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Middle East: OPEC Approves Oil Cuts To Rescue Economies -- An Analysis

Prague, 23 March 1998 (RFE/RL) -- OPEC oil ministers agreed today to severely cut back their countries' oil output in a bid to raise low prices, which are damaging their economies and putting their development plans on hold.

The oil ministers of the 11 member states of the Organization of Petroleum Exporting Countries (OPEC) voted in a meeting in Vienna to cut the cartel's output of crude oil by 1.7 million barrels a day (bpd) for one year beginning April 1.

The vote approved a deal struck by several of the world's biggest oil producing countries 10 days ago in The Hague to jointly cut the world's oil production by seven percent. Under the deal, oil ministry representatives from OPEC's Saudi Arabia, Iran, Algeria and Venezuela agreed with non-OPEC representatives to cut global production by 2.1 million bpd.

Now that OPEC has endorsed that agreement, non-OPEC producers like Mexico, Norway, Oman and Russia are expected to contribute cuts totaling almost 400,000 barrels a day to reach the two million bpd target.

Oil industry analysts say that the latest round of cuts -- if fully honored -- could significantly boost oil prices. The price of crude oil has been in a consistent slump since the beginning of last year due to an ill-timed decision by OPEC to boost production just as Asia's financial crisis reduced worldwide demand.

The industry benchmark price of Brent crude oil slumped to an average of just $13.34 per barrel last year, its worst level in over a decade. In recent months, the price of Brent has continued to hover around that average.

Julian Lee -- an oil industry analyst at the London-based Center for Global Energy Studies -- says that the benchmark price of crude oil could now climb toward $18 by the end of the year if oil producers largely comply with the cutback.

"Our best estimate is that compliance will probably be in the region of 75 to 80 percent, as it has in the past, and we would expect oil prices under that sort of scenario to get up to somewhere like 18 dollars a barrel by the end of the year," said Lee.

Lee says that the forecast is based on world demand for oil growing by about one million barrels a day with a moderate recovery in the global economy.

In anticipation of today's agreement, oil prices nudged up last week to reach a six-month high of almost $14 on Friday. But analysts say that any sustained rise in prices will depend on OPEC's ability to enforce compliance with the cutbacks among its members. In the past, that has always been a tough challenge.

The new OPEC cutback agreement is the third in two years and comes after both previous accords were sabotaged by overproduction by individual members. As of last month, the cartel was overproducing its official production ceiling by almost two million barrels a day, with the main output increases registered by Iran, Iraq and Nigeria.

OPEC hopes that the new cutback will end a vicious cycle in which its individual member have steadily lost money by overproducing in the past year, only to overproduce still more in a futile effort to regain their lost revenues. Correspondents say that, so far, the slump in oil prices has cost OPEC members together some $50 billion.

Saudi Arabia -- which spearheaded the current cutback drive -- saw its oil income last year plunge by some 40 percent as a result of the worldwide decline in prices. Under the new plan, Saudi Arabia is to reduce its production by five percent.

Other OPEC producers have been equally hard hit by the weak prices. Arab Gulf states -- which have pledged to make half the cuts under OPEC's new reduction plan -- have had to suspend many of their economic development plans over the past year for lack of revenues.

Iran has estimated it has lost as much as 40 percent of its foreign currency earnings with the price drop, complicating its efforts to create new jobs to offset double-digit unemployment.

Analysts say that Iran has sought to boost the chances of success for the new cutback initiative by mounting a major effort to resolve past disputes with OPEC regarding production ceilings. The two sides have been feuding since early last year when Tehran accused the cartel of underestimating Iran's oil production in calculating the starting point for Iranian cutbacks under a first round of reductions.

OPEC and Tehran have now reached a compromise agreement which promises an end to continual accusations by other cartel members that Iran is overproducing. Those accusations helped fuel the breakdown of compliance during previous accords.

Iraq could also benefit from today's agreement. U.N. humanitarian officials say Iraq has been unable to sell enough oil at current low prices to earn much more than half of the $5 billion it is permitted every six months under the oil-for-food program. Higher oil prices would help Iraq earn more from oil sales to buy food and medicine as Baghdad awaits spare parts to increase its oil industry's output.

Analysts say that any rise in oil prices could also benefit development of the Caspian Sea basin's oil reserves. Oil companies have largely put new exploration and exploitation projects there on hold over the past year, saying that current low prices cannot promise them an adequate return on investment.

"Higher oil prices will make the development of all the non-OPEC areas easier than low oil prices will. We have seen that it is very difficult for the oil companies to invest the substantial amounts of money that are needed to develop the Caspian. It's a risky area to operate [in], both politically and geologically, [and] those sorts of areas are always the first to suffer when oil prices drop," said Lee.

Lee says oil companies are optimistic now that OPEC's latest cutback means higher oil prices are on the horizon, But he says the companies will wait until they feel confident that stronger prices are here to stay before they return to developing the Caspian and other higher-risk fields.

The OPEC members are Algeria, Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, the United Arab Emirates and Venezuela.