Trump’s decision to kill the Iran deal could put an end to the OPEC agreement.
As has been widely discussed in the aftermath of President Trump’s decision to withdraw from the Iran nuclear deal, the return of sanctions on Iran could disrupt oil shipments, with estimates ranging from essentially nothing to as much as 1 million barrels per day of Iranian supply going offline.
But the decision also could put an end to the OPEC agreement.
Saudi Arabia could be the biggest beneficiary of Trump’s decision, not just because from a geopolitical perspective (Saudi Arabia has long wanted the U.S. to confront Iran), but because any decline in Iranian supply will push up prices, dealing a financial windfall to Riyadh without any sacrifice.
Indeed, Saudi Arabia has wanted higher oil prices for some time, with rumors that it was targeting $80 per barrel, or even $100 per barrel. Saudi Arabia needs higher oil prices to fill budget gaps, and it also wants to ratchet up prices ahead of the Aramco IPO. Just as with Venezuela’s plunge in output, any unexpected outage in Iran will be a boon for Saudi Arabia.
However, even as the Saudis are set to enjoy a wave of revenues from higher prices, their gambit also carries risks.
There seems to be some sort of agreement between the U.S. and Saudi Arabia that if Washington takes the fight to Iran, Saudi Arabia would step in to prevent a crude oil price spike, a perennial problem for U.S. politicians. U.S. Secretary of Treasury Steven Mnuchin said on Tuesday that he does not expect an increase in oil prices because “we have had conversations with various parties … that would be willing to increase oil supply.” He omitted which parties he was referring to, but it is safe to say that he was talking about Saudi Arabia.
Shortly after that statement, Saudi Arabia issued a statement of its own, saying that it “will work with major producers and consumers within and outside OPEC to limit the impact of any supply shortages,” a Saudi energy ministry official said on Wednesday, according to Reuters.
Wednesday afternoon, Saudi oil minister Khalid al-Falih went further, tweeting that OPEC and Russia would “ensure market stability.”
And as John Kemp of Reuters points out, this arrangement clears up the tweet from President Trump in April in which he blasted OPEC for high prices. “In retrospect, the president’s tweet on April 20 blaming OPEC for high oil prices can be seen as part of the negotiating process to reach an understanding with Saudi Arabia,” Kemp wrote for Reuters.
The implication is that the U.S. will work to isolate Iran, potentially curbing supply by hundreds of thousands of barrels per day. Saudi Arabia would resolve any price spike by adding barrels back onto the market.
But if Saudi Arabia ramps up output, it would essentially have to back out of the OPEC agreement. Any unilateral increase in supply would violate the spirit of the pact, and would likely lead to less restraint from other members. Recognizing the risk here, a source told the FT on Wednesday that Saudi Arabia would not increase supply on its own, and would instead work with OPEC and Russia to coordinate their action.
There would seem to be a reasonable amount of time for OPEC to plan for these events since U.S. sanctions have a 180-day grace period. However, the U.S. Treasury said that it expects countries to begin reducing their purchases of Iranian oil well ahead of the 180-day timeline if they want any chance of obtaining a waiver. That means countries could begin reducing purchases of Iranian oil immediately.
In other words, there is a chance that Iranian supply goes offline before the 6-month deadline. But with the oil market already tight – and greater losses expected from Venezuela – the existing OPEC deal may have to be tweaked sooner than expected.
The group has already been under scrutiny because inventories have fallen back to the five-year average. There was some risk that OPEC could let the market tighten too much. The prospect of outages in Iran significantly boost those odds.
To avoid the entire group returning to full production, there would need to be some sort of adjustment to the production limits for all of the participating countries. But it isn’t as simple as merely adjusting the output limits higher – it was incredibly difficult to get all OPEC members on board for the original agreement. Any changes will be problematic. The other possibility is that OPEC members simply start to cheat, even if the deal remains unchanged.
Either way, to the extent that the Trump administration succeeds in knocking a significant chunk of Iranian supply offline, it would dramatically accelerate the timeline of the phase out of the OPEC agreement.