Falling global oil demand in the wake of the coronavirus outbreak
Global oil demand has been hit hard by the coronavirus outbreak which led to the shutdown of much of the Chinese economy in January and February and the subsequent impact on supply and demand in China and all around the world, as the epidemic has turned into a global health emergency and as governments all over the world are assessing how to contain a further spread of the epidemic.
In its February Oil Market Report, The International Energy Agency warned that :
Demand is now expected to fall by 435 kb/d y-o-y in 1Q20, the first quarterly contraction in more than 10 years. We have cut our 2020 growth forecast by 365 kb/d to 825 kb/d, the lowest since 2011. Lower-than-expected consumption in the OECD trimmed 2019 growth to 885 kb/d.
As for the situation in China, the Agency added that :
Chinese crude throughputs for 1Q20 have been cut by 1.1 mb/d and are now expected to contract by 0.5 mb/d year-on-year. As a result, global runs are forecast to expand by just 0.7 mb/d in 2020.
Since then however, further news coming from China show that global oil consumption could fall in 2020, for the first time since the global financial crisis in 2008.
What about oil supply dynamics ?
As per the IEA Oil Report :
Global oil supply slumped by 0.8 mb/d in January to 100.5 mb/d. A blockade in Libya slashed production and the UAE saw output fall by 0.3 mb/d. World oil output was largely unchanged on a year ago as lower supply from OPEC was offset by a 2.1 mb/d increase in non-OPEC production.
Adding further that :
Before Covid-19 came along, the market was already nervous in anticipation of a supply overhang of 1 mb/d in the first half of 2020 due to continued expansion in the US, Brazil, Canada, and Norway. Even threats to security of supply, e.g. tension in Iraq, a 1 mb/d fall in Libyan oil production, and force majeure declared for some Nigerian cargoes, had little impact on prices. Now that the demand outlook has weakened, prices have moved significantly down.
This shows how tricky it is to evaluate the impact of any OPEC / OPEC+ agreement on oil supply and demand dynamics – and henceforth on oil market prices.
As a matter of fact, in December OPEC + had already brought its total production cut to a total 1.7 million bpd, as can be grasped from the official Communiqué of the OPEC+ meeting on December 6, 2019 :
On 6 December 2019, the seventh OPEC and non-OPEC Ministerial Meeting was held. The meeting decided for an additional voluntary production adjustment of 500 tb/d over levels agreed in the 175th Meeting of the OPEC Conference and 5th OPEC and non-OPEC Ministerial Meeting, leading to a total adjustment of 1.7 mb/d.
This agreement will expire on April 2020, in one months from now.
Since the December meeting, the situation has evolved dramatically as the aforementioned combined downward pressure on demand and upward pressure on supply coming from non-OPEC producers (mostly from North American shale oil) put a significant new strain on the shoulders of OPEC members.
What are the odds of reaching an OPEC+ agreement ?
Following its meeting today, (March 5) OPEC members decided to cut production by a whopping 1.5 million barrels per day (bpd) through the second quarter of the year. Earlier this year, the initially envisioned output cut by “OPEC & Friends” as proposed by the Joint Technical Committee was a mere 600 000 bdp. This call was already met with a reluctance from Russia.
However, the success of this agreement hinges on Russia’s support as Russia and other non-OPEC members are expected to assume a 500 000 bpd oil output reduction out of the total 1.5 million bpd.
The odds of coming to an agreement with Russia on the proposed total production cut depend on two factors :
- The willingness of Saudi Arabia and other major OPEC producers such as the UAE and Kuwait to assume a large share of the output, amounting to a potentially larger OPEC contribution than the initial 1 million bpd figure.
- Behind the scenes negotiations that would aim at giving non-state Russian oil companies some additional “sweeteners” in exchange of their cooperation. This could be for example an opening of the Saudi oil sector to Russian oil & gas companies, especially for natural gas.
It should be added that Russia can balance its budget with oil prices at 42.5 dollars per barrel whereas the Breakeven oil price is much higher for OPEC major oil exporters.
The most likely outcome is a muted agreement which would be based on mutual concessions and behind-the-scenes deals. However, the lack of a meaningful agreement could send oil prices into a downward spiral potentially down to 30 dollars per barrel, all the more that there is still a lot of uncertainty over the evolution of the coronavirus outbreak and over its overall impact on the global economy in 2020.