OPEC: IMPLICATIONS OF INCREASED REFINING AND PRODUCT MARKETING ACTIVITIES

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• Document Number (FOIA) /ESDN (CREST): CIA-RDP86T00586R000300370005-3
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• Document Creation Date: December 22, 2016
• Document Release Date: January 3, 2011
• Sequence Number: 5
• Publication Date: May 1, 1985
• Content Type: REPORT

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Directorate of 1
OPEC: Implications of
Increased Refining and
Product Marketing Activities
GI 85-10125
May 1985
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Directorate of Secret
OPEC: Implications of
Increased Refining and
Product Marketing Activities
This paper was prepared by
OGI,
Office of Global Issues.
Comments and queries are welcome and may be
directed to the Chief, Strategic Resources Division,
Secret
GI85-10125
May 1985
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Secret
OPEC: Implications of
Increased Refining and
Product Marketing Activities
Key Judgments The combination of a weak oil market and growing competition from
Information available OPEC suppliers has forced the closure of some 8 million barrels per day
as of 1 April 1985 (b/d) in non-Communist refining capacity since 1980. By 1990 we believe
was used in this report.
an additional 7 million b/d of capacity could be mothballed as a result of
the continued weak oil demand and a planned expansion in LDC refining
capacity that probably will add nearly 2 million b/d in OPEC product
exports. The shift in refining capacity from major consuming countries to
oil exporters has caused concern among several OECD countries about the
energy security implications of growing product exports from OPEC and
the organization's increased ownership of refineries and distribution net-
works in developed countries. Japan, for example, has long argued that the
loss of domestic refining capacity and increased product imports would
reduce its flexibility to cope with an oil supply disruption.
In our view, expanded refining capacity and product exports from OPEC
pose little threat to the energy security of oil-importing countries in the
near term because we expect non-Communist refining capacity outside
OPEC to remain sufficiently flexible to meet demand requirements
through 1990. OPEC's main threat to energy security remains its ability to
control the production of oil:
? As long as the consuming countries are dependent on OPEC oil-and
OPEC now supplies more than 40 percent of non-Communist oil needs-
it is largely irrelevant as a security concern whether the oil is in the form
of crude or product. Dependence on increased product imports would
heighten vulnerability to a disruption only if it leads to refinery closures
that impair a country's ability to process domestic production and stocks.
? OPEC ownership of refineries and distribution networks in developed
countries poses little threat because these facilities still could be used
during a crisis and some oil exporters might have a vested interest in their
continued operation.
Although we believe that additions to OPEC refining capacity probably are
not a security issue through the end of this decade, a new series of
expansive refinery additions by OPEC during the 1990s could alter the
longer term outlook, especially if a significant portion is concentrated in
the Persian Gulf. Supplies could then be curtailed by damage to refining
capacity in exporting countries as well as by damage to any other part of
Secret
GI 85-10125
May 1985
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the production and export systems. To minimize the security risks associat-
ed with such trends would require importing countries to maintain enough
domestic refining capacity to process domestically produced crude plus
what might be drawn from strategic crude stockpiles.
A potential issue stemming from growth in OPEC product exports is the
increased risk of an oil price decline. Because prices for product exports are
not controlled by the organization, members will be tempted to discount
prices in a weak market. In the absence of stringent controls on crude
production, such action would undermine the official price structure for
crude oil and could result in a collapse in oil prices. Although a price
decline would present consuming countries with potential economic gains,
sharply lower prices and reduced revenues might create political and
economic unrest in several oil-producing countries that could lead to a
disruption in oil supplies.
On the trade front, the impact of rising OPEC refining capacity and
product exports will depend in large part on any policies adopted by
importing countries to protect their refining industries. Pressures for
restrictions on oil product imports are mounting in several developed
countries, and some refiners claim that OPEC's access to low-cost crude
supplies will lead to unfair competition. In our judgment, these additional
OPEC product exports will not increase dependence on OPEC oil because
product sales will replace some OPEC crude, and these volumes can be
readily absorbed if shared among the various consuming areas. Japan,
however, has restrictions on product imports that could force more
products into other regions, and some West European nations may enforce
or strengthen existing restrictions-particularly if Japan resists taking
more products. We believe policies to restrict OPEC products would
ultimately be ineffective because OPEC controls a significant portion of
world crude oil supplies needed to support refining operations in the
consuming countries. If Western Europe and Japan opt for protectionist
measures, pressure on the US refining industry will intensify.
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Key Judgments
iii
The Problem of Excess Refining Capacity
1
Demand Growth Unlikely To Help Out
8
The Shape of Future Adjustments
9
Refining
11
A Near-Term Issue: Price Instability
13
A. OPEC: Planned Refinery Capacity Increases 1985-90
B. OPEC Refinery Capacity, Consumption, and Product
Availability-1984-90
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OPEC: Implications of
Increased Refining and
Product Marketing Activities
OPEC countries control nearly 80 percent of proved
non-Communist oil reserves and last year provided
more than 40 percent of the West's oil needs. In an
attempt to use this comparative advantage in energy
and diversify their limited industrial base, a number
of OPEC countries have adopted a long-term strategy
of building refineries and replacing crude oil exports
with refined products. As the world's residual supplier
of oil, OPEC can ensure that its products are sold by
limiting oil production and setting product prices that
are attractive relative to those for crude.
