After relentlessly pursuing $100-a-barrel oil, the OPEC+ cartel has all but thrown in the towel. Whether the U-turn is a tactical retreat, or a strategic shift, is still unclear. But for now its impact would be the same: Oil prices would be somewhat lower and global inflation would ease.
Over the weekend, the group, led by Saudi Arabia and Russia, announced a deal that, on paper, prolongs its complex layers of cumulative production cuts well into 2025. But read the fine print, and the agreement looks different. Under the pact, OPEC+ members will be able to start adding more barrels into the market from October, with significant increases next year.
Based on the path published by Saudi officials, OPEC+ output would be more than 500,000 barrels a day higher by December than now, and about 1.8 million higher by mid-2025. That’s a lot of extra barrels to try to spin the deal as a bullish surprise. By my book, more oil production typically means lower prices, not the opposite.
Granted, OPEC+ said that output increases would be conditional on the health of the market, so the deal is, for now, a statement of intent. But the mere fact the group is telegraphing its eagerness to pump more is telling, and will have an impact on market psychology. So will the fact that the United Arab Emirates has won the right to again pump even more oil than its allies. Other OPEC+ members impatient to produce more — say, Iraq and Kazakhstan — weren’t as lucky, but you can bet they will cheat on their output limits.
Put it all together, and OPEC+ has moved away from the triple-digit into double-digit territory. How much below $100 a barrel? Not a lot, to be sure. Brent crude, the global oil benchmark, is trading just above $80 a barrel, and prices could probably stay around the same level for now, if not a touch lower.
I don’t think that giving up the quest for triple-digit prices is a mistake. As I have argued before, pumping more now can be advantageous: short-term pain for long-term gain. First, OPEC+ isn’t facing a price crash, only a limited price drop. Second, somewhat lower prices could help it in the long-term: by easing global inflation and therefore prompting lower interest rates and higher economic growth in emerging economies; and by removing the implicit subsidy that OPEC+ was granting to its US shale rivals.
Still, the shift comes at a difficult time for Saudi Arabia. Look beyond the blockbuster sporting deals, the opulent palaces and futuristic new cities, and you get a sense the kingdom is starting to worry about money.
As OPEC+ officials agreed to pump more oil, the kingdom was busy raising money to finance its grandiose spending plans. On Sunday, Riyadh started the process of selling a second chunk of state-owned oil company Saudi Aramco, hoping to raise $11.5 billion — an inflated valuation, I’ve argued, which would likely require lots of demand from local and regional investors. The share sale comes five years after an initial public offering raised about $30 billion. And just a few days earlier, Riyadh completed its latest issuance of hard-currency sovereign debt, bringing its year-to-date total to $17 billion — more than any other emerging economy in 2024.
Meantime, the kingdom is spending like there’s no tomorrow. Under the direction of Crown Prince Mohammed bin Salman, who runs day-to-day affairs, Saudi Arabia is pouring billions into projects of unclear return, including Neom, a $1.5 trillion project in the desert that includes a city projected to be 110 miles (177 kilometers) long with no cars or streets. It’s also investing heavily in global sports, using the ownership of golf tournaments and imported football stars to rebrand the kingdom.
For all that, Saudi Arabia needs oil prices to average more than $96 a barrel this year to square the government books, up from an average of $80 from 2000 to 2020, according to the International Monetary Fund. Year-to-date, Brent crude has averaged $83.50. Granted, Riyadh can live with less: It can run a fiscal deficit, taking on debt or selling assets to fill the gap; it can also cut spending or raise taxes. The kingdom has already done all three.
Still, Prince Mohammed is overspending. Except for 2022, when the Russian invasion of Ukraine sent oil prices well above $100 a barrel, the kingdom has run a fiscal deficit every year for the last decade. In 2024, the shortfall will rise to 2.8% of gross domestic product; on current trends, Riyadh is set to post a deficit every year until at least 2029.
For now, Saudi Arabia has been able to finance its deficits easily via a mix of issuing sovereign debt, running its petrodollar reserves and privatizing companies, notably Saudi Aramco. With a GDP-to-debt ratio of less than 30%, Prince Mohammed has the luxury of having plentiful room to issue even more debt. Riyadh ran much higher debt-to-GDP ratios in the 1990, topping 100%, as it took significant loans during the period of ultra-low oil prices in 1998-1999.
Prince Mohammed faces a second problem: The population is booming, thanks to both a high birth rate and immigration from war-ravaged Yemen. The Saudi population has surged to about 34 million this year, nearly double from 18 million in 2000. As a result, Saudi Arabia looks poorer per capita than its wealthy neighbors: GDP per capita stood at just over $30,000 in 2023, well behind the $55,000 of the United Arab Emirates and the $80,000 of Qatar.
Unless the oil market turns around, running fiscal deficits forever would be increasingly difficult. Neither can Riyadh hope to privatize further chunks of Aramco every few years to raise cash; at some point, the sales would start to compromise the government’s take from oil revenue and taxes.
The biggest issue for the kingdom is that the oil market doesn’t look like it’s about to turn around. By keeping oil prices artificially high, Riyadh has been subsidizing higher-cost producers such as those in the US shale-oil patch. Sacrificing market share works if one achieves higher prices in exchange — but Saudi Arabia is so far getting the worst of two possible outcomes: low production and relatively low prices. Riyadh is currently pumping about 9 million barrels a day. Excluding a brief period during the pandemic, that’s the lowest in more than a decade.
The shift toward higher production is now underway, and with it lower oil prices. At least Prince Mohammed kept prices high until he sold a chunk of Aramco. But the long-term petrodollar problem remains unresolved.
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