“Rational or not, fear is painful and debilitating, and policy makers must endeavour to protect the public from fear, not only from real dangers.”
—Daniel Kahneman, Israeli-American Nobel-winning economist
Oil prices are up 17 percent since January this year in a lurking trepidation predominantly revolving around mounting tensions in the Middle East. Though it is reminiscent of the Iranian revolution-led 1979 oil crisis and the 1990 Gulf War, when prices touched preposterous levels, the markets are thankfully devoid of similar mayhem. Apprehensions of supply constraints and disruptions have moved prices higher. While continuing with the production cut of over 2 million barrels per day, the OPEC+ group prefers selling lighter grades with higher margins, thus exacerbating the availability of crude. The situation is compounded with Mexico cutting down exports and imposition of fresh sanctions on Venezuela.
The Ukrainian drone attacks on Russian oil refineries, most recently in the Smolensk region, could affect availability of diesel and gasoline. Though this could bring more Russian crude into the market, in the long run, the lack of refining capacity could lead to paucity of finished products, thus pushing their price higher. The Houthi attacks in Red Sea have added to the uncertainty and costs due to war risk insurance premium.
However, considerable supply exists in Africa. Nigeria holds surplus stocks despite increased domestic consumption post the commissioning of the Dangote refinery near Lagos. Libya resumed production at El Sharara oilfields in late January. Angola and Algeria continue to dominate as the largest exporters out of Africa while posting incremental production figures.
Though OPEC+ continues with output cuts, it is felt that the combined increase in supply from Brazil, Guyana, the US and Canada can significantly off set this depletion. Price weakening in physical market can partly be attributed to augmented shale supply from the US and recovery in production outages. The inclusion of West Texas Intermediate Midland in the Dated Brent basket in May 2023—owing to its low sulphur and low density—has further lent support to the Brent benchmark while maintaining supply adequacy.
On the demand side, too, factors exist that can help cool prices. India’s import of Russian oil for domestic consumption as well as to slake European demand for finished products helped stabilise oil prices while averting a sharp rise. A sombre economic prospect in China for the rest of 2024 and an unprecedented declining demand ahead of the summer season in the US have also aided in softening prices.
Beijing’s involvement in brokering a diplomatic truce between Tehran and Riyadh in March 2023 was termed a “détente with far more depth”. The reconciliation energised numerous other diplomatic restorations such as the one between Bahrain and Qatar, and Syria’s return to the Arab League. China’s growing territorial dominance is a catalyst for Washington’s efforts at de-escalation of a direct conflict between Israel and Iran while desisting from imposing any further sanction on Iran’s oil sector, which could negatively affect supply.
Iran has increased its oil exports to levels not seen in last five years, while China continues as its major buyer. Though the present Gaza episode has prompted Tehran to “review its nuclear stance”, economic considerations remain paramount for the oil fraternity in the Middle East. Saudi Arabia holds long-term development plans while steering away from overt dependence on oil. After resumption of diplomatic ties, the UAE is keen to improve trade ties with Iran too. Any broader hostility would jeopardise regional growth.
With elections in 64 countries and the European Union in 2024, involving almost half the world’s population, oil could well be the lead actor in deciding political fate for some. With the US and UK slated to go to polls at year-end, taming oil prices is pertinent for the “healthy survival” of major economies.
Oil prices are not merely the consequence of physical ‘inventory and availability’, but also a reflection of the sentiments on crude futures market. At present, oil futures are less volatile, translating to a muted optimism and less confounding geopolitical apprehensions. Past stockpiling of crude at lower prices by China is bearish for current demand. Despite shale production touching a record high, the US is in no hurry to replenish its depleted strategic petroleum reserve, as it maintains a buffer to satiate market appetite should there be a dramatic rise in prices.
Conventional sources are gradually ceding their dominance to niche territories in Latin America as major oil producers Exxon, Chevron and Total enter into fresh alliances with local producers. While addressing supply issues, such moves also assist in posting better financials and rewarding shareholders. Post sanctions, Caracas is ‘flirting’ with digital currency for its oil trade to ease export woes.
Year 2024 could witness a slight deficit in overall supplies against projected demand, keeping in mind the continued OPEC+ cuts. Should the geopolitical situation change dramatically for the worse, despite increased contribution from the Americas, the $100 price level could be revisited. A $90 scenario seems plausible around the middle if the status quo holds.
Ranjan Tandon
Senior markets specialist and author
(Views are personal)
(ranjantandon@live.com)