Is Saudi Arabia about to repeat its oil policy error of 1998?

It is only a decade ago that the Oil States made a big error of policy, from their point of view, and decided to increase oil output in the face of the Asian Financial Crisis and its impact on demand. Prices fell below $10 a barrel within a year.

Now this week we have a meeting at which Saudi Arabia is expected to release new oil supplies to dampen down prices at a time when the world is facing a major slowdown in demand due to the Sub-prime Crisis and its aftermath.

One report last week suggested that petrol sales fell by 20 per cent in the UK last month. This would not seem the most apposite moment to increase oil supply. If you increase supply into a falling market you will depress prices like in 1999.

However, a more interesting perspective on 1999 is to consider just how temporary that depression in oil prices proved to be as prices were soon back into the $22-28 Opec target price band and moved far higher in the mid 2000s.

It was also noticeable in 1999-2000 that predictions that a fall in the oil price would crash the GCC economies also proved nonsense, although I do recall a few local suicides after the stock market crash and some real pain for smaller companies in the oil and gas sector. On the whole, the economy just rolled over on the back of continued government spending and a few of the less viable projects were dropped.

So I wonder if Saudi Arabia really decided to screw down oil prices next week, how long will this last? The emerging economies will soon swallow up any surplus production and we will be back to square one, and prices will go up again. Only at that point Saudi Arabia may not have another field or two to switch on, and the long-term decline seen among key oil producers will have carried on.

But this is to pre-empt what will be a very difficult policy decision for the Saudis and we should perhaps wait and see if the lessons of 1998 have been learned. It may be that the fear of a global recession among oil consumer nations is now so great that it overwhelms all other considerations, particularly with the US presidential election this autumn.

You can not help but think, however, that the upward spike on oil prices could be about to turn south. But my money would be on a quick rebound in prices after the new US president is sworn into office, as the fundamentals of supply and demand do not support a low oil price anymore, and a painful adjustment to higher prices will have to be made as in the 1970s. We all survived then and will survive a third oil price shock.