In 2015, India was recognised as the main driver of non-OECD oil demand growth at 1.8 million barrels per day (mb/d). Buoyed by low oil prices, India’s consumer demand witnessed a significant boost, reflecting in its record growth in oil demand, which jumped to 0.3 mb/d in 2015 on a year-over-year basis. India, expected to overtake Japan as Asia’s largest oil consuming nation, had found its budget deficit worsening due to oil prices hovering above $100 a barrel. But under a low oil price scenario, it is now seen as a natural successor to China, with higher GDP growth. The article highlights pros and cons of a low oil price scenario, impacting India’s growth trajectory, particularly after the Vienna Deal.
Oil prices have historically been volatile but recent oil price fluctuations beginning from the fall in prices in June 2014 had an element of unpredictability. Since then to the Vienna Deal in November 30, 2016, there was a conventional belief that low oil prices will push oil demand higher, eliminate high cost oil producers and prompt group of oil producing countries to cut their production. But the 171st Ministerial Conference in Vienna threw an element of unpredictability when the Organisation of Petroleum Exporting Countries (OPEC) countries took up the gauntlet to cut the oil production, given the pain that individual OPEC member will undergo in this process. In addition, OPEC members will also appreciate the fact that the U.S. shale oil companies will take the benefit of higher oil prices to boost their shale oil production. However, according to Saudi Energy Minister Khalid al-Falih, he did not expect a big supply response from American shale producers in 2017.
Under the Vienna Agreement, OPEC countries have decided to reduce its oil production by around 1.2 million barrels/day (mb/d) to bring its ceiling to 32.5 mb/d, with effect from January 1, 2017. In addition OPEC secured a reduction of 558,000 barrels/day from non-OPEC countries. The production limit agreed was within the planned range between 32.5 and 33.0 mb/d as agreed in the Algiers Accord on September 28, 2016. In addition, after the Vienna meet, members from the OPEC met with members of Ministers from non-OPEC oil producing countries on December 10, 2016. In this meeting, it was expected that non-OPEC producers, led by Russia, could curb the oil growth in 2017 to just over 0.2 mb/d.
This was primarily done to stabilize the volatile global oil market and reduce the unpredictability factor amongst oil producers with an aim of fair return of investment to them. Notably, the OPEC and non-OPEC plan encompasses countries that produce about 60 per cent of the world’s crude.
The Impact So Far
As a result of the surprise move by OPEC, International Energy Agency (IEA) in its December 13, 2016, Oil Market Report, has estimated that the market is likely to move into deficit in the first quarter of 2017 by an estimated 0.6 mb/d and re-balance only by the end of 2017 (Figure 1).
Source: IEA, Oil Market Report Public (December 13, 2016)
Oil stockpiles are expected to decline by about 600,000 bpd in the next six months. Earlier, with little hope of an oil deal in Vienna, IEA assumed inventories to drop only at the end of 2017. On December 6, 2016, Energy Information Agency (EIA) revised its 2017 U.S. production forecast to 8.78 mb/d from 8.73 mb/d as well. The OPEC deal in Vienna, the objective of which was to curb inventories rather than to increase the global oil prices, had a widespread impact in the global oil market with West Texas Intermediate (WTI) for January delivery rising by $1.33 to settle at $52.83/barrel on the New York Mercantile Exchange, highest since July 14, 2015. Brent too climbed by $1.36 to $55.69/barrel on the London-based ICE Futures Europe exchange. Since November 30, 2016, U.S. oil futures too gained almost 20 per cent.
U.S. oil rig counts rose by 21 to 498 in the week ending December 9, 2016 signifying their urge to increase oil production. Goldman Sachs Group has projected U.S. shale oil companies to produce 800,000 barrels per day at a price of $55 a barrel for WTI crude. While the price in the global market may touch $60 a barrel, U.S. shale oil production has the potential to bring back oil prices to around $55 a barrel which can lower further.
Markets will come to re-balance, only if OPEC promptly and fully sticks to its production targets. OPEC is always going to be challenged by the U.S. and Canadian oil producers, thereby testing the sustainability of future oil prices. Historically, volatile oil prices have witnessed the cycles of monopolistic as well as competitive pricing (Figure 2). Under monopolistic pricing, the prices have been on the higher side, benefitting OPEC, significantly, while in the case of competitive pricing, oil prices remained low due to competition from other non-OPEC oil producers and recently, also with the U.S. shale oil companies. However, the current oil glut is different from that of mid-1980s as it has extended for far long and experienced unexpected reactions from the OPEC producers with their consistent oil production.
