OPEC: Why Some Say It Stands for One Powerful Energy Cartel

Posted by Joanne Eglash on August 6, 2009 at 7:42 pm

(image: yimg.com)

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To the uninitiated, OPEC may seem like just another acronym that constantly crops up in the news, while others may associate it with gas prices.

Those more familiar with the history of the Organization of the Petroleum Exporting Countries (OPEC) typically cite the OPEC’s Arab states’ embargo against the United States, the Netherlands, and Denmark in 1974  as the key example of OPEC’s power. To punish those consumer nations for supporting Israel in the Arab-Israeli Yom Kippur War of 1973, those members refused to sell oil directly to those three nations. In combination with coordinated production cuts, the price of crude oil escalated as much as tenfold during the last six years of the 1970s.

As a result of that production restriction among the member countries of OPEC, many experts view OPEC as a cartel.  According to Indiana University’s Politics of International Economic Relations glossary, an organization meriting the term “cartel” consists of “producers seeking to limit or eliminate competition among its members, most often by agreeing to restrict output to keep prices higher than would occur under competitive conditions.”

Ken Stern, a managing director with LECG, notes that OPEC’s “members include some of the largest oil-producing countries in the world, including Saudi Arabia, Iran, Iraq, Venezuela, Angola, Nigeria, Algeria, Kuwait, Libya, Qatar, and the United Arab Emirates.” Although the organization was founded in 1960, it did not achieve what Stern terms “global prominence” until “the oil embargo of 1973 and the Iranian Revolution of 1979.  Both of these events resulted in steep and permanent increases in the price of crude oil.”

After having spent more than 35 years in the petroleum and chemical industries as a business advisor, consultant and former industry executive, Stern believes that OPEC qualifies as a cartel. “Recognizing that a cartel is an agreement among producers to coordinate prices and production, OPEC fits this description because its members agree to produce under fixed quotas and to sell at fixed prices.  This collusion among OPEC members has a major impact on setting global oil prices and determining levels of available supply,” he says.

Taking a Fuel-Free Journey Back in Time

Founded in 1960 by five developing, oil-producing countries, the organization’s mission statement, according to the OPEC Website, is to “co-ordinate and unify petroleum policies among Member Countries, in order to secure fair and stable prices for petroleum producers; an efficient, economic and regular supply of petroleum to consuming nations; and a fair return on capital to those investing in the industry.”

Since its founding, OPEC’s impact on prices has become a matter of some debate.  The organization’s website provides a variety of graphs, such as this one showing the variations by country in how much oil revenue (per liter) is actually paid to the OPEC producers (in blue):

Where oil revenues go in the G7 nations. (image: opec.org)

OPEC itself contends that the differences result from the different taxation levels in the major consuming nations, rather than distinctions in crude prices.  Their Website describes United States tax levels as “relatively low.”  In contrast, they note that in the United Kingdom, “the government receives substantially more from taxation than what OPEC gets from the sale of its oil.”

In his article on OPEC in the Concise Encyclopedia of Economics, author Benjamin Zycher disagrees with the commonly held view that the price increases in the early 1970s were caused by the oil embargo.  He asserts that the embargo “against the United States and the Netherlands had no effect whatsoever: people in both nations were able to obtain oil at the same prices as people in all other nations.”

Terming the failure of the embargo “predictable,” Zycher points out that oil can be classified as a “commodity that can be resold among buyers. An embargo by sellers is an attempt to raise prices for some buyers but not others. Only one price can prevail in the world market, however, because differences in prices will lead to arbitrage: that is, a higher price in a given market will induce other buyers to resell oil into the high-price market, thus equalizing prices worldwide.”

President of Benjamin Zycher Economics Associates, Inc., and a senior fellow at the Manhattan Institute for Policy Research, Zycher says that OPEC did not cause those long gasoline lines and shortages of oil in the U.S. “Instead, the shortages were caused by price and allocation controls on crude oil and refined products, imposed originally by President Richard Nixon in 1971 as part of the Economic Stabilization Program.”

Evaluating subsequent decades, petroleum and chemical industry expert Stern notes that Saudi Arabia “acted unilaterally to reduce oil supplies in order to support prices” in the 1980s.  However, that action was offset when “other OPEC members responded by cheating on their quotas. Ultimately, Saudi Arabia ramped up production in the late 1980s and global oil prices crashed in response to this increased supply.  In the late 1990s, OPEC members attempted to reach agreement on new quotas in order to prop up prices, “but this effort failed,” adds Stern.