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Which challenges awaiting oil producers?

Oil&Gas Materials 16 January 2018 11:01 (UTC +04:00)

Baku, Azerbaijan, Jan.16

By Leman Zeynalova – Trend:

The oil market is likely to become increasingly competitive over time as producers fight for market share, according to BP analysts.

“The world isn’t going to run out of oil. Rather, it seems increasingly likely that significant amounts of recoverable oil will never be extracted,” BP said in its “Peak oil demand and long-run oil prices” paper.

The recognition that there is an abundance of oil is likely to trigger profound changes in global oil markets and the behavior of oil producing economies, although the pace at which these changes take hold is a key source of uncertainty, according to the analysts.

“Most fundamentally, it is likely to cause global oil markets to become increasingly competitive. Over the past few decades – during the age of (perceived) scarcity – the oil market hasn’t behaved like a normal market. In particular, high-cost producers have been able to exist and compete alongside low-cost producers, even though high-cost oil is many times more expensive to produce. The laws of competitive markets, in which high-cost producers are driven out of the market, haven’t applied,” said BP.

The reason, according to the analysts, is because owners of large, low-cost resources have until now effectively rationed their supplies of oil: rather than using their competitive advantage to maximize market share, they have preserved their resources for the future.

“This made sense during the age of scarcity, since concerns about peak supply suggested the value of these oil resources was likely to increase over time. But the shift to an age of abundance changes all that. Faced with the possibility that significant amounts of recoverable oil may never be extracted, low-cost producers have a strong incentive to use their comparative advantage to squeeze out high-cost producers and gain market share – just as with any other competitive market. This suggests that the oil market is likely to become increasingly competitive over time as producers fight for market share,” said BP.

To gain market share, low-cost producing economies will need to adopt a “higher volume, lower price” strategy to the benefit of oil consumers, according to the analysts. “In response, owners of higher-cost resources will need to offer increasingly attractive contracts and fiscal terms to ensure their oil remains competitive and able to attract the private-sector investment needed to extract it.”

But the forces and dynamics prompted by this shift to an age of abundance and more competitive oil markets are likely to pose significant challenges to major oil producing countries and, as such, may take some time before they have their full effect, said BP.

“At one level, there is a significant operational issue. If a low-cost producer wishes to adopt a “higher volume, lower price” strategy they will need to increase their production capacity. This is a major undertaking. For a country to increase their production from say 3 Mb/d to 6 Mb/d would take tens of billions of dollars and probably several decades. A change in strategy from rationing to maximizing market share is costly, requiring huge investments, and cannot be implemented overnight,” said the report.

Even more challenging, major oil producers will need to restructure their economies, BP analysts believe.

The sensitivity of oil prices to even relatively small shifts in supply means that adopting a “higher volume, lower price” strategy is likely to lead to a drop in oil revenues, particularly so if a number of producers adopt a similar strategy around the same time, according to the report.

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