Nigeria agree to compensate OPEC by further cutting production
Nigeria should not be in the nonsensical position that it has to compensate OPEC by making additional production cuts as other producers increase their output. At the 20th meeting of the OPEC, Joint Ministerial Monitoring Committee (JMMC) which took place on Wednesday, 15 July 2020. The Committee reiterated the importance of a 'Declaration of Cooperation' in supporting oil market stability and emphasized the importance ofmember states compliance to production cuts.
OPEC+ originally agreed in April that it would cut supply by 9.7m barrels per day (bpd) during May-June to support oil price benchmarks in the wake of the calamitous price collapse caused bythe global coronavirus crisis.This decision was crafted by both the Saudis and the Russians in tandem with President Trump and brought to a conclusion their very damaging oil price war. Those cuts were due to taper to 7.7m bpd from July to December 2020.
The outcomes of the subsequent meeting held in Juneextended the first phase of the production adjustments until 31 July 2020 andcreated a non negotiable compensation mechanism for non compliant members to compensate OPEC. Participating countries that were unable to achieve full compliance with the agreed OPEC+ production cuts in May /June are expected to further cut production in July, August and September to make up.Nigeria is one of those members.
The OPEC+ initialagreementstruck in April restricted Nigeria to a production quota of 1.41 million barrels a day in May and June, and 1.50 million during the second half of the year. Inexplicably Nigeria seems to have readily agreed to the principle of compensation. Despite the government teetering on the brink of financial Armageddon. Total revenues by the government from January to May were 1.48 trillion naira ($3.8 billion), which was 56% of targeted revenue for the period.Earnings from crude oil sales accounted for about half of the total revenues.
Yet if we are to accept the reports emerging from OPEC, Chief Timipre Sylva Nigeria's junior oil minister has confirmed not only will Nigeria raise its compliance with OPEC+ oil cuts to 100%, but will fully compensate for its overproduction in May and June, during the period of July-September. You might make an argument that in the interest of fair play and to avoid reputational damage, if that requirement was a stipulation Nigeria had priorly agreed to, then Nigeria is duty bound by it. I take the view that compliance in circumstances such as these, that have arisen as a consequence of a black swan should be complied with on a genuine best efforts basis.
Nigeria's failure to argue its case when quotas were set by OPEC is a critical flaw and a manifest failure of statecraft. By accepting as the sole parameter for its production restriction , a level of production significantly below prevailing production levels , Nigeria tamely rolled over and failed its people yet again.
This is "Negotiating 101" as daily carried out by the Houseboy. To compound that error further, Nigeria is now in the farcical position of having to make even deeper cuts so as to compensate countries that produce far more oil (in absolute terms)and have far fewer mouths to feed, just as prices recover. President Donald Trump celebrated the agreement at the time as a great win for the American oil workerby contrast Nigeria have had to devalue its currency twice and slash its budget.
In agreeing to make compensation It might just be the case that the cost of non-compliance may prove to far outweigh any interim benefits it may have provided. Whilst precise details of the compensation mechanism are unclear, Nigeria should be mindful that it does not over compensate OPEC with higher priced barrels than it sold when over producing. At a time the market seems to be trending bullish, supported even further by the member states making additional cuts to compensate for their over production, the market value of the cuts Nigeria agree to should not be in excess of the revenues they received from under compliance. That is to say it should not be a simple matter of counting barrels. Moreover even if such compensation was considered, should it be at a time the country is least able to afford it. Unlike the Saudis and Russians, Nigeria do not possess any financial buffers they can draw upon to meet revenue shortfalls.
Some Analyst will point to the fact thatproduction output curbs have worked to the extent that the price of oil has doubled and halted the race to the bottom for crude oil benchmarks.So despite any aberration Nigeria might have committed with its quotas, the objective of the policy which was reaching a Brent oil price benchmarkof $40-$45 has been achieved. Though it is acknowledged there is still far too much oil out there and there is no more certainty of the demand trajectory now,than there was in April when the agreement was reached.
I am of the firm opinion that the oil market and price discovery are driven less by fundamentals and more by speculation in the paper market. The financialisation of the oil market has increasingly led to a rigged system. Derivatives, swaps, futures and option market participants and their antics play a much more prominent role in setting prices to the detriment of the producers. Actors such as ETF US Oil and dark pools of money seeking yield manufacture squeezes to create profit taking opportunities for speculators. When quotas were mooted Mexico categorically refused to accept a 400,000 bpd productioncut and was prepared to collapse the whole deal. That was in large part because they had hedged their oil production so the market price became irrelevant. They understood that prices for crude oil were set by punters on the ICE or the NYMEX in London and New York. The outcome has exonerated their stance and is a triumphand lesson inStatecraft Nigeria would do well to emulate.