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OPEC tries to force Russia into deeper cuts as oil price slumps

Bloomberg logoBloomberg 3/5/2020 Grant Smith, Nayla Razzouk and Matthew Martin

Video by Reuters

OPEC ministers tried to force Russia to join them in production cuts, a high-stakes gamble that risks an oil price crash if it backfires.

Cartel members told Russia that if it doesn’t join them in cutting production by another 1.5 million barrels a day to offset the economic impact of the coronavirus, then OPEC could abandon its cuts altogether. Hours later they raised the pressure on Moscow again, emerging from an informal meeting at the Saudi delegation’s hotel with a proposal to extend the curbs for even longer.

Even as Secretary-General Mohammad Barkindo struck a conciliatory tone and praised Russia as a dependable ally, the oil market braced for OPEC to fail. Brent settled below $50 a barrel in London for the first time in nearly three years.

The standoff is unprecedented in the time since Saudi Arabia, Russia and more than 20 other nations created the OPEC+ alliance in 2016. It has underpinned prices and reshaped the geopolitics of the Middle East, but is now under significant strain. The risk for the Saudis is that if their gamble backfires they have more to lose -- needing higher oil prices to fund their budget than Russia does.

“OPEC is making the cuts conditional on Russia joining,” said Amrita Sen, chief oil analyst at consultant Energy Aspects Ltd. “Saudi Arabia may be ready to walk away if it doesn’t get a positive answer.”

Brent is down more than 20% since the beginning of the year © Bloomberg Brent is down more than 20% since the beginning of the year

Only in July, Russia and Saudi Arabia touted their alliance as a marriage to “eternity”. Fast forward less than a year, and the view among traders is that the couple may be on the verge of divorce. Still, it’s not the first fight between Moscow and Riyadh, and both sides have been able to find a satisfactory solution in the past.

The Kremlin has gained a lot from its cooperation with OPEC. The country has been the biggest financial beneficiary of the cuts, largely because it’s borne a lesser share than Saudi Arabia. The alliance has also significantly enhanced President Vladimir Putin’s presence on the world stage and his political clout in the Middle East.

With oil prices down more than 20% since the start of the year as the economic impact of the coronavirus saps oil demand, the risks for the Friday meeting between OPEC and Russia are high. Not just for their alliance, but for the entire energy industry, from Exxon Mobil Corp. to smaller shale drillers in Texas, and oil-rich nations in Africa and Latin America.

”None of them can afford a price collapse,” said Roger Diwan, a veteran OPEC watcher at consultant IHS Markit Ltd. “This is a battle of egos against reality.”

a screenshot of a cell phone: Lopsided Effort © Bloomberg Lopsided Effort

The stakes in this game of diplomatic poker are huge -- 1.5 million barrels a day of fresh oil cuts, plus 2.1 million of existing curbs OPEC+ agreed on last year that expire at the end of this month. That’s equivalent to the consumption of Germany and France combined.

So far, Russia has indicated it’s only prepared to roll over the current cuts for another three months, and doesn’t want to go deeper. Moscow appears to be betting that the oil market would re-balance by itself over the next few months as low prices take their toll.

In particular, Russia believes that the U.S. shale industry is about to go in reverse. Exxon on Thursday announced it was slowing the pace of its flagship project in the Permian Basin.

Read: Aramco Delays April Oil Pricing as OPEC Leaves Market in Limbo

With flights canceled in Europe, schools closed in Japan, towns quarantined in Italy and a rising death toll in Iran, the coronavirus crisis has gone global, and with it, its impact on energy demand. Goldman Sachs Group Inc. earlier this week became the first major Wall Street Bank to forecast a contraction in consumption this year, suggesting that an even large cut may not arrest the drop in oil prices.

“Cutting production, 1.5 million barrels a day in April or May, is not really going to save you in the current environment,” Jeffrey Currie, global head of commodities research at Goldman said. “The demand damage is happening today, right now.”

Oil is now trading far too low to balance the budgets of most OPEC members. Riyadh needs more than $80 a barrel, according to the International Monetary Fund. Russia only requires a price of about $40 a barrel to balance its budget.

--With assistance from Grant Smith, Nayla Razzouk, Javier Blas, Will Kennedy, Salma El Wardany, Dina Khrennikova, Fred Pals, Golnar Motevalli, Manus Cranny, Brian Wingfield and Matthew Martin.

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