Despite the continuing weakness in the world oil
market and a large surplus of refining capacity,
OPEC members-primarily Saudi Arabia, Kuwait,
and Libya-could add about 3 million barrels per day
(b/d) to their refining capacity by 1990.' Although
refined products make up a growing share of OPEC
exports, they are still a small part of Western oil
supplies. Even if all the projects under way were
completed, OPEC product exports would only grow
from about 4 percent of OECD consumption at
present to about 8 percent in 1990.
The prospect of these additional increases in OPEC
refining capacity and product exports has heightened
concern in several oil-importing, developed countries
about the impact on their refining industries and
security of oil supplies. The effects of this trend on the
Organization for Economic Cooperation and Develop-
ment (OECD) and other oil-importing countries will
depend on the marketing strategies adopted by the oil
exporters and the willingness of consuming nations to
absorb these exports. In the current weak oil market,
increased competition in product markets also could
add to downward price pressure and price instability,
depending on how aggressively OPEC countries try to
push these exports on the market. Over the longer
run, a strengthening of the oil market and increasing
Western dependence on OPEC oil supplies in the
1990s could spur a new round of expansion of down-
stream refining and product marketing activities by
OPEC.
Investment by OPEC countries in new refineries is
beginning to add capacity at a painful time for the
refining industry. Oil consumption has plummeted by
7 million b/d from a peak of 52 million b/d in 1979
when refinery improvements and changing product
demand were altering the type of capacity needed. Oil
companies have responded by shelving plans to add
capacity and by closing down or reducing less efficient
existing plants, causing non-Communist distillation
capacity to drop by almost 8 million b/d since 1980
(table 1 and figure 1). Despite this cutback, excess
capacity persists and utilization rates remain low. In
1984 non-Communist consumption of about 45 mil-
lion b/d contrasted with refining capacity of 57
million b/d; the refinery utilization rate was less than
75 percent, which was the lowest in more than 30
years.
Virtually all of the fall in refining capacity occurred
in OECD countries, which currently account for
about 74 percent of non-Communist oil consumption
and 67 percent of refining capacity. Even with a
rebound last year, OECD oil use declined almost
4 million b/d between 1980 and 1984, and refining
capacity dropped by about 8 million b/d to 38.5
million b/d. Utilization rates in OECD countries have
averaged less than 70 percent since 1980 (figure 2):
? In Western Europe 30 refineries have been closed
since 1980, causing distillation capacity to decline
23 percent to 15.6 million b/d at the end of 1984.
Utilization rates at remaining facilities continue to
average only about 60 percent, however, the lowest
rate in the OECD.
' Unless otherwise noted, refining capacity refers to primary
capacity, or the capacity of the crude distillation unit(s), in barrels
per calendar day. This excludes secondary processes such as
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Table 1
Non-Communist Refining Capacity
Figure
Million b/d 1
Non-Communist Oil Consumption:
Trends by Major Producta
Western Europe
20.3
15.7
Japan
5.5
4.8
United States
17.7
15.4
Other
3.3
2.6
LDC
18.2
18.8
Of which:
OPEC
5.6
5.9
Non-OPEC
12.6
12.9
a As of 1 January. Source for OECD and non-OPEC LDC is the
Oil and Gas Journal. OPEC figures are CIA estimates.
? Japanese refining capacity declined 13 percent to
4.8 million b/d over the period, because of an effort
led by the Ministry of Trade and Industry (MITI) to
consolidate and streamline facilities. Nevertheless,
use of primary capacity remains at about 65
percent.
? Attempts to improve profitability have forced the
closure of 87 refineries in the United States since
1980, causing distillation capacity to fall 18 percent
to 15.4 million b/d at yearend 1984. Utilization
rates-which averaged less than 75 percent in the
early 1980s-rose to about 85 percent in 1984.
a Consumption excludes refinery gain; total oil
consumption for 1984 is preliminary and consumption
by product is estimated.
b Includes refinery gas, liquefied petroleum gases,
bunkers, and refinery fuels and losses.
Otherb
Gasolines
Middle
distillates
Fuel oil
range of crude oils into a higher proportion of light
products and fewer heavy products. Overall, non-
Communist upgraded capacity increased by 30 per-
cent to 22 million b/d in the last five years, increasing
about 50 percent in the OECD.' The upgraded plants
have a competitive advantage over older refineries,
particularly when crude oil price differentials remain
wide. The push to run these plants at maximum rates
has exacerbated product oversupply and added to
downward pressure on product prices.
Refinery Modernization
Relatively attractive prices for heavy crude oils and a
shift in demand for refined products away from
heavier products, such as fuel oil, and toward lighter
fuels, such as gasoline, have led to sizable capital
investments to upgrade OECD refineries. Many refin-
ers have added units capable of processing a wide
Policies adopted by OPEC nations to accelerate activ-
ities in refined product markets are just beginning to
be felt in the oil market. Refining capacity in OPEC
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Figure 2
OECD: Trends in Oil Consumption, Refining Capacity and
Usage, and Net Product Imports, 1980-84a.1
? Oil consumption
O Refining capacity
o Usage
O Net product imports
Oil consumption Figures are annual and exclude refiner-N, gains.
Net product imports include hunkers.
