The Political Influence On World Markets Opec Economics Essay

Introduction

Since the topic is “The Political Influence on World Markets” I believe that the case of the Organization of the Petroleum Exporting Countries (OPEC) is a worthy case to be presented. Hence I will present this organization from the moment of its foundation to now days and try to describe the influence it had in various periods of time in the oil market. I choose this organization because I find it particularly interesting for the role that has played the past fifty years and because I believe that it represents a clear case of how politics influence the world market, which in this case is the market of oil. Also because oil is a resource of paramount importance to the world’s economy and is one of the most important sources for energy.

In September 2010 OPEC celebrated its fiftieth anniversary; OPEC was conceived on 10-14 September 1960 during the Baghdad conference by Saudi Arabia, Venezuela, Iran, Iraq and Kuwait. Nine other countries joined later with the five founding members: Qatar in 1961; Indonesia in 1962 which suspended its membership from January 2009; Libya in 1962; United Arab Emirates in 1967; Algeria in 1969; Nigeria in 1971; Ecuador in 1973 which suspended its membership from December 1992-October 2007; Angola in 2007 and Gabon from 1975-1994. Now days the organization is composed of 12 members and its headquarters are located in Vienna, Austria since 1 September 1965. [] 

OPECs objective is to protect the interests of the members of the organization and to secure order and stability in market. It coordinates member’s policies to secure fair and stable prices for petroleum producers; a regular supply of oil to consuming nations; and a fair return on capital to the investors. [] 

We can say that power of OPEC to influence prices in oil market has been different in varied periods of time so we can affirm beyond any doubt that its power has not been constant. Depending on the market OPEC tries to keep a kind of stability in oil prices as it’s most convenient to its members. When the prices of oil went down for various reasons OPEC has successfully implemented production cuts in order to prevent further decline of prices and even to send them up. Also when for different reasons the market has not been supplied enough with oil and the prices has gone to high OPEC has increased its output to moderate and to stop further increase in oil prices thus being successful in influencing the prices.

Analysis

The role of OPEC has been different during its existence sometimes it has been very successful in influencing the price of oil and other times not so successful but nonetheless it has influenced it. OPEC is and has been a very powerful organization and has traditionally produced around 40% of world’s oil and has nearly 80% of proven oil reserves. Its members include 11 of the top 20 world oil producers and it holds also most of the world’s excess capacity, since non-OPEC oil producers tend to produce close to their maximum output. [] From this is easy to understand the weight and power of OPEC members in oil market.

We can say that the power of OPEC has been somewhat steady and rising; we can deduce this by statistics where we can see that in the time of creation in 1960 the five founding members had 200 billion barrels of oil reserves which were at the time 2/3 of the world oil reserves and, produced an average of 8 million barrels per day (bpd) of crude oil to world market which represented more than 1/3 of the world’s total production. In 2009 OPEC proven oil reserves are accounted to be more than 1 trillion which represents nearly 80% of world’s total oil reserves and produces 29 million bpd meaning 42% of the world’s crude oil production. It is also important to add that 58% of the crude oil traded internationally is oil exported from OPEC countries. [] In some way the numbers speak for themselves but even though these are impressive numbers the ability or the power of OPEC to influence oil prices has not been the same as we are going to see later.

The 1960s-1970 are not characterized by much influence from OPEC members in setting oil prices although a lot of changes happened in the international political and economical picture and OPEC itself. During these years many countries gained independence due to the process of decolonization and the international oil market was still dominated by the multinational companies called the “Seven Sisters” while the market of the Former Soviet Union and other central planed economies was greatly separate. During these years five other countries became members of OPEC and it established its secretariat first in Geneva and than in Vienna in 1965. [] 

The 1970s are perhaps the most important years for OPEC; it was during these years that the organization became prominent. Three other countries joined the organization by 1975 taking the total number to thirteen. These years are characterized by an increased feeling of nationalization in Arab countries and an increased demand for oil. During the 1970s Arab countries with increased feeling of nationalism and because they wanted higher stakes on their oil sales started to take greater control and to nationalize the petroleum industries. Some of the countries opted for full nationalization like Algeria, Libya and Iraq while the others stopped giving new concessions and increased their shares by claiming equity in the existing concessions and by coordinated policies like tax references prices. [] 

