Fundamental Analysis

Overview This chapter examines crude oil prices from the perspective of two fundamentals. One is supply-and-demand balance and the other is a geopolitical factor. They are the basic fundamentals of crude oil price. This fact is straightforward to understand: Supply-anddemand balance largely dictates virtually all commodity futures price. While the strategic role of oil for almost every country determines that oil price is bounded to be tied tightly with the geopolitical factors. Few will argue that the recent decades are interesting times for energy industry. This observation is true for both traders and investors. On the traders' side, for example, the deregulation of natural gas in the United States in the early 1990s is slowly but inexorably moving into Europe and Asia. Natural gas deregulation has strongly fostered competition, as well as called for needs for risk management. On the investors' side, a significant phenomenon is that for many of today's hedge funds, commodities were the hot tickets from 2000 to 2005, as their prices began to rocket, fuelled In reply to: large part by China's boom. "Unlike oil, gas can't readily be moved about the globe to fill local shortages or relieve local surpluses. Forecasts of freezing U.S. temperatures in winter or heat and hurricanes in summer can send prices jumping, while forecasts of mild weather can do the opposite. Last December, amid a cold snap, gas soared to a record 15.378 a million British thermal units on the New York Mercantile Exchange, or Nymex. This month, prices fell below 5 in the absence of major hurricanes and with forecasters talking about another warm winter. Yesterday, gas for October delivery settled at 4.942 a million BTUs on Nymex, off four cents."


Speculative Activity EIA analysts believe that the change in the relationship between prices and Organization for Economic Cooperation. The wholesale price spread is the difference between the wholesale price of gasoline and the spot price of crude oil. and Development (OECD) commercial inventories is related to changes in the level of surplus production capacity, which declined sharply due to the acceleration of global oil consumption growth in 2003 and especially in 2004. Available evidence suggests that increases in speculative activity in futures markets are a result of the high level of current oil prices and the high uncertainty surrounding the value of future oil prices, not the other way around. In times of ample spare capacity there is little motivation for commercial producers and users of energy to shed risk, or hedge, since there is little perceived risk. With little desire to shed risk, there is only a small role for those who wish to take on the risk, the speculators. In contrast, when excess capacity declined and market participants perceived that OPEC members would no longer maintain stable prices in the environment of geopolitical risk, market participants became increasingly less certain of the path of future oil prices. The increased uncertainty regarding the path of future oil prices has caused commercial producers and users of energy to increase their desire to hedge. With the increased desire to shed risk, there has been a much larger role in the market for those prepared to bear this risk, the speculators. Although changes in the net position of non-commercial participants in WTI futures contracts appear to be in relation to changes in WTI spot prices in the very short run, the overall trend of increasing WTI spot prices is independent of the participation of speculators in the market.


Figure 5 : Net position of Non –Commercial Participants
Source : Nymex

EIA believes that the shift in the relationship between prices and OECD commercial inventories is better explained by changes in the level of surplus production capacity. OPEC’s change in behavior that came as a response to the Asian financial crisis and overproduction in the face of lower demand, shifted crude oil to a new price level. Production restraint by key OPEC member countries shifted the price base while market participants simultaneously perceived a growing likelihood or risk of increasingly scarce incremental crude oil supplies. Futures market long-term contracts shifted up to a new, higher, level of roughly $30, reflecting these new long-term expectations. Still, inventory levels and crude oil spot prices continued their inverse relationship (i.e., falling inventories correlating with rising prices), as shown by the January 2000-April 2004 trend line. Beyond April 2004, there is an apparent reversal in the price/inventory relationship. While the correlation is not strong, prices appear to increase with increasing inventories, as shown by the May 2004 to March 2006 trend line . This fact alone appears confusing to some observers, who may attribute this shift to the activity of speculators. Several different factors have caused the increase in crude oil prices since 2002. The disconnect between non-OPEC supply growth and rising demand growth has raised production expectations from OPEC suppliers at a time when geopolitical uncertainty

inside of OPEC member countries is at heightened levels. The increased upstream risk has combined with constraints in the downstream to hinder the smooth provision of available supply to demand centers. Weather anomalies have created an added risk to oil production in hurricane-prone regions, and the weak US dollar has masked the oil price rise in some regions that would otherwise have induced lower oil demand. The new role of speculative money in the market is more a function of a shift in the inventory and price relationship.

The Energy Information Administration The EIA is a statistical agency of the U.S. Department of Energy and was created by Congress in 1977. Its mission is to provide policy-independent data, forecasts, and analysis to promote sound policy making, efficient markets, and public understanding regarding energy and its interaction with the economy and the environment. Energy products covered by EIA are: -Petroleum Including crude oil, gasoline, heating oil, diesel, propane, jet fuel, and other petroleum based products. -Natural Gas Including crude oil, gasoline, heating oil, diesel, propane, jet fuel, and other petroleum based products. -Electricity Including sales, revenue and prices, power plants, fuel use, stocks, generation, trade, and demand & emissions. -Coal Including reserves, including production, prices, employment and productivity, distribution, stocks and imports and exports. -Nuclear Including Uranium fuel, including nuclear reactors, generation and spent fuel.

For crude oil fundamental analysis, EIA data is a must-read, if not more emphasized. These data sets are published on daily, weekly, monthly and annual basis. The daily data include the spot prices of crude oil and petroleum products in the U.S. and selected international areas, as well as futures price at NYMEX. EIA archived the historical data of these daily prices. For WTI, the historical data could be back-traced to March 30, 1983. The weekly publications include: This Week in Petroleum, which is generally released on Wednesdays and contains analysis, data, and charts of the latest

weekly petroleum supply and price data; Weekly Petroleum Status Report, which reports the petroleum supply situation in the context of historical information and selected prices; and several other reports, mainly about price information. The monthly publications include: Company Level Imports, which is about imports data at the company level collected from the EIA-814 monthly imports report; Petroleum Marketing Monthly, which is of monthly price and volume statistics on crude oil and petroleum products at a national, regional and state levels; Petroleum Supply Monthly, which details supply and disposition of crude oil and petroleum products on a national and regional level. The data series describe production, imports and exports, movements and inventories; Prime Supplier Report, which measures primary petroleum product deliveries into the U.S. where they are locally marketed and consumed. At last, the annual publications include: U.S. Crude Oil/Natural Gas/Natural Gas Liquids Reserves Annual Report, Petroleum Supply Annual, Petroleum Marketing Annual and Refinery Capacity Report. What is really valuable of the EIA data repository is that not only raw market data are provided; a researcher could also get access to a compilation of frequently updated analyses and forecasts. There are great quantities of analyses of other economic fundamentals about crude oil.