Note: Relining capacity numbers are calendar day as of 31 December. 1984
Figures are preliminary.
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A Primer on Refining
Crude oil must be treated, either by using gravity and
heat or by more sophisticated heating and chemical
processes, to transform it into usable oil products
such as gasoline, jet fuel, kerosene, and fuel oil. In
addition to these major products, the refining process
must also allow for the manufacture of a wide range
of other oil products, some with very rigid specifica-
tions to meet consumer requirements and government
regulations. As a result, a number of factors dictate
refinery design, including the fact that complex refin-
eries, although more flexible, have higher operating
costs and require a substantially higher initial invest-
ment.
The first or primary process for refining crude oil is
distillation. Basically, petroleum products are com-
pounds containing carbon and hydrogen that can be
recovered by heating crude oil yielding fractions or
"cuts" according to boiling ranges. In a hypothetical
topping plant, which consists primarily of a crude
distillation unit, a relatively light crude, such as
Saudi Arabia's Berri Light, yields a greater propor-
tion of light products while a heavier oil, like Arab
Heavy, run through the same refinery, yields a
greater proportion of heavy products (figure 3).F_
Modernizing or upgrading a refinery by adding more
sophisticated secondary processing equipment, such
as a cracking plant, allows heavy fuel oil or other
countries has increased by about 300,000 b/d since
1980 despite the loss of about 1 million b/d in Iran
and Iraq because of the war. By yearend 1984, OPEC
refining capacity was approximately 6 million b/d.
Despite a sizable fall in the demand for OPEC oil, the
sophistication of new refineries in OPEC countries
and the easy access of these countries to crude
supplies allowed utilization rates to average about 75
percent from 1980 to 1984. Net product exports
increased to nearly 1.5 million b/d last year, up over
400,000 b/d since 1980 (figure 5).
Refinery expansion and construction by oil-exporting
nations is the outgrowth of investments planned dur-
ing the late 1970s, when rapid increases in oil prices
feedstock to be transformed into products in the
middle distillate range. This increases operational
flexibility by allowing the use of a wider slate of
crude oils, and yields a more marketable mix of oil
products (figure 4). For example, the same barrel of
Arab Heavy run through an upgraded refinery would
yield almost the same product mix as the Arab Light
processed in a simple refinery, but at a savings in
feedstock costs-based on 1984 prices-of $3 per
barrel. As a result, refining capacity and flexibility
are dictated by oil product demand because refineries
must be able to shift to available crudes and feed-
stocks and still meet oil consumption patterns. These
factors, in addition to the location of a refinery,
determine the competitiveness and profitability of
specific refineries.
The continued slump in refined product prices has cut
deeply into refiner margins and can make purchases
of crude oil at official prices extremely unattractive.
Refiners are able to determine the relative value of a
particular crude by calculating the market value of
the product mix the crude will yield when run
through the refinery. Refining and transportation
costs and profits are then deducted from the value of
the product mix to determine the value of that crude.
If the price of crude exceeds its value to the refiner,
the refiner may choose to purchase oil products. F_
boosted revenues and spurred investments designed to
promote economic growth and industrialization. The
move into refining also was part of a strategy to allow
these OPEC countries to meet domestic oil consump-
tion without product imports and to capture the
"value added" from processing crude oil into petro-
leum products. Several OPEC countries with relative-
ly low populations also were attracted to refining by a
belief that their comparative advantage in interna-
tional trade lay in capital-intensive investments. In
recent years a number of OPEC countries have been
pushing product exports more vigorously because
product prices are not set by the cartel, giving export-
ers more flexibility in a weak market.
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Figure 3
Refining Processing Yields
Fuel oil/3.5 percent sulphur
o Kerosene/gas
= Gasoline
o Liquefied petroleum gas
Own use
Complex refinery
Deep
conversion
,1 3.5'% sulphur in all processes except
deep conversion which is 1'7 sulphur.
Although OPEC refining capacity has risen in the last
two years or so, completion of many new plants
planned during the late 1970s will give a large boost
to capacity over the next several years. OPEC projects
could add about 3 million b/d of additional capacity
by 1990, accounting for over 60 percent of the growth
we expect in less developed countries' (LDCs) refining
capacity. Not all of this planned capacity may be
completed, however. Saudi Arabia, for example, has
canceled two domestic refineries for budgetary rea-
sons, and more cancellations could follow. The major
projects are concentrated in the Middle East and
North Africa:
? Capacity totaling 1.2 million b/d is planned in the
Persian Gulf-primarily in Saudi Arabia and Ku-
wait-and could yield an additional 600,000 b/d of
product exports by 1990.
? In addition, Saudi Arabia will have almost 600,000
b/d of capacity at two export refineries on the Red
Sea by 1987.
? Libya and Algeria could expand capacity almost
600,000 b/d before the end of the decade.
Because much of the new capacity incorporates the
most recent refining technology and upgrading capa-
bility, we expect the refined product export mix to be
heavily weighted toward lighter products-gasoline,
kerosene, jet fuel, and diesel oil.
In addition to expanding refining capacity, three
OPEC members have acquired a total of 515,000 b/d
of refining capacity and 3,075 marketing outlets
located in Western Europe:
? In 1983 and early 1984 Kuwait purchased 240,000
b/d of refining capacity and 3,075 retail outlets in
the Benelux countries and Italy through Kuwait
Petroleum Corporation.
