OPEC plays a larger-than-life role in the fluctuating, world crude oil prices. Although not a true cartel, because it cannot enforce quotas of its member countries, OPEC production and pricing behavior has an impact on the world.
What is OPEC?
Iran, Iraq, Kuwait, Saudi Arabia and Venezuela formed the Organization of the Petroleum Exporting Countries (OPEC) in 1960 with five founding members: Iran, Iraq, Kuwait, Saudi Arabia and Venezuela. OPEC's mission is, "to coordinate and unify the petroleum policies of Member Countries and ensure the stabilization of oil markets in order to secure an efficient, economic and regular supply of petroleum to consumers, a steady income to producers and a fair return on capital to those investing in the petroleum industry." OPEC's structure is based on the way the Texas Railroad Commission prorated crude oil production to influence prices. By the end of 1971, Qatar, Indonesia, Libya, United Arab Emirates, Algeria and Nigeria joined.
OPEC's Influence Grows
From the end of World War II through 1972, demand for crude oil from exporting countries increased, but barrel of oil values dropped. OPEC acquired its 11th Member, Nigeria, in 1971. In March 1971, the Texas Railroad Commission allowed Texas crude oil producers to produce at capacity. Since they could produce as much oil as they wanted, the U.S. lost control of crude oil prices to OPEC. Lacking spare capacity, the U.S. could not limit price increases.
Arab Oil Embargo
OPEC's effect on world crude oil prices was first seen following the Yom Kippur War--when Israel was attacked by Syria and Egypt--in October 1973. Crude oil began 1972 about $3 per barrel (bbl). Because the U.S. and many other countries backed Israel, several Arab countries placed an embargo on them. Arab nations cut production by five million barrels per day (mn bpd). Although other countries increased production by one mn bpd, the net loss of four mn bpd, which continued through March 1974, equaled about seven percent of world free market production. By the end of 1974, crude oil prices hovered about $12 per bbl, quadruple prices just two years before. OPEC held its first Summit of OPEC Sovereigns and Heads of State in Algiers in March 1975. From 1974 to 1978, world crude oil prices ranged from $12.21 per bbl to $13.55 per bbl. Adjusting for inflation, world oil prices declined moderately.
Iranian Revolution and Iraq-Iran War
Between November 1978 and June 1979, crude oil production declined about 2.5 mn bpd because of the Iranian revolution. Production rose to four mn bpd, but when Iraq invade Kuwait in September 1980, production for both countries plummeted to a combined total of about one mn bpd. Total crude oil production dropped 10 percent from the previous year. The Iranian revolution and the Iraq-Iran War caused crude oil prices to surge from $14/bbl in 1978 to $35/bbl in 1981.
OPEC Cuts Prices
OPEC tried establishing production quotas low enough to stabilize prices from 1982 to 1985. In 1983, OPEC cut prices by 15 percent--its first price cut since 1960. During most of this time, Saudi Arabia acted as a swing producer, trying to keep prices from plunging when other OPEC countries produced above quota. In August 1985, the Saudis tied their oil price to the spot market for crude and, over the next couple of months, more than doubled production to five mn bpd. Crude oil prices dropped below $10/bbl by mid-1986. OPEC set target prices of $18/bbl in December, 1986, but were unable to maintain this target.
Crude oil prices surged in 1990 when Iraq invaded Kuwait followed by the Gulf War. After this volatile period, crude oil prices declined steadily through 1994 when inflation-adjusted prices were their lowest in more than 20 years. In December 1997 OPEC increased its quota by 10 percent to 27.5 mn bpd. In 1998, Asian Pacific oil consumption dropped for the first time in more than 15 years. Prices plummeted downward so OPEC cut quotas in April and again in July to no avail. OPEC cut production again in April 1999 and prices recovered. Although not all member countries observed quotas prices rose above $25 per barrel.
Growing world economies pushed prices higher throughout 2000, and OPEC increased production quotas three times with little effect. In 2001, a weakened U.S. economy and increases in non-OPEC production put downward pressure on prices. So OPEC cut member quotas. After of the Sept. 11, 2001, terrorist attack, crude oil prices plunged. Spot prices for U.S. West Texas Intermediate crude were nearly one-third lower by mid-November. OPEC delayed additional cuts until January 2002, and oil prices moved to about $25/bbl. Problems in Venezuela caused its production to plummet so OPEC increased quotas in January and February of 2003. However, combined with troubles in Iraq and growing world demand, excess oil production capacity shrank. OPEC policy now focuses on world inventory management. Growing OECD stocks led to OPEC's production cuts in November 2006 and again in February 2007. OPEC found that total petroleum inventories indicate price better than oil inventories alone.
- Source: WTRG Economics; http://wtrg.com/prices.htm; (2006$ per barrel)