Saudi brinkmanship aims to regain leverage within OPEC

Saudi Arabia is trying to reestablish some negotiating leverage within OPEC by threatening to block an output cutting deal unless other members share more of the burden. Saudi negotiators made a mistake at the organization’s last meeting in September by appearing too eager to secure a deal, which has emboldened other members to harden their own positions.

Now the Saudis are trying to push others into making concessions by raising the prospect that if they do not there will be no deal, an outcome that would be worse for everyone.

For two years between mid-2014 and mid-2016, Saudi Arabia took the hardest line within OPEC, insisting it would only cut output if joined by all other OPEC and major non-OPEC producers. For reasons that remain unexplained, the Saudi position shifted significantly between the OPEC meetings in June 2016 and September 2016, and the kingdom became much more interested in reaching an agreement.

The shift may have been the result of a change in oil minister, the continued drawdown of the kingdom’s foreign currency reserves, and the deteriorating economic situation at home.

It may also reflect the previous strategy’s failure to rebalance the oil market within a reasonable time frame and the prospective share sale in the national oil production company. Whatever the reason, Saudi negotiators went into the last round of OPEC talks in September determined to obtain a provisional agreement and willing to show enough flexibility to obtain it.

But by appearing eager, almost desperate, for a deal, Saudi Arabia signalled it wanted an agreement more than its major rivals within OPEC, Iran and Iraq, and its major outside competitor, Russia.

In response, all three have hardened their positions and resisted pressure to join Saudi Arabia in cutting their own production. Russia has offered a freeze dressed up as a cut from a planned increase in 2017. Iraq has hinted at a cut which really appears to be a freeze. Iran’s position remains ambiguous but it insists it will not limit its output.

OPEC members and observers understand that in any realistic deal, Saudi Arabia and its close allies the United Arab Emirates and Kuwait will do most of the real cutting.

Past experience shows Saudi Arabia and its allies always provide most of the real reductions, with other members frequently cheating on quotas. For an agreement to produce a significant tightening of the supplydemand balance and lift oil prices, Saudi Arabia and its allies will have to contribute very large output cuts.

The market will not assign much credibility to promises of cutbacks by other members given their history of non-compliance. The Saudis need token cuts from other producers, or at least a credible freeze, however, to provide them with diplomatic cover for what is a humiliating climb down and to sell the deal to a domestic audience. — Reuters