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OPEC+ Reaches a Deal to Increase Oil Supply: Could this Reduce Petrol Prices in India?

Editor, TRANSFIN.
Jul 21, 2021 1:27 PM 4 min read
Editorial

On Sunday, OPEC+ reached an eagerly-expected agreement to ease production cuts and gradually boost oil supply.

Oil is Well

Under the new terms, (1) a further 2 million barrels per day (bpd) will be supplied from August until the end of 2021, (2) higher output quotas for several members have been announced, and (3) the pandemic-induced production cuts will be phased out by September 2022.

This development brings some good news for the Indian economy, which has been reeling under record-high fuel prices.

It also ends an unusually public spat between Saudi Arabia and UAE that threatened the stability of the oil cartel.

FYI: Abu Dhabi had rejected an earlier Saudi-led proposal that sought a six-month extension of last year’s production cut arrangement in exchange for a gradual increase in supply. The new deal includes provisions for an extension but also provides UAE and other members with an increase in reference production levels.

 

2020 Vision

COVID-19 was bad news for oil-producers. It shut down the world. Flights, trains, cars, bikes and ships were grounded and demand for crude collapsed against a tide of lockdowns and movement restrictions.

The lack of extra storage spaces in most countries didn't help either. (But trust China to not waste a good crisis.)

This was also extremely bad timing. The pandemic struck at the same time as a brutal price war between Saudi Arabia and Russia, which had led to crude overproduction by almost 20 million bpd.

So, overproduction = fall in prices. And fall in demand = fall in prices. Double-whammy!

By April 2020, Brent had plummeted to below $20 per barrel. WTI even went negative.

In response, OPEC+ members decided to cast aside their differences and entered into a two-year agreement that entailed historically unprecedented production cuts of 10 million bpd. (This was over time whittled down to 5.8 million bpd.)

Did this work? Well, not immediately. Oil prices remained subdued in the coming weeks but prices began to climb up again later in the year, aided by vaccine sentiment and lifting lockdowns.

 

Enter, 2021

Now, if oil-exporters cut production with the intention of driving prices up, you can expect oil-importers to grumble more than a bit. But throughout last year, countries were busy fighting the virus to actively worry about the long-term impact of OPEC’s actions.

Fast forward to today, and many parts of the world have reopened and some sectors have touched pre-pandemic levels of activity already. Even in countries still witnessing high case-loads (e.g., India), the economies are largely open and demand is steadily climbing.

Inadvertently, crude prices have risen accordingly. Brent crude, for instance, is at a two-year high, up about 43% YTD and 60% YoY. Analysts expect it to reach $80 soon.

Runaway fuel prices invite inflationary risks and hamper global economic recovery. So how do you cool overheating oil markets? By increasing production.

But before Sunday, OPEC+ was in two minds about boosting production. Simply put, higher fuel prices = more revenue for the petrostates to replenish their own pandemic-struck coffers. In fact, Riyadh even pledged in January to cut its production by an extra 1 million bpd.

Needless to say, this has had a direct effect on consumers’ petrol pump expenditures. In India, petrol prices have crossed ₹100 ($1.34) per litre in many cities while diesel prices have crossed ₹90 ($1.2). Coupled with a weak Rupee and higher-than-6% retail inflation, this is affecting economic recovery and has hurt consumer spending (including on critical things like health).

Naturally, Sunday’s decision to gradually boost production has provided some much-needed relief to India’s battered economy. As of Wednesday, fuel prices have remained steady for four consecutive days after weeks of relentlessly rising.

Delve a little deeper, though, and you’ll notice that there are other moving pieces on the board...

 

The Crudes They Are A-Changin’

OPEC+ refused to give in to pleas to boost production throughout 2021. This was to the particular disadvantage of India, the world’s third-largest oil importer.

New Delhi’s irritation was both warranted and self-imposed. Around 86% of oil imports to the country last year were from OPEC+ members, with 19% being bought from Saudi alone. And as any finance student will tell you, high risk concentration is always bad news.

To reduce its Middle Eastern dependency, the Government accelerated plans to diversify import sources. By February, the US had replaced Saudi as India's second-largest oil importer. State-run oil marketing companies began amping up shipments from non-traditional sources. Imports from Guyana and Brazil were booked for the first time, with Africa being explored as an alternative to the Middle East. (More on the shifting tides in India’s oil industry here.)

But all said and done, OPEC nations like Saudi and UAE are geographically convenient for quicker and cheaper imports. The US and Brazil are oceans away, with too many chokepoints in between. And African countries are relatively new suppliers, with capacities nowhere nearly as vast as, say, Saudi’s.

Look at this from a different angle, and one might be tempted to argue that India is anyway embracing renewable energy. This has the advantage of being friendly on both the environment and on the import bill.

But going green is probably going to be more difficult than quitting Middle Eastern crude. For pointers, just look at India’s fast-receding solar energy ambitions.

FIN.
 

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