Supply-and-Demand Balances For the global oil industry, oil trade represents the close connection between two main centers of activity: upstream exploration and production, as well as downstream refining and marketing. The interactions between the upstream and the downstream largely determine crude oil supply-and-demand balancing dynamics. Mechanisms of such interactions are as following: Upstream parties are the major sellers of crude oil, and their productions are valued by downstream demand; While downstream parties are the major buyers of crude oil, and the cost of their feedstock is determined by the upstream supply. Operational decisions about combining output from various fields to create a specific crude oil export stream with certain characteristics are constantly tested in the market against the requirements of refiners for specific feedstock to meet final demand for a changing combination of products. The downstream marketing prices of the

petroleum products, such as heating oil, gasoline, propane, aviation oil and kerosene are also determinants of crude oil price. Due to the extensive vertical integration of the oil industry until the early 1970s, these decisions used to be largely kept under the umbrella of major oil companies.

There have been several profound changes in the upstream-downstream structure since 1970s. Increased crude price volatility since the early 1970s in combination with other price-affecting factors, OPEC output quotas for example, signaled oil-importing developing countries such as South Korea, India, and Brazil to invest in refining capacity to mitigate both refined product volume and price risks. These same trends also created an incentive for governments in oil-exporting countries, notably Iran, Kuwait and Saudi Arabia, to build refineries in order to capture the value added in turning crude oil into refined products. Other global trends of oil companies include privatization and large mergers among majors. These trends are finally challenging the long established dominance of big national oil companies in the top tiers of the international oil industry. While the largest state-owned companies are still playing a critically important role, the private sector companies are now becoming more important rivals. As of today, global upstream and downstream composition has been quite different from what it was in the 1970s. Clearly, the extent to which up stream’s or down stream’s capacities are utilized during a certain time period greatly determines the crude oil price level and volatility of that period. In the case that the upstream has limited surplus in capacity, such as running tight on daily productions or lacking of new explorations when the supply-demand in market is barely balanced, a small portion of decrease in crude oil production would cause a significant price hike. For this reason, the market players will prefer to pay crude oil future contracts with higher premium. On the other hand, when the downstream has limited surplus in capability, such as fully operating refineries, oil transport ports and storages, an instability factor in these facilities will trigger significant increases of the petroleum products price. Such increases will subsequently affect crude oil price in an indirect manner, making bulls in the futures market. From 2003 to 2006, surplus global oil production capacity, which was as high as 5.6

million barrels per day in 2002, plummeted to 1.8 million barrels per day in 2003, and has been around 1 million barrels per day during most of 2004 to 2006. As demand has increased rapidly during the same period, the world has dipped into the surplus capacity that had been built up earlier. While some productive capacity has been brought online, it has been insufficient relative to demand growth. As a result, surplus capacity is extremely limited, dramatically reducing the ability to respond to any sudden surges in demand or disruptions in supply. The situation is similar downstream, where global refinery utilization has increased from an annual average of 85 percent in 2002 to 90 percent in 2005. This increase in refinery utilization has also reduced the system's flexibility to respond to any disruption in refinery production, either from hurricanes or other events. Increases in refinery utilization rates may also make crude oil markets more responsive to seasonal patterns for refined products. All these factors composed the first cluster of pulling-up forces for crude oil price during the 2003-2006 period. This chapter also argues that strong growth in the world economy, and particularly in China and the United States, has fueled the need for more oil, thus putting upward pressure on prices. That is, strong global oil demands are the other cluster of factors causing oil prices to rise in recent years. Asia Pacific and the United States are world's largest oil consumption regions, and the main oil consumer in Asia Pacific is Japan and China. As of 2006, the U.S. ranks first in daily oil consumption; Japan ranks the second, and China the third. All these three counties' economy is in good shape from 20032006, with China being the particular. As a result, after averaging annual growth of just under 1 million barrels per day between 1991 and 2002 (under 0.9 million barrels per day for 2000-2002), world oil demand grew by 1.5 million barrels per day in 2003, 2.6 million barrels per day in 2004, and at least 1.1 million barrels per day in 2005. This greater-than-historical growth came even as oil prices more than doubled. Geopolitical Factors Just as the lack of surplus capacity is related to the growth in global demand, the impact on prices due to geopolitical risks is related to the lack of surplus capacity. If surplus capacity were sufficient to make up for any reasonable likelihood of a loss in supply, then the risks would not have as great an impact on price. However, because there is very limited surplus capacity, concerns about potential or existing supply problems in

Nigeria, Iran, Iraq, Venezuela, and elsewhere, have exacerbated price increases related to the supply-and-demand factor above. Or put another way, these risks to supply would not be putting as much upward pressure on prices if fundamentals were not tight to begin with. The risks brought by geopolitical factors include instabilities of a nation's government and/or domestic economy; such nations do not necessarily to be an major crude oil exporter. For example, Singapore has strategic geographical location on the strait of Malacca, a main ocean waterway where 11.7 million barrels of crude oil passing by daily (2004 data). As a result, failure to crack pirate activities in the strait of Malacca by Singapore and other neighboring nations' law-enforcement departments will sometimes bring a up curve in the crude oil futures price. In another example for Venezuela, a disastrous two-month national oil strike, from December 2002 to February 2003, temporarily halted the whole nation's economic activity. Because Venezuela continues to be an important source of crude oil for the U.S. market. Both the instant effect of oil output volume collapse and aftermath effects as inflation and unemployment became fundamental drivers for a price hike of WTI future contact during the period, November 2002 to March 2003. That price hike is clearly reflected that although Venezuela's national strike ended in February 2003, the following U.S. invasion to Iraq, started on March 20, 2003, kept the crude oil price at its local peak for another week. During the period of 2003-2006, the forces exercised by geopolitical factors to global crude oil market are clearly pull-up ones. Besides the situation of Venezuela as described above, the U.S. invasion to Iraq successfully toppled the regime of Saddam Hussein in a short time frame, however the following insurgent activities in the war-torn country have been put the Middle East in long-time instability. During the same period, the conflicts between U.S. and Iran, the world's fourth largest oil exporter in 2004, have never really come to a rest. In year 2003-2004, some analysts even believed that a U.S. invasion to Iran had been planned and military actions of none-regular attacks, such as missile assaults might be taken. In Nigeria, it is not uncommon for oil producing and transporting facilities to be vandalized and result in sharp drop in oil output. In May 2005, Gasoline gushing from a ruptured pipeline exploded as villagers scavenged for


fuel in Nigeria, killed up to 200 and caused a 50% drop in the nation's oil output for a week. An interesting question is: how to determine the magnitude of a individual geopolitical factor's influence to global crude oil price? This question is not NP-hard, but a very difficult one if precise quantitative results are to be derived. In a gross level, a practical approach could be using short-term events of a specific geopolitical factor to gauge the corresponding factor's magnitude of influencing power. An example is shown below, about the world's biggest oil exporter: Saudi Arabia. On February 24, 2006, Islamic extremists took a bold daytime attack on the world's largest oil-processing facility, called Abaci close to Saudi Arabia's main export terminals on the Gulf coast. Although the attack was defeated at the security road lock and did not affect the oil-processing facility's daily production at all, future contract 1 of WTI (to be delivered in March 2006) had a 3.4% price increase the next day. This is a terrific example of the magnitude of Saudi oil's influencing power to the global market. One hedge fund manager anticipated that the fall of the House of Saud would generate a 262 per barrel price in the year of 2006.

