International Politics

	Vol. 226 No. 6
DR. A. F. ALHAJJI, CONTRIBUTING EDITOR, MIDDLE EAST

Finally…additional capacity is underway. Consistent declines in excess Persian (Arabian) Gulf region capacity contributed to higher oil prices in recent months. Capacity in the Gulf region has not increased in more than two decades. While several factors prevented these countries from increasing capacity, the decline in oil prices in the mid-1980s and in 1998 – 1999 convinced governments, national oil companies, foreign operators, and investors that the world was awash in oil. Which country would invest in additional capacity, when it couldn’t sell its oil at a reasonable price?

By 2000, demand started to outstrip supply. Prices increased by almost four-fold, only to decline in 2001 after the start of the US recession. New fiscal and monetary regimes were born after Sept. 11, 2001. The Fed, fearing another recession, relaxed its monetary policy. It reduced interest rates and let the dollar value slide relative to other world currencies. The US government, along with a large number of governments around the world, adopted expansionary fiscal polices.

Spending on security and counter-terrorism measures increased substantially. In the US, governmental spending was unprecedented, especially after it launched three wars on the Taliban in Afghanistan, on Saddam Hussein’s regime in Iraq, and on terrorism inside and outside the US. The Bush administration accompanied governmental spending with another economic stimulus, a tax cut. The effect of expansionary fiscal and monetary policies is evident in the high economic growth rates that the world witnessed during the last three years. These growth rates increased oil demand to the extent that demand outstripped supply again while marketable excess capacity completely vanished.

To understand how we ended up with high economic growth and high oil prices at the same time, we should acknowledge the fact that this is the only time in history when oil prices, economic growth, military spending and government spending have all increased while taxes, interest rates, and the value of the dollar have all decreased. This combination has led to unprecedented demand for oil.

High oil prices did not affect economic growth in Europe and Japan. As the dollar’s value declined, oil prices in local currencies in Europe and Japan were lower than what they were in the past and did not reach records like oil prices in the US. The cheaper dollar has limited the effect of high oil prices on the US and China. Indeed, Chinese drivers and companies that operate in China have not felt the increase in oil prices. Governmental controls kept prices below the world rate. In the US, the positive effect of higher government spending and lower interest rates was much greater than the negative effect of high oil prices.

With massive revenues, budget surpluses, and pressure from consuming countries, oil-producing countries have embarked on massive capacity expansion. OPEC announced in its April monthly report that its members will increase their collective capacity by 4 million bopd by 2010. The market will see some of these expansion results this year. OPEC’s report stated, “During the year 2005, average OPEC production capacity is expected to rise to 32.7 million bopd, as additional projects are brought onstream, including a raft of projects that began at the end of 2004.” Most of the increase will come from Saudi Arabia, the UAE, Iran and Kuwait.

Saudi Arabia. The kingdom plans a major expansion to offset a natural decline in its fields, and to increase its capacity to 12.5 million bopd by 2009. Saudi Aramco expects to complete several projects in the next five years. These include Haradh Phase 3, which will add 300,000 bopd in first-quarter 2006. Khursaniya, planned for 2007, will add another 500,000 bopd. Aramco also plans to expand the Shaybah and Central Arabian fields in 2008, to increase production between 250,000 and 500,000 bopd. Saudi Aramco plans to commission 1.2 million bpd of Arabian light crude in Khurais field during 2009.

UAE. The emirates are working to increase productive capacity 28%, to reach 3.2 million bopd by the end of 2006. ExxonMobil, in partnership with Abu Dhabi National Oil Co. (ADNOC), is upgrading Upper Zakhum field to raise its capacity by 200,000 bopd by 2008 and another 450,000 bopd by 2010. Once upgrades are finished, the field will produce 1.2 million bopd. Other capacity-boosting projects include Bu Hassa field (from 200,000 bopd now to 730,000 bopd in 2006), Bab field (from 100,000 bopd to 300,000 bopd) and Asab field (by 30,000 bopd, to reach 310,000 bopd by 2006).

Iran. Last March, press reports indicated that Iran plans to nearly double its output by 2015. The country wants to increase production by 1.2 million bopd, to reach 5.4 million bopd by 2010, and by an additional 2.0 million bopd between 2010 and 2015. This would result in total productive capacity of 7.4 million bopd. However, a new report by Honolulu-based FACTS puts Iran’s capacity in 2010 at 4.3 million bopd, or 1.1 million bopd less than the governmental figure.

Kuwait. The only near-term expansion will come from Project GC 15, which Kuwait reopened earlier this year. It has been almost six years since Kuwait expressed interest in opening its northern oil fields (Project Kuwait) to foreign oil companies. No major development had occurred by the time of this column’s writing. However, Kuwaiti Energy Minister Ahmad al-Fahd al-Sabah declared in a meeting with the Kuwaiti press in early April that he expects bidding to start before the end of this year. The project would double production in the northern fields and increase Kuwaiti capacity by 450,000 bopd. 

Dr. A. F. Alhajji is an associate professor of economics in the College of Business Administration at Ohio Northern University in Ada, Ohio. At Ohio Northern, he now holds the George W. Patton Chair of Economics, specializing in international and energy economics. Previously, he was an award-winning, visiting professor of economics at Colorado School of Mines. He is a regular contributor to this column.