Column: Why OPEC can’t get Iran to cut oil production

Column: Why OPEC can’t get Iran to cut oil production

OPEC members have in recent months repeatedly met to discuss production cuts. The cartel’s members are suffering from the dramatic decline in oil prices over the past two years, which has seen crude dropping to between $40 and $50 per barrel from more than $100 in 2014.

This has caused tremendous pressure on both government budgets and economies of oil exporting countries.

Faced with these challenges, OPEC members finally agreed in a September meeting in Algeria to cut production — in principle. Exact quotas remain to be negotiated, which is the subject of an upcoming meeting in late November. While other OPEC members still need to agree on production quotas, Iran — together with Libya and Nigeria — was granted an exemption. This comes as Tehran has repeatedly expressed its unwillingness to accept any reduction of its oil output.

In August, Oil Minister Bijan Zanganeh said, “Iran will cooperate with OPEC to help the oil market recover, but expects others to respect its rights to regain its lost share of the market.” Iran’s hesitation to cut production alongside other OPEC countries can be explained by a number of factors, reflecting a melange of political and economic aspects.

First, there is domestic pressure on President Hassan Rouhani’s administration to show that the nuclear deal is benefitting the country. Rouhani, who is seeking re-election next year, was elected on his promises of a nuclear deal and economic recovery. On the former, his administration delivered. On the latter, matters are less clear-cut. Inflation has been successfully reigned in and the country is back on the path of growth. However, the vast majority of Iranians have yet to see a substantial improvement in living conditions. Realistically, fundamental change in this regard is only likely in the long run. Sanctions relief is complicated, and the Iranian economy is in dire need of structural reforms. Thus, next to signing high-profile contracts with major Western companies, bringing back oil production to pre-sanctions levels serves as a symbol of the nuclear deal’s positive effects for Iran.

Second, Iran’s position on production cuts is directly related to its ambition to attract international energy companies. Parallel to negotiating and implementing the nuclear deal, the Rouhani administration designed a new oil contract scheme known as the Iran Petroleum Contract (IPC). While the details of the schemecontinue to remain unclear, it is intended to attract international companies by offering better terms. Behind the IPC are both commercial and political rationales. Commercially, Iran’s energy industry hopes to benefit from much-needed investments and technology transfers. Politically, the Rouhani administration seeks to improve Iran’s standing by expanding ties with the international community. Commitments by energy majors — especially from Europe — would contribute to this end. Other obstacles aside, a reduction or limitation of Iran’s oil production would reduce the scope for engagement in Iran’s energy sector. As such, production caps would be in direct conflict with the administration’s ambition to improve relations with international partners.

Third, as a result of US and EU sanctions, Iranian oil production declined by some 0.6 million barrels per day (mbpd) between 2012 and 2014 to 3.1 mbpd, according to OPEC data. Meanwhile, Saudi Arabia raised its output by some 0.9 mbpd between 2011 and 2015 to 10.2 mbpd — in an apparent attempt to counter competition from North American unconventional oil producers. The starting points of Iran and Saudi Arabia to embrace production caps, therefore, are fundamentally different. By cutting production, Saudi Arabia would move toward its pre-surge position. Iran, however, would effectively be forced to remain below its traditional pre-sanctions production levels, giving up the much-expected positive effects from the sanctions relief under the nuclear deal.

Fourth, OPEC’s effort to impose new production quotas is ultimately dependent on the cartel’s leading producer, Saudi Arabia, given that the kingdom’s decision to flood markets sparked the decline in oil prices. Similarly, it was a shift in Saudi policy that allowed OPEC to agree on the need for production caps. For Iran, Saudi Arabia’s leading role in OPEC is problematic. In light of the worsening Iranian-Saudi relations, the Rouhani administration has repeatedly been accused of taking too soft a stance vis-a-vis Saudi Arabia. Within OPEC, therefore, it would be hard for Iran to pursue policy initiatives domestically perceived as initiated and led by Saudi Arabia. This is especially the case as during the sanctions years, rather than supporting Iran, most OPEC members — and especially Saudi Arabia — increased production and thereby alleviated the loss of Iranian oil.

Fifth, relative to other oil exporters, Iran is arguably better prepared to endure low prices. Responding to sanctions, Tehran began reducing its dependence on crude oil exports prior to the 2014 price decline. As a result, Iran’s economy is relatively more diversified and enjoys a positive non-oil trade balance. Iran continues to experience pressure from low oil prices given that 29% of the government budget is still derived from oil revenues. However, in comparison to other oil exporting countries, the financial pressure from low prices is less. This gives Iran room to not focus exclusively on price levels in its oil policy.

While all of these factors are shaping Iranian oil policy, it is difficult to assess from the outside which ones are ultimately most decisive. Nonetheless, Iran clearly seems to give priority to reclaiming market share, thus putting cooperation with OPEC in the backseat.

All this leaves OPEC in a difficult position. To reach a basic common understanding on the need for production caps, exemptions had to be granted to Iran as well as Libya and Nigeria. Moreover, several other OPEC countries can similarly not be expected to have much interest in significantly reducing their output. This includes Algeria, Iraq and Venezuela, which are either producing below traditional production levels or are dependent on maximizing export revenue due to a lack of other sources of income. With Iran and others insisting on exemptions or only very modest reductions, this suggests challenging days are ahead for OPEC. The question of whether the cartel will eventually succeed in agreeing and implementing actual quotas remains far from solved.

The article resembles the author’s own views and doesn’t necessarily reflect MEO’s policy