Saudi Arabia oil production cuts could be a 'slow gathering storm' for supply

Saudi Arabia announced that it is cutting oil output by 1 million barrels per day starting in July. Vanda Insights Founder Vandana Hari discusses how this cut will impact oil prices moving forward.

Video transcript

JULIE HYMAN: Well, Saudi Arabia is slashing its oil output next month by another million barrels per day-- you can see the news-- sending the US oil producers higher today and oil prices themselves, of course. Cuts were announced at the OPEC Plus meeting of top producers where the organization reiterated plans to stick with their current oil production target through 2024.

Joining us all the way from Singapore to discuss all this as Vandana Hari, Vanda Insights founder. It's good to see you, Vanda. This was a surprise, and it seems like there was a little bit of internal dissent and argument over this move by Saudi Arabia. Ultimately, what effect will it have on the markets, and how lasting will it be?

VANDANA HARI: Good morning, Julie. So indeed, it was a surprise in some ways also because Saudi Arabia has done this before, it's-- and it's done it in consort with a few Middle Eastern members just sort of going its separate way and cutting a little bit extra over and above what the rest of the OPEC Plus members are doing. But it was surprising in the sense of, you know, there were lots of reports emerging of very difficult discussions.

Now, those tough discussions in Vienna over the weekend were probably around this. You know, it's-- of course, we can only speculate because there was no official comment on this that perhaps Saudi Arabia was trying to get other OPEC Plus members to contribute as well and failed to do so and, you know, felt that-- a bit cornered, perhaps, that it had to go it alone at the very least.

The other set of difficult discussions, of course, were on a completely different topic, which was realigning the quotas of the majority of the members that have been underperforming, underproducing their quotas for the past several months. So a lot to digest out of the meeting. But all in, I think the 1 million barrels per day-- and mind you, it's just for one month unless it's extended-- I think it has underwhelmed oil bulls a little bit. Of course, we see oil up almost 2% now, but I have a feeling it could face major headwinds and pressure to the downside again.

BRAD SMITH: A lot to digest from the meeting for sure, but how might the decision impact certain economies around the global-- global infrastructure or global equation more so than others? Where might this show up the most?

VANDANA HARI: Yeah, a good question, Brad. So you know, a prime reason for the cut is supposed to be the softness in demand from China. Now, obviously that's a major market and a major growth-- has been a major growth market for the Middle Eastern producers, certainly Saudi Arabia as well.

What we have been hearing from our clients in this region is that there was surplus Middle Eastern oil, you know? Extra-- even June lifting barrels which should have been cleared out last month. There was some surplus barrels which were going around looking for buyers. So there's definitely a softness in demand from China.

Then also bear in mind that China is buying much more of Russian oil. You know, when the country is getting it for 30% discount, why not? China is buying more Iranian oil as well. So not surprising that the traditional Middle Eastern supplies of China are seeing a little bit less demand.

Indian demand is doing very well. It's been-- it's been growing quite strongly. But you know, India is-- at the end of the day is just a third of Chinese oil demand. So the softness from Asia, of course, is what has probably propelled Saudi Arabia into taking the decision.

As long as prices don't go spiraling up in a big way, I think it's all right. The Asian economies would be able to take it. I think what this part of the world certainly wouldn't want to see-- the likes of China and India certainly-- is prices going above 80 again. I think that'll hurt them a fair bit, you know? Inflation is still a problem-- not in China but in all the other parts of Asia.

JULIE HYMAN: Do you think we will see oil prices going that high again? Do you think we will see triple digits if not this year, maybe sometime next year?

VANDANA HARI: I knew that question was coming. No, I don't think so. I'm probably in a minority or a contrarian view, but I really can't see-- short of a supply shock, which, of course, you know, can happen at any time, and that would be bad. And you know, especially because there-- overall, yes, OPEC Plus has a little bit of extra capacity now thanks to all the cuts it has been implementing since last November.

But at the end of the day, there isn't that much of a buffer. And even stocks are low, right? OECD stocks are low. US stocks are-- in terms of strategic reserves are very low. But short of a major supply shock, I don't see crude crossing 80 or let alone 90 or 100.

BRAD SMITH: So what does that mean in sectors such as manufacturing or even transportation if there is any type of supply shock in the future, which perhaps running contrary to what we've seen right now?

VANDANA HARI: I think the real problem is a slow, gathering storm somewhat on the horizon right now. So assuming that global economy is going to be-- you know, come down to first or second year this year and perhaps take its time to gain momentum again next year.

But if we look beyond into 2024, '25, '26 onwards, I think in the-- in that sort of a horizon, we-- as the economies pick up again and we're just not going to have enough oil production capacity, probably not enough refining capacity also, there's a spot in refining capacity happening around the world right now, but nothing planned after the latest round of projects, which will probably be up by 2025. But absolutely nothing after that. So we're probably staring down more crisis periods, but probably after two or three years.

BRAD SMITH: And how does kind of the output right now pair with some of the longer term targets around a more sustainable environment?

VANDANA HARI: So this is a major dilemma for OPEC Plus because, you know, a day doesn't go by when they don't hear about countries' plans towards-- for net zero, of course, but as part of that to move-- to accelerate their move towards renewables and what have you. So in fact, this could very well be a reason that they are trying to maximize their profits, the top dollar that they can get for their oil in the short-term.

The downside of that, however-- I mean, and this is bad enough that they need to maximize their profits right now, but the bigger downside, as I said, is that they're not-- a couple of OPEC Plus members are investing. Saudi Arabia and UAE are investing. But they are a very small minority. By and large, the investment globally is-- in oil and gas is not happening. And you know, my personal fear and view is that we are going to run out of capacity and run out of very precious, much-needed buffer of spare capacity much before we are ready to make the leap to all the alternative green fuels of the Utopian world.

JULIE HYMAN: Vandana, thank you so much for taking some time for us here this morning. I know the time difference is tricky. Vandana Hari is Vanda Insights' founder. Thank you.

VANDANA HARI: Thank you.