Handbook of OPEC and the Global Energy Order

Past, Present and Future Challenges

Dag Harald Claes, Giuliano Garavini, Dag Harald Claes, Giuliano Garavini

• Publisher: Routledge
• Year: 2020
• ISBN:
  9780429515200
• Edition: 1
• Topic: Politica e relazioni internazionali
• Subtopic: Organizzazioni intergovernative

The Organization of the Petroleum Exporting Countries (OPEC), celebrating its 60th anniversary in 2020, is one of the most recognizable acronyms in international politics. The organization has undergone decades of changing importance, from political irrelevance to the spotlight of world attention and back; and from economic boom for its members to deep political and financial crisis.

This handbook, with chapters provided by scholars and analysts from different backgrounds and specializations, discusses and analyzes the history and development of OPEC, its global importance, and the role it has played, and still plays, in the global energy market. Part I focuses on the relationship between OPEC and its member states. Part II examines the relationship between OPEC and its customers, the consuming countries and their governments, while Part III addresses the relationship between OPEC and its competitors and potential partners, the non-OPEC producers, and the international oil companies. The final section, Part IV, looks at OPEC and the governance of international energy.

Chapter 20 of this book is freely available as a downloadable Open Access PDF at http://www.taylorfrancis.com under a Creative Commons Attribution-Non Commercial-No Derivatives (CC-BY-NC-ND) 4.0 license.

1

OPEC and the global energy order

Past, present and future challenges

Dag Harald Claes and Giuliano Garavini

Myths about OPEC

OPEC has been considered both all-powerful and dead. During the ‘oil shocks’ of the 1970s OPEC was viewed as responsible for the decline of the West and the tensions in the Atlantic Alliance. OPEC was openly blamed for the oil embargo in October 1973 even though it was only partially responsible for the crude price increases of the 1970s and had nothing to do with the embargo itself. When the oil prices significantly increased once again in the 2000s, many considered these increases as a trigger for the economic and financial crisis of 2007/8. The British prime minster, Gordon Brown, told oil-exporting nations they had a responsibility to increase production to avoid ‘uncertainty and unpredictability for years ahead’.¹

On the other hand, the Vienna-based organization has been considered weak and ineffective when oil prices have fallen, as they did in the middle of the 1980s, during the so-called ‘counter-shock’ with crude oil trading from more than forty dollars a barrel in 1981 to less than ten dollars a barrel in 1986. Again, with the rapid decline in oil prices after 2014, when the organization decided to avoid production cuts and crude prices collapsed, numerous analysts, such as the head of commodities at Citigroup and former US deputy assistant of state for international energy policy Edward Morse, predicted the ‘end of the organization’ or its future irrelevance.²

A sticky myth concerning OPEC is that it is an Arab organization (see chapter 2 by Fuccaro). The embargo of 1973 is often referred to OPEC, even though OPEC never had a real role in it. The key role in the embargo was in fact played by the Organization of Arab Oil Exporting Countries (OAPEC, the A here is important), and by individual Arab oil exporters with the very notable exception of Iraq. The ensuing increase in oil prices in December 1973 (the two things are often conflated) was instead a policy chiefly advocated by the Shah of Iran and Iranian oil technocrats, and was motivated by the need to curb ‘overconsumption’ of oil by the industrialized countries as well as by the willingness of the ruling elites of petrostates to jumpstart the industrialization of their countries (Iran aimed at becoming the fifth most industrialized country in the world within a decade) (Garavini, 2019, pp. 2016–230). Taken together, the essays in this book clearly demonstrate that although Arab Gulf countries, with Saudi Arabia first among them, played and continue to play a key role, OPEC is a truly global organization, with a very diverse membership in terms of culture, language and geopolitical interests. The various member states are similar in their position as significant exporters of a key commodity and energy source (as collectors of an international land rent), and in their crucial dependence on the income from these exports for both financing state budgets and vital imports. But there is a huge difference between OPEC countries with big production, huge reserves and a relatively small population, such as Saudi Arabia or Kuwait, and countries such as Nigeria (see chapter 7 by Olorunfemi) with smaller production and a huge population. During the Cold War there was contrast between the so-called ‘progressives’, such as Algeria (see chapter 5 by Malti) and Iraq, and ‘moderates’ such as Iran until the rule of the Shah (see chapter 4 by Atabaki), Saudi Arabia and other Gulf sheikdoms. Most of its members also changed their political outlook and oil policy over time, such as in the striking Venezuela (see chapter 6 by Rosales). These differences were often used against OPEC members by its enemies.

