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JANUARY 31, 2000 VOL. 155 NO. 4

How High Will It Go?
OPEC's determination to push up the price of oil could derail Asia's fragile economic recovery
By ERIC ELLIS Singapore

The enigmatic utterances of a Saudi sheikh aren't usually of much concern to Asia. But when the aristocrat in question is Ali Naimi, Petroleum Minister of Saudi Arabia, alarm bells start to ring all over the region. Ali set oil prices ablaze last week after a meeting of the Vienna-based Organization of Petroleum Exporting Countries, the club of nations that supplies about half the world's oil. Instead of rushing off in his Mercedes, Ali lingered to offer waiting reporters a cannily timed--and elliptically worded--take on the oil scene: "It looks like, if the market is in the range it is now, there is probably no justification to do anything different."

That's OPEC-speak for: "We're very happy with rising oil prices, and we're not going to depress them by increasing crude supplies." Ali also suggested that the cartel might even restrict oil production for at least six months. After two recent output cuts, trimming OPEC quotas a third time would deplete world stocks, forcing prices higher. Frenzied oil traders seized on Ali's remarks to push up the price of North Sea crude, the industry benchmark, to $28.02 a barrel before it subsided slightly. That's the highest it has been since February 1991, when United States-led forces liberated Kuwait from occupation by Saddam Hussein's Iraq.

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Energy: How High Will It Go?
OPEC's determination to push up the price of oil could derail Asia's fragile economic recovery

For consumers around the world, Ali's remarks seemed like a flashback to the oil shocks of the 1970s, when a glib comment from an OPEC bigwig like Saudi Arabia's Sheikh Yamani could send prices rocketing--and motorists scurrying to the gas pump. Increased energy efficiency means that those days are over. But Paul Ashby, oil analyst for ABN Amro in Sydney, warns that rising oil prices could depress global rates of growth. "There's no reason to be complacent," he says.

Caution is particularly critical in Asia, where many economies depend heavily on imported oil. A sharp rise in energy costs could endanger the region's fragile recovery from a prolonged economic slump. True, Indonesia, Asia's only OPEC member, stands to benefit from higher oil prices. But big manufacturing economies like Japan and South Korea could take body blows. Seoul's Ministry of Commerce, Industry and Energy estimates that a 25% rise in oil prices would mean a 2.4% hike in domestic electricity costs. Every $1 rise in the cost of a barrel of oil, the ministry says, pushes South Korea's annual import bill up by $870 million while reducing the value of exports by $170 million. If prices continue to soar, Korea won't come near to meeting its forecast $12 billion current account surplus for this year, which had been calculated on the expectation of oil prices stabilizing at $20 a barrel.

It's not time to panic--yet. Increased economic activity in Asia during the past six months has helped compensate for the steady rise in oil prices. But many analysts think things will get worse. "Prices will go higher," concludes Leo Prollas, chief economist for the London-based Center for Global Energy Studies, an influential industry think tank founded by the now-retired Sheikh Yamani.

Asia--indeed, the entire world--had an easy run with oil during much of the 1990s. With Kuwait back onstream and Iraq's massive reserves kept in check by a United Nations embargo (but never far from traders' minds), oil prices were mostly flat, trading in the $15-$18 range. That helped keep overall price levels down in key economies like the U.S., and low inflation meant low interest rates. The 1997 Asian financial crisis caused demand throughout the region to slump, which also kept oil prices in check. But with Asia starting to get back on its feet and OPEC economies evidently wearying of a decade of low revenues, oil prices soared 138% in 1999--a bonanza for traders and oil companies but worrying for oil-dependent economies.

Where is the benchmark price headed? Prollas expects it to rise to $30 a barrel in the short term and--if OPEC can agree to maintain its quotas at its March meeting--to as much as $35 by the end of the year. He notes ominously that Ali's remarks were supported by both Iran and Mexico, OPEC's next two most influential members. "That's rare unity for OPEC," Prollas says. To be sure, there are dissenters within the cartel: Venezuela's President Hugo Chavez, for example, has intimated that he doesn't want to be limited by the oil group's quotas. Picking up on such disagreement, Eugene Choung, oil analyst in Singapore for Morgan Stanley, expects output quotas to ease. He figures that prices will settle at a "comfortable" $20-$25 this year. But turmoil within OPEC is unpredictable. As oil-industry wags like to say, OPEC is like a tea bag--it functions best when it's in hot water.

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