Explained | What is OPEC and why did it slash oil output?

Economists have cited OPEC as a typical cartel that exists to stifle competition and ensure control of a commodity is in the hands of a select few nations

Saudi Arabia, Russia and many other top oil producers agreed on Wednesday to massively cut down production to boost crude prices—a move denounced by the United States as a concession to Moscow that will further hurt the global economy.

The 13-nation OPEC cartel, headed by Riyadh and 10 of its allies led by Moscow, agreed at a meeting in Vienna to reduce output by two million barrels per day (bpd) starting in November, the group said in a statement.

It is the biggest cut since the height of the Covid-19 pandemic in 2020, raising fears that it will turbocharge oil prices at a time when countries are already facing soaring energy-fuelled inflation.

What is OPEC?

Considered a parallel to Big Oil, also known as the Seven Sisters on the seven major international oil producing companies, the Organization of the Petroleum Exporting Countries is an intergovernmental organisation of 13 oil-exporting nations that coordinates and unifies the petroleum policies of its member countries.

It was created at the Baghdad Conference on September 10–14, 1960, by Iran, Iraq, Kuwait, Saudi Arabia and Venezuela. In the subsequent years, Qatar, Libya, the United Arab Emirates, the Gabon and other nations joined the club, though many were suspended, withdrew their memberships or were otherwise removed from the collective.

Read | OPEC+ angers US with biggest oil production cut since peak Covid times

As of 2016, OPEC, which controlled 35 per cent of global oil supplies and 82 per cent of reserves worldwide, was superseded by OPEC+ and 10 non-OPEC nations including Mexico and Russia were brought into the fold, increasing its influence over control of more 50 per cent of oil supply and over 90 per cent of the global oil reserve. This practically gave OPEC a monopoly on oil production, and consequently prices of the fossil fuel.

Despite being labelled an intergovernmental organisation, economists have cited OPEC as a typical cartel that exists to stifle competition and ensure the control of a commodity is in the hands of a select few. The OPEC itself prefers to be called a “modest force for market stabilisation.”

Why has OPEC cut oil production?

In the early days of the Russia-Ukraine war, the prices of oil in the international market threatened to—and breached—prices that had not been seen in years, as brent crude crossed the $100-mark, its first such price in a decade. They have recently fallen to below USD 90, however, as fears of recession loom across Europe and a resurgence of Covid-19 in China, which follows aggressive lockdown measures.

It is speculated that the OPEC, which had earlier agreed to increase output, slashed it by 2 million in an effort to keep prices up and increase profits. It is also speculated that Russia is influencing Saudi Arabia, the de facto leader of the cartel, to keep output low in order to defeat western sanctions imposed on it owing to its invasion of Ukraine.

“To the extent that prices rise, it will make it that much more challenging for Europe to proceed with its sanctions on Russian oil in December,” Bhushan Bahree, an executive director of S&P Global Commodity Insights, told The New York Times.

Analysts said that the increasing intervention in the markets by Washington and the European Union, such as the move to set a price cap for Russian oil, might be pushing OPEC+ into more aggressive moves. Russia wants a higher price to offset the steep discounts it has had to give to sell its oil.

Some oil producers may see the price cap as a precedent that “might be an attempt to drive down prices more generally,” Richard Bronze, the head of geopolitics at Energy Aspects said. Such worries may explain why OPEC+ “is willing to take such a big step and one that will be so unpopular in Washington,” he added.

What are the reactions to the supply cut?

A substantial cut in production would be a blow to the Biden administration, which has lobbied the Saudis to increase output. Saudi officials have expressed concern that oil demand could weaken because of a flagging world economy.

The White House was not happy. “The President is disappointed by the shortsighted decision by OPEC+ to cut production quotas while the global economy is dealing with the continued negative impact of Putin’s invasion of Ukraine,” Brian Deese, the Director of the National Economic Council, and Jake Sullivan, the National Security Adviser, of the United States said in a statement.

By reducing output, OPEC+ was also seeking to make a statement to energy markets about the group’s cohesion during the Ukraine war and its willingness to act quickly to defend prices, analysts said according to The New York Times.

The OPEC+ decision helps Russia reap higher prices to offset the steep discounts it has been forced to give China and others, in return for their willingness to ignore the effort to isolate the country. In essence, the production cut will raise revenue for all the OPEC+ members, Russia and Iran included.

For their part, the Saudis were unapologetic.

“We would rather be pre-emptive than sorry,” Prince Abdulaziz bin Salman, the Saudi oil minister, told reporters about the effort to bolster prices.

(With agency inputs)