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Russia and OPEC Agreed to Increase Production. What will Happen to Oil Prices and the Ruble?
July 16, 2020 03:00


Saudi Arabia, Russia and other OPEC + countries have agreed to increase oil production from August to avoid the risk of shortages and maintain price stability amid recovery in demand. However, due to the countries that have exceeded their production quotas in May and June, production will not grow as much as expected.

OPEC + oil producing countries agreed on July 15 to move to the next stage of the agreement, which involves an increase in oil production from August, Bloomberg and Reuters reported, citing sources. Previous agreements assumed that production restrictions would drop from 9.7 million barrels per day to 7.7 million. But on Wednesday, the Ministerial Committee for Monitoring the Implementation of the Agreements (JMMC) agreed on a compensation schedule for those countries that exceeded their production quotas in May and June.

Bloomberg names Iraq and Nigeria among such countries. According to the interlocutors of the agency, they compensate for the violations by reducing production by additional 842,000 barrels per day in August and September. As a result, the increase in production planned for August will be almost half of what the market expected, Bloomberg notes. Taking into account compensations, the effective reduction in production in August will amount to 8.1-8.2 million barrels per day, Saudi Arabian Energy Minister Prince Abdulaziz bin Salman said.

What happened? After the price of a barrel of Brent oil fell from $ 50 to $ 25 per barrel in April, the OPEC + countries signed a deal to record production cuts to 9.6 million barrels per day. Even then, it was assumed that from July the restrictions would be loosened to 7.7 million barrels per day, and from the beginning of 2021 to May 2022, the decrease in production would go to 5.7 million barrels per day.

But in early June, the cartel decided to extend the first stage by another month. Not all OPEC + countries complied with the deal. In May, the OPEC + deal was 87% completed, which brought 1.26 million barrels per day more than expected to the market. The worst offenders were Iraq (56%), Gabon (-5%), Nigeria (57%), Angola (71%) and Congo (72%). At the same time, the two main members of the cartel - Russia and Saudi Arabia - fulfilled their obligations by 96% and 100%, respectively. The deal had to be extended until July in order to compensate for what was not executed. For more complete control, the OPEC + committee asked the participating countries, which did not fulfill the deal in May, to provide schedules for reducing oil production.

In June, the OPEC + deal was 108% filled, according to a report by the International Energy Agency. This was achieved against the backdrop of a voluntary additional reduction in production by Saudi Arabia (138%) and a reduction in production by Iraq (89% in June). Since August, Saudi Arabia and most of the cartel members have been in favor of easing restrictions, citing the recovery in market demand, the Wall Street Journal (WSJ) writes. According to the WSJ source, further containment of production to maintain oil prices would be "suicide" for OPEC.

What does this mean for Russia? For Russia, the current oil price is generally comfortable - it is below the fiscal equilibrium point, but roughly corresponds to the “cut-off point” in the budget rule, Dmitry Marinchenko, senior director of the natural resources group in the London office of Fitch Ratings says. The company is also satisfied with the current price level - in April-May everyone expected that prices would be lower than now, the expert adds. At 18:30 Moscow time, the Brent futures price was $ 43.51.

What about the demand for oil? In early July, Energy Minister Alexander Novak said that already in May there was an excess of oil supply over demand by 15 million barrels per day. In June, this figure was even lower due to increased demand. He admitted that there could be a deficit already in July, thanks to the lifting of quarantine in many countries. According to Darya Kozlova, an analyst at VYGON Consulting, Europe currently lacks medium-quality oil grades for refineries, which can really result in a fuel shortage. “To avoid a price shock, OPEC + countries should increase production,” she says.

The goal of OPEC + is to avoid sharp jumps in oil prices and achieve a relative balance in the market, says Dmitry Marinchenko. According to him, it is quite natural that the volume of reductions will be periodically reviewed - given the gradual recovery in demand, keeping production at current levels would lead to a deficit in the market. “But, of course, the risk of a second wave of lockdowns remains, in this case OPEC + may again adjust production downward,” he said. 

What will happen to oil prices and the ruble? In the next two to three months, prices should be relatively stable for the oil market, Maxim Dyachenko, managing partner of Petroleum Trading says. "Brent prices are likely to remain in the range of $ 35-50 per barrel, since the multidirectional forces acting on the market are now balanced," Dyachenko concluded.

“I think that the OPEC + decision to increase production is already included in the market price, since the current discussion is not unplanned. Therefore, neither the ruble nor the oil will react   to this," Maxim Petronevich, senior economist at the analytical department of FC Otkritie bank says.

“But even if the oil price stays at around $ 40, we should still expect the ruble to weaken, because there is  a number of other factors weighing on it,” Denis Poryvai, senior financial markets analyst at Raiffeisenbank says. Among these factors are a decrease in the sale of foreign currency by the Central Bank and an increase in imports amid economic recovery. Therefore, Raiffeisenbank predicts that this year the value of the national currency may reach 75 rubles per dollar. 

Author: Anna Dorozhkina

Tags: Russian oil Russian economy Russia international   

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