As petrostates became increasingly important, the pressure from outside grew, as is well manifested not only in media criticism and direct military interventions, as in the case of Iraq, but even, on one occasion, in direct attack when Carlos ‘The Jackal’ kidnapped OPEC delegates during an OPEC Conference in 1975 (see chapter 24 by Riegler). Not only do OPEC members have diverging interests but, as has been suggested, their role and policies within the organization have shifted very significantly. Venezuela– a founding member of OPEC and possibly the country that at the beginning pressed most strongly for a ‘global prorationing’ modelled on the experience of the Texas Railroad Commission in the United States (see chapter 21 by Wald) – eventually shifted in the early 1990s towards compromise with international oil companies, did not abide by the quotas assigned by OPEC and ‘overproduced’ by nearly one million barrels a day, coming very close to abandoning OPEC altogether. Saudi Arabia was at the forefront of the 1973 ‘oil embargo’ targeted against the United States and other key allies of Israel, defended OPEC and its quota system in the early 1980s, but eventually shifted its policy to one safeguarding its ‘market share’ both in the late 1985 and then again in 2014 (see chapter 3 by Al Moneef). These changes certainly reflect structural characteristics of each member such as population, productivity of the oil fields and geopolitics, but also point to the fact that internal ideological, political and social shifts affect the position and the willingness of petrostates to cooperate with one other and their ability to challenge consumers and international oil companies.

The petrostates’ organization has had many enemies. It has been declared dead numerous times by politicians, economists and industry leaders. Nobel prize winner Milton Friedman predicted the crisis of petrostates already when they were at the height of their power in 1974:

In order to keep prices up, the Arabs would have to curtail their output by even larger amounts. But even if they cut their output to zero they would not for long keep the world price of crude at $10 a barrel. Well before that point the cartel would collapse.

(Garavini, 2019, p. 302)

Heads of states, especially US politicians such as more recently Donald Trump, have accused OPEC of unlawfully playing with oil prices, thus damaging the economy of key oil importing countries and making life difficult for consumers. Various legal initiatives have been put forward in the US Congress to remove the state immunity of the OPEC members in order to allow OPEC members and their national oil companies to be sued under US antitrust legislation. The last attempt was made in spring of 2019 as the US Congress deliberated another version of a Congressional bill known as the No Oil Producing and Exporting Cartels Act (NOPEC), initially put forward in 2000.³ The numerous previous attempts have stranded due to the uncertainties it creates in the market and the risk of some form of retaliation from OPEC members. Although US competition law might be suitable for curtailing antitrust behavior among international companies, it is harder to apply against other states. In this respect the World Trade Organization (WTO) could to be a more appropriate arena. In general, the governance of the oil market has been given surprisingly little attention by global trade institutions (Hughes, 2014, p. 17). After the Second World War, Western countries had no reason to create an international trade organization that would also deal with raw materials because this would have potentially curtailed the power of their international companies. In the case of oil, the war had also shown its pivotal role in warfare. Controlling the flow of oil was at the top of the security agenda of Western powers at that time.

The wrong question: a cartel or not?

In academic circles, the most deliberated issue regarding OPEC since the early 1970s has been whether the organization is a cartel or not (Griffin 1982). The economic models applied have become increasingly sophisticated, but the literature remains inconclusive as to whether or not OPEC is a cartel (Kisswani, 2016, p. 172). There is no conclusive evidence of cartel behavior either in either price control or production behavior. The main reason is that OPEC’s market behavior is not constant. ‘Although some empirical models may fit the data quite well in specific time periods, they fail miserably in other time periods’ (Fattouh and Mahadeva, 2013, p. 440). One ‘external’ reason for this is that the oil market has strong cyclical features. If OPEC cuts production in order to increase the oil price, the higher price will both curb demand and increase production from other oil producers, as more oil resources becomes profitable to extract, thus creating a supply surplus, which then reduces prices. Reduced prices increase demand and curb oil production as more oil fields become ‘uneconomic’. Governing such a cyclical market is a tall order. No wonder OPEC has only occasionally been successful is this endeavor. The other challenge is the internal discipline, a challenge for any cartel. The more OPEC is successful in increasing the oil price, the stronger the incentive for individual members to defect from the cooperation, increase production, and reap the benefits of free-riding on the other members’ cooperation. Johany (1980, p. 26) uses the concept of a ‘centralized’ cartel, where ‘decision-making with regard to pricing, output, sales, and distribution of profits is accomplished by the central agency’. OPEC is far from being such an organization (as we will return to below).