Figure 2: Historical Oil Price Cycles
Source: Thomson Reuters, BCG Centre for Macroeconomics analysis
The prolonged crisis starting from mid-June 2014 and lasting until the Vienna deal is largely due to increased oil production despite feeble global demand growth led by China and Europe, with a sole objective of grabbing maximum market share. OPEC’s 166th Conference in November 2014 is seen as a tipping point for the current oil crisis, which completely misjudged the market and decided to maintain the production level of 30.0 mb/d, as was agreed in December 2011. Traditionally, OPEC has responded to falling oil prices with production cuts. This decision is largely seen as an attempt to counter U.S. shale oil companies, which surprisingly were resilient to low oil prices with improved drilling efficiencies. This helped shale oil companies to reduce break even cost. Iran, which came out of sanctions, too fuelled the oil glut crisis with consistently increased oil production.
Implications for India
The world is gearing up to embrace a low oil price scenario, characterised by ample global oil supplies, supported with oil supplies from the U.S. resulting from their shale boom. In a confrontation to grab the market share by OPEC and shale oil companies, the biggest beneficiaries were oil and gas importing countries, like India, who, as a result of falling oil prices, benefitted immensely. The impact of low oil prices has been extended to liquefied natural gas (LNG) prices; both the spot and long term prices which too fell due to LNG glut created by over-supply by Australia and the U.S. This helped countries like India to raise cheaper LNG imports as well, which were largely indexed to oil.
Interestingly, increase of LNG imports is one of the measures taken by Government of India to push its gas-based economy vision and initiating several planned LNG and floating LNG projects. Oil-indexed LNG prices, prompted India to renegotiate long-term LNG contract between Petronet LNG and RasGas of Qatar, wherein the former was supposed to pay RasGas $6 to $7 per million British thermal units (mBtu), compared with about $13 mBtu earlier. This led India’s Oil Minister, Dharmendra Pradhan to urge Asian LNG buyers to join hands for an equitable deal, to facilitate LNG imports at cheaper rates. Now with prolonged lower oil and gas price scenario, Asian LNG markets has started to look beyond oil-linked pricing and to move towards short term gas pricing mechanism with flexible LNG contracts to further boost LNG business.
According to World Energy Outlook 2015, low oil price positively impacted the Indian economy. This included, higher consumer spending by households, a reduced current account deficit, lower government spending on energy subsidies, and reduced inflation, with oil products representing the fourth-largest component on the Indian consumer price index.
Until the Vienna Deal and since the fall of global oil prices from mid-June 2014, planned investments worth hundreds of billions of dollars have been either cancelled or delayed. India too has witnessed sharp fall in the investments in its upstream sector, badly needed to boost domestic oil and gas production. Moreover, lower oil prices severely hit oil revenues of several oil exporters of the OPEC and non-OPEC countries, which are in a state of flux to choose between their oil production growth to increase market share or cut production.
For India, prolonged period of low oil prices has impacted one of its objectives of diversifying oil imports to look at the markets beyond volatile West Asia, due to their ability to produce cheaper oil than any other regional producers. Increase of oil imports from Iran and other West Asian countries is the case in point. Now with oil prices expected to be in the range of $55-$70 a barrel in the short-term period of one to two years, Indian economy continues to stand benefitted. In addition to gains as aforementioned, higher oil prices, at this level could allow upstream companies to unfold its energy investments, held back or postponed due to unviable low oil prices.
Besides, money saved on energy subsidies, annually spent on fuels like liquefied petroleum gas (LPG) to the tune of around $3.5 billion, can now be reinvested back in oil and gas sector. Further, assuming oil prices to remain under $70 a barrel in the near future, India should leverage the current oil price scenario to accelerate investments in Strategic Petroleum Reserves. This is in addition to promoting the usage of LNG to fortify India’s gas economy.
Disclaimer: The views expressed in this article are personal.
Manish Vaid, Junior Fellow with the Observer Research Foundation (ORF), having research interests in energy policy and geopolitics.
