April 8, 2020: U.S. oil production is set to slump from this month in response to the plunge in prices, according to the latest forecasts published by the Energy Information Administration on Tuesday.
Price-driven output cuts will be presented by the U.S. government as its contribution to the need for lower global production when pressing Saudi Arabia and Russia to lower their own output.
U.S. crude production is predicted to decline by 1.75 million barrels per day (bpd) or almost 14% over the seven months from March to October 2020 before stabilising. (https://reut.rs/2UUNPbE)
As a result, the EIA is now projecting production will decline by an average of 470,000 bpd in 2020 and a further 730,000 bpd in 2021. (“Short-Term Energy Outlook”, EIA, April 7)
The forecast declines are the largest in U.S. history in barrel terms, and the largest since the depression years of 1931/32 in percentage terms.
The EIA is predicting lower prices will filter through into reduced output much faster than normal, as the industry slashes new well drilling and completions and is forced to choke back or shut some old wells.
Prices normally affect production with a delay of 9-12 months, but the current adjustment is expected to come much quicker, as the industry is compelled to adjust to an unprecedented collapse in demand and prices.
With crude inventories rising rapidly around the world and storage tanks and space on board tankers likely to become full within a few months, cash prices in the oilfields have slumped even faster than futures contracts.
Unless production is reduced rapidly, or the world economy emerges from the coronavirus-induced shutdown quickly, oilfield prices will fall towards zero, enforcing the rebalancing of production to lower consumption.
U.S. officials are likely to insist the forecast output declines are a proportionate contribution to a global output reduction (“U.S. pushes back on call by OPEC+ to join big oil output cuts”, Reuters, April 7).
In their view, the United States is relying on price and market mechanisms to achieve the adjustment, while Saudi Arabia, Russia and other members of OPEC+ are likely to employ formal output limits.
U.S. officials will likely argue market-driven adjustments offer a different route to the same objective, respecting differences in the legal systems and organisation of the oil industry in different countries.
Some OPEC+ members are likely to be quietly sceptical, since the scale of market-driven output cuts is a function of prices, while formal output limits are independent of prices, at least in the short term.
If an agreement on global output reductions succeeds in lifting prices, price-driven U.S. output reductions could end up being smaller, while other countries would still be required to observe larger reductions.
Price-driven cuts are therefore not the same as formal output limits. But Russia and Saudi Arabia are under intense economic and diplomatic pressure to reach an agreement ending their volume war.
The projected U.S. output cuts give both Russia and Saudi Arabia a face-saving way to declare victory and move on.