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UPDATE 3-Oil prices to ease on slow economy, higher output

* IEA cuts demand growth outlook due to sluggish economy

* Pressure on OPEC to produce more easing

* Iraq, North America to increase oil production steeply

(Adds trader comment) By Dmitry Zhdannikov and Christopher Johnson

LONDON, Oct 12 (Reuters) - The world could see a gradual easing of oil prices over the next five years due to sluggish economic growth and rising energy efficiency and as production increases steeply in Iraq and North America, the West's energy watchdog said on Friday.

The International Energy Agency, which advises industrialised nations on energy policy, cut its global oil demand growth projection for 2011-2016 by 500,000 barrels per day (bpd) compared to its previous report in December 2011.

As a result, the pressure on OPEC to produce more oil will ease dramatically and the cartel will have to cut production to no more than 31 million bpd until 2017 to balance global demand. It has been producing between 31 and 32 million bpd this year.

"Expectations of economic growth through the forecast period have been reduced amid persistent OECD debt concerns, especially in the euro zone. Even China, the main engine of demand growth in the last decade, is showing signs of slowing down," the IEA said in its Medium-Term Oil Market Report. "Readings suggest a gradual easing of prices over the forecast period."

London Brent crude prices fell after the IEA report, trading down more than a dollar a barrel, below $115 at 0930 GMT .

"Crude oil prices reversed from yesterday's gains amid concerns over global oil demand growth," said Myrto Sokou, a senior research analyst at Sucden Financial. "The bearish IEA figures set the tone for the day so we can expect further declines for today's session."

In its previous report in December 2011, the IEA said it expected global oil demand to rise by around 8 percent between 2010 and 2016 but said it saw markets becoming less tight than in previous years.

Ten months later, it paints an even more comfortable picture, saying oil demand will rise by less than 7 percent between this year and 2017, when it will reach 95.7 million bpd.

"The demand outlook looks more subdued, while the transformative power of non�conventional oil production technologies applied in shale and tight formations in North America exceeds earlier expectations," it said.

Last year, the IEA said U.S. production of light tight oil from shale formations was "a game-changer in the making". This year it says the impact of the new oil streams is increasing.

Global production capacity is expected to increase by 9.3 million bpd by 2017 to 102 million bpd, effectively exceeding demand by over 6 percent.

"Around 20 percent of liquids growth comes from Iraqi capacity and 40 percent from North American oil sands or light tight oil production," the IEA said.

OPEC will also spend heavily on boosting its spare capacity, which is projected to more than double to 5-7 million bpd, a level unseen since before the 2003�2008 oil price rally.

OPEC's spare capacity is seen as the main cushion against supply disruptions and worries about dwindling capacity have been one of the main reasons behind recent oil price spikes.

IRANIAN OUTPUT PLUMMETS

Despite the IEA's benign outlook, the agency said there was exceptional uncertainty about the global economy and heightened regional geopolitical risks.

"Last year's string of supply disruptions, in Syria, Yemen, Sudan, the North Sea, Brazil and the Gulf of Mexico, illustrated the possibility of a 'perfect storm' of coincidental disruptions in many oil provinces," it said.

"Even those realised disruptions, however, pale in comparison with the new threat of unrest and political turmoil spreading further at the heart of the Middle East producing region," it added.

Oil prices approached $130 per barrel earlier this year, not far from their 2008 peaks of $147 per barrel, due to worries over supply disruptions from Iran.

The United States and EU imposed tough new financial sanctions on Iran this year over its nuclear programme, hurting Iran's access to some export markets. Israel and the United States have also said they reserve the right to use force if necessary to prevent Iran from obtaining a nuclear weapon. Iran says its nuclear programme is peaceful.

"The situation remains highly unpredictable and the sustainability of the sanctions over the longer term is evidently untested," the IEA said.

Last year, the IEA said tighter sanctions on exports of oil equipment to Iran could result in production capacity declining by almost a quarter to under 3 million bpd by 2016.

Ten months later, Iran is already producing less than 3 million bpd as Western sanctions stifle exports. The IEA said in a separate monthly oil report on Friday that it estimated Iranian oil production had declined by 220,000 bpd in September to a new multi-decade low of 2.63 million bpd.

"Whereas many expected the sanctions to lose some bite in September, as Iranian exporters and some of their clients were reportedly seeking ways to get around insurance constraints, in fact compliance appears to have tightened," the IEA said.

It estimated Iranian September oil exports fell to 860,000 bpd versus around 2.2 million bpd in 2011. The slump in exports has led to a steep fall in revenues and clashes on the streets of Tehran as the local currency collapsed.

(Editing by Peter Graff)

((Dmitri.Zhdannikov@thomsonreuters.com))

Keywords: IEA OIL/