IEEJ: June 2011

Special Bulletin
A Japanese Perspective on the International Energy Landscape (45)June 2, 2011

Growing Uncertainties in the World Oil Market and Crude Oil Prices-- Next OPEC Meeting Attracting Attention -Ken Koyama, PhD
Director
Strategy and Industry Research Unit
The Institute of Energy Economics, Japan

As crude oil prices have remained high, the international oil market situation has growneven more uncertain. The benchmark West Texas Intermediate crude futures price averaged $99.0
per barrel between January and May 2011, up $19.9 or 25% from a year earlier. The price rose to ayear-to-date high above $113/barrel in early May and fell back below $100/barrel before remaining
around the level. Under such situation, various factors have worked intricately over the future
direction of the market, with both upside and downside risks growing for crude oil price in the future.
Crude oil futures transactions, futures market speculations and financial effects are very importantfor crude oil price formation nowadays. However, this report focuses on supply and demand factorsthat can exert substantial influence on market expectations, speculations, financial factors andmarket players’ behavior.
The biggest factor behind the downside risks is a fear or uneasiness about the future courseof the world economy. The April 2011 World Economic Outlook of the International Monetary Fundleft the projection of world economic growth unchanged from 4.4% in the previous outlook releasedin January 2011. But it revised downward economic growth projections for the entire Organization
for Economic Cooperation and Development and major countries including the United States andJapan. At the same time, the European sovereign crisis has remained unresolved in the market as
indicated by Greece whose sovereign bond rating has recently been lowered by two to three notches
to trigger rapid government bond price falls (yield hikes) after the emergence of its budget crisis lastyear. Even in the United States where production and employment have signaled signs of recovery
amid firming stock prices, March’s housing price index that has great influences on private
consumption posted the lowest level since the financial crisis, adding to economic fears. Japan iscertain to revise downward its economic growth projection due to the March 11 Great East JapanEarthquake.
Under such situation, the future course of global oil demand has attracted attention. In aconspicuous development in this respect, the May 2011 “Monthly Oil Market Report” by theInternational Energy Agency sharply lowered its projection of a global oil demand increase for 2011

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from the previous month’s forecast to 1.29 million barrels per day. The IEA cited high crude oil
prices as a reason for lowering the oil demand projection. But economic growth may still be a major
factor that exerts a decisive influence on oil demand. Although the destabilization of the Middle
Eastern and North African situation as a geopolitical risk had exerted great upward pressures on oil
prices since the second half of February as discussed later, the situation is now deadlocked, possibly
reducing its impact on the market expectation. Therefore, any data indicating weak economic
fundamentals may affect financial players’ behavior in the oil market and trigger a decline in oil
prices.
But we must pay attention to the fact that bullish factors for oil price coexist with bearishones and are exerting influences on the oil market. Particularly, the global oil supply-demandbalance and relevant moves of the Organization of Petroleum Exporting Counties are attracting
attention. Although Libya’s substantial reduction in crude oil production, which came on a Libyan
rebellion amid the Middle Eastern and North African destabilization, was a major factor behind
crude oil price hikes in and after the second half of February, OPEC countries including Saudi
Arabia have temporarily increased their oil output to cover the lost Libyan production. While theproduction increase has worked to offset oil supply reduction, the whole of OPEC’s surplus
production capacity as a major buffer for the stabilization of the market has declined. This has
triggered next-stage fears as geopolitical risk is expected to increase.
Furthermore, we have recently seen an emerging recognition that the temporary OPEC
output expansion has fallen short of covering the Libyan oil output loss. This is an important point.
One problem is that while Libya reduced output of high-quality crude oil containing less sulfur, anOPEC output expansion represented different-quality crude. However, a more significant factor isthat the 12 OPEC countries’ crude oil output in April decreased by 1.13 million bpd from February’s
30.08 million bpd to 28.75 million bpd, according to the IEA statistics. The drop is close to theLibyan production cut (1.19 million bpd). The change indicates that production by OPEC countries
other than Libya leveled off from February to April. Given this fact, observers have speculated that
OPEC countries could be cautious toward substantial supply expansion and could be raising their
desirable price levels (strengthening their pursuit of higher crude oil prices) to cope with domestic
economic and budget balance problems and to secure income for domestic stabilization measures, as
the benchmark crude oil futures price far exceeded $100/barrel after the Libyan crisis, with fears
about the price hikes’ adverse effects on the world economy growing among major oil consuming
countries. Therefore, OPEC’s response to the global oil demand increase (despite its downward
revision by the IEA) is attracting attention while market players are expecting an expansion in callson OPEC.
As OPEC plans to hold its 159th general meeting in Vienna on June 8, the abovementioned
market situation has prompted market participants including financial players to pay attention toOPEC responses. OPEC has left their production quotas unchanged since it lowered the quotas

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IEEJ: June 2011

effective from January 2009 by 4.2 million bpd (from the actual output level in September 2008) tocope with a sharp oil price decline after the global financial crisis. Since then, OPEC has actuallycontinued to adjust their crude oil production to meet supply and demand conditions in the market,
allowing the rate of compliance with the agreed production cut to slip below 70%. Production quotas
have effectively been meaningless in a sense. While OPEC is somewhat expected to increase output(or change production quotas officially) to help stabilize the market as discussed above, we must pay
attention to OPEC’s coming decision responding to both upside and downside risks for crude oil
prices.
Contact: report@tky.ieej.or.jp

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