Market Expectations Market expectations could have radical influences on the price. Intuitively one of its mechanisms could be described as follows. Before the release of key actual statistics in each period, each player takes action to maximize his expected profit according to her expectation of price. When players' expectations are highly correlated, the collective action of these players can practically change the actual determinants of the price. Therefore neglecting the market expectation could lead to non-ignorable mistakes in a certain price prediction model. It seems reasonable that the market expectations during a given time period may be more relevant to determining prices during that period than are the actual statistics that only become know much later. There are quite a few literatures, which introduce practical approaches about making use of market expectations. For example, three ways are described to incorporate expectation in a model:


Price is a function of estimates for concurrent-season statistics. Expectation is

used for concurrent-season data. i.e., using expectation to explain price variations that have already taken place.

Price is a function of concurrent-season actual statistics and expectation for the

following season. i.e., using expectation to predict price variations that have not happened yet.

Price is a function of concurrent-season estimates and expectation for the

following season. Expectations are used for both concurrent- and following-season data. i.e., using expectation to explain both happened-already and going-to-happen price variations.

It is important to realize that expectations for a coming season can often have a stronger price impact than do prevailing fundamentals. This is particularly true during the later half of a season when the fundamentals for the given season are well defined due to players' action results and not subject to significant variation. Players foresee the trend of the market in the next period clearly and take effective action to protect his/her next period's profit. In another word, under some circumstances expectation for the following period plays the dominant role in Price-determination.

Some traders actually follow this concept in practical trading decision-making. A 2005 article of the Federal reserve bank of San Francisco predicts the crude oil price by using "futures-spot spread", which uses the spread between the current futures prices and the spot price to predict movements in the future price of WTI crude oil at NYMEX. The central idea of the article is that oil traders are knowledgeable about the industry; as a result, they are trying best to make sound investments, making the price-driving force of expectations a factor as strong as the spot price.

Weather Conditions Oil supply disruption in the Gulf of Mexico severely hurt the prospects for non-OPEC supply growth and had both short and long-term impacts on the WTI price. The Gulf of Mexico region is an important source for U.S. production of crude oil and natural gas. In

2004, crude oil production from the Federally-administered Outer Continental Shelf (OCS) fields was about 27 percent of total U.S. production. Texas, Louisiana, Alabama, and Mississippi also contribute significant onshore and State-administered offshore oil and natural gas production. Seasonal storm-related disruptions to oil and natural gas production are difficult to predict, primarily due to the uncertainty involved in predicting the location and intensity of future tropical cyclones. Severe storms that threaten the Gulf producing region do not happen every year, and long-lasting shut-in production resulting from storm damage is generally rare. Last year’s hurricanes were an anomaly that destroyed existing fields, transportation infrastructure, and projects under construction. Many of these have only recently returned to operation or have been significantly delayed. The possibility of another disruption this summer is an alwayspresent upward risk to EIA’s price forecast.

Hurricanes Katrina and Rita hit at the heart of the US refinery industry US Gulf Coast states have 8.05-mmb/d of refining capacity, or46% of US distillation capacity, and the highest concentration of upgrading capacity 75 days after the hurricanes, over 90mmbbls of crude oil and over 175mmbbls of products have been removed from the market At its peak the hurricanes closed down 30% of the US refinery Capacity, at the turn of the year 775-kb/d of capacity is likely to Still be affected Hurricanes have put pressure on policy makers remove Limitations, but companies are still reluctant to invest in an Industry with poor investment returns Hurricanes Katrina and Rita hit the Gulf of Mexico region in late August and late September 2005 respectively, causing significant damage to regional oil production and refining facilities.

In early September, the loss of crude oil production in the Gulf of Mexico region was estimated at around 1.4 million barrels a day, accounting for over 90 per cent of normal regional production and around 20 per cent of total US production. Similarly, in the same period, around 87 per cent of gas production in the region was shut-in. Gas production in the Gulf accounts for approximately 17 per cent of total US production or 14 per cent of US supplies.


In an attempt to ease upward pressure on prices, the International Energy Agency announced, in early September, the release of a total of around 63 million barrels of crude oil from emergency reserves for market consumption. In a meeting held in Vienna on 19 September 2005, OPEC members also agreed to make available to the market the spare production capacity of 2.0 million barrels a day for a period of three months starting 1 October 2005, if required.

By the end of October 2005, the market took up approximately 42 million barrels of crude oil from the IEA emergency reserves. Additionally, the United States has made loans from its Strategic Petroleum Reserve available on request. Including the loaned volumes, the total additional oil for market consumption was around 54 million barrels by the end of October. Because of the severity of the damage, reconstruction is expected to take longer than recent similar events.

For example, in 2004, Hurricane Ivan caused extensive damage to production infrastructure in the Gulf of Mexico region, including damage to offshore pipelines. However, despite this, recovery following Hurricane Ivan was relatively speedy. After one month of reconstruction, the loss of crude oil production was reduced to below 0.5 million barrels a day. This time, damage to offshore production infrastructure, while considerable, has been relatively less of a barrier to production recovery. The main issue has been damage to pipelines and onshore processing and refining facilities. As of late November, the loss of regional crude production remained at around 0.6 million barrels a day, or about 41 per cent of normal regional production (as reported by US Minerals Management Services).

Natural gas production remained at 68 per cent of the normal level of production. While complete recovery of energy infrastructure from hurricanes Katrina and Rita could run well into 2006, significant recovery should have occurred by the end of 2005 (as noted by US Energy Information Administration).


According to the United States Minerals Management Service, the estimated total amount of US oil and gas production lost over the period from 26 August to 23 November 2005 was 91.7 million barrels of crude oil (equivalent to around 17 per cent of yearly production of oil in the Gulf of Mexico) and 474 billion cubic feet of natural gas (approximately 13 per cent of Gulf production). This compares with a total loss of 43.8 million barrels between September 2004 and February 2005 from Hurricane Ivan. The impacts of hurricanes Katrina and Rita could also spillover beyond the short term. US Minerals Management Services suggests that destruction of older facilities nearing the end of theirs production life is likely to lead to a permanent loss of regional production capacity. In October, Chevron announced that the storm damaged Typhoon tension leg platform may be abandoned. In addition, the losses of drilling rigs and higher insurance charges will increase development costs and defer the startup of new fields.

