x Abu Dhabi, UAEFriday 19 January 2018

Opec: architect or victim of global financial malaise?

Commodity producers are feeling the chill wind of global recession and tightening their belts.

Commodity producers are feeling the chill wind of global recession and tightening their belts. Lakshmi Mittal, the Indian billionaire who runs the world's largest steel maker, ArcelorMittal, closed a furnace in Seraing, Belgium, this week. The company, which is regulated by European, US and Asian authorities, saw no sense in making more of the metal than the world market could consume. The price of steel has fallen by 78 per cent in the past four months and China, the largest producing nation, cut production by nine per cent last month.

Oil prices are down by 58 per cent in three months, and oil exporters are no different. But Opec's decision last week to trim supplies by five per cent unleashed a stream of angry rhetoric from western governments. Gordon Brown, the British prime minister, said it was "scandalous" that Opec should be seeking to increase oil prices at a time of economic turmoil. A White House spokesman called the decision "anti-market".

Opec's president, Chakib Khelil of Algeria, was at pains to emphasise that the reduction was aimed both at rebalancing an oversupplied global oil market and slowing an unprecedented collapse in prices that threatens to destabilise the economies of its 13 members. Leading members of the organisation, including Saudi Arabia and the UAE, could justifiably feel affronted by such harsh rhetoric from purported allies.

Indeed, the decision to trim production by 1.5 million barrels daily was absorbed without any disruption in the oil markets. Prices extended their decline after Opec's announcement, enthralled by the imploding global economy. Such rhetoric has become expected from Washington, which, as the world's largest oil importer, suffers most from elevated prices. But it is only in the past five years that the UK has joined the ranks of the rabid Opec bashers. For about three decades until the turn of the millennium Britain was one of the world's largest exporters of crude, and found the extra cash from high oil prices useful for infrastructure spending and social programmes.

The rationale for such attacks is an assumption that oil, unlike any other commodity, is such a big component of the cost of doing business globally that those who produce it bear responsibility for the health of the global economy. Steel, by contrast, is a mere spectator at the stage of the global financial tragedy. Some economists have argued that high oil prices have preceded every recession over the past century, feeding a misconception that Middle Eastern oil is the invisible hand behind the world's financial malaise.

But the reality is that oil today is a far smaller proportion of the world economy than it was in the 1970s, when the oil price shocks did arguably spark recession in the West. Much as some in Opec would love to claim responsibility for the direction of the world economy, the reality is very different. The spike in oil prices this summer to $147 a barrel was actually a product of "irrational exuberance" by over-leveraged bankers.

Opec was completely unprepared for the influx of strangers to their market and consistently denounced speculators for driving prices above $100 a barrel. The collapse in oil prices over the past three months has illustrated that Opec and the rest of the world economy are actually on the same side. They both suffer from overheated markets, and are both feeling the effects of the financial crisis. When an economy goes into recession everyone suffers. This is all the more true for oil exporters such as the UAE, whose governments are investing heavily in diversifying their economies away from oil, and where consumers are becoming major energy consumers in their own right, not to mention shareholders in the global equities markets.

The crisis of confidence in the global financial system - triggered by bad sub-prime mortgages, which were packaged into AAA-rated securities - has led to a fundamental questioning about the pricing of all assets worldwide. The price of oil today, at $60 a barrel, is close to what many in the industry would see as a floor necessary to sustain investment in exploration and give an incentive to the search for alternatives.

Opec's production cut may help restore value to petroleum assets which are in free fall. That is good for Opec, oil companies and indeed anyone concerned about the future of energy. tashby@thenational.ae