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Crude Economics
What’s the Point of OPEC?

That’s the question on the minds of many of the cartel’s members, after OPEC’s semiannual meeting in Vienna ended without any agreement on how to coordinate efforts to drive oil prices back up. A barrel of crude goes for under $43 today, a far cry from the $110+ per barrel levels achieved 18 months ago. While in the past OPEC has acted to cut production in order to set a price floor to bearish markets, this time around Saudi Arabia has strong-armed its less productive fellow members into adopting a business-as-usual strategy, preferring to endure today’s low prices in order to compete with non-OPEC producers for market share.

But this approach hasn’t been well received by OPEC’s less wealthy member countries, many of which have publicly called for the cartel to curtail output. As the FT reports, the meeting did little to bridge the widening gap between Riyadh and the rest of the group:

After a marathon seven-hour session that ended in chaotic scenes outside the Opec secretariat in Vienna, the only agreement reached by the cartel members was to meet again in June. […]

“For the first time in many years Opec has failed to specify a production ceiling and has decided to wait on events in 2016 before making its next move,” said Neil Atkinson of Lloyd’s List Intelligence. “This is a holding decision.”

The cartel’s decision not to set any targets for output over the next six months reflects significant uncertainty over how much more oil Iran will be able to produce once Western sanctions are lifted, and how quickly. Iran’s oil minister said he “didn’t have any other expectation,” adding his hope that “at the next meeting we can reach agreement.” The president of Petroleos De Venezuela said his country is “really worried.”

OPEC’s smaller fish will have six more months to position themselves and trumpet their anxieties, but it’s clear that without Riyadh’s blessing, the cartel isn’t going to change its course. As Atkinson put it, OPEC has “formalised the decision taken a year ago to produce as much oil as necessary to preserve market share while leaving prices to the market place.”

With the Saudis no longer willing to act as the global swing producer, OPEC lacks the capacity to cut production back enough significantly to affect prices, which leads to the obvious question: What purpose does the cartel now serve? We’ll check back in in June, but for now OPEC has resigned itself to letting the market set prices, which means crude is going to stay on sale.

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  • Fat_Man

    All cartels fail. Without military or legal power to control member behavior, the individual interest of each member is to cheat. Further, where, as with OPEC, the members are sovereign entities, their domestic needs are far more pressing than their cartel commitments. When prices are high, the sovereign must commit to spending its revenue to buy domestic supporters and buy off domestic opponents. If prices drop, the sovereign must increase production to maintain revenue, or face domestic upheaval, which is far more dangerous to it than the imprecations of its cartel co-conspirators. Finally, cartels cannot prevent the emergence of non-cartel competitors. Despite the best efforts of the Democrat party to destroy the domestic production of hydrocarbons* in the United States, the US is now the world’s leading producer. Raising world market prices would simply increase non-cartel production.

    OPEC is an organization that outlived its day about a generation ago. It was effective in the 1970s because there were many fewer producers at the time, and because of rampant inflation in the dollar. In the 1980s when Reagan suppressed inflation, many non OPEC producers came on line and there was rampant cheating by OPEC members. Oil prices rebounded in the last 15 years due to war in the Persian Gulf and a commodities bubble that drove up all commodities prices. OPEC had very little to do with it other than pretending to lift when the trend was up. The trend has been down for a while, and there is little, if anything, that OPEC can do to change it.

    *Folly or corruption or both? Your choice.

  • Andrew Allison

    I believe “Saudi Arabia has strong-armed its less productive fellow members into adopting a business-as-usual strategy, preferring to endure today’s low prices in order to compete with non-OPEC producers for market share.” to be incorrect. In the past, it has been the Saudis who, as the swing producer, have reduced production. Since the beginning of the current over-supply, they have been saying that it is their intention to maintain OPEC market share. What’s really going on is that the other members of OPEC don’t want (can’t afford?) to cut production. If the OPEC market share of world-wide oil production increases, so much the better for the members, but the issue was and is the Saudi share of OPEC production.

  • Jacksonian_Libertarian

    Cartels don’t work unless they control the supply. For practical purposes OPEC which produces 30 million barrels a day of the 80 million barrels a day in worldwide production no longer controls the supply. Even Saudi Arabia’s swing producer position was lost when American Shale Oil producers began adding 1 million barrels per day in production every year. As even if Saudi Arabia cut production by 1 million barrels per day, they would just have to do it again next year and the year after that, until they weren’t producing anything. While the OPEC members are all likely blaming Saudi Arabia for their financial problems, it really isn’t their fault. They should be blaming the “Feedback of Competition” that provides both the Information and Motivation which forces continuous improvements in Quality, Service, and Price in free markets. But if they did that, they would have to look at why their Government Monopoly owned Oil Monopolies are uncompetitive with the American Shale Oil producers whose costs of production are much higher but steadily improving.

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