Disruption to US refining capacity reached a peak of around 5.0 million barrels a day in September as a result of hurricane damage and precautionary shutdowns. Offline capacity was in excess of 3.5 million barrels a day in early October, before falling to under 1.0 million barrels a day in early November. Reflecting the disruptions caused by hurricane activity, the national average gasoline price in the United States reached a high of US$3.07 a gallon in early September. Since then, gasoline prices have declined gradually. In late November, the national average price was at US$2.20 a gallon, compared with around US$1.95 a gallon in the same period of the year.

Natural Gas Markets
Relatively high levels of natural gas in storage and a forecast of slightly warmer-thannormal weather (though not as warm as last winter) should keep Henry Hub spot prices below $9 per mcf through the winter heating season. EIA projects the monthly average Henry Hub spot price will peak in January at roughly $8.70 per mcf. The Henry Hub price is expected to average $7.06 per mcf in 2006 and $7.79 per mcf in 2007.

No growth in total natural gas consumption is projected in 2006 compared with 2005, but a 1.3-percent increase is expected in 2007 (Total U.S. Natural Gas Consumption

Growth). The expected colder winter, compared with last winter, raises residential and commercial demand while the forecast for a cooler summer lowers natural gas demand for electricity generation. Residential and commercial sector consumption grow by 7.5 percent and 3.9 percent, respectively, in 2007, as the number of heating degree-days is expected to increase by about 7 percent. Industrial sector natural gas consumption is expected to show only modest growth of 1.2 percent over 2006. Power sector consumption, on the other hand, is expected to decline by 4.3 percent in 2007, following 7.4-percent growth in 2006, as total cooling degree-days next year are expected to be about 12 percent lower than in 2006.

Domestic dry natural gas production is expected to increase by about 1.3 percent in 2006 and 0.4 percent in 2007. Net imports of natural gas are expected to show a 6.1percent decline in 2006. In 2007, net imports are expected to increase by 2.6 percent primarily due to the rise in liquefied natural gas (LNG) imports. Projected LNG imports in 2006 are below 2005 levels because of price competition with Europe. The growing availability of supplies from liquefaction facilities in Trinidad and Tobago and Nigeria contribute to the expected increase in LNG imports in 2007. However, U.S. LNG imports will continue to be affected by price competition from other LNG-consuming economies, particularly in Europe.

As of October 27, working gas in storage was 3,452 billion cubic feet (bcf), a level 288 bcf above the year-ago level and 276 bcf above the 5-year average for that date (U.S. Working Natural Gas in Storage). Storage levels are near EIA’s estimated maximum working gas storage capacity of about 3,600 bcf. Working gas inventories are projected to end the winter (March 31, 2007) at about 1,405 bcf, 285 bcf below the level of 1,690 bcf reached at the end of March 2006, but still about 150 bcf above the average of the last 5 years.

Determinant of price of oil and oil demand The surge in global economic growth, as noted, stimulated demand for oil. Three generic groups of factors—Economic, Geopolitical and Technical—influenced to a

greater or lesser extent the rise in oil prices and therefore other energy prices. We can better understand these in terms of how they gave momentum and durability to the price rise if we overlay them with a fourth; namely, ‘Information’. In other words, how market agents perceived the first three sets of factors and interpreted or misinterpreted their importance influenced their actions in the market and determined market outcomes. Because these factors and events are generally well known and have been discussed and analyzed at length over the past three years, they are reviewed only briefly here. Table lists some of the events and factors that caused dislocations in the market. Key however was the disappearance of spare capacity. Economic Factors It is generally held that this price ‘shock’ (it is debatable whether it can be called a ‘shock’) was demand-led and Asian-based. As noted earlier it is sometimes forgotten that since the late eighties most of the net growth in global oil demand occurred in the Asia Pacific region. This was perhaps understandably forgotten as the Asian Financial Crisis reversed this trend and, combined with the fallout from OPEC’s internal differences at the time over production strategy, led to the price crash of (2000). Global economic growth in 2004 approached 5%, a level not experienced since the seventies, and world oil demand surged, led by China, North America, the rest of Asia and the Middle East. To remind us of some elements behind that growth; - North America, principally the United States economy, came out of a post-9/11/2001 slump, lubricated by reelection year fiscal gifts in 2003/04 and historically low interest rates that in turn stimulated a mortgage boom, which together with a recovery in equity markets triggered a so-called wealth effect surge in household consumption (and ominously, record household debt). - This surge in consumption saw increased U.S. imports of consumables and merchandise especially from China. China’s expansion at or near double-digit levels was registered in a sharp increase in oil demand, mostly diesel and LPG (Liquid Petroleum Gases, used as petrochemical feed stocks). Diesel demand was driven by increased transport by barge, rail and truck, certainly to move goods, but also to ship coal to power plants to alleviate congested rail transport. On top of that, fuel oil and diesel demand increased owing to the installation of independent oil-fired generation sets to make up for shortfalls in gridbased electricity supply. - China’s growth stimulated growth among its Asian neighbors including Japan.

- China and India, with a combined population approaching 2.5 billion people, experienced dramatic increases in incomes adding momentum to the global economy and therefore oil consumption. As this new demand absorbed some spare capacity, political and technical developments removed supply; the result was the virtual disappearance of spare capacity. The carry over of years of underinvestment all along the delivery chain predisposed the system to geopolitical and technical stresses. Technical Factors The oil industry is a complex and integrated technical system. When it has excess capacity along the chain from production, transportation, refining and distribution, and in the associated industries that supply and service various links in the chain, the system is generally capable of absorbing and offsetting upsets, fires or interruptions along the chain. But when the chain is tight, when capacity has no margin or swing, upsets can generate major dislocations in the market and thereby affect prices. An early technical development that put pressure on oil prices had an ironic origin: a problem in the nuclear accidents of Japan’s largest power utility, TEPCO. In May of 2003 TEPCO was required to shut all 17 of its nuclear reactors to verify if the problem was a generic fault. During the shut-down over the peak summer period, Tokyo faced electricity shortages and oil imports increased by 200 kb/d. The irony of this incident is that part of the rationale behind Japan’s nuclear power program was to reduce its dependence on oil imports. The erosion of spare capacity over 2003 to 2005 was of central importance to the market dislocations. Reduced to as little as 0.6 mb/d, and mostly heavy sour grades, the world spare crude production capacity was inadequate to make up for upsets. Hurricanes Ivan in 2004 and Katrina and Rita in 2005 struck the US Gulf Coast, the world’s largest single refining centre, at a critical time in the annual oil demand cycle. The 2005 storms removed over 1.5 mb/d of crude oil production and 75% of the region’s gas production equal to 10% of U.S. gas supply, and shut in 20% of U.S. refining capacity. Their repercussions lasted for months. Earlier in the summer, some observers blamed price increases on the tight US refinery capacity, but US refining capacity had been as tight in the mid nineties without increasing prices. But in 2004/05, global refining capacity was tight; specifically, capacity to process the marginal heavy barrel. This was the bottleneck: inadequate upgrading capacity to process the available sour crudes to produce ‘sweet’ products.

