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The Real Reason For Saudi Arabia’s Oil Production Cuts

"It's not about . . . jacking up prices, it's about making the decisions that are right when we have the data," Saudi energy minister Abdulaziz bin Salman said this week, commenting on the decision by the Kingdom and Russia to extend oil production cuts first implemented in July.

Naturally, when that happened, everyone thought it was about prices. The Saudi budget needs higher prices than $70 per barrel of Brent crude. It needs it because the Crown Prince of the Kingdom has ambitious public spending plans aimed at reducing Saudi Arabia's dependence on oil revenues.

Everyone thought this was the most obvious motivation for the cuts, but not according to bin Salman himself. It appears that the energy minister of OPEC's top producer shares the fears of many a trader that kept oil prices depressed for most of the first half of the year.

"The jury's still out about what will happen to Europe in terms of growth," bin Salman said at the World Petroleum Congress in Calgary, Canada, as quoted by the Financial Times.

"The jury's still out about what the central bankers will do in terms of additional interest rates . . . The jury's still out about how the US economy will fare within the context of what's happening globally."

In other words, like many an analyst citing demand concern after demand concern in the past eight months, Saudi Arabia's energy minister is worried about the demand side of the oil equation. 

So is the International Energy Agency. Only it is worried that there will be not enough supply to meet what it sees as accelerating demand. The fact of this acceleration must be a disappointment for the IEA, who recently forecast that peak oil demand will occur before 2030 and two years ago said the world needed no more new oil and gas exploration beyond 2021.

"It's always better to go by my motto, which is, 'I believe it when I see it.' When reality comes around as it's been forecast, Hallelujah, we can produce more," bin Salman also said at the industry event.

Indeed, it would be hard to argue with the official that supply and demand forecasts are not always accurate. It is enough to recall all the projections of massive Chinese economic growth this year, which could have fueled higher prices earlier in the year.

Yet even though Chinese oil demand broke record after record, the market was focused on economic indicators in the country, which kept a lid on prices for months, eventually prompting the Saudis and the Russians to act more decisively.

It would be hard to argue that some of the biggest markets for crude, such as Europe and the United States, have been stumbling on the way to post-pandemic recovery, especially since last year both committed to indirect participation in the Ukraine war. Yet that stumble has not really affected oil demand-something that both bin Salman and market analysts ought to know.

Neither is seeing a rush into oil alternatives, it seems. While EV sales are soaring in both the United States and Europe, oil demand in both markets has done the opposite of falling. Indeed, the European Union has even remained a strong buyer of Russian hydrocarbons despite sanctions and the oil embargo.

All this suggests that oil demand is quite resilient-an observation that would not surprise anyone who has a basic understanding of energy markets-and that Saudi Arabia's energy minister does not really have any cause for concern in this respect.

However, in a context fraught with projections that oil and gas are on their way out because of the transition, the Saudi approach could be an anticipatory one. If demand for oil is about to peak soon, big producers better make the best of their resources right now before the peak comes. It would be difficult for anyone to challenge that on any reasonable grounds.

That said, bin Salman called the IEA out for its forecasts of peak oil demand and "the spectacular growth of clean energy technologies such as solar panels and electric vehicles." The agency, he said, as quoted by Reuters, had "moved from being a forecaster and assessor of the market to one practicing political advocacy." 

When a former forecaster becomes an advocate, the credibility of their forecasts takes a plunge. Yet many continue to use these forecasts to make decisions that can affect oil demand trends. The most obvious example is the subsidy race in Europe and the U.S. that is fueling the shift from oil and gas to alternatives. This race also involves discouraging oil and gas use through taxation.

This race is based on forecasts, including from the IEA, that wind and solar-as sources of electricity, including as car "fuel"-are comparable alternatives to oil and gas. And investors make decisions about where to put their money based on these forecasts.

No wonder Aramco's CEO also hit back at the IEA, warning that "We need to invest [in oil and gas], otherwise in the mid- to long-term we will have another crisis and we will go backward in terms of using more and more coal and other cheap products that are available today."

It is also no wonder that in such a political environment, Saudi Arabia's energy minister would rather play it safe, especially if carbon taxing of the general population spreads, sapping demand for oil most effectively.

By Irina Slav for Oilprice.com

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Irina Slav

Irina is a writer for Oilprice.com with over a decade of experience writing on the oil and gas industry. More