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IEA changing roles: the world’s oil police
The decision by the International Energy Agency (IEA) to make 60m barrels of oil available from the emergency reserves of its members to offset the production problems in Libya came as a surprise, to put it mildly. The political turmoil and the military fighting have led to a dramatic cut in Libya’s oil production, making the market significantly tighter. But does that justify the IEA’s decision to draw on emergency stocks?
Until 1970, America’s reserve capacity was the most important element for energy security in the western world. OPEC subsequently took over the role as the world’s oil supplier of last resort. The centre of world oil production, the control of global oil flows and oil revenues moved from the US to the Middle East. The global dependence on the Middle East transferred unparalleled political power to the oil-producing countries in this region.
OPEC’s mission is to stabilise the oil market to ensure efficient, economic and regular supply of oil to consumers, steady income to oil producers and a fair return to investors. But collaboration problems between the OPEC countries and lack of discipline have periodically reduced the cartel’s ability to balance the oil market and control oil prices. Given OPEC’s reluctance to bring down oil prices and alleviate the situation for the world’s oil importers, relations between the IEA and OPEC have been strained for some time. There was considerable disappointment in early June when the cartel failed to agree on an expansion of the oil supply.
The IEA’s goal in using the emergency reserves is to dampen negative effects of an unexpected production disruption that could lead to oil shortages. An oil price rise in itself is not a good enough reason. To the extent that Libya’s production problems have been known for a while, OPEC as the world’s swing producer with extra production capacity available should be able to cover the Libyan production outage. That makes it hard to see that the danger of an oil crisis alone should be behind the IEA’s decision. In addition, the sharp oil price rise, which threatens to undermine the economic recovery among the world’s oil importers, and high petrol prices, which threaten President Obama’s popularity, have been crucial.
The IEA decision thus appears to be a sign of distrust in OPEC and an attempt to override the market’s own mechanisms to deal with the structural and political problems that have dominated the oil market for an extended period. This action may consequently be seen as an attempt to dampen the high oil prices short term. Although Saudi Arabia has subsequently promised to step up production, the IEA’s decision must be interpreted as a strong rebuke of the oil cartel and a demonstration of power.
Though the IEA’s release of emergency stocks may help to dampen the price rises short term, it may contribute to driving prices even higher over the longer term. The key reason for the sharp oil price rise since September last year is that the expansion of new production capacity has not kept pace with the growth in consumption. Lower oil prices will boost demand and also put a damper on investment in oil and other competing energy sources. By overriding the market’s own mechanism, the IEA action may add to the structural challenges in the oil market, triggering sharper price rises once the IEA turns off the emergency tap. Increased use of emergency stocks now will make us less able to tackle a future crisis situation. Since the key drivers behind the oil price rise are of a more lasting nature, the IEA will, with very limited resource availability, only have a short-term possibility of boosting the oil supply in future.
By releasing part of the emergency stocks to dampen oil prices and spur economic growth in oil-importing countries such as the US, there is a risk that the IEA could create greater imbalances in the oil market. That could lead to an even tighter market slightly longer term and make us more vulnerable in case of a truly severe crisis.
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