Iycee Charles de Gaulle Summary Existing in March 1998 and averaging around

Existing in March 1998 and averaging around

Existing scholarly work
– Literature Review (5 related literatures with proper in text citation and



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Since the 1973 oil price shock, the
history, behaviour, and pricing power of the Organization of Petroleum
Exporting Countries (OPEC) have all received considerable attention in the
academic literature. One view which prevails is that although OPEC has survived
for more than 50 years, it has had little effect on either the oil price or oil
market dynamics. Rather, for some, the oil price is seen as being determined in
a globally competitive market. An alternative view is that OPEC has been
successful in cartelizing the oil market and in using its power to raise the
oil price above competitive levels by restricting output. On the other hand,
there is the view that OPEC pricing power is not constant, and tends to
fluctuate depending on the interaction among OPEC members and on oil market
conditions.2 The swing in pricing power became very apparent in the events that
surrounded the oil price collapse in 1998, which saw the Dubai price, the
benchmark for exports to Asia, decline from around $20 per barrel in early
November 1997 to less than $12 per barrel in March 1998 and averaging around
$10 per barrel in December 1998. At that time, OPEC seemed to have lost its
ability to defend oil prices, and many analysts predicted its demise. This view
of an ineffective OPEC was, however, reversed only a few months later, and many
observers consequently regarded the events of 1998 to have ushered in a new era
of cooperation among its members. During March 1998 and March 1999, OPEC
embarked on two production cuts in an attempt to put an end to the slide in the
oil price. These production cuts were implemented with a high level of
cohesiveness among members, contradicting the view that OPEC was not able to
collude. By the end of 1999, the Dubai price had risen to $23 per barrel.

The divergent views about OPEC pricing
power have resulted in a wide range of OPEC models. These range from classic
textbook cartel, to wealth-maximizing monopolist (Pindyck, 1978a), to
three-block cartel (Eckbo, 1976), to two-block cartel (Hnyilicza and Pindyck,
1976), to clumsy cartel (Adelman, 1980), to dominant firm (Salant, 1976; Mabro,
1991), to loosely co-operating oligopoly (Griffin, 1985), to residual firm
monopolist (Adelman, 1982), to bureaucratic cartel (Smith, 2005), to
competitive models (MacAvoy, 1982; Cre?mer and Salehi-Esfahani, 1989, 1991).
Many of these models were developed to explain key historical events, and in
response to changes in key producers’ behaviour. The OPEC price war in 1985–6
resulted in many of the 1970s models – those that considered OPEC as a rational
wealth-maximizing monopolist or as a monolithic group – being revised. The
models of the 1980s and 1990s had to incorporate new elements such as the
interaction between OPEC members, price wars, output sharing, the issues of
cheating and coordination, the conditions under which OPEC members can collude,
and the special role of Saudi Arabia within OPEC.3 In the 2000s, the entry of
financial players in massive numbers, and the increasing role of futures
markets in the price formation process, prompted some studies to consider the
signalling role of OPEC.


One of the objectives of this paper is to
review the evolution of OPEC models and to link this evolution to some key
events in the oil market. Our main conclusion is that OPEC’s pricing power is
not constant and tends to vary over time. There are many instances in which
OPEC can lose the power to influence oil prices. Such changes in pricing power
are brought about by market conditions and can occur both in weak and tight
market conditions. A second conclusion is that because of OPEC’s varying
conduct, there is no single model that fits its behaviour and hence analysts
have been forced to choose from a wide range of models to explain certain
episodes. The empirical literature has not been successful in narrowing the gap
between the various competing models (Smith, 2005). Griffin’s (1985)
observation in the mid-1980s that empirical studies tend to ‘reach onto the
shelf of economic models to select one, to validate its choice by pointing to
selected events not inconsistent with that model’s prediction’ still
dominates the empirical approach to studying OPEC’s behaviour.


One of the challenges faced by any
collusive behaviour is the issue regarding entry of new competitors. Although
OPEC as an organization does not coordinate its members’ investment plans, many
OPEC countries have been protected by strong barriers to entry, which stem from
ownership and control of the bulk of low-cost oil reserves. By limiting
investment in their oil sector, OPEC members can control the future flow of oil
supplies into the market. They also shift the burden of meeting the demand for
the marginal barrel onto high-cost producers. Another objective of this paper
is to analyse how OPEC members’ investment decisions can affect the oil market
structure and the behaviour of the oil price.

