Russia’s invasion of Ukraine has driven up oil prices and could soon deprive oil markets of more than four million barrels of Russian oil.
For decades, OPEC has been seen in times of crisis to stabilize oil markets, and in the coming weeks it’s likely the cartel will be called upon again.
Although it is widely believed that Saudi Arabia and the United Arab Emirates have some spare capacity, OPEC’s true spare capacity has remained the cartel’s best-kept secret.
Russia’s invasion of Ukraine has shaken global energy markets and, if stability does not return soon, could have serious geopolitical consequences for OPEC members. Pre-invasion hydrocarbon markets were close to equilibrium, stable global economic growth combined with sound management strategies from the OPEC+ alliance to balance the markets.
Despite a global pandemic that disrupted the global economy for two years, energy markets managed to return to a level of relative stability. Some even predicted a post-Covid order in which OPEC+ would experience an era of strong influence and power.
Today, the OPEC+ alliance appears to be hanging by a thread as Russia faces an economic crisis due to sanctions imposed in response to its invasion. The ongoing shift in OECD countries, particularly the EU, UK and US, to wean themselves off Russian energy supplies, is dramatic and could prove influential in isolating Russia of the broader energy market.
At a time when global oil and gas markets were already facing supply issues, Russia’s invasion of Ukraine really added fuel to the fire. Western energy-dependent countries are now calling on others to increase oil and gas production and exports, not only to quell the global thirst for energy, but also to counter rapidly rising prices.
All eyes are on OPEC as the group of oil exporters, some call it an oil cartel, is seen as the only viable short-term option to supply more. So far, all calls from Washington, London and Brussels seem to have fallen on deaf ears.
In a seemingly desperate attempt to sway OPEC leaders, British Prime Minister Boris Johnson traveled to Saudi Arabia, ostensibly to discuss possible investment deals, but mainly to secure additional oil volumes from the Kingdom.
In meetings with Saudi Crown Prince Mohammed bin Salman, the kingdom’s de facto ruler, and his counterpart, Abu Dhabi’s Crown Prince Sheikh Mohammed bin Zayed, Johnson pushed for additional oil supplies, while discussing Western sanctions against Russia. The Prime Ministers’ efforts were met with silence, however, with no new energy promises made by either party.
According to Johnson, when asked about a potential change in OPEC’s production strategies, both MBS and MBZ made it clear that they understood the need for stability in global oil and gas markets.
The real answer from the two OPEC leaders was indeed very clear, at this time they will not alter their production and export strategies and they will not jeopardize their strong relationship with Russian leader Putin. These responses were not particularly surprising to analysts.
OPEC has always prided itself on maintaining a healthy spare capacity in order to influence oil markets. For decades, OPEC producers have been the center of attention of traders, importers and financial analysts, and have always been considered the ultimate energy resource in times of global crisis. Saudi Arabia, and lately also Abu Dhabi, have been seen as the ultimate swing producers that customers could rely on if a sudden geopolitical or technical issue were to arise blocking potential suppliers.
The Kingdom is still considered the ultimate swing producer, holding spare capacity of between 1.2 and 2.1 million bpd. Over the past two years, Abu Dhabi’s upstream expansion has propelled it into a swing producer position, with 0.6 to 1.2 million bpd.
Riyadh’s position of geopolitical power is directly linked to this theoretical production capacity, as it mitigates the withdrawal of Iran or Venezuela from the oil markets. Additional volumes from Abu Dhabi are becoming increasingly important in such a tight oil market. Before the pandemic, U.S. shale companies were also considered swing producers, although their long-term production capacity differed.
Since the end of the pandemic (which was the first time global analysts seemed to understand that the market was headed for a supply crisis), the market has had to reassess this talk of spare capacity.
The lack of new oil and gas investments and discoveries over the past few decades has left oil markets drastically unprepared for such a shortage. Some have warned that part of OPEC+’s current export strategy relies on internal capacity constraints.
In a market that was slowly recovering from severe demand destruction, OPEC members could hide their domestic production constraints behind the facade of a conservative production policy.
Now, with Russia in crisis and an impending oil shortage, Saudi Arabia, the United Arab Emirates and other members will have to put their money where they say. If they don’t act now, rumors of a lack of production capacity will become more and more credible.
Current analysis already indicates that most OPEC producers are unable to increase production. Both Saudi Arabia and the United Arab Emirates are thought to have a higher capacity, but the current silence of the two players will not inspire confidence in observers.
A possible reality looms on the horizon in which more than 4 million barrels of Russian oil are stuck on Russian soil and the market is unable to find a substitute for them. If Saudi Arabia and the United Arab Emirates are unable to supply the 2-3 million bpd that Western markets sorely need, oil prices will reach unprecedented heights.
A potential failure to find an alternative producer would not only lead to a real energy price crisis, but would also undermine the current strategic power of OPEC. Geopolitically, the attractiveness of OPEC producers for others (financial, industrial and investor markets, but also defence/security) is linked to their oil and gas supply capacities. Without it, the whole geopolitical equation will change.
OPEC production capacity
Saudi Arabia, Iraq, United Arab Emirates and Kuwait have spare capacity of four million bpd – in 3 to 6 months
By: Cyril Widdershoven
Widershoven reports for Oilprice.com