Like oil distilling in a refinery, long-held tensions can suddenly overheat and boil over. The timing of UAE’s OPEXIT may be surprising, but its frustrations have been well-signalled for at least five years.
Modern commentators think of OPEC entirely as a market management mechanism, often referring to it as a cartel. But for the first 22 years of its existence after 1960, it did not apply production quotas. It was at first a body for collective action against the major western companies and their governments, who dominated the global oil industry. It fought for fair prices and a redistribution of profits towards the countries from whose land the oil was extracted.
From the 1971 Tehran and Tripoli agreements to raise prices, then the 1973 embargo by a group of Arab producers, OPEC realised its market power. But that crashed demand and encouraged competing production from the North Sea, Alaska and Mexico.
Hence why in 1982, it had to introduce quotas to share a fast-diminishing market between its members. Apart from brief periods of breakdown, it has kept that role ever since, so assiduously that it now seems OPEC’s only function.
Modern commentators think of OPEC entirely as a market management mechanism, often referring to it as a cartel. But for the first 22 years of its existence after 1960, it did not apply production quotas. It was at first a body for collective action against the major western companies and their governments, who dominated the global oil industry. It fought for fair prices and a redistribution of profits towards the countries from whose land the oil was extracted.
The formation of OPEC+ in 2016 drastically expanded the production capacity under the alliance’s influence. The Vienna group had concluded that it could not handle both US shale and Russia simultaneously. After several attempts to cooperate with Moscow, the price war from 2014, and new thinking from Russian President Vladimir Putin and his Energy Minister Alexander Novak gave an opening.
But of the other states that came into OPEC+, Sudan, Bahrain, Azerbaijan, Malaysia, Brunei and Oman were declining or static producers. Kazakhstan wanted to grow its output substantially and has essentially ignored quotas. Only Oman and Kazakhstan were big enough for their production cuts to make much difference. Russia was the real prize. But its adherence to cuts was shaky too, except during the demand abyss caused by the Covid pandemic in 2020.
As it turned out, Russian production was not likely to grow dramatically after 2016. Its invasion of Ukraine in 2022, followed by sanctions, tax rises, limitations of technology and finance, and persistent Ukrainian drone attacks, mean it has often been unable to produce up to its allowance. But its size, military power, nuclear weapons and UN Security Council seat still guaranteed it would be one of the twin poles of OPEC+, with Saudi Arabia.
Higher prices and production cuts
Meanwhile, the quest for higher prices led to lengthy periods of deep production cuts. These restrained demand growth while allowing competing supply, particularly from the US and elsewhere in the Americas. In 2021, the UAE complained publicly, while officials hinted privately at an exit. The country’s production allowance was gradually raised, smoothing over the differences for a while.
Only last year did OPEC change tack on overall policy, allowing a series of production increases that did steadily bring prices down. But by then, the UAE’s production capacity was already far ahead of its limited allowance: at least 4.85 million barrels per day of capacity, versus a quota in January of 3.4 million bpd. That was proportionately by far the largest spare capacity of any member.
OPEC argued as recently as last March that “the oil sector requires cumulative investments of $18.2 trillion by 2050. This is to meet rising demand, and to counter decline rates, with the latter on average meaning we need to add around 5 mb/d every year… OPEC has repeatedly called for more investments in the oil industry.”
With the departure of the UAE, OPEC’s capacity is only 27% of global demand. That is too low for it to operate an effective market balancing mechanism. The wider OPEC+ group holds 41%.
Only last year did OPEC change tack on overall policy, allowing a series of production increases that did steadily bring prices down. But by then, the UAE’s production capacity was already far ahead of its limited allowance: at least 4.85 million barrels per day of capacity, versus a quota in January of 3.4 million bpd. That was proportionately by far the largest spare capacity of any member.
The OPEC after the UAE’s exit is a mix of one state with real spare capacity – Saudi Arabia – four with major growth ambitions (Iraq, Venezuela, Libya and perhaps a post-war Iran), and the rest with neither spare capacity nor growth, who benefit only from price rises. The burden of maintaining spare capacity to cope with unexpected price spikes will now rest almost entirely on Saudi Arabia.
The UAE has emphasised that it will continue to act as a responsible market actor following its exit. It will therefore not necessarily try to flood the market once the Gulf re-opens to free passage. It could, of course, continue to cooperate with OPEC on an informal basis.
But the UAE’s more diversified economy is better able to cope with lower oil prices, if they materialise, than Riyadh, Baghdad, Tripoli, Tehran or Caracas. The OPEC of 1973 or even 1982, a group of states whose economies depended almost entirely on their oil industries, has gone. Once immediate post-war recovery is over, the petroleum exporters’ club needs to set its sights more realistically.
- Robin M. Mills is CEO of Qamar Energy, and author of The Myth of the Oil Crisis
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