Lecture Notes: OPEC and Its Influence on Oil Markets

Introduction to OPEC

• Why form OPEC?
  • Countries with large oil reserves can maximize influence and revenue by acting collectively rather than individually.
  • If countries competed individually, it would drive prices down as each would undercut the other's price.
  • OPEC was formed to control supply and stabilize prices, thus maximizing long-term profits.

OPEC's Influence

• OPEC's Market Control:
  • Controls nearly 80% of the world's proven oil reserves.
  • Produces about 40% of the world's crude oil daily.
  • Represents 60% of total petroleum traded internationally.
  • Can significantly affect global oil prices due to its large market share.

Coordination and Pricing Strategy

• OPEC Mission Statement:
  • Coordinates and unifies petroleum policies among member countries.
  • Ensures market stabilization, efficient supply to consumers, steady income to producers, and fair returns on investment.
• Production Targets:
  • Members set production quotas based on predicted global demand.
  • Aims to avoid overproduction (which lowers prices) and underproduction (which spikes prices).

Historical Use of Oil as a Political Weapon

• 1973 Oil Crisis: The First Use of Oil as a Political Weapon
  • Arab members limited oil production to pressure the U.S. and allies to influence Israeli withdrawal from occupied territories.
  • Resulted in a fourfold increase in oil prices from $3 to $12 per barrel.
  • Led to gas rationing in consumer countries, highlighting reliance on foreign oil.
• Impact and Reaction:
  • Non-OPEC countries increased production to capitalize on high prices.
  • Sparked conservation efforts and exploration of alternative energy sources.
  • Resulted in technological advancements for oil extraction.

Subsequent Oil Shocks and Market Reactions

• 1979 Oil Crisis:
  • Triggered by the Iranian Revolution, causing panic despite minimal impact on actual oil supply.
  • Prices escalated to $40 per barrel, causing economic instability.

Long-Term Effects and OPEC's Current Strategy

• Loss of Influence:
  • High prices and market instability prompted other countries and businesses to enter the oil market.
  • Technological advancements and alternative energy exploration reduced OPEC's market share.
• Current OPEC Strategy:
  • Seeks to manage oil production actively to stabilize prices and avoid consumer backlash.
  • Hesitant to use oil as a political weapon after lessons learned from past crises.

Conclusion

• OPEC's sustained influence is predicated on careful management of oil supply in response to global demand while avoiding political conflicts that could disrupt market stability.