This ‘mismatch’ between the quality of available crude and the refining equipment available to process it to meet the product slate demanded in the market helped drive prices above $70. Under tight market conditions even accidents to non-producing equipment can influence the market. When the Thunder Horse platform, nearing completion in the Gulf of Mexico, was damaged during hurricane Dennis earlier in summer 2005, the forward oil price increased because it was expected to start producing a quarter million b/d in the fourth quarter. It is not a new insight and therefore not surprising that tight capacity or even the perception of tight capacity can compound price volatility. While political and technical upsets are inevitable they are not predictable. Reducing volatility then comes down to increasing capacity; increasing capacity raises many other issues including the long standing question of who should bear the responsibility and cost of doing so. Geopolitical Factors The list of geopolitical developments that played a role in strengthening the rising price trend is long and not easily disentangled from their technical consequences. The invasion of Iraq and its impact on that country’s oil supply not meeting analysts’ expectations, the strikes in Venezuela and Nigeria, which removed supply, the Yukos Affair and the dampening of the rise in output from Russia, all either eroded the margin of spare capacity or sent signals that increased the nervousness of buyers. The thinner the spare capacity became, the greater was the psychological impact of each event on the market. There is a tendency to view developments in the history of oil markets through a political lens. There may be good reasons for doing so and, while no additional evidence was needed of the continuing importance of geopolitics, since the last AEC in 2002, as noted earlier we have several significant examples of how it impacts oil and gas both here in the region and elsewhere, notably the former Soviet Union. While the political forces influencing supply and demand of hydrocarbons might well be the most interesting for political scientists and provide a fecund source of speculation regarding motives, interests and intrigue, we risk drawing the wrong conclusions about the future path of oil and gas if we ignore other factors, not the least of which are technical/scientific, social and economic. Pivotal is information about the industry and how that information is interpreted or misinterpreted in decision-making. Much has been written and said about the role of ‘speculators’ through this period. As noted, the fact that spare capacity in crude production was whittled down to historic lows and that much of that crude was heavy sour grades unsuitable to the refining stock and product quality specs had a significant influence on market participants’ actions.

The relationship between forward days’ inventory and prices has been examined in detail. But if spare production capacity—essentially a form of inventory—is taken into account along with actual inventories, it is not surprising that prices increased. In other words, at the end of the day tight supply conditions prevailed—these were fundamentals, which commodity traders took into account in their assessment of the market’s direction, and prices were bid up. These oil market developments since the last Arab Energy Conference underscore how economic, technical and political factors and events elsewhere in the world can impact on oil and gas producing countries everywhere. The price of the key benchmark or reference crudes continued to rise, given further momentum by news and events. Just one example underscores the importance of information, in this case, information from governments. The statement by the US Vice President in early 2005 that the SPR would only be used in the event of a major oil supply cut of 5 or 6 mb/d gave market players some upside price comfort, while OPEC’s credible defense of an implicit floor price provided protection on the downside. This was undone in the wake of hurricanes Katrina and Rita when IEA countries released strategic stocks. This merely underscores the importance of not getting locked into views of the future based on the past—the market and the forces acting on it are dynamic and evolving. Analysts will be writing about the 2003 – 2005 price surges for years to come. It is unlikely that tight capacity along the supply chain and the mismatch of crude with refining capacity will be dislodged as the most critical on the long list of factors that drove up the price. The roots of that tight capacity can be found in the distant history of the oil market, and reflect the considerable inertia in the energy delivery system.


World Nominal Oil Price Chronology: 1970-2005

1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19. 20.

OPEC begins to assert power; raises tax rate & posted prices OPEC begins nationalization process; raises prices in response to falling US dollar. Negotiations for gradual transfer of ownership of western assets in OPEC countries Oil embargo begins (October 19-20, 1973) OPEC freezes posted prices; US begins mandatory oil allocation Oil embargo ends (March 18, 1974) Saudis increase tax rates and royalties US crude oil entitlements program begins OPEC announces 15% revenue increase effective October 1, 1975 Official Saudi Light price held constant for 1976 Iranian oil production hits a 27-year low OPEC decides on 14.5% price increase for 1979 Iranian revolution; Shah deposed OPEC raises prices 14.5% on April 1, 1979 US phased price decontrol begins OPEC raises prices 15% Iran takes hostages; President Carter halts imports from Iran; Iran cancels US contracts; Non-OPEC output hits 17.0 million b/d Saudis raise marker crude price from 19$/bbl to 26$/bbl Windfall Profits Tax enacted Kuwait, Iran, and Libya production cuts drop OPEC oil production to 27 million b/d

21. 22. 23. 24. 25. 26. 27. 28. 29. 30. 31. 32. 33. 34. 35. 36. 37. 38. 39. 40. 41. 42. 43. 44. 45. 46. 47. 48. 49. 50. 51. 52. 53. 54. 55. 56. 57.

Saudi Light raised to $28/bbl Saudi Light raised to $34/bbl First major fighting in Iran-Iraq War President Reagan abolishes remaining price and allocation controls Spot prices dominate official OPEC prices US boycotts Libyan crude; OPEC plans 18 million b/d output Syria cuts off Iraqi pipeline Libya initiates discounts; Non-OPEC output reaches 20 million b/d; OPEC output drops to 15 million b/d OPEC cuts prices by $5/bbl and agrees to 17.5 million b/d output Norway, United Kingdom, and Nigeria cut prices OPEC accord cuts Saudi Light price to $28/bbl OPEC output falls to 13.7 million b/d Saudis link to spot price and begin to raise output OPEC output reaches 18 million b/d Wide use of netback pricing Wide use of fixed prices Wide use of formula pricing OPEC/Non-OPEC meeting failure OPEC production accord; Fulmar/Brent production outages in the North Sea Exxon's Valdez tanker spills 11 million gallons of crude oil OPEC raises production ceiling to 19.5 million b/d Iraq invades Kuwait Operation Desert Storm begins; 17.3 million barrels of SPR crude oil sales is awarded Persian Gulf war ends Dissolution of Soviet Union; Last Kuwaiti oil fire is extinguished on November 6, 1991 UN sanctions threatened against Libya Saudi Arabia agrees to support OPEC price increase OPEC production reaches 25.3 million b/d, the highest in over a decade Kuwait boosts production by 560,000 b/d in defiance of OPEC quota Nigerian oil workers' strike Extremely cold weather in the US and Europe U.S. launches cruise missile attacks into southern Iraq following an Iraqi-supported invasion of Kurdish safe haven areas in northern Iraq. Iraq begins exporting oil under United Nations Security Council Resolution 986. Prices rise as Iraq's refusal to allow United Nations weapons inspectors into "sensitive" sites raises tensions in the oil-rich Middle East. OPEC raises its production ceiling by 2.5 million barrels per day to 27.5 million barrels per day. This is the first increase in 4 years. World oil supply increases by 2.25 million barrels per day in 1997, the largest annual increase since 1988. Oil prices continue to plummet as increased production from Iraq coincides with no growth in Asian oil demand due to the Asian economic crisis and increases in world oil inventories following two unusually warm winters.

