Opec Insists The Falling Oil Price Is Not Opec’s Fault

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SHAFAQNA – To which the correct response is “Yeah, right matey”. The Gulf Countries have insisted that the collapse in the oil price is nothing at all to do with them. They’ve just been continuing to pump the normal amount out into the market. It’s everyone else that is wrong: including those American frackers and tar oil merchants who have been trying to muscle in on the markets. All of which is a bit like the regular punchline on Scooby Doo, that if it wasn’t fer those darn kids we would have got away with it.

In reality of course it’s all about the economics of cartels. A partial cartel can work for some of the time and a full cartel can work more of the time. But you’re always, as a cartel maker, going to get tripped up eventually by one of two things. The first is that the incentives within the cartel to cheat are going to be pretty large. The second is that everything, but everything, is substitutable and the more successful your cartel is in keeping prices high the more you are calling into existence that substitute.

Here’s how that it’s not Opec’s fault is being reported:

ABU DHABI—Gulf oil officials on Sunday defended OPEC’s decision last month to keep its production ceiling intact, blaming producers outside of the group for the glut of oil on the market that has depressed prices.

Speaking at an energy conference in Abu Dhabi, Saudi Oil Minister Ali al-Naimi blamed a lack of coordination from producers outside the Organization of the Petroleum Exporting Countries—along with speculators and misleading information—for the slump.

So far so pretty standard. You’re not going to get far at a conference of the Gulf Arab ruling families by saying that the world of the Gulf Arabs is going to pot because of the actions of the Gulf Arab ruling families. After all, that statement, however true, does lack a certain diplomacy.

But it also contains the seeds of the truth, in that the lack of coordination with producers outside Opec has something to do with it. But that’s the point: they’re not part of the cartel so why should they coordinate with it?

On Nov. 27, OPEC kept its production ceiling intact, sending crude prices plunging. OPEC officials since have said the move was aimed at protecting market share. If the cartel had cut output in a bid to bolster prices, non-OPEC producers may have swept in and stolen customers, Gulf oil ministers have said.

Well quite. And it is ever thus with partial cartels. Even with a complete cartel there’s the temptation to cheat. Each country has production quotas and yet if only one country breaks those quotas they they get both the revenue from the extra sales but also the higher prices because other people are meeting their quotas. The temptation then becomes for everyone to break quotas to achieve the same end yet if all do it then none get the benefit.

Which brings us to those outside the cartel. The thinking here is that if only those pesky kids shale producers hadn’t turned up then everything would be fine. Which is possibly true: but what’s in it for the shale producers not to produce? They’re not being paid off not to produce and they’re not benefiting from the high prices induced by the cartel if they’re not producing either. Thus their temptation is to say the heck with it and produce whatever happens to the cartel. Which is exactly what happened.

And that brings us to our final point, that every cartel eventually gets undermined by substitution. For as any economist will tell you, absolutely everything is substitutable. All that differs is how close the substitute is and over what timescale it all happens. We could say that renewables are a substitute for oil: and they are, in a manner, they’re a method of collecting usable power. Natural gas is a closer one, LNG an even closer. And of course shale oil is such a close substitute for the sort of deep oil that Opec dominates that it can actually be processed through the same refineries.

As a solution there’s a call for a larger Opec:

There should be some form of cooperation between all countries involved in the global energy market, he said, including non-OPEC members. But decisions on production shouldn’t hurt the interests of OPEC while benefiting others, he added.

“It is not fair that OPEC takes the decision to reduce while the others are producing and investing,” Mr. Omair said.

In the long run it just won’t work. For two reasons, the same two that are undermining the current version of Opec. The first being that substitutability. Even at the current level of technology you’d have to include natural gas and shale as well as conventional oil (and no anti-trust organisation is going to allow that to happen). But think it through a little further: the largest use of oil is for transport. But what if we all end up driving electric cars, as Tesla supposes? Does Tesla and its battery factories have to become part of the oil cartel? Well, yes, if that oil cartel wants to stay effective, then yes Tesla does have to join.

The second, and larger, problem is that if the Opec countries aren’t willing to reduce as other producers come online (and this does include all of those wider producers, like natural gas and even car batteries) then what the heck is there in the Opec cartel for those other people? They’re only going to coordinate with the cartel if the cartel offers them something, aren’t they?

In the long run cartels just don’t work. If cheating doesn’t get them first then changing technology will.

SOURCE : http://www.forbes.com/sites/timworstall/2014/12/21/opec-insists-the-falling-oil-price-is-not-opecs-fault/2/

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