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Figure 4
Simplified Refined Product Stream From a Refinery
Products
r
I Units
Butane, propane,
methane
~-~ Gasoline
I Naphtha
Crude distillation - Kerosene
Crude oil --I I--* Light gas oil
Gas processing
plant
4 Reforming
-I 1-lydrotreating
FV7.71 distillation, I
Resid hydrocracking,
visbreaking, and Asphalt, tubes,
coker and coke
? Saudi Arabia, through the private buyers First
Arabian Corporation and Arabian Sea First, ac-
quired 170,000 b/d of refining capacity in Italy and
Switzerland during 1983. In February 1985 First
Arabian Corporation announced plans to purchase
Chevron's refining and marketing operations in
Italy, including 1,700 service stations.
? Venezuela entered into a joint venture in December
1983 with the West German firm Veba to purchase
half interest in the 210,000 b/d Gelsenkirchen
refinery.
We believe that foreign acquisitions reflect policies
designed to capture downstream markets and ensure
retail outlets for OPEC members' oil exports. In our
judgment, oil exporters are primarily interested in
acquiring distribution networks and in some cases
view purchases of refineries as a cost.
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Figure 5
OPEC: Trends in Oil Consumption,
Refining Capacity and Usage, and
Net Product Exports, 1980-848
Million barrels per day
O Oil consumption
= Refining capacity
Non-OPEC LDCs may be divided into two groups:
those with significant oil production and interests
similar to OPEC countries that plan to expand
refining capacity and those such as Singapore and the
Carribean nations that have built refineries to supply
major consuming areas. Refining capacity in non-
OPEC LDCs has increased 300,000 b/d to 12.9
million b/d since 1980, despite a net decrease of
650,000 b/d in Latin America primarily in the
Caribbean. We estimate that non-OPEC LDC oil
consumption increased 13 percent to about 8 million
b/d in this period and was only about 62 percent of
total non-OPEC LDC refining capacity in 1984
(figure 6). A substantial portion of non-OPEC LDC
capacity in excess of domestic consumption is located
in Singapore and the Caribbean and historically has
been used to balance seasonal fluctuations in demand
for the developed countries. This capacity will be
under increasing pressure from the 3 million b/d of
new OPEC refining capacity and, to a lesser extent,
from 1.8 million b/d of other non-OPEC LDC capaci-
ty to be added by the end of the decade (table 2).
About 90 percent of the increase in non-OPEC LDC
refining capacity over this period will occur in Mexi-
co, India, Egypt, and Tunisia and will be used
primarily to meet increased domestic oil demand. F_
t J Usage
tJ Net product exports
OPEC exports of refined products are being marketed
at prices that are generally more favorable than crude
oil exports and are having little difficulty penetrating
product markets. Despite the small volumes involved,
these product prices already are contributing to down-
ward pressures on crude oil prices. Moreover, we
believe OPEC product exports could rise by nearly 2
million b/d to about 3.2 million b/d during the
balance of the decade, accounting for nearly all of the
increase in refined product exports among non-
Communist countries. Such an increase assumes no
further cancellations of new OPEC refineries and is
based on an 80-percent utilization rate and an esti-
mated OPEC oil consumption of 4.5 million b/d in
1990 (table 3).
Although OPEC exports of refined products are small
in volume, they are contributing to a readier availabil-
ity of competitively priced products that is causing a
general rise in oil product trade. Net imports of
refined products into OECD countries increased by
The effect of rising OPEC capacity on the overall
non-OPEC LDC refining industry by 1990, however,
could mirror the closures experienced by the OECD
countries since 1980 and would be greatly magnified
if current OECD refined product trade restrictions
are enforced or increased. Should this occur, we
would expect Latin America primarily the Caribbe-
an-to encounter the most pressure from new OPEC
product exports because Latin America's refining 25X1
capacity is over 40 percent greater than its local
consumption, and is, therefore, dependent on relative-.
ly free access to nearby product markets.
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 Figure 6
Non-OPEC LDC's: Oil Consumption, Refining Capacity and Usagea
Oil consumption
O Refining capacity
O Usage
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2
Table 2
Non-OPEC LDCs' Refining Capacity a
Million b/d
1980
1984
1985-87
Increase
1988-90
Increase
Total
12.6
12.9
0.8
1.0
East Asia
3.6
4.2
0.1
0.3
Of which:
India
0.5
0.7
0.1
0.2
Other
3.0
3.5
0.1
NEGL
Middle East
0.9
1.0
0.1
0
Africa
1.2
1.4
0.2
0.5
Of which:
Egypt
0.2
0.5
0.2
0.2
Tunisia
NEGL
NEGL
0
0.3
Other
1.0
1.0
NEGL
NEGL
Latin America
6.9
6.3
0.4
0.3
Of which:
a Capacities are as of 31 December. Sources: Oil and Gas Journal
and Hydrocarbon Processing.
less than 1 percent between 1980 and 1984, but the
increase since 1982 averaged nearly 5 percent per
year. The largest gains occurred in Europe where net
product imports rose by 300,000 b/d or 25 percent
over the period 1980-84, primarily from OPEC mem-
bers Kuwait and Algeria and from Communist coun-
tries. Japanese product imports increased less, about 3
percent per year on average because of product import
restrictions, but approximated 17 percent of consump-
tion in 1984, compared to about 13 percent in 1980.