The key feature of OPEC is the meetings (usually twice a year) of the oil ministers or any other delegate, setting common prices and/or production levels for the members to implement individually. Up until 1982 OPEC did not put any set limits on the oil production of its members. As the market conditions turned, OPEC introduced production quotas in March 1982. As pointed out by Al Moneef (chapter 3), OPEC then ignored the contradiction inherent in fixing both prices and volume. Colgan (2014, p. 606) finds that, calculated in months, between 1982 and 2009 the production of the OPEC countries exceeded the quotas 96 percent of the time. He also correlates production and quotas and finds that ‘at most 1.8 percent of the variation in the month-to-month changes in [the members] oil production can be explained by changes in their OPEC quotas’ (Colgan, 2014, p. 607, see also chapter 26 by Colgan). Claes (2001, p. 258) shows that OPEC members’ production was consistently above quotas every month between April 1982 and April 2000, with very few exceptions. However, changes in production and quotas are strongly correlated. This, however, can imply causality either way. The quotas can constrain production, even though it is still above quotas. But it could also be the other way around– that the quotas are adjusted to changes in production. The fact that OPEC made 38 adjustments in the quotas between 1982 and 2003 could indicate the latter (OPEC, 2003). In 1999, the then secretary general of OPEC, Rilwanu Lukman, had the following reflection: ‘OPEC is not the cartel that some of our friends outside like to portray us as; if we acted as a true cartel, prices wouldn’t be where they are right now!’⁴ In a recent study, Aquilera and Radetzki (2016, p. 25) describe OPEC as ‘a less than entirely coherent producer group able to extract prices somewhat above the competitive level for limited periods […]. Whether this description warrants the label ‘cartel’ is a semantic and, for our purposes, not very important question’.

The right question: what difference has OPEC made?

Fattouh and Mahadeva (2013) provide a review of economic models of OPEC. They conclude that the role of OPEC varies over time, and no single economic model can explain all of OPEC’s market behavior. Adding political, social, cultural, or other factors to the explanation of OPEC members’ behavior, the picture becomes even more complicated, to say the least. Obviously, we cannot know with certainty how the OPEC members would have behaved domestically, or internationally, had they not been part of the organization. If we focus on the oil market, it is equally hard to determine what the oil price would have been without the existence of OPEC. At the end of 1985, when OPEC abandoned the strategy of defending the price level and began pursuing a strategy to protect its market share, i.e. a competitive strategy, the price fell to about $10 per barrel. The same level was reached during the price fall of 1998/9. Since the price only stayed at that level for short periods of time, the actual effect on investments and replacement of reserves was not empirically tested. Adelman (1986) estimates the competitive price of oil – that is, the price without producer cooperation in any form – to be $8 per barrel in the short run and $5 per barrel in the longer run. He claimed that these prices would maintain investments in new reserves and production capacity.

The conclusion regarding the relationship between cooperation and the price is thus a mixed one: OPEC has not behaved as a true cartel, but the oil price has been above what it would have been in a true competitive market. Given the massive interest paid to the OPEC Conferences by economic pundits, industrial leaders, analysts of all kinds, politicians, and business journalists, one might conclude that OPEC has had something to do with the level of the oil price over the last sixty years. A fundamental reason for this is the concentration of oil reserves. Still today, the OPEC countries control nearly 72 percent of the world’s proven oil reserves. Four major OPEC oil producers, Saudi Arabia, Iraq, Iran, and Venezuela, hold more than half of these reserves. OPEC’s share of global oil production peaked in 1973 at just above 50 percent; in 1985 it was less than 30 percent. Since the early 1990s, OPEC’s market share has been around 40 percent (Claes, 2018, p. 154). Several OPEC countries have proven reserves that can sustain their present level of production for decades, in some cases centuries (BP, 2019, p. 14). Perhaps more importantly, its share of global oil exports has decreased from more than 90 percent in 1960 to 54 percent in 2019 (OPEC, 2019, p. 60). Today’s world of oil production is far more polycentric that when OPEC was born, but OPEC countries still control a significant share of global reserves, production, and trade, although most exploration for new reserves takes place outside OPEC. The very same petrostates that sixty years ago took the initiative to create OPEC are still the most productive oil regions in the world. Furthermore, the role of OPEC is not restricted to the oil price and the oil market. A narrow focus on its role in the oil market will overlook its importance for the wider economic and political development of its members – a point made by several authors in this book.

OPEC, its member states, and cooperation in petroleum policy

OPEC has had quite a few successes in its history since the 1960: mostly in areas other than governing the market price of oil. During its first decade of existence it managed to increase the producing countries’ income per barrel of oil by collectively negotiating increases in royalties and taxes at a time when market prices for raw materials (including oil) were falling. The resulting increase in income per barrel was a terrific success under very difficult circumstances, unmatched by the other commodities’ organizations and one that curtailed the profit margin of the seemingly unbeatable oil majors (or ‘seven sisters’ as Enrico Mattei, the head of the Italian ENI, used to call them). In the 1960...