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Market is in charge as OPEC's clout fades

Cartel faces dilemma as prices fluctuate

PARIS - Early last summer, OPEC looked as though it had successfully absorbed tremendous shocks to the oil market - a strike in Venezuela, ethnic clashes in Nigeria, attacks on foreign workers in Saudi Arabia, a war in Iraq.

By meeting regularly and adjusting their oil supplies frequently, OPEC countries managed to make up for disruptions from major oil-producing regions and keep prices relatively stable.

A year later, runaway demand from Asia, sustained violence in Iraq and speculative oil markets have connived to push oil prices to record highs and test OPEC's capacity to respond.

As crude oil beat records every day in August, the Organization of Petroleum Exporting Countries tried to persuade markets that it was working hard to get prices down. But with most of its members producing at full capacity, OPEC's promise had a hollow ring; traders shrugged, and prices rose to within cents of $50 a barrel in New York.

That is part of the dilemma OPEC faces today. Its 11 members possess three-quarters of the world's known oil reserves, produce a third of its crude oil, and account for half the exports. Yet OPEC seems to have lost its clout to influence prices.

"Prices are moving independently from whatever OPEC decides," said Nordine Ait-Laoussine, a former Algerian oil minister and OPEC president. "OPEC can't do anything more today."

The cartel is already doing a lot. Its members are producing 30 million barrels a day, its highest output in 25 years, and well beyond OPEC's formal ceiling of 26 million barrels. But with prices above the group's benchmark price of $22 to $28 a barrel, and most members at full capacity, oil ministers have few options when they meet Sept. 15 in Vienna.

"If you're looking for actions to bring new oil on the market, it's not going to be there," said Robert Ebel, the head of the energy program at the Washington-based Center for Strategic and International Studies. "The markets are going to watch the meeting, yawn and turn back to their computers."

One option being considered is raising the target price band by $5, a proposal that has the backing of Iran and Indonesia, according to Reuters. But analysts say there is no consensus about such a move, which would send the wrong signal to oil markets at a time OPEC is committed to reducing prices.

As often with OPEC, much revolves around Saudi Arabia. Because it is the largest producer and the only one with significant flexibility to pump more oil, Saudi Arabia works as a self-appointed pressure valve for international oil markets: When prices are too low, the Saudis can shut some fields; when they are too high, the kingdom can crank up daily output by more than 2 million barrels.

That is what Saudi Arabia has been doing lately, increasing production to 9.3 million barrels a day, the highest since 1981. It has also reportedly slashed prices for crude oil to the United States and Europe to make its products more attractive and help bring prices down. Ali al-Naimi, the Saudi oil minister, said his country had another 1.3 million barrels a day of spare capacity it can bring on if needed.

The Saudi actions have helped, and prices have dawdled down in the past few weeks. Crude oil futures are down 14 percent since they touched a record trading high of $49.40 a barrel on the New York Mercantile Exchange on Aug. 20. Still, crude futures are up 30 percent this year. They were at $44.33 a barrel in late trading Thursday.

OPEC's efforts even received a nod from the International Energy Agency, an adviser to consumer nations that is traditionally critical of OPEC's supply-management policies. In a monthly report published Thursday, the Paris-based agency said, "Today's market is well supplied with crude."

Most OPEC countries will reap record revenue this year. But for oil producers, "Prices that are too high could kill the golden goose," said Brad Bourland, chief economist at Samba Financial Group in Riyadh. Most OPEC ministers say they favor prices between $25 and $30 a barrel.

Sustained high oil prices could eventually mean less demand from consuming nations, more energy-conservation measures in industrialized countries and the use of substitute fuels such as gas, coal or nuclear power.

There is another drawback, according to Thierry Desmarest, chief executive of the French oil company TotalFinaElf.

"Today's price level means there's no feeling of urgency within OPEC countries to invite foreign investors and add new production capacity," Desmarest said Wednesday in Paris. "But producing countries are worried about high prices. They remember that when it goes up too much, there's usually a drop that's not pleasant to live through."

The question of new capacity investments is turning into a central issue for oil planners. The IEA said recently that the lack of investments by both OPEC countries and major oil companies was contributing to high prices.

Seven countries - Iran, Kuwait, the United Arab Emirates, Nigeria, Libya, Algeria, and Qatar - are now producing at or close to their maximum capacity. Without large investments in new fields, they will not be able to substantially increase their output.

That could change, given that OPEC's production quotas have become largely irrelevant because of surging demand. Algeria is courting foreign investors to the Sahara desert; Nigeria's offshore fields are currently among the most promising prospects in Western Africa; and now that all economic sanctions have been lifted, Libya is eager to open up new fields for exploration.

But Saudi Arabia's attitude toward foreign investment in its energy sector remains distant. While the kingdom has slowly allowed limited exploration for natural gas, the issue of reopening the Saudi oil sector to foreign companies has been off the agenda since the nationalization of Aramco in 1980.

Now would be a good time to for OPEC to address some of its on-going issues, said Ait-Laoussine, who now runs a consulting firm in Geneva, including the group's quota system, which has long divided members; the price-band mechanism, which now appears obsolete; or the transparency of the data OPEC provides about both its production and level of reserves.

"OPEC is benefiting from a period where quotas won't be cut and everyone can produce as much as they can," said Ait-Laoussine. "This is a comfortable position to be in."

It may also be time to consider longer-term policies. While oil prices averaged $20 a barrel in the 1990s, many analysts are wondering whether world economies should plan for $30 oil in the next decade.

"Have we moved into a new era, which no one saw coming six months ago, of powerful demand growth that will sustain the need for higher oil-production capacity? That's the fundamental question for everyone in the oil industry," said Bourland of Samba, formerly Saudi American Bank.

Most analysts say a physical shortage of oil did not lift prices in August; as the IEA noted in its report, "supply is running ahead of demand and stocks are building."

Rather, it's because traders fear the world lacks sufficient spare capacity to make up for emergencies - like uncertainties over Russia's relations to its largest oil producer, Yukos, or the fighting in Iraq.

What no one disputes is the surprising strength of global demand this year, which exceeded the forecasts of most oil analysts. At the beginning of the year, the IEA had put oil demand for 2004 at 79.6 million barrels. The agency's latest forecast for this year estimates demand at 82.2 million barrels a day.

Much of the increase has came from China, which for the past four years has accounted for 40 percent of growth in world oil demand. Last year, China surpassed Japan as the second-largest consumer of oil, after the United States. By 2025, Chinese oil consumption is expected to double to 12.8 million barrels a day, up from 6.3 million barrels today, according to the U.S. Energy Information Administration.

If OPEC is repeating calls for lower oil prices, it's because the cartel knows from bitter history that at some point, high prices will hurt because they'll slow world growth and lead to a sudden price collapse.

In 1979, OPEC countries produced 31 million barrels, with Saudi Arabia pumping close to 10 barrels a day. By 1985, OPEC's production was down to 15 million barrels a day, with Saudi Arabia producing a mere three million barrels. Again, in the late 1990s, Asia's economic slowdown cut demand for oil and sent prices down to around $10 a barrel.

"OPEC has accepted the fact that there will be continued disruptions coming from major suppliers and that its members will have to produce at their full capacity," said Valerie Marcel, an energy researcher at London's Chatham House. "Even if many OPEC members fear an oil-price collapse, many believe that prices will stay high."

The New York Times

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