58. OPEC pledges additional production cuts for the third time since March 1998. Total pledged cuts amount to about 4.3 million barrels per day. 59. Oil prices triple between January 1999 and September 2000 due to strong world oil demand, OPEC oil production cutbacks, and other factors, including weather and low oil stock levels. 60. President Clinton authorizes the release of 30 million barrels of oil from the Strategic Petroleum Reserve (SPR) over 30 days to bolster oil supplies, particularly heating oil in the Northeast. 61. Oil prices fall due to weak world demand (largely as a result of economic recession in the United States) and OPEC overproduction. 62. Oil prices decline sharply following the September 11, 2001 terrorist attacks on the United States, largely on increased fears of a sharper worldwide economic downturn (and therefore sharply lower oil demand). Prices then increase on oil production cuts by OPEC and non-OPEC at the beginning of 2002, plus unrest in the Middle East and the possibility of renewed conflict with Iraq. 63. OPEC oil production cuts, unrest in Venezuela, and rising tension in the Middle East contribute to a significant increase in oil prices between January and June. 64. A general strike in Venezuela, concern over a possible military conflict in Iraq, and cold winter weather all contribute to a sharp decline in U.S. oil inventories and cause oil prices to escalate further at the end of the year. 65. Continued unrest in Venezuela and oil traders' anticipation of imminent military action in Iraq causes prices to rise in January and February, 2003. 66. Military action commences in Iraq on March 19, 2003. Iraqi oil fields are not destroyed as had been feared. Prices fall. 67. OPEC delegates agree to lower the cartel’s output ceiling by 1 million barrels per day, to 23.5 million barrels per day, effective April 2004. 68. OPEC agrees to raise its crude oil production target by 500,000 barrels (2% of current OPEC production) by August 1—in an effort to moderate high crude oil prices. 69. Hurricane Ivan causes lasting damage to the oil infrastructure in the Gulf of Mexico and interrupts oil and natural gas supplies to the United States. U.S. Secretary of Oil Spencer Abraham agrees to release 1.7 million barrels of oil in the form of a loan from the Strategic Petroleum Reserve. Energy (oil & gas) is backbone of any economy worldwide. It accounts for over 60% of total world’s primary consumption. Oil has multiple applications ranging from domestic to industrial uses. Metals are being progressively replaced by plastics, fibers a product and by product of oil. OPEC a group of oil producing and exporting countries plays a major role in oil business. Non- OPEC countries are also on the path of immense growth due to their exploration and production technology, aggressive cost reduction program, attractive physical policy and collaboration with other developing and developed nations. Demand is more than supply across world so the price sensitiveness of oil is a major concern for each country. Economic, geological, technical factors are focal area for oil price and its impact on economy.


OPEC (Organization of Petroleum Exporting Countries).

The organization of the Petroleum Exporting Countries (OPEC) is a permanent intergovernmental organization, currently made up of 11 oil producing and exporting countries. OPEC is an international organization of oil-exporting developing nations that coordinates and unifies the petroleum policies of its Member Countries

The Organization of Petroleum Exporting Countries (OPEC) was formed at a meeting held on September 14, 1960 in Baghdad, Iraq, by five Founder Members: Iran, Iraq, Kuwait, Saudi Arabia and Venezuela. OPEC was registered with the United Nations Secretariat on November 6, 1962. The Organization of the Petroleum Exporting Countries (OPEC) comprises countries that have organized for the purpose of negotiating with oil companies on matters of petroleum production, prices, and future concession rights. The members, which constitute a cartel, agree on the quantity and the prices of the oil exported. The OPEC headquarters is situated in Vienna, Austria. OPEC seeks to regulate oil production, and thereby manage oil prices, in a coordinated effort among the member countries, especially through setting quotas for its members. Member countries hold about 75% of the world's oil reserves, and supply about 40% of the world's oil . Organization of Petroleum Exporting Countries (OPEC) members include Algeria, Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, the United Arab Emirates, and Venezuela. OPEC members' national oil ministers meet regularly to discuss prices and, since 1982, to set crude oil production quotas. Worldwide oil sales are denominated in U.S. dollars, changes in the value of the dollar against other world currencies affect OPEC's decisions on how much oil to produce. For example, when the dollar falls relative to the other currencies, OPECmember states receive smaller revenues in other currencies for their oil, in turn


causing substantial cuts to their purchasing power which are in non , because they continue to sell oil in the U.S. dollar

OPEC’s mission is to coordinate & unify the petroleum policies of Member Countries & ensure the stabilization of oil prices in order to secure an efficient, economic & regular supply of petroleum to consumers, a steady income to producers & a fair return on capital to those investing in the petroleum industry. Since worldwide oil sales are denominated in U.S. dollars, changes in the value of the dollar against other world currencies affect OPEC's decisions on how much oil to produce. For example, when the dollar falls relative to the other currencies, OPECmember states receive smaller revenues in other currencies for their oil, in turn causing substantial cuts to their purchasing power, because they continue to sell oil in the U.S. dollar.

Country Algeria Indonesia Iran Iraq

Joined OPEC 1969 1962 1960* 1960*

Location Africa Asia Middle East Middle East

Kuwait Libya Nigeria Qatar Saudi Arabia United Arab Emirates Venezuela

1960* 1962 1971 1961 1960* 1967 1960*

Middle East Africa Africa Middle East Middle East Middle East South America

OPEC principal objectives are: To co-ordinate and unify the petroleum policies of the Member Countries and to determine the best means for safeguarding their individual and collective interests; To seek ways and means of ensuring the stabilization of prices in international oil markets, with a view to eliminating harmful and unnecessary fluctuations; and To provide an efficient economic and regular supply of petroleum to consuming nations and a fair return on capital to those investing in the petroleum industry.

OPEC policies - impact on prices OPEC most influential body in the world today and key driver of oil prices Supply side restrictions to support prices have proved to be very effective during last 3 years Considerable leverage on supply side as they have demonstrated their ability to rope in non-OPEC oil producers as well. OPEC used to maintain a price band of $22/bbl to $28/bbl for OPEC basket price, where in case prices drop below $22/bbl then OPEC would cut production by 5,00,000 bbls in case prices rise above $28/bbl then OPEC would increase production by 5,00,000 bbls. Now ever, in view of the fundamental shift & lack of spare capacity, the price band has been informally abolished.


At its March 2000 meeting, OPEC set up a price band mechanism, triggered by the OPEC basket price, to respond to changes in world oil market conditions. According to the price band mechanism, OPEC basket prices above $28 per barrel for 20 consecutive trading days or below $22 per barrel for 10 consecutive trading days would result in production adjustments.