Despite last year's sharp increase of about 300,000
b/d in product imports into the United States, which
to some extent reflected the general trend of rising
product trade, US product imports increased only
about 5 percent from 1980-84 because of decreased
industrial demand for residual fuel oil imported from
the Caribbean (figure 7).
Demand Growth Unlikely To Help Out
Industry forecasts of only small increases in non-
Communist oil consumption-perhaps 1 percent per
annum or less through the early 1990s-indicates that
further adjustments to the refining industry in other
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Table 3
OPEC: Refining Capacity, Consumption,
and Net Product Exports a
Refining capacity
OPEC
Of which:
North Africa/Red Sea
1.1
2.0
2.2
Other Africa
0.3
0.4
0.4
Latin America
1.3
1.4
1.4
OPEC
Of which:
Persian Gulf
1.7
1.9
2.1
North Africa/Red Sea
0.7
0.7
0.8
Other Africa
0.2
0.3
0.3
Latin America
0.5
0.5
0.6
East Asia
0.5
0.5
0.6
Estimated net product exports c
OPEC
Of which:
North Africa/Red Sea
0.3
0.9
1.0
Other Africa
0.01
0.1
0.1
Latin America
0.5
0.5
0.5
East Asia
0.1
0.2
0.5
a See appendix B for a breakdown by individual OPEC members.
b Domestic consumption numbers are estimated based on a number
of factors and include refinery fuels and bunkers.
Net exports in 1987 and 1990 are estimated based on 85 percent
of consumption being met by refined products and on refineries
being used at 80 percent capacity, with the exception of Iran, which
was given a 95 percent capacity utilization rate, and Venezuela,
which was given a utilization rate of 70 percent.
areas of the world probably will be required to offset
additional gains in OPEC capacity. Without such
adjustments, we estimate that total non-Communist
refining capacity would rise to almost 62 million b/d
by 1990. On the basis of oil consumption forecasts for
1990 ranging from 47 to 49 million b/d, however, a
total capacity of about 55 million b/d probably would
be more than adequate to meet non-Communist re-
quirements and provide an ample margin of excess
capacity for additional flexibility. Under this scenario,
refining capacity in OECD and other oil-importing
countries could fall an additional 7 million b/d by
1990. The location and extent of the adjustments that
actually occur will depend in large part on trade
patterns that develop for new product exports, the
amount of refining capacity actually brought on
stream, and on policies adopted by oil-importing
countries to influence such trade.
The Shape of Future Adjustments
OPEC product exporters will be able to price their
products competitively and force additional adapta-
tions in refining capacity in other areas of the non-
Communist world because of their access to low-cost
crude supplies and the advanced capabilities of their
refineries. These advantages enable OPEC exporters
to offset the added cost of shipping products rather
than crude. In fact, large product tankers have nar-
rowed the difference in cost between shipping crude
and products from the Persian Gulf-except for fuel
oil and heavier products-to about $1.50 per barrel.
Adjustments in refining capacity in countries outside
OPEC may be heavily influenced by any trade restric-
tions undertaken by importing countries to protect
domestic refiners. In the absence of such policies,
product flows and losses in refining capacity will be
determined by a number of factors including OPEC
product prices, the proximity of refineries to consum-
ing areas, and the marketing strategy of major oil
companies that are joint-venture partners in new
OPEC refineries.
We believe the major consuming areas most vulnera-
ble to a further influx of OPEC oil products are
Western Europe and Japan, primarily because of their
proximity to the Middle East, their concentration of
markets, and their relatively low domestic oil produc-
tion capabilities. The refining industries in Singapore
and Rotterdam also may lose a substantial portion of
their market as OPEC product availability increases.
Indeed, the refining industry in Singapore and other
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Figure 7
Major Refined-Oil Product Flow in 1984a
Million barrels
per day
D.1 _
OECD countries not named on map
Austria
Greece
Norway
Belgium
Iceland
Portugal
Denmark
Ireland
Spain
Finland
Italy
Sweden
France
Luxembourg
Switzerland
Federal
Netherlands
Turkey
Republic of
New Zealand
United Kingdom
Germany
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balancing centers probably also will be affected be-
cause OPEC countries that previously had processing
deals with refiners in these areas now will be able to
meet domestic needs from new refining capacity.
North America is in a relatively better position
because of its larger domestic production, more buoy-
ant demand, and the fact that much of the adjustment
process already has been completed.
West European refining capacity of almost 16 million
b/d is almost 35 percent higher than current domestic
oil consumption. As several governments and compa-
nies are aware, additional retirement of some of the
older and less efficient refineries probably will be
necessary. West German and Italian officials have
said that they believe their capacity probably will fall
at least an additional 17 and 50 percent, respectively,
over the balance of the 1980s. Major oil companies
that are partners in the Saudi export refineries al-
ready have taken steps to integrate products from the
Middle East into their European operations; Kuwait
has acquired European refineries and retail outlets to
take advantage of the potentially large product mar-
ket available in Western Europe. We believe that
Western Europe is a likely market for much of the
refined products from the 600,000 b/d of new Saudi
refining capacity on the Red Sea and from the
additional 600,000 b/d planned in new North African
capacity, and some of the products from other new
capacity planned by Persian Gulf countries.
