War, peace, or something more chaotic? Oil prices have been volatile, with Brent crude spiking to $114 a barrel on Monday on reports of shooting between the US and Iran in the Strait of Hormuz, only to drop below $103 on Wednesday after secretary of state Marco Rubio announced that the US-Israeli offensive against Iran is over.
Markets are pessimistic that the strait will be unblocked any time soon. Two weeks ago, online prediction markets gave 90% odds that traffic would be back to normal by the end of June, says John Authers on Bloomberg. That figure has now fallen to even odds. Similarly, Brent crude futures are pricing in $90 a barrel for the end of the year, the highest since the conflict started.
Why did UAE quit Opec?
Oil markets won’t normalise before the end of the year at the earliest, says Stephen Innes of SPI Asset Management. But on a longer view, news of the departure of the United Arab Emirates (UAE) from the Organization of the Petroleum Exporting Countries (Opec) suggests that we may be heading for “a more competitive, more liquid, and ultimately lower-priced oil market”. The UAE’s exit is a significant blow to the 65-year-old oil cartel, which coordinates to restrict supply and manage prices.
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The Iran war has deepened the split between Saudi Arabia and the UAE, major Opec players and the Gulf’s two leading powers, says The Economist. The Emiratis have chafed under Saudi-led restrictions that forced them to keep 600,000 barrels per day of spare production capacity in the ground, a figure that was rising before the war thanks to new infrastructure investment.
The UAE now wants to raise output to fund post-war reconstruction. Abu Dhabi requires a significantly lower oil price ($50 a barrel) for its national budget to balance compared to Riyadh ($90), making it inclined to pump even when prices are low.
The Emiratis calculate that, with the world transitioning away from fossil fuels, it is better to monetise its oil reserves now rather than risk leaving them in the ground, says Kathryn Porter in The Telegraph. Opec was already losing its grip on oil, with non-members such as the US, Canada, Brazil and Norway collectively accounting for more than half of global supply.
However, Opec’s collective action doesn’t just keep prices high, it also helps stabilise volatile energy markets. With that “coordinating mechanism” weakening, oil prices are likely to “overshoot in both directions” in the future.
Cartels always sow the seeds of their own destruction, says John Kemp in the Financial Times. High prices incentivise new supply from members outside the group. That raises pressure on cartel members to keep supply even tighter, opening internal “fissures”. “Every cartel eventually ends in failure” and “Opec is likely to prove no different”.
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