Commodity Commentary. OPEC+ decision opens up interesting possibilities

The OPEC+ decision to cut oil production by two million barrels a day from November has exerted the intended effect. Falling oil prices have reversed direction and have started to move up. On Thursday, Brent tested at $95 a barrel. A fall in the US commercial crude stocks was also a factor in the price rally.

To be fair, OPEC+ had actually prepared the market for the eventuality of an output cut. Concerns about demand amid growing recession risks and the sharp appreciation of the US dollar caused oil prices to fall at the end of September to their lowest level since January. This was not to oil producers’ liking.

A closer look would reveal that the physical or actual decline in oil production would only be one million barrels a day. This represents about one per cent of global supply. Countries such as Angola, Nigeria and Russia have been producing less than their quota in any case.

Although OPEC attributed the decision to cut quota to the uncertain outlook of the global economy, market participants recognised that the plunge in oil prices in recent months from its peak in March has concerned the producers’ group.

Interestingly, high prices have so far not materially dented the demand for oil. China’s consumption has been lower so far this year, but that is more because of the lockdowns of some key cities following the country’s zero-Covid policy.

Interesting possibilities

So, where would the market go from here? The current context opens up some interesting possibilities. The price impact of the OPEC+ decision has now put pressure on the US to increase its releases from strategic petroleum reserves. How the US administration will respond remains to be seen.

Saudi Arabia’s role is critical. If market rates fail to hold on to the recent gains, it is conceivable that Saudi Arabia may step in to announce a voluntarily additional production cut. Such a move will also help reinforce Saudi’s undisputed position as the world’s energy market leader and key decision-maker.

China, too, is in a position to influence the world energy market. The Asian major has reportedly announced large export quotas for products such as diesel, gasoline, and jet fuel for the current quarter. This implies that China will import large quantities of crude oil for processing. As winter approaches, Europe is desperately looking for large-scale diesel supplies, which China is most likely to meet.

Strong tailwind

Taken together, these factors are most likely to provide a strong tailwind for the world crude oil market. Slowing supply growth and the possibility of a demand resurgence raise the upside risk for prices. This is also the situation most financial investors are waiting for. The current market condition can potentially take oilprices closer to $100 a barrel during the course of this quarter.

Three Cs

This should worry Indian policymakers. Elevated crude oil prices and a weaker rupee are a challenging combination for New Delhi to face. Crude oil (elevated), the currency (weak) and crops (average) are three Cs that drive inflation, and all the three may prove to be headwinds in fighting inflation.

The author is a policy commentator and commodities market specialist. Views are personal

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