This adjustment was originally automatic, but OPEC members changed this so that they could fine-tune production adjustments at their discretion. Since its inception, the informal price band mechanism has been activated only once.

Oil Price Analysis Crude oil prices behave much as any other commodity with wide price swings in times of shortage or oversupply. The crude oil price cycle may extend over several years responding to changes in demand as well as OPEC and non-OPEC supply.


The U.S. petroleum industry's price has been heavily regulated through production or price controls throughout much of the twentieth century. In the post World War II era U.S. oil prices at the wellhead have averaged $23.57 per barrel adjusted for inflation to 2006 dollars. In the absence of price controls the U.S. price would have tracked the world price averaging $25.56. Over the same post war period the median for the domestic and the adjusted world price of crude oil was $18.43 in 2006 prices. That means that only fifty percent of the time from 1947 to 2006 have oil prices exceeded $18.43 per barrel. (See note in box on right.) Until the March 28, 2000 adoption of the $22-$28 price band for the OPEC basket o crude, oil prices only exceeded $23.00 per barrel in response to war or conflict in th Middle East. With limited spare production capacity OPEC has abandoned its price ban and for close to three years was powerless to stem a surge in oil prices which wa reminiscent of the late 1970s.

Crude Oil Prices 1947-2006


*World Price - The only very long term price series that exists is the U.S. average wellhead or first purchase price of crude. When discussing long-term price behavior this presents a problem since the U.S. imposed price controls on domestic production from late 1973 to January 1981. In order to present a consistent series and also reflect the difference between international prices and U.S. prices we created a world oil price series that was consistent with the U.S. wellhead price adjusting the wellhead price by adding the difference between the refiners acquisition price of imported crude and the refiners average acquisition price of domestic crude. The Very Long Term View The very long term view is much the same. Since 1869 US crude oil prices adjusted for inflation have averaged $20.71 per barrel compared to $21.57 for world oil prices. Fifty percent of the time prices were U.S. and world prices were below the median oil price of $16.59 per barrel.If long term history is a guide, those in the upstream segment of the crude oil industry should structure their business to be able to operate with a profit, below $16.59 per barrel half of the time.

Crude Oil Prices 1869-2006


The world oil market With the Bush administration busily moving military forces to the Gulf region, the sense of an impending war has begun to make an impact on the world petroleum markets. The price of crude oil to be delivered in February 2003 in the New York Mercantile Exchange has risen to US$33.36 per barrel, hitting a record high since November 2000. Further the futures price for crude also climbed to US$31.66 as people worrying about the impending war prepared against any contingency. The increase in prices due to a possible war with Iraq is a reflection of the importance of the Middle East as a major reserve and source of supply of the world’s oil. The importance of the Middle East in the world oil market is one of the reasons why the justifications offered by the United States of America for a possible war with Iraq are looked upon with a degree of skepticism. A brief description of the world oil market in terms of the major producers, consumers, exporters and importers would explain the justification for the degree of skepticism on the US argument for war on Iraq.


Member of the Organization of Petroleum Exporting Countries (OPEC) countries include: Algeria, Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, the United Arab Emirates, and Venezuela. Members share some key characteristics that allow them, as a group, to have a significant influence on world oil markets, despite their lack of monopoly over world oil production:

• Members are important oil exporters; they are very large producers and very small consumers. Not counting Indonesia, member’s net exports averaged 85% of total oil production in 2001. (Refer Table 1.) Hence, member’s interests are very different from most non-OPEC countries, including the United States (which is the world’s largest producer, consumer and importer).


• Member’s oil industries are mostly nationalized, allowing OPEC member’s political establishments to increase or decrease oil production. Through managing the world’s oil supply, OPEC can work to increase or decrease world oil prices to help meet the group’s economic and /or political goals. Member governments rely heavily on oil revenues.

• The lion ‘s share of the world’s spare oil production capacity lies in the OPEC countries. Non-OPEC countries hold approximately a combined 500,000 barrels per day (bbl/d) of spare oil production capacity at any given time, while OPEC spare production capacity estimates for 2002 are as high as 8 million bbl/d (including Iraq).

• According to 2002 estimates, 80% of the world’s proven reserves are located in OPEC member countries.

• Production, or “lifting” costs are far lower in OPEC countries than in most non- OPEC countries. Prolonged periods of low oil prices make the world more reliant on cheaperto-produce OPEC oil.

In contrast to OPEC countries, non-OPEC countries share the following characteristics:

• Most non-OPEC countries are net oil importers. Of the 96 non-OPEC countries for which data was available (from the Energy Information Administration), 67 (71%) were net oil importers in 2001. Even large producers can also be large importers. The seven largest non-OPEC producers in 2001 had net average exports of 15% of total oil production.

• Most major non-OPEC countries have private oil sectors (Mexico is one notable exception); the political establishment generally has very little control over production levels. Companies react to international price expectations, exploring and drilling more and in higher cost areas when prices are high, and focusing on lower-cost production when prices are low.

• Private companies keep very little spare production capacity. Hence, in the case of a significant world oil production disruption, OPEC (rather than private oil companies) would be the primary immediate source of additional oil to displace the loss.

• Non-OPEC lifting costs tend to be higher than OPEC lifting costs, which makes nonOPEC production more vulnerable to price collapses. Prolonged periods of low prices can drive higher cost producers out of business, and make major oil companies focus less on higher cost areas.



World Oil production by region, 2001:

In the year 2001, the Middle East was the largest producing region with 29% of total world production. North America accounted for 20%, with the remaining 51% dispersed fairly evenly throughout the world.



The location of proven world crude oil reserves is far more concentrated in OPEC countries than current world oil production. Of the world's 1.03 trillion barrels of proven reserves, 819 billion barrels (80%) are held by OPEC. Because non-OPEC countries'smaller reserves are being depleted more rapidly than OPEC reserves, their overall reserves-to-production ratio -- an indicator of how long proven reserves would last at current production rates -- is much lower (about 15 years for non-OPEC and 80 years for OPEC). This implies increased OPEC production as a proportion of world production over the long term.


Refined products As of January 2002, 72.7 million bbl/d of the world's 81.2 million bbl/d of crude oil refinery capacity was located in non-OPEC countries. Countries with high petroleum demand tend to have large refinery capacities. The U.S. has far more refinery capacity than any other country, with 143 of the world's 732 refineries, and a crude oil refinery capacity of about 16.6 million bbl/d. Russia's refinery capacity stands at an estimated 5.4 million bbl/d. Japan (4.8 million bbl/d) and China (4.5 million bbl/d) are the only

remaining countries with refinery capacities exceeding 3 million bbl/d. There are several countries that are important to world trade in refined petroleum products despite very low (or non-existent) levels of crude oil production. For instance, Caribbean nations have very limited oil production (170,000 bbl/d in 2000), but refinery capacity of about 1.6 million bbl/d. Much of this refined product is exported to the United States. Other countries that are important sources of refined petroleum products yet have very limited domestic production include the Netherlands, South Korea and Singapore.

