The downward spiral in oil and gasoline prices, and efforts to rekindle the sluggish U.S. economy, were placed in jeopardy Wednesday as OPEC slashed its production for the third time this year, effective Sept. 1.
The move was expected after key ministers of the Organization of Petroleum Exporting Countries said this week that the 11-member cartel--concerned that global crude oil prices had dropped steadily in recent weeks because of bulging supplies--was poised to reduce its output to push prices higher again.
OPEC, which produces about 40% of the world's oil, cut its official production by 1 million barrels a day to 23.2 million. With the latest cut, the group has slashed its output by 13% this year, or 3.5 million barrels a day.
Oil and gasoline prices shot higher on financial markets in response to the latest reduction, and President Bush said the action threatened efforts to re-energize the economy.
"Our economy is bumping along right now, and a run-up in energy prices would hurt," Bush said before a meeting with members of Congress. "Surely the OPEC leaders understand that."
Indeed, OPEC for some time has felt pressure from the United States, Europe and other key customers worried about the effects of higher oil prices--and by extension, higher prices for gasoline, jet fuel and other refined products--on their economies.
But right now, the OPEC countries are "showing, once again, a willingness to move to defend their price," said Tim Rees, a British equities director at Clerical Medical, which manages about $100 billion of assets.
After surging this spring, oil and gasoline prices have steadily fallen because supplies have been outpacing demand. U.S. crude oil inventories, for instance, are up 7.3% from a year ago.
Even so, crude oil for September delivery jumped 53 cents to $26.84 per 42-gallon barrel on the New York Mercantile Exchange in response to OPEC's production cut. Gasoline for September delivery gained 2.48 cents to 74.84 cents a gallon.
OPEC focuses on the average price for a basket of seven benchmark crudes traded around the world, and its goal is to keep that price between $22 and $28 a barrel. The price was in danger of dropping below $22 a barrel last week, but it has since moved above $23.
Talk of another OPEC cut began after the International Energy Agency said July 13 that world oil demand would rise this year at its slowest rate since 1998, when crude prices plunged to $10 a barrel and wreaked havoc on the economies of OPEC's members.
The latest cut "was a direct reaction to the IEA report," said Marianne Kah, chief economist at Conoco Inc., a major U.S. oil company. "I think they had to do something, or they would lose market credibility."
Oil prices are headed higher as a result, some analysts said, because the cutback comes just as refiners are preparing to aggressively buy crude to build their own inventories for the peak winter demand season.
"This cut is a recipe for very high prices in the fourth quarter," said David Johnson at Chase JF in Hong Kong.
But OPEC also is taking a risk. Its action could aggravate the world economic slowdown by pushing up energy costs for consumers and businesses alike, which could lead to even less demand for oil and gasoline, sending prices sharply lower again, some analysts said.
"This could come back and bite them," Nauman Barakat, vice president of global energy trading at ABN Amro Inc. in New York, told Bloomberg News. "The best way to increase demand for their oil is to lower prices. They may end up damping demand and depressing prices if this further slows the economy."
Lawrence Eagles, head of commodities research at GNI Ltd., said OPEC is "in real danger of damaging the world economy and causing its own market share to be eaten away" by competing producers.
The cartel's ministers had considered holding an emergency meeting at OPEC's Vienna headquarters in early August, but they opted to reach the agreement by telephone.
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Countries' Oil Production
Production targets for the OPEC countries, beginning Sept. 1 (in millions of barrels per day).
Saudi Arabia: 7.54
United Arab Emirates: 2.03
Note: Iraq, an OPEC member, does not have a quota, as its exports are monitored by the United Nations under sanctions imposed after its 1990 invasion of Kuwait.
Sources: OPEC, Associated Press