In the Far East, Japan is a natural market for much
of the new products from a possible 400,000 b/d
refining capacity increase in Indonesia and a substan-
tial portion of the products available from the 1.6
million b/d of new refining capacity planned by
Persian Gulf countries. Tokyo, however, anxious to
protect its domestic refining industry, is reluctant to
allow increases in product imports. Without a pres-
ence in the Japanese market, new refiners could be
hard pressed to gain entry; Saudi joint-venture part-
ners Shell and Mobil, however, already have large
import and distribution systems in Japan.
In the Western Hemisphere, about 600,000 b/d of
new capacity is planned by 1990, primarily to serve
domestic needs in Mexico and Ecuador. We believe
the small volume of product exports from these
refineries would move most easily into Latin or North
American markets. North America probably will also
absorb a relatively small share of new product ex-
ports-mostly light products-from added capacity in
North Africa and the Middle East.
Some less developed countries also may provide an
attractive market for new OPEC oil products. Many
industry analysts believe a number of developing
countries will show significant growth in oil demand
through the end of the decade. A large percentage of
LDC refining capacity consists of small, unsophisti-
cated, and costly to run plants that will have particu-
lar difficulty competing with OPEC refineries. More-
over, some smaller LDCs probably will receive refined
products as a form of financial aid. Although protec-
tive of their own nascent oil industries, we believe
some large non-oil-exporting LDCs-India and Paki-
stan, for example-may elect to meet growing con-
sumption with imported products rather than invest-
ing scarce capital in expanding their refining sectors.
Establishing outlets in the LDCs will take time and
could be expensive, however, particularly given the
inability of many Third World countries to pay for
their oil imports.
Refining
Our analysis indicates that new OPEC product ex-
ports probably could be easily absorbed if shared
among various consuming areas. The increase in
product imports in recent years and the potential for
even greater increases in the next few years, however,
have caused several governments in major oil-
consuming countries to examine the energy security
aspects of rising product imports. The primary con-
cerns are:
? Competition from foreign refiners will cause the
shutdown of domestic refineries and some related
service industries.
? In the event that foreign product supplies are cur-
tailed, the domestic industry will lack the capacity
to process domestic crude, alternative sources of
foreign crude, or crude oil from stocks.
Although poor economic conditions will continue to
force closures over the near term, we do not believe
this loss of capacity will be a problem in the next few
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Contrasting Approaches: Kuwait and Saudi Arabia
Kuwait and Saudi Arabia, leaders in the OPEC move
into refining and marketing operations, have taken
different approaches to accelerate their involvement
in these operations. Kuwait's strategy to develop its
oil industry has been one of vertical integration,
mirroring the approach of most of the world's major
multinational oil companies. Where appropriate, Ku-
wait has built new facilities, but, to speed the process,
Kuwait has purchased existing plants and retail
outlets. Moving outward from its already well-estab-
lished production base, Kuwait Petroleum Corpora-
tion (KPC) began upgrading and expanding its domes-
tic refineries, and in 1981 purchased Santa Fe
International, an international exploration and drill-
ing company. A Santa Fe subsidiary, C. F. Braun,
also is strong in oilfield engineering and construction,
and gives KPC a significant presence in the oil
services sector.
It has been in the marketing area, however, that KPC
has made its most publicized moves, acquiring a
large portion of the European assets of Gulf Oil-
now part of Chevron-including refineries in the
Netherlands and Denmark, and approximately 3,100
service stations in the Benelux countries, Scandina-
via, and Italy. Acquisition of this distribution net-
work gave Kuwait immediate entry into the European
refined products market, and the refineries-while
less desirable-may yield some political windfall for
KPC. With an infusion of new capital and secure oil
supplies available to keep these plants operating, the
years because we expect non-Communist refining
capacity outside OPEC to be adequate to meet any
contingencies at least through 1990. Most major
consumers are dependent on foreign oil supplies for at
least a part of their needs. As a result, we believe it is
largely irrelevant from a security standpoint whether
oil imports consist of crude or refined product because
OPEC countries supply 40 percent of non-Communist
oil consumption and a disruption probably would
affect both crude and product supplies. If at some
future time refinery closures do impair a country's
ability to process domestic production and strategic
stocks, however, dependence on product imports
would increase and could heighten vulnerability to an
oil supply disruption.
obvious benefits particularly in the preservation of
jobs-for the affected countries may make them
willing to accommodate increased imports of Kuwaiti
refined products.
The Kuwaiti strategy contrasts with the Saudi
Government's program of cautious expansion of its
petroleum industry, where each step has come slowly
and in joint-venture partnerships with established
international companies. The process-which has
been concentrated within the kingdom-has allowed
the Saudis to gradually build up experience in new
technologies while assuring a sales outlet through the
marketing arm of the joint-venture partner for at
least a portion of the final oil product. It does not,
however, ensure that Riyadh will have a secure
market for the Saudi portion of product exports.
Indeed, this is a concern in the case of the two Saudi
export refineries at Yanbu al Bahr and Al Jubayl.
Plans call for half of the output-about 250,000
b/d-to be marketed by Mobil and Shell in their
company systems, but the Saudis are currently hard
pressed to sell their share of refined products without
undercutting prices in an already depressed oil prod-
uct market. As a result, the Saudis probably will
have to juggle carefully a number of sometimes
competing factors in setting oil product prices to
avoid protests from distressed refiners in importing
countries while also averting additional downward
pressure on both product and crude oil prices.
