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Why OPEC is straining to reassert its authority

Members of the cartel want to set a higher floor for world oil prices in part to meet growing budget problems at home.

It's not the cartel of old. But OPEC may be attempting to regain as much control as it can over oil markets - even as US gas prices reach record highs.

With Asian demand for petroleum booming, OPEC ministers believe now is a good time to try out preemptive production cuts. Long term, they may want to set a higher floor under volatile oil prices, in part to provide more cash for fast-growing Middle East populations.

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But as always with this fractious, exclusive club, agreeing on a plan is one thing. Actually carrying it out is another.

"OPEC has definitely had more of a unified strategy the last few years," says Michelle Billig, an oil expert and fellow at the Council on Foreign Relations in New York. "It hasn't been so cohesive in implementation."

In Washington, OPEC's decision to reduce production by about 4 percent, announced last week, has caused consternation, if not outrage. Some lawmakers have even suggested that the cut will revive tensions between the US and OPEC's most influential member, Saudi Arabia.

Sen. Charles Schumer (D) of New York went so far as to tell reporters that when it comes to oil the Saudis "are no longer our friends."

Saudi officials moved quickly to try to dampen such controversy. The influential Saudi ambassador to the US, Prince Bandar bin Sultan, showed up at the White House last Thursday to defend the oil cartel's actions.

Why OPEC says it's cutting production

The OPEC decision comes at a point in the year when oil consumption typically declines following the winter heating season, pointed out Prince Bandar. He said that if actual shortages develop, the Saudis would open spigots to ease the problem - as they did last year during major combat in Iraq.

Riyadh does not want OPEC's actions to harm world economic growth, said the Saudi ambassador. "Saudi Arabia's policy is consistent," he said.

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Still, OPEC's production cut strategy is remarkable given the backbiting and quota-cheating that fissured the cartel only a few years ago.

The low point may have been reached in 1997, when OPEC decided to increase production 10 percent shortly before demand was flattened by an economic crisis in Asia. Prices cratered down to around $10 per barrel. It seemed as if the cost of gas might stay low for years.

Out of this debacle arose what might arguably be termed a new OPEC. Its market share was much reduced, at around 38 percent of world production, as opposed to some 50 percent during the heydays of the mid-1970s.

But renewed unity on strategy - plus a sophisticated understanding of how big commercial oil inventories were affecting the market - helped the cartel regain influence. That development, plus rising demand, have kept oil up in OPEC's current target range of $22 to $28 a barrel.

Lately, of course, prices have spiked higher, nearing $40 a barrel in some cases. That's where they are likely to stay for some time, say many forecasters.

"Barring a surprise economic downturn, many of the factors that characterize current market conditions are expected to endure for the rest of 2004 and into 2005," says an analysis from Cambridge Energy Research Associates.

OPEC's new profile

Is OPEC trying to establish a new paradigm, with a new floor for cyclical oil prices at $28 or above? It's certainly possible, say experts. A number of trends might be pushing the cartel in that direction.

For one thing, world demand for oil is heating up. China and other East Asian nations in particular are using more as their regional economy booms. The developing countries of the Pacific Rim are expected to double their oil imports by 2025, according to some estimates.

For another, the decline of the dollar relative to the Euro and other major currencies costs OPEC money, because its oil is priced in dollars. Raising prices might help compensate for this slide.

And many OPEC nations need the cash. The days of petrodollar excess are over. Saudi Arabia and many other Middle Eastern oil exporters have been running budget deficits for a decade or more. Their governments are struggling to pay for current entitlement programs, plus projected investments.

At the same time, their populations are rising sharply. As the average age of the populace decreases, demands for education, housing, and new jobs increase. Saudi Arabia has one of the region's most critical population problems: It has grown so fast that oil revenue per capita is now just one-fifth what it was in 1980.

"In spite of the projected rises ... export revenues will not meet the needs of Middle Eastern states with high population growth and economies with limited diversification," concludes a draft study on energy developments in the region by Anthony Cordesman of the Center for Strategic and International Studies.

The politics of petroleum

In the short term, rising oil prices may inject a volatile new issue into the 2004 presidential campaign - as if it needed any more. The Bush White House has expressed disappointment with the recent OPEC production cuts, and officials insist they will continue attempts to get the cartel to loosen up.

"We remain actively engaged in discussions with our friends in OPEC, as well as [with] non-OPEC producers around the world," White House spokesman Scott McClellan said last week.