It can look back on its performance over the past nine months with a measure of relief. When oil prices started to decline shortly after 11 September, the market feared a repeat of the 1998 price crash. OPEC froze, unwilling to surrender yet more market share to defend its preferred price band of $22-28 a barrel. After a period of intense diplomatic activity, it persuaded non-OPEC producers to join it in a cut of 2 million barrels a day (b/d). By March that cut, combined with fresh volatility in the Middle East, had helped to bring the oil price back into the target band.

But there is no room for complacency. On the political side, there are two areas of concern: Venezuela and Iraq. There is also the wider economic question of whether OPEC can afford to continue losing market share to rivals, such as Russia, and newcomers in West Africa and Latin America.

In large part, it has been the policy of President Hugo Chavez’ government in Caracas that has cemented the last four years of OPEC unity. Now that policy is under pressure.

The abortive April coup against Chavez coincided with a period of protracted unrest at the state oil company Petroleos de Venezuela (PDV), prompted by the replacement of several senior executives by government supporters. While Chavez survived the coup attempt, his government is still under fire, not least from PDV. If he goes, tight Venezuelan quota compliance is likely to follow him through the door, along with a good measure of OPEC unity. The next elections are not scheduled until 2006, but an earlier challenge is not unfeasible. Until then, there are signs that Caracas is relaxing its strong stance on output.

Compliance in April and May was very poor, and the Venezuelan delegation was extensively quizzed by other members at the Vienna meeting, convincing them that its overproduction was temporary and did not reflect a change of policy. ‘Venezuela continues its full commitment with agreements with OPEC,’ said outgoing secretary general Ali Rodriguez, who has been drafted back to Caracas as head of PDV. ‘But we have to understand that sometimes for different reasons one of the OPEC countries can raise output and can reduce it as well.’

The troubles of Iraq have given OPEC members extra leeway to relax their compliance. With the constant threat of military strikes and export moratoriums, the reliability of Iraqi oil supply is patchy at best. Retroactive pricing, enforced by the UN to prevent Baghdad earning kickbacks on illegal sales has also damaged Iraq’s ability to market its oil. ‘OPEC has had help from Iraq because retroactive pricing has held back production quite significantly,’ says Vera de Ladoucette, senior analyst at Cambridge Energy Research Associates. ‘End users are reluctant to lift Iraqi crude because of price fluctuations and because it doesn’t always pay. It’s the crude of last resort.’

OPEC has become used to the temperamental nature of Iraqi supply. With about 6 million b/d of spare capacity, the organisation can easily cover for Iraqi shutdowns within the space of a few weeks and would probably get a price increase into the bargain. Of more concern is the prospect of a drawn-out military campaign by the US to bring down the Baghdad regime. As well as cutting off all Iraqi output for a sustained period, a conflict would imperil the political stability – and therefore the output – of neighbouring producers.

Aside from these political pitfalls, long-term questions remain over the true condition of market fundamentals. According to its post-meeting communique OPEC made the decision to roll over the output quota because ‘the relative strength in current market prices is partially a reflection of the prevailing political situation rather than solely the consequence of market fundamentals.’

The demand outlook is still murky. Analysts had earlier forecast a strong demand recovery in the second half of 2002, but they are now becoming increasingly cautious. ‘It seems that every successive demand forecast is more pessimistic despite the signs of improvement in the US economy,’ says Geoff Pyne of the US’ Sempra Energy Trading. ‘I think there’s a lot more price sensitivity in the market than people think.’ The June International Energy Agency report forecast a demand increase in 2002 of just 420,000 b/d over 2001, while global GDP growth is now expected to be about 2.8 per cent over the year according to Sempra.

OPEC contends that its target price is injurious to neither the world economy nor oil demand. ‘The prices we have seen for the past couple of years did not damage the world economy and I say that not just because we have studied it, but because consumers were satisfied with them and never said they did any harm,’ said new OPEC secretary general Alvaro Silva after the Vienna meeting. ‘A growing economy can assimilate higher prices, and of course that is in the interests of the oil producers because they are part of the world economy and want some of the benefits.’

Other charges against OPEC’s price strategy are harder to escape. Since the organisation decided in 1998 to introduce automatic production alterations to protect the price band, its output quota has fallen to the lowest level in a decade. In contrast, non-OPEC production has been steadily rising, propelled by the higher prices OPEC is making sacrifices to maintain. Non-OPEC production increases have now accounted for almost all demand growth over the past two years.

‘If OPEC wants $25 a barrel, it must restrain output,’ says Leo Drollas, senior analyst at the London-based Centre for Global Energy Studies. ‘Recently, it lost market share and revenues declined as well because prices were weakened. So it cut production and lifted prices, but that’s just short term. In the next five-six years, it’s difficult to see how that can be sustained.’

For OPEC, the message is mixed: so far its strategy of targeting a higher price at the expense of high production has earned it strong revenues but ever diminishing output. A rough calculation of OPEC revenue, based on monthly average figures for OPEC 10 output and the basket price, shows that between December 2000 and September 2001, revenues stayed in the range of $590 million-635 million a day. As demand flagged in the months after 11 September, the revenue range dropped to $420 million-465 million a day. But now the corner has been turned. Revenues in April and May averaged about $570 million a day, a performance that can probably be sustained as demand picks up throughout the third and fourth quarters.

The figures show clearly that revenues track price changes more closely than volume changes, indicating that OPEC will continue to play things safe at its next meeting in September. An output increase is unlikely unless the oil price climbs to the higher end of the price band. Forecasts differ, but the majority of analysts now put third quarter oil prices at about $24 a barrel and fourth quarter prices at about $25 a barrel. That would suggest revenues will remain between $550 million-650 million a day.

The news is good for oil producing economies in the short term. Almost all OPEC member budgets for 2002 were made on the assumptions of a conservative price – generally about $17 a barrel – and strict compliance to tight production. For now, that is what matters to producers.