Retail Outlets
Acquisition by oil-producing nations of refineries and
distribution systems located in the developed coun-
tries-particularly the purchase by Kuwait and Saudi
Arabia of some refineries and marketing outlets in
Europe-also has caused some concern about energy
security. In our judgment, however, facilities located
in the consuming countries probably are less risky
than export refineries concentrated in the Persian
Gulf countries-or other oil-exporting nations-be-
cause facilities in consuming countries would be at the
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disposal of the host country government during a
national emergency. Acquisition of existing OECD
facilities also could allow some of these facilities to
remain operational and may encourage new invest-
ment to renovate the plants. Moreover, oil exporters
with investments in OECD refineries and retail out-
lets could have an incentive to continue to supply
these markets during a "political" disruption and,
because the oil-sharing agreement among Internation-
al Energy Agency members provides a mechanism to
allocate oil supplies among members, this in turn
could increase supplies to the developed countries.
Beyond 1990
Although we believe that additions to OPEC refining
capacity probably are not a security issue through the
end of this decade, a new series of expansive refinery
additions by OPEC during the 1990s could alter the
longer term outlook. To further threaten oil security,
however, the expansion would have to be considerably
greater than the current one. Even if OECD refining
capacity were to fall by 7 million b/d to 31.5 million
b/d by 1990, it would still be considerably larger than
OECD production, which will probably be close to 15
million b/d. Concentration of a large portion of new
OPEC refining facilities in the Persian Gulf also
could heighten vulnerability-supplies could then be
curtailed by damage to refining capacity in exporting
countries in addition to the possibility of disruption by
damage to any other part of the production and export
systems.
To minimize the security risks associated with such
trends would require importing countries to maintain
enough domestic refining capacity to process domesti-
cally produced crude plus what might be drawn from
strategic crude stockpiles. Japan and most of Western
Europe have refining capacity far in excess of their
low domestic production. The United States, however,
accounts for most of OECD oil production and has
the largest strategic crude stockpile, and therefore has
a much smaller cushion. Additional options to mini-
mize risks might include increasing strategic stocks of
oil products, or, perhaps, allowing purchases of exist-
ing facilities in consuming countries as an alternative
to construction of new refineries located in the pro-
ducing nations.
Growing oil product exports by OPEC countries
increase the risk of sharp price fluctuations or a
general decline in crude oil prices by making it more
difficult for the cartel to control prices. OPEC does
not mandate refined product prices in part because
the volume of product exports has been relatively
minor-only about 10 percent of total OPEC oil sales
in 1984-and, more important, because it lacks an
effective means to determine "official" prices for the
myriad of products on the market. OPEC product
exporters are free to price products to ensure sales,
and such members as Venezuela, Kuwait, and Algeria
have become adept at using product sales to circum-
vent OPEC price agreements. OPEC product sales at
competitive prices put pressure on crude prices, how-
ever, because refiners in consuming countries resist
purchasing more expensive crude when less costly
products are available.
OPEC's dilemma is to determine product prices just
low enough to ensure sales without undercutting
official crude oil prices as members begin to move
significant new volumes of oil products into an al-
ready weak oil market. Although most refiners prefer
to sell products under long-term contracts, so far most
of OPEC's product sales have been single cargoes at
spot prices. Saudi efforts to secure long-term con-
tracts have been only marginally successful despite
Riyadh's willingness to tie contract prices to spot
market quotations in Rotterdam and Singapore.
The willingness of OPEC members to sell products at
discount prices will exacerbate downward price pres-
sure and could force a sizable drop in oil prices as
product exports continue to grow. But we believe
OPEC at least will probably be able to prevent a
sudden, precipitous slide in crude oil prices-by con-
trolling oil production-that would seriously threaten
producing country revenues and the financial and
perhaps political stability of some oil-producing
nations. Should such a slide occur, however, consum-
ing countries probably would gain economic benefits
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from higher economic growth and lower inflation in
the short-to-medium term-despite some possible fi-
nancial dislocations. In the near term, however, the
potentially destabilizing political and economic effects
of oil price instability or a price collapse probably pose
the greatest risk to security associated with increased
OPEC product exports. Such heavily indebted coun-
tries as Mexico and Nigeria would have particular
economic and political difficulties weathering a sharp
price drop. Venezuela and Indonesia would also have
severe problems contending with much lower oil
prices.
If several countries choose to protect their domestic
refining industry for "security reasons," the outlook
for oil product flows and further adjustments in
refining capacity could be substantially altered. The
degree of protection now afforded the refining indus-
try varies by country and region. In Western Europe,
the European Community (EC) has in place oil prod-
uct import ceilings for gasoline, kerosene, gas-oil, and
fuel oils that range from 500,000 b/d to 3 million b/d
depending on the product type and point of origin.'
When these limits are exceeded-and an EC member
government formally complains-applicable duties
ranging from 3.5 to 6 percent can be invoked!
Although feedstocks or unfinished oils for further
refining from any source enter with no duty or
restriction-as does crude oil-restrictions are great-
est on the lighter oil products that are most likely to
be available from OPEC refineries.
