Is This the Real Life? Is This Just Fantasy? - Assessing the OPEC/Russia Deal and Its Impact

OPEC’s agreement at its November 30 meeting to cut crude oil output has sent prices soaring. Many U.S. producers already are anticipating brighter days, but before anyone pops the champagne it’s important to consider the deal’s potential vulnerabilities, and to factor in other market developments that reduce the agreement’s effect. Today we look at pre-deal maneuvering, the impact of those maneuvers on the level of supply, and the things that could still derail the move to market equilibrium.

At long last, the deal is done! Confounding skeptics, and sending crude oil prices soaring more than 10%, OPEC has agreed to reduce output beginning January 2017 by 1.2 million barrels per day (MMb/d). The long-sought agreement included a pledge by Russia to reduce its output by 300 thousand barrels per day (Mb/d), and on the expectation that other countries outside of OPEC would reduce output by another 300 Mb/d. Will OPEC be able to keep prices high after the initial shock of the deal wears off? To answer this question, and before we address the skepticism and headwinds facing the oil cartel, it is necessary to accurately gauge the starting point from which the cuts will be applied. Once that starting point is established, the market needs a barometer by which it can assess the deal’s chances of having a long-lasting effect.

Talk of an output cut started in earnest in mid-September (2016) after a number of failed attempts earlier in the year. OPEC members had every reason to believe that an eventual agreement would be hammered out at the November 30 meeting, and that October would be the benchmark from which cuts would be allocated. It was little wonder that OPEC exports (see Figure 1) soared in October.

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