Can Saudi Arabia and OPEC meet future demand

Looking forward to a return to more normal times for the global economy (something perhaps allowed by the improved health of some countries in Europe, and some stability in the U. S. housing market and increases in the miles driven in the United States) leads to a small wonder about what we will find when we get there. Doing some simple projection on Asian demand growth, non-OPEC declines and a rebounding economy suggests that we might only have a year's breathing space before we're back in trouble.

At the present OPEC is predicting that world demand for its crude will be at around 1.65 mbd below last years demand for the rest of this year and is anticipating that demand will fall another 0.5 mbd to 28 mbd next year. However that assumption is apparently also based on non-OPEC production will increase, and the world economy will rise only slowly. There is some evidence to suggest that change may be a bit more dramatic.

Of course in recognizing the above number OPEC has also recognized that they have actually been quietly increasing production and that is already back to some 28.57 mbd, with further increases predicted. Back in January the cuts were supposed to be 4.2 mbd, were actually only about 2.62 mbd down from the 31.2 mbd of last year. The odd thing is looking at those numbers and taking the 2.62 from the 31.2 gives 28.58 mbd, which is reported as the current figure. Yet after the initial cut there has been a slow relaxation in enforcement that has seen some production gains to date. The answer is that not everyone did the relaxing. Saudi Arabia increased the level of their cuts to match the increased production elsewhere, for example cutting production 320,000 bd in April down to a level of 8.04 mbd, though it has since crept back up to 8.11 mbd. Using the EIA tables indicates that total OPEC production may, in fact, already have reached 30.31 mbd, which is only down 900,000 bd from last year.

The reason that I bring this up is that the Chinese and Indian economies are continuing to sell cars. China has now reached and surpassed US car sales. VW sold 128,000 cars in China in July. To fuel those cars Chinese demand for oil has increased to 7.8 mbd, with the prediction for next year being that it will rise an additional 0.6 mbd to 8.4 mbd. Chinese demand in 2008 was 6.92 mbd.

Indian demand will also rise, since car sales have also been steadily rising over the last six months, with the introduction of cars such as the Tata Nano that started off selling 100,000 cars a month. (Total car sales in India last year were about 1.4 million – sales this July were 115,067 up from 87,901 last July). Indian consumption has increased so far this year by about 320,000 bd. Now if that trend continues through next year then the combination of Chinese and Indian demand alone will raise demand by close to 1 mbd.

If non-OPEC production has peaked and is falling, as we see from reports from Mexico, which may drop 300,000 bd over the next year; Russia which will slightly drop: and the UK, then we might assume at best that the production drops 500,000 bd next year in total.

So if non-OPEC goes down 500,000 bd and global demand goes up 1 mbd from India and China (not to mention the increase in demand as the rest of the world starts to come out of recession) then OPEC will have to raise production by at least 1.5 mbd next year just to meet this change in the supply:demand balance.

With the cuts that Saudi and friends made that amount is likely available and could be relatively easily produced if desired. If the supply is controlled, as it now is, to ensure that we don’t get back into a slight oversupply, this means that OPEC will control the price over the next year, but that the supply will be adequate.

What becomes interesting is what happens after next year. If Asian demand continues to rise by say another 1 mbd, the world, coming out of recession also increases demand back by say 1 or 2 mbd, where does it all come from? Because declining oil fields will continue to do so, and we may well see another drop of 500,000 bd from non-OPEC.

This is thus going to be an imposition of another 2.5 – 3.5 mbd demand on OPEC, over the 1.5 mbd demand increase for 2010. Bearing in mind the 6.5% decline in production reported from older fields as more and more of them contain horizontal wells in significant proportion, I don’t think they will be able to do it. Which means that 2011 and 2012 could turn out to be very interesting years indeed.