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Why OPEC Will Have To Cut Oil Production in 2010

The official line from OPEC, the oil cartel whose member countries include Iran, Saudi Arabia and Nigeria, is crude-oil production will stay the same--the fourth time this year the group has left its target unchanged. The decision was made in large part because oil ministers are happy with the prices, which have risen above $70 a barrel.

If every OPEC country was following those orders it would mean 4.2 million barrels of oil a day would have been taken off the marketsince Jan. 1, 2009, when production cuts were to take effect. At that time, oil prices hovered in the abysmal $32 territory and there was a sense of urgency among OPEC member countries.

Even then, when fears were high, OPEC's 11 member countries subject to quotas (Iraq is excluded) managed to only partially adhere to those cuts with about 80 percent compliance. Meaning, of the 4.2 million barrel-per-day cut, about 840,000 barrels were still making it to market. And that was when compliance was high.

Compliance has since fallen to about 60 percent, according to a Financial Times report. The International Energy Administration has put compliance figures at 58 percent. That's nearly 1.8 million barrels a day of oil still making it to market. Oil prices, which have recovered to over $70 a barrel since December 2008, have encouraged OPEC and non-OPEC producers to pump more crude.

OPEC Secretary General Abdullah el-Badri called for compliance to improveto somwhere between 75 percent and 80 percent, Bloomberg reported. With oil prices trading above $70 a barrel, getting OPEC nations to rein in their production levels will be akin to herding cats. It's not going to happen. Some of the worst offenders are: Angola, which hosted the extraordinary OPEC meeting, Nigeria, Iran and Venezuela.

OPEC is still clearly worried about the global economic recovery. For the first time since the early 1980s, world oil demand has declined for the second, successive year, OPEC said in its press release Tuesday. And there is still a lot of oil sitting out there.

If compliance continues to fall short and demand does not recover there could be downward pressure on oil prices. Meaning, OPEC will have to slash production levels -- if only to reach targets it set back in 2008 -- in hopes of pushing prices back up.

Unfortunately for OPEC, it has no control of non-OPEC countries that have continued to pump oil despite a call for greater cooperation and a reduction in production. Jose Maria Botelho de Vasconcelos, minister of petroleum of Angola, points to this non-OPEC compliance problem in his opening remarks. He doesn't name names, but assume Russia is included in this.

It is not only OPEC that should be taking measures to balance the market. All OPEC and non-OPEC producers should be involved in the process. They all benefit; therefore they should all contribute. It is very hard on our member countries when they make sacrifices to cut back on output for the common good, only to find that other producers are stepping in to fill the gap."
Finally, there's the Iraq factor. Iraq is not bound by quotas. But OPEC will certainly monitor Iraq closely as the country tries to breath new life into its oil industry.
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