OPEC Cuts Deep to Save Cartel

Guest Post by Tom Luongo

With oil prices in free fall and the dawning realization that Great Reflation trade of 2017 is over, OPEC needed to do something drastic to remind everyone how important they are.

Moreover, with Qatar quitting the cartel last week it was then doubly necessary for OPEC to make the markets stand up and remember them.

So, after a few days of wrangling, a 1.2 million barrel per day cut was announced by OPEC, far larger than the market was expecting.

The Trump administration is fuming today over this result.

Predictably, oil prices jumped on the news.  All is right with their world, yes?

Well, yes and no.  The Saudis need $80 per barrel oil.  Russia doesn’t get its hair mussed below around $50 and even then it simply scales back government spending in line with oil prices — auto-budgeting based on oil tariffs.

The free-floating ruble insulates Russia domestically from a sharp drop in oil prices far better than Saudi Arabia since the Riyal is pegged to the U.S. dollar.

But for Saudi Arabia, the stakes are far higher.  And its chief rival, Iran, understands this very well.  The reason the OPEC meeting was so touch and go was Iran exerting its leverage over the Saudis in response to U.S. sanctions.

Because while Russia agreed to a 200,000 barrel cut, which is nothing to them in the grand scheme of things, Iran was exempted from making any cuts.

Iran, Libya and Venezuela will be effectively exempt from the cuts, though the text of the deal will say they received “special considerations,” Iraqi oil minister Thamir Ghadhban said.

 Saudi Loss Leader

Saudi leadership is weakening.  Qatar left to pursue its own ambitions without OPEC getting in the way.  That’s a nice way of saying they want to do business with Iran developing the shared North Pars gas field.

Iran used the Saudis’ need for much higher prices to extract this major concession so that it can produce what it can sell.  Iran will, by definition, maintain market share, possibly taking some from the Saudis because a tighter supply environment means customers will flaunt U.S. sanctions to get what they need.

This is how Iran wins another round in the battle to defy U.S.’s sanctions.   Let market forces pressure Trump to give up the sanctions or find more ways around them.

Trump wants Iran’s economy destroyed and is willing to tear up every international standard of behavior to get his way.  The gloves came off with the arrest of Hauwei CFO Wanzhou Meng over violating sanctions on Iran.

As David Stockman points out in a recent Contra Corner article:

But this isn’t just an “oops!” The loathsome neo-cons twins—Pompeo and Bolton–sitting on Trump’s right side at the Buenos Aires dinner apparently didn’t tell him that she was actually being nabbed at the very moment they were slicing their steak.
After all, the Chinese have a thing about saving face, and this stunt literally ripped Emperor Xi’s right off his forehead.
Yet the real oops is not this one hideously stupid episode. It’s the whole sweeping, global-spanning sanctions regime that Imperial Washington has put in place over the last several decades.

Trump was apparently kept in the dark on this operation because as President he’s not on a need-to-know basis anymore.  This arrest is the kind of sabotage that should have resulted in his firing his entire cabinet but not Orange Jesus, he’s just rolling with it while he complains about Mueller and CNN.

So watching OPEC try to cut their way to prosperity in the face of a deflating world economy — ask Deutsche Bank how well that’s working out for them -is fascinating because, like Trump’s tariffs and sanctions, it is the action of a group whose power is past its sell-by date.

Iran Mates in Four Moves

Look, sanctions don’t work.  People will figure out ways to hide their trades from U.S. regulatory agents faster than the U.S. can respond to them.  The authoritarian mind simply cannot fathom anything other than punishment for defiance.

They simply think that if someone is still telling you ‘No’ then they haven’t beaten you hard enough.  It’s how they’re handling North Korea and now how they’re handling everyone doing business with Iran.

But, look at OPEC today.  It rolled over on deep production cuts, the main group taking it on the chin and allowing Iran to skate.  What’s the point of Iran being in OPEC if it doesn’t have to abide by any rules of the cartel?

OPEC needed to do this and it signals that things are going to get much worse in 2019 than better.  They wouldn’t have cut so deeply if they were bullish on global growth in 2019.

But, it also means that countries like China, now smarting from Bolton/Pompeo’s humiliation, will likely not reduce their tenders for Iranian oil.  Neither will India.

The waivers granted to them and six other countries will run out in five months.  That is more than enough time for companies and banks to put together back-channels (especially having nearly another full year to prepare) to pay Iran for its oil and leave the U.S. hanging on sanctions.

And all Trump and Bolton can do is fume.  All they can do is act more erratically and unlawfully.  It may win them battles in the short term but it will lose them the war in the long term.

Because all this is doing is increasing the viability of Shanghai’s petroyuan contract as an alternative platform for oil trading. Because its not like China will help the U.S. find sanctions cheaters. When only dollar-based futures contracts were around the U.S. could contain this better.

But, now, with Shanghai it’s completely different.  And OPEC’s survival in a deflating world of shifting geopolitical power depends on responding in their own best interest.

And after Trump’s latest snub, a thoroughly frustrated Vladimir Putin will happily go along with this to help the Saudis out of a jam but allow Iran the means to survive.