recession in Europe and reduced demands from China because of lockdown measures.
Saudi Arabia’s Energy Minister Abdulaziz bin Salman said that the alliance is being proactive in adjusting supply ahead of a possible downturn in demand because a faltering global economy needs less fuel for travel and industry. The cuts are seen as a way to protect profits.
“We are going through a period of diverse uncertainties which could come our way, it’s a brewing cloud,” he said, and OPEC+ sought to remain “ahead of the curve.”
Increased oil prices have helped Saudi Arabia become one of the world’s fastest-growing economies.
The New York Times raised the possibility that Moscow might be influencing OPEC, to make it more expensive for the West to extend energy sanctions on Russia.
Saudi Arabia, however, has rebuffed criticism it was colluding with Russia, and said the West was often driven by "wealth arrogance" when criticising the group, according to Reuters.
How Will The Move Affect India?
The OPEC's move is bound to affect India.
"India's oil burden will definitely go up. The problem for the government is that with several important state elections coming up, letting oil marketing companies increase retail prices will be politically inconvenient," Prosenjit Dutta, an economics editor and commentator, told The Quint
The fall in demand, though, is likely to lead to increased travel costs. Mr. Dutta adds, "Airline fuel prices are generally a less contentious issue as the government believes that anyone who flies can afford to pay extra. But it will make a difference to weaker airlines who might not be able to pass on the full burden."
So what's the government likely to do? Prosenjit adds, "The government will face a dilemma. Asking Oil Manufacturing Companies (OMCs) to keep retail prices stable is bad for their finances and its own finances because eventually it needs to make good the OMCs under recoveries. But allowing them to increase prices will also affect the inflation, apart from being politically inconvenient. And this is not good for it."
How Will Cuts, Price Caps, and Embargoes Clash?
The idea behind the price cap is to keep Russian oil flowing to the global market at lower prices. Russia, however, has threatened to cut off deliveries to a country or companies that observe the cap. That could take more Russian oil off the market and push prices higher.
That could push costs at the pump higher, too.
US gasoline prices that had hiked to record highs of $5.02 a gallon in mid-June had been falling recently, but they have been on the rise again, posing political problems for President Joe Biden.
Biden had touted the falling pump prices. Over the past week, the national average price for a gallon rose nine cents, to $3.87, which is 65 cents more than Americans were paying a year ago.
“It’s a disappointment, and we’re looking at what alternatives we may have,” he told reporters about the OPEC's move.
Why Has the Decision Irked the US?
The OPEC's decision drew a sharp rebuke from US President Joe Biden who termed it "short-sighted". "The president is disappointed by the shortsighted decision by OPEC+," National Security Advisor Jake Sullivan and top economic advisor Brian Deese said in a statement.
In July this year, the US President had made a controversial trip to Saudi Arabia, in part to lobby for a boost in oil production, as the US faced rising oil prices. OPEC's move comes ahead of the US' mid-term elections in November. The US President faces low approval ratings ahead of mid-term elections, due to soaring inflation.
The White House threatened to bring an antitrust suit against OPEC. Members of Congress have proposed cuts in military assistance to the kingdom as fears mount over rising gasoline prices.
The OPEC move will hit countries "already reeling" from high prices while "the global economy is dealing with the continued negative impact" of Russia's attack on Ukraine, the statement said.
According to Reuters, US officials have said part of the reason Washington wants lower oil prices is to deprive Russia of oil revenue. Relations have been further strained as Saudi Arabia has not condemned the Russian invasion in Ukraine.
Will the Production Cut Worsen Inflation?
The production cut is likely to make inflation worst. Brent crude should reach $100 per barrel by December, said Jorge Leon, senior vice president at Rystad Energy.
He added that higher oil prices will inevitably add to the inflation that global central banks are fighting, and higher oil prices will factor into the calculus of further increasing interest rates to cool down the economy.
The move will exacerbate an energy crisis in Europe that is largely tied to Russian cutbacks of natural gas supplies used for heating, electricity and in factories and would send gasoline prices up worldwide. As that causes inflation, people have less money to spend on other things like food and rent.
(With inputs from Reuters.)
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