| OPEC likely to spark another summer price surge
By Center for Global Energy Studies
Posted: 28 May 2007
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The world needs more oil than OPEC seems willing to supply, making it difficult to avoid another surge in oil prices over the coming summer.
Far from being ‘in balance’ as OPEC suggests, the oil market is experiencing a period of high price volatility that will persist as long as producers continue to seek prices above $60/bbl.
The surge in global demand for transport fuels over recent years, coupled with the decline in the use of oil as a fuel for boilers and power generation in response to high prices, has left the world’s refining system unable to meet the demands placed upon it by consumers.
There is insufficient deep conversion capacity to crack heavy oil into transportation fuels. Using less sophisticated hydroskimming refineries to make additional volumes of gasoline produces large volumes of unwanted fuel oil, which then compete with heavy crudes as a feedstock for more sophisticated refineries, undermining oil prices in the process.
This is precisely what happened last year and what OPEC seems to be trying to avoid as it seeks to defend its new apparent price floor of $60/bbl.
By restricting output, OPEC has succeeded in pushing oil prices back up above $60/bbl, but in so doing it has made it uneconomic for hydroskimming refineries to boost runs.
The result is that gasoline prices are rising towards the level needed to choke off demand. Problems with US refining capacity are making the US more dependent on imports from other parts of the world, where refineries are less sophisticated.
The difficulty for producers is that if hydroskimming margins improve sufficiently to allow refiners to boost runs, stocks of fuel oil will begin to accumulate and, once the driving season comes to an end at the start of September, the resultant glut of fuel oil could weaken crude oil prices significantly once again.
The run-up in oil prices over the past five years was triggered by strong oil demand growth, but this growth is already being undermined by high prices. OPEC argues that current oil prices have had no impact on global economic growth, which is still running well above 4%.
However, such robust economic growth has been accompanied historically by oil demand growth of 2% per annum or more, not the increase of less than 1% that we anticipate in 2007.
When global economic growth slows, as it inevitably will, the market for oil may well actually contract. OPEC believes that oil prices above $60/bbl are both reasonable and sustainable and appears determined to try to keep them there.
It can only do this, however, by preventing the build-up of unwanted fuel oil, forcing
crude oil prices up as gasoline prices rise in response to shortages. As long as cracking capacity remains inadequate to meet gasoline demand and OPEC responds by restricting output to keep prices too high to attract purchases from refiners with hydroskimming capacity, the oil market’s current period of high and volatile prices will continue. |