It was during the early 1970s that the power to set prices shifted from multinational oil companies to OPEC. There were three occasions in the 1970s that show clearly the influence of politics in world market because in 1973, 1979 and 1980 due respectively to the Arab-Israeli war, the Iranian revolution and the Iraq-Iran war, the oil prices skyrocketed. In 1973 the Arab-Israel war out broke and an oil embargo was put to U.S.A and Netherlands with the reason that they supplied Israel military. By 1974 OPEC had increased oil prices unilaterally to $11.25 per barrel from $2.18 per barrel in 1972. OPEC where previously was able only to prevent oil companies to reduce prices now for the first time assumed an unilateral role in setting oil prices. Also the role of multinational oil companies in the region decreased significantly. Prices continued to rise and in 1982 arrived at $34 per barrel due to events like the Iranian revolution in 1979 which disrupted production and due to the outbreak of war between Iraq and Iran which disrupted the production also in Iraq. If we take a look at statistics we can see easily how OPEC could steer prices so high. From 1973 to 1985 even though proven oil reserves were rising, OPEC cut production in half during this twelve year interval from 31 million bpd in 1973 to 16 million bpd in 1985. [] 

In 1983 oil prices started going downward because of policies of OPEC and because there was a surplus of oil in the market. Since OPEC was keeping such high prices during the 70s it became very convenient for non-OPEC countries to invest in new oil fields and important new discoveries were made. Hence non-OPEC countries took advantage and increased production and their share in the international oil market. Their share increased drastically as we can see in Fattouh words: “According to the EIA (2005), between 1975 and 1985 non-OPEC countries increased their share of world total oil production from 48% to 71% with most of the increase coming from Mexico, the North Sea and the Soviet Union.” [] So the market was flooded by new oil producers.

In order for OPEC to deal with the surpluses of oil in the market enabled by non-OPEC countries and since it is in its interest to maintain oil prices within desired range, in 1983 for the first time it imposed individual ceilings for the production of each member. It is fair to say that many members of OPEC did not respect their ceiling quotas but instead competed with each-other in gaining more market; only Saudi Arabia remained faithful to ceiling quotas. Also in order to coordinate their policies the members of the organization started to meet regularly in order to discuss and adjust member’s quotas to maintain more convenient prices. This policy continues even now days. It was understood by OPEC in mid 1980s that administered oil price regime wasn’t useful any more; hence in 1986 they implemented the market related oil price regime. This represented a new chapter because the administer oil price system had dominated in the oil market from 1950 to 1986. Shortly put the oil price system changed from administered oil price system which was used from multinational oil companies and then by OPEC itself to market related price system which was a major change that proved more useful to OPEC countries. [] 

From 1990 to 2004 it’s a period that did not see much change in oil prices and weak prices continued through these years. The conflict that erupted in 1990-1991 (The Gulf war) did not have much impact on oil market because of OPEC action. [] From 1990-1997 the price recovered; the oil demand worldwide increased by 6.2 million bpd due to stronger U.S.A. economy and booming in Asia Pacific, also during this period the supply from Russia declined by 5 million bpd. This was a period of mixed success for OPEC in controlling prices. The prices went down in 1997 and 1998 due to bad policy from OPEC. During these two years the rapid growth of Asian economies came to a stop and with it also the demand for oil consumption fell significantly. OPEC did not consider this event in oil markets because in 1997 increased its quotas by 2.5 million bpd. This way OPEC sent the price of oil down by bad policy or miscalculation, either way it influenced the price to go down. In the end of 1998 to reverse the tendency of prices OPEC started to cut quotas and by 1999 the prices increased. From 1998-1999 OPEC cut production by 3 million bpd and steered the prices above $25 per barrel. [] OPEC was once again successful in influencing prices.