World Oil Production by country, 2001: Of the 14 countries that produced more than 2 million barrels per day in 2001, seven were OPEC members. The remaining seven were not OPEC members, including United States of America (the world’s largest oil producer for the year), Russia, Mexico, China, Canada, Norway and the United Kingdom. In terms of country wise production, United States is the largest producer, followed by Saudi Arabia, Russia, Iran and Mexico (Table 2). But a mere enumeration of the top oil producers by itself cannot explain the dynamics of the oil market. A listing of the top world oil net exporters are essential to


have the grasp of the dynamics of the world oil market in terms of dependence and control. Non-OPEC production is expected to rise the next 1-3 years, with the greatest increases in the former Soviet Union, including Russia and the countries bordering the Caspian Sea; and in North America with Mexico, Canada and the United States of America all expected to grow.

The countries highlighted in Blue are members of OPEC *Table includes all countries with total oil production exceeding 2 million barrels per day in 2001.** Total Oil Production includes crude oil, natural gas liquids, condensate, refinery gain, and other liquids.


Top World Oil Net exporters, 2001: Of the world’s top net exporters, OPEC countries are more strongly represented. Nine of the twelve countries exporting more than one million barrels per day in 2001 were OPEC members. Russia, Norway, and Mexico are the world’s largest non-OPEC exporters. The U.S is the world’s largest importer. China is also a net importer, while Canada and United Kingdom are smaller net exporters.

*Table includes all countries with net exports exceeding 1 million barrels per day in 2001.The countries highlighted in Blue are OPEC countries

World Oil Consumption, 2001:

Of the 76.0 million bbl/d of oil that the world consumed in 2001, OPEC countries together consumed about 5.8 million bbl/d, or 8%. Most of the world's largest oil consumers are also net oil importers. Of the world's top ten oil consumers in 2001, only

Russia and Canada were net oil exporters. Brazil, the world's sixth-largest consumer, imported about 560,000 bbl/d. The remaining top consumers also are listed as the world's largest oil importers.

* Table includes all the countries that consumed more than 2 million bbl/d in 2001 The interesting features of Table 4 are:

• There is not a single OPEC country in the top ten oil-consuming countries. This is in fact a reflection of the level of development of their economies in terms of the development of industry, transport, communications etc., particularly those areas which are significant consumers of oil

• The only developing countries in the top ten oil consumers are China, Brazil and India. This reflects the fact that economic development processes in these

countries are characterized by an intensive and increasing use of oil and thereby increasing dependence on oil.

• Of the top ten oil consumers, only four come in among the top ten producers of oil for the year 2001- U.S, China, Russia and Canada. Of these U.S and China consume more than what they respectively produce, making them dependent on imports.

• Russia, Brazil and Canada are the only net exporters among the top ten oil consumers, with Russia being the only one among the top ten oil producers.

Top World Oil Importers, 2001:

* Table includes all countries that imported more than 1 million bbl/d in 2001 The interesting features of the Table 5 are:

• Seven of the top nine importers are present in the list of the top ten Oil consumers. The two countries not in the list of ten highest oil consumers but in the high importers list are Spain and Italy.

• Seven of the nine members are OECD (Organization for Economic Cooperation and Development) countries, the exceptions being China and India.

• China and India are the only developing nations in this importers list. It implies that their development process is highly vulnerable to the supply of oil from the rest of the world as well as price volatility in the oil market. Measure of dependency on Oil Imports: The dependency of a country on oil imports can be expressed as a ratio between the country’s imports and its total consumption. The following table provides the import to consumption ratio for the top consumers of oil for the year 2001. Table 6: Measure of Dependency on Oil Imports

* If Imports can be denoted by M and consumption of Oil by C. M/C varies between 0 and 1.

Non-OPEC production coordination with OPEC: A few non-OPEC countries that share some traits of OPEC countries sometimes coordinate their production policies with OPEC. While non-OPEC restrictions are very

small, the participation of these non-member countries are more likely to pressurize the member countries to adhere to their own output restriction policies. Therefore, nonOPEC coordination with OPEC often carries significance beyond what the output data might imply. The section will consider the coordination of some of the non-OPEC countries with OPEC. Mexico: Mexico has had more involvement with OPEC than any other major non-OPEC oil producing country. Since 1997, Mexico has attended most of OPEC's meetings (more than any other non-OPEC country). Mexico has made seven pledges to restrict exports since 1997. Mexico was a key player in organizing OPEC's 1998 production cuts, as Mexican officials negotiated between OPEC members Saudi Arabia and Venezuela (these countries had been at odds over production agreements). Like OPEC member countries, Mexico's oil sector is in public hands, with 100% government-owned PEMEX being the only oil company in Mexico. This allows the government to control oil production and export decisions. Mexico's output restrictions generally apply to exports rather than total production, and PEMEX data show that the targets are usually kept. Russia: Russia has attended many of OPEC's meetings since 1997 and has made three commitments to reduce production and/or exports in coordination with OPEC. Russia was the world's largest oil producer until oil production collapsed in 1992. Production has rebounded since 1998, and the country soon could be in a position to regain its status as the leading global producer. Oil production in Russia is mostly in the hands of the private sector, while government-owned Transneft controls the pipeline network. There is often considerable ambiguity regarding whether Russia's reduction pledges are for production or export cuts. It is also unclear from what level of production Russia intends to cut, or for how long. Norway: Norway does not generally participate in OPEC meetings, but the world's third-largest exporting country has adjusted its production in coordination with OPEC on three occasions since 1998. While the Norwegian oil sector historically has been statedominated through 100% state-owned Statoil and majority state-owned Norsk

Hydro, major restructuring is augmenting the role of the private sector. Norsk Hydro is no longer majority state-owned, and the Norwegian government began selling shares of Statoil in the spring of 2001. Additionally, many private international oil companies are active in Norway. Because Norway is an extremely small oil consumer, its reduction commitments affect production rather than exports (the domestic market would not be large enough to absorb extra production resulting from shut-in exports). Oman: Oman is a smaller Persian Gulf oil producer that has attended most of OPEC's meetings in the last few years. Since 1997, Oman has made three commitments to reduce production, in cooperation with OPEC. State-controlled Petroleum Development Oman (PDO) dominates the country's oil sector.

Angola: Angola, sub-Saharan Africa's second-largest oil producer (behind OPEC member Nigeria), has attended a few of OPEC's recent meetings. Angola made its first-ever commitment to reduce production in December 2001, promising to cut 22,500 bbl/d. This decision came after OPEC's November 14, 2001 decision to make its 1.5 million bbl/d production cut contingent upon non-OPEC pledges to cut production by 500,000 bbl/d. Angola's oil production began to rise in late 2001, with the start up of its new Girassol


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