Several non-EC members, including Spain, Portugal,
and Turkey, also have oil product import restrictions
in place. Although no duties have been imposed by the
EC on refined oil product imports since 1979, pressure
is mounting for EC-wide action, including stricter
application of existing restraints, because of the de-
cline in refining capacity in several European coun-
tries in recent years. According to embassy reporting,
' Members include Belgium, Denmark, France, West Germany,
Greece, Ireland, Italy, Luxembourg, Netherlands, and the United
Kingdom.
' Oil products enter the EC free of quota or tariff from "former
territories of the Community," the European Free Trade countries,
and 10 North African and Mediterranean nations that have
association agreement with EC. Oil products from other non-
EC members have indicated they will consider stron-
ger measures if Japan fails to take its share of new
product imports.
In Japan, only naphtha and fuel oil imports are
permitted on a regular basis, and, despite recent
pressure from the Foreign Ministry and the Consumer
Union of Japan, MITI is resisting attempts to signifi-
cantly liberalize the Japanese market for reasons of
national security. Should Tokyo maintain this policy,
pressure on the European market-and on the United
States and some developing countries-would in-
crease significantly as product exports backed out of
the Far East are forced into other regions. The
acceleration of refinery closures and refined product
imports last year already has increased the call by
some industry members in the United States for
actions to limit product imports; for example, boosting
the existing-although minor-tariff on gasoline or
imposing import quotas. Restrictions by both Japan
and Western Europe would force an even larger share
of new product imports into the US market, further
squeezing already low refining profit margins and
spurring more pressure from refiners to curb product
imports.
If some oil-importing countries attempt to protect
their domestic refining industries, OPEC countries
could react in a number of ways in the short-to-
medium term:
? OPEC product exporters could opt to reduce utiliza-
tion of refineries to lessen the increase in product
exports.
? They might attempt to maximize exports of heavy
products or feedstocks, which are less subject to
restrictions, and could also complement the needs of
the OECD refining sector.
? OPEC countries could also choose to force oil
products into reluctant markets by reducing the
availability of crude or by reducing product prices,
or both.
Forcing modifications in the volume or type of OPEC
oil product exports by imposing trade limitations will
at best delay further refinery closures in some areas or
cause other developed or developing countries to make
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the adjustments. We believe such policies would be
ineffective in limiting OPEC oil product exports over
the longer term-particularly in the 1990s-because
OPEC countries control a significant portion of crude
oil supplies necessary to support refining operations in
the consuming countries.
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Appendix A
OPEC: Planned Refinery Capacity Increases 1985-90 Thousand barrels per day
1985 1986 1987 1990 a Total
Increase
OPEC 512 926 325 1,044 2,807
a Refining capacity plans could easily be delayed or canceled for a
variety of reasons; for example, lack of funds or a slower-than-
anticipated rise in domestic consumption.
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aeuret
Appendix B
OPEC Refining Capacity, Consumption, and Product
Availability-1984-90 a
Thousand barrels per day
Refining capacity
5,943
6,455
7,380
7,705
7,705
7,705
8,750
Consumption
3,539
3,660
3,810
3,965
4,105
4,270
4,450
Product availability
1,504
2,140
2,540
2,775
2,670
2,545
3,250
Product availability
275
245
240
310
305
300
295
Ecuador
Refining capacity
88
88
88
125
125
125
160
Consumption
90
95
95
100
100
105
110
Product availability
15
10
5
15
10
10
35
Gabon
Refining capacity
44
44
44
44
44
44
44
Consumption
14
14
14
15
15
16
16
Product availability
12
25
25
25
20
20
20
Refining capacity
816
816
816
816
816
816
1,215
Consumption
500
500
515
530
545
565
580
Product availability
110
230
215
200
190
175
480
Iran
Refining capacity
580
580
780
780
780
780
780
Consumption
620
650
690
730
770
810
860
Product availability
30
30
30
120
85
50
10
Iraq
Consumption
231
235
240
250
260
265
275
Product availability
324
390
480
475
475
470
465
Libya
Product availability
70
235
230
225
220
215
385
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OPEC Refining Capacity, Consumption, and Product
Availability-1984-90 a (continued)
Thousand barrels per day
Refining capacity
247
247
390
390
390
390
390
Consumption
218
220
235
250
270
290
300
Product availability
-5
10
115
100
85
70
60
Qatar
Refining capacity
61
61
61
61
61
61
100
Consumption
14
16
17
18
19
20
22
Product availability
34
35
35
35
35
30
60
Saudi Arabia
Refining capacity
1,140
1,390
1,715
1,715
1,715
1,715
1,865
Consumption
900
950
990
1,030
1,050
1,090
1,135
Product availability
50
305
530
500
480
445
530
Refining capacity
195
195
195
395
395
395
395
Consumption
120
125
127
131
136
141
145
Product availability
18
50
50
205
200
200
195
Refining capacity
1,255
1,255
1,255
1,255
1,255
1,255
1,255
Consumption
400
415
430
445
460
475
500
Product availability
500
500
500
500
500
500
500
a 1984 figures are estimated. Product export availability for
1985-90 is based on 85 percent of consumption met with refined
products and on refinery utilization rates of 80 percent except for
Iran, which was estimated at 95 percent, and Venezuela, which
averaged about 70 percent.
Secret 20
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