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How OPEC Decides To Maintain Oil Output despite Falling Prices?

Published : Monday, 08 December, 2014 11:20 AM
 
MBA aspirants must be updated with General Awareness on current topics. General awareness topics with analytically drawn conclusions will benefit you in XAT, IIFT, CMAT,  MAT,  Essay writing, General Awareness sections besides in GD & PI.  
 
Today, you will read Current Affair Topic: 
 
How OPEC Decides To Maintain Oil Output despite Falling Prices?
 
The Organization of the Petroleum Exporting Countries (OPEC) decided to maintain current levels of petroleum production in a meeting on November 27, 2014. Although OPEC countries, particularly Iran, Venezuela, and Nigeria expressed their concern over dropping oil prices in recent months, but the members finally agreed that the current production level should be maintained at 30 million barrels per day. The organization will be following the oil prices closely and have agreed to act in case of any adverse developments. 
 
Following OPEC's decision, the London’s Brent crude index fell towards $72 a barrel on November 28, while it touched its weakest point since July 2010 at $71.25 on November 27. The crude benchmark index has fallen more than 15% in November, which is its steepest monthly decline since 2008. Likewise, American crude index West Texas Intermediate (WTI, the pricing basis for shale oil) dropped below $70 on November 27 while the stocks of energy firms in Asian markets too have tumbled following OPEC decision. The WTI further declined during the first week of December and is hovering between $64-68.
 
The moot question is why the OPEC, which hitherto functioned as a cartel and manipulated oil output to defend global oil prices, is refraining to set market prices. That’s because there has been a marked shift in strategy of OPEC in recent months. Instead of its traditional strategy of cutting down output to protect oil prices, the OPEC is desisting from it even when there has been more than 30% decline in prices in recent months. For the last three years OPEC was able to maintain prices in the $100-a-barrel range that many of its members favor. But oil markets have spun out of OPEC’s control of late. Global output of crude oil outstripped demand this year putting a tremendous strain on prices. 
 
How OPEC Decides To Maintain Oil Output despite Falling Prices?
 
The main new source of supply is oil extracted from shale (through fracking) in the United States, which is expected to add about one million barrel a day of oil production in 2014 and an additional one million barrels a day in 2015. Sluggish demand by European and Asian (particularly Chinese) consumers too has taken its toll on oil prices. Even as OPEC is trying to figure a way to cope up with the competition from North American Shale oil producers, the organization has failed to extend influence other big producers outside the organization like Russia and Brazil. 
 
It is likely the OPEC has accepted these factors as new global realities and decided to not intervene for long-term gains. Many industry experts believe that a price of $70-a-barrel or lesser can make shale oil producers unprofitable. Current estimates suggest an oil price below $90 will drive many shale-producing firms out of business due to unsustainable production costs. And if that sort of pricing persists for more than six months, the shale oil producers will become a victim of their own success. 
 
How OPEC Decides To Maintain Oil Output despite Falling Prices?
Simultaneously, reduced oil prices will give again ensure that Saudi Arabia, Kuwait, and the United Arab Emirates continue to call the shots within the OPEC much to the chagrin of Iran, Iraq, Venezuela, and Nigeria. The Arab states produce more than a third of the OPEC’s total oil output. At the same time, reduced oil prices will hurt Russia, in particular, which the West believes has become more belligerent under President Vladimir Putin.
 
For countries like India dependent on imported oil, the falling prices will help reduce inflationary pressures and enhance savings in the economy. This could spur demand in other sectors of the economy. Higher spending on fuel has subdued demand in sectors like automobile and electronics. Even though lower prices will hurt shale oil producers in the United States, the consumers there will benefit as they will have more money to spend and companies’ energy bills decline. 
 
Europe and Japan, both large oil importers, will see reduced expenditure. In Europe’s case, however, high taxes on energy limit gains for consumers. Overall, reduced oil expenditure could spur consumer demand in other sectors of the economy, particularly automobile and electronics, which may have a cascading impact on global recovery.
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