Driven by energy security and climate
change concerns, many consuming countries have been pursuing policies to
decrease the carbon content of their energy mix. Such policy measures can have
large impacts on long-term oil demand and hence on the share of rent captured
by OPEC producers. The literature often ignores the impact of such policies on
OPEC behavior. Another objective of this paper is thus to analyse the options
that OPEC faces in dealing with oil substitution policies and with the
long-term effectiveness of such options.


Study 1:
OPEC: The Myth and the Reality by
William O’Keefe

The review demonstrates that OPEC no longer fits the model of an
effective cartel and that it does not exert influence beyond the norm on oil
prices. The belief that OPEC remains powerful is used by advocates to promote
particular energy policies, making OPEC’s power more political than real.

Study 2: Organization of the Petroleum Exporting
Countries (OPEC)

OPEC, as an international organization and forum which facilitates
collaboration among the major oil and gas producing countries, is now
increasingly being pulled into the institutional structure of the global
economy with myriad intricate international economic law rules traversing the
energy sector. There will have to be give-and-take on both sides (consumers and
producers alike) to conclude a successful harmonization in tandem with
national, regional and global economic imperatives.

OPEC fulfils, unlike the more hostile sentiments in the 1970s, a
silently important function for both domestic producers and international oil
companies by being the organization most keen, and most potent, to assist in
stabilizing prices by helping producers to manage production. If this ability,
which was not evident in the 1980s and 1990s, is maintained or will fade again
is beyond our ability to forecast.

Sustainable development would require, amongst others, greater
application of energy efficiency, minimization of emissions harmful for the
global (and localized) climate and possibly restrictions on the supply, and
use, of hydrocarbons. Such policies, eagerly pursued by mostly Western

NGOs and the EU,
for example, are unlikely to succeed if proper account is not taken of OPEC,
the major international organization of the major oil producing countries. This
analysis suggests that there may be more compatibility than meets the eye or
which is intuitively implicit in the conventional reference, however right or
wrong, to the OPEC cartel.

We suggest that
an overall deal is possible, but requires a more active and creative effort at
identifying commonalities of interest and much stronger leadership with the
political will in pursuing and negotiating them on both sides. An arrangement
could require some concessions by OPEC in terms of managing the oil price as a
contribution to a stabilizing world monetary policy (e.g. lower prices in a
recession, higher in a boom). It would require better guarantees of security of
supply to concerned parties (e.g. US, EU, China) as well as security of demand
to major oil producing countries. Surely, the world cannot justifiably require
major oil producing countries to divert development funds to increasing their
spare capacity when the major consumers are heavily investing in alternatives
to oil. Oil prices could also be linked to import prices for the producing countries.

In exchange,
there could be some examination of the very high excise taxes on gasoline and
some other developed country policies affecting the producer states. A higher
price for oil together with a discipline on supply could be in the interest of
the OPEC countries, the environmentalist community and consumer countries’
long-term interests in a stable and secure oil supply. An unfettered global oil
market is probably not in the interests of anybody – contrary to recurrent
allegations, or conventional thinking, particularly in the US.

Historically, an
unfettered oil market without political influence never existed, even in the
US’ domestic petroleum industry. On the international scene, it would drive
down oil prices to very low levels, close down most non-OPEC production
(including in the US), counter current Kyoto and energy efficiency objectives,
discourage development of renewable energy and would very likely result in
extreme and therefore, for the global economy, detrimental, swings of the oil


Study 3: OPEC Pricing
Power The Need for a New Perspective by
Bassam Fattouh

Although there is
plenty of room for OPEC to influence the oil price in the current oil pricing
system, this influence is not unconstrained. In this paper, we have argued that
the recent changes in the international oil pricing system have diminished OPEC
pricing power, especially when compared to the previous administered oil
pricing system. We have also emphasized that OPEC pricing power is not constant
and varies according to oil market conditions. Finally, we question the
proposition that OPEC in general and the Middle East in particular are bound to
have a greater influence on the oil market as they develop their reserves and
gain a greater share of the market.