However the demand for oil during 1990-2004 increased greatly and non-OPEC countries could not fulfill the increasing demand. It was OPEC that supplied most of the growing demand because during this period the demand for oil increased approximately by 16 million bpd while the non-OPEC countries supplied only 6 million bpd, OPEC met the rest of the demand. The increased production and other political events like sanctions to Iraq, Iran and Libya diminished spare capacity and with it the power to affect oil prices because once the faith is lost in OPEC to increase its production also the pricing power goes downward. [] 

From 2004 to mid 2008 the prices went up significantly even though the market was well supplied with oil. The OPEC basket price graphs show that the prices continued rising until in mid 2008 they achieved record levels $94.45 per barrel. From mid 2008 to mid 2009 oil prices fell due to the economic financial crisis and world recession; in mid 2009 the prices were at $61.06 per barrel. OPEC responded to the crisis by agreeing to cut oil output and steering prices back up to $76.36 in mid 2010 and then they increased output to stabilize the prices and to prevent them going up any further. [] Global oil demand has increased following the recovery of economy and has gone from 85 million bpd in 2009 to 87.3 million bpd and is estimated to grow by 1.2 million bpd by 2011. [] 

However the case, OPEC is a whole made of pieces and this must be taken into consideration when analyzing OPEC and its pricing power. As mentioned above OPECs objective is to protect the interests of members of the organization and to secure order and stability in market. The organization achieves this by coordinating its policies and meets regularly two times a year and sometimes more when is considered to be necessary.

But the interests of the organization as a whole are not always the interests of individual members and coordinating policies makes it sometimes rather difficult. For example for keeping prices from going down OPEC must reduce its output and has to decide ceiling quotas for each member. But this often goes against some members interests since they want to increase revenue from oil sales, hence they tend to cheat and produce more than the assigned quotas. From the creation of the quota system the production of crude oil from OPEC members has exceeded the ceiling by an average of 4% and on many occasions the exceeding has gone up to 15%. The lack of effective means of OPEC to detect and punish the members who cheat increases the difficulty of the organization to influence prices. [] 

Saudi Arabia is the most prominent member of OPEC and the oil market in general since it has the highest production 12.5 million bpd and the highest spare capacity making it the most influential member. Being the most important member has made it also the moderator within the organization and the punisher in some occasions when other members exceeded by far their quotas. To events that Saudi Arabia acted as a discipliner of the market are in 1985 and 1998. [] Exceeding the quotas is not the only problem for OPEC to influence prices the information about the market is also a problem. Accurate information is needed for oil demand in a changing market and for the availability of non-OPEC oil supply. This information must be accurate and in time or else the influence in oil prices from OPEC will be undesired. OPEC secretariat itself makes forecasts about the market as does the International Energy Agency but forecasts have rarely the accuracy needed. Despite the problems we can assert that OPEC has influenced prices in different periods of time even though with mixed success.

Conclusion

The market of oil and oil as a resource is very important to world needs for energy and the role of OPEC in the oil market has been highly debatable exactly because of such importance. It is difficult to accept the power of developing and backward countries in such a vital source, especially when most developed countries are heavily dependent on it. Despite the success and desired or not by OPEC, during its existence it has influenced oil prices world wide as we can see in Jamses words: “it is no exaggeration to say that OPEC has left an indelible imprint on the world economy through its impact on the price of oil.” [] Also the International Energy Agency and the Energy Information Administration foresee that the major increased oil demand will be meet by OPEC and particularly by Middle Eastern members of the organization. It is expected that Middle East and North Africa by 2030 will produce 50 million bpd and Saudi Arabia will continue to play the biggest role by producing 18 million bpd in 2030. Iraq is expected to have the second fastest growth production after Saudi Arabia. [] OPEC expects that the demand for energy will increase approximately by 50% in 2030 and that even though renewable energy will play a bigger role still 80% of the future demand will be met by fossil fuels. Oil will still continue to be the primary resource even in 2030 although its share will be slightly lower. [] As we can see the role of OPEC in influencing oil market is not likely to change in the near future.