OPEC is preparing for its
meeting tomorrow with members gathering in hotel suites to try to reach
a consensus before the actual meeting. The difficulties of this meeting
are greater than most. Three months ago it seemed as though all that OPEC
would have to do at this meeting is decide to make a minor downward adjustment
to production to coincide with the normal lower demand in the Spring season
and thereby maintain support for their price targets. Now they face a greater
problem. The U.S. appears to be on the brink of recession. Japan's
economy is in bad shape and much of the rest of Asia is uncertain at best.
Europe may follow and the current problems with foot and mouth disease
will not help as that problem impacts agriculture, tourism and slows transportation.
In summary, the outlook for crude oil demand is uncertain at best.
The situation is not unlike
the one that they faced in November of 1997. OPEC decided to increase production
by 10 percent at the same time Asian economies were slipping into a recession.
The result was that crude prices plummeted. OPEC does not want to repeat
that mistake. Since 1997 OPEC has steadily worked to increase prices
and has had much more resolve in maintaining production quotas than normal.
Their efforts were so effective that they were well above the target range
of $22 - $28 dollars per barrel for a considerable period of time. There
is little doubt that those high prices contributed to weaker world economies
just as the low prices strengthened economies which are dependent upon
What will they do at this
meeting? Faced with the possibility of a world recession a large cut of
1.5 million barrels might make sense if the goal is only to maintain prices.
However, OPEC is aware of the negative impact of high prices on the world
economy and is also aware that high prices encourage non-OPEC crude production
which erodes OPEC's share of the crude oil market. The wise course of action
is to take a risk of slightly lower prices and moderate the cut to something
in the range of 700,000 to 1 million barrels per day. As little as two
weeks ago we anticipated a cut of 700,000 and would have virtually ruled
out anything higher but the economic reports have become increasingly dismal
and it may take a million barrels to maintain prices. Add to this the uncertainty
of Iraqi production and the problems multiply.
The best course for OPEC
to take is a month to month decision or at least for them to emphasize
that they will be flexible in the coming months. In the long run, even
the low end of OPEC's target price range is too high and non OPEC production
will either force them to go below a basket price of $22 per barrel or
to lose market share to non-OPEC production.
Behind any decision is the
real problem for the OPEC countries. A $5 change in crude prices causes
a drastic change in the GDP of OPEC countries.