Although the
paper’s focus has been on economic factors, it is important to stress that OPEC
does not operate in a political vacuum. It has been argued elsewhere that
pricing systems in the past reflected the balance of power at those times and
this present system is no exception (Fattouh, 2006a). For many, the balance of
political power can have an impact on OPEC behaviour. For instance, Doran
(1980) hypothesizes that there are limits on how much Saudi Arabia can increase
its oil price because very high oil prices can be “damaging to their own
interest because of the danger to the world economy and to their larger
commercial involvements and because of the incentive to outside military
pressure by distraught consumer governments” (p.91). He also argues that ‘political
and cultural similarity’ has facilitated Saudi Arabia’s role in forming
coalitions regarding price preferences. Others have attributed important
episodes in oil history to political factors. For instance, some argue that the
decline in oil prices in 1986 might have been orchestrated between Saudi Arabia
and the USA to undermine the financial position of the USSR.

There is no harm
in incorporating some (but not all) of these ideas into the analysis of OPEC
pricing power. However, it is important to stress that the impacts of such
political factors are not independent of the oil market. For instance, the oil
price rise in 1973 would not have occurred in slack market conditions and the
collapse of oil prices in 1986 would not have happened in tight oil market
conditions. Similarly, the oil price shock in 1990, owing to the Iraqi Invasion
of Kuwait, would have had a much bigger impact if it had occurred in the tight
market conditions of 2004. Similarly, imposing oil embargoes is more feasible
when oil prices are low and markets are well supplied. These and other examples
suggest that although oil is a political commodity, it is still a commodity and
like any other, in the long run its price responds largely to economic forces.



4: OPEC in the Epoch of Globalization:
An Event Study of Global Oil Prices by
Cyrus Bina and Minh Vo


article confirms that OPEC is neither a cartel nor exhibits any sign of market
domination, market control, or monopoly. This confirmation is also in accord
with the pioneering account of the competitive differential oil rents formed
across the global industry since the crises of the 1970s. The methodology
utilized in this study is known as the event-study, an innovative econometric
method which attempts to investigate the possible influence of OPEC decisions
on output upon the global oil spot and futures prices during the period of
1983-2005. The significance of this investigation is due to the fact that the
apparent “lumpiness” of OPEC has to have no bearing on a priori acceptance of
“perfect competition” as opposed to “imperfect competition”—a tautological
hallmark of neoclassical theory utilized in the bulk of both orthodox and
heterodox literature on oil. And, by implication, neither has the neoclassical
parlance of rent, as “market imperfection” and/or “market power,” any bearing
on the globally competitive differential oil rents earned by the rentier
states. OPEC is reflective of the competitive differential oil rents earned by
its members; and, contrary to both the right and the left, and their
obfuscating echo in the media, it rolls with the heavy-handed punches of global
market in the present epoch. This study is rather a posteriori investigation
that deals with the reality of competition in the Schumpeterian framework—a
reality that, far from the fiction of textbook competition, is neither perfect
nor imperfect.


Study 5:
The Real Oil Problem by

oil policies are based on fantasies not facts: gaps, shortages, and surpluses.
Those ideas are at the core of the Carter legis- lation, and of the current
Energy Bill. The Carter White House also believed what the current Bush White
House believes — that, in the face of all evidence, they are getting binding
assurance of supply by opec, or by Saudi Arabia. That myth is part of the
larger myth that the world is running out of oil.



rationale OPEC gave when it decided to defend market share in 2014 was
that it wasn’t fair that their production restraint was helping prop up the
highest-cost producers (i.e., marginal shale oil producers). This is a valid
argument. In most businesses, high-cost producers tend to get squeezed out of
the market. OPEC was, in fact, propping up these producers by restraining
production and helping maintain elevated oil prices.


fair or not, there were real consequences to OPEC’s strategy. They
squeezed a few high-cost shale producers out of the market, but oil prices have
dropped by more than 50% from the first half of 2014. Attempting to make things
“fair,” in my opinion, was a Trillion
Dollar Miscalculation on OPEC’s part. The comments from the
Secretary General may just mean that OPEC is hedging its bets. In its newly
released Monthly Oil
Market Report, the cartel has again raised its demand forecast for
2018. That is the third consecutive upward revision in OPEC’s 2018 demand
forecast. The report even raised the possibility of a global supply deficit in
2018 unless oil output is increased.


Yes, but probably accurate. And U.S. shale oil producers stand to benefit.