Assessing OPEC’s Performance in Global Energy

Abstract

Abstract

This article examines OPEC’s performance in regulating output and prices in the global oil market during its 50 years of existence. In addition, it discusses key trends that are likely to determine OPEC’s effectiveness in the years ahead, particularly climate change policies. We find that OPEC’s ability to control the oil market singlehandedly has historically been limited, as a result of both internal collective action problems and external factors such as the rise of new producers. Furthermore, we find that climate change policies may negatively impact long‐term planning security for investment and hence OPEC’s ability to target price bands and smooth the oil market. We argue that OPEC will need to become more proactive in low‐carbon policies to remain part of the decision making on future energy demand patterns that affects its main export product. We also submit that OPEC has a great role to play in fighting price volatility, a key concern for both producers and consumers, and that the best platform for enhanced efforts in this regard would probably be the International Energy Forum.

Policy Implications

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  Much of the debate on OPEC is one‐sided: the organization is mostly characterized as a cartel extracting monopoly rents. Instead, emphasis should be put on OPEC’s potential to help in managing oil market risks.

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  From the perspective of global energy governance, a strong OPEC may be a very desirable partner for oil consumers in order to combat price volatility, a key concern for both oil exporters and importers.

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  Coordination between producers and consumers would also stimulate the energy transition towards a low‐carbon future. The International Energy Forum may be the most appropriate for this.

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  OPEC needs to seriously join the world’s efforts towards a low‐carbon energy transition in order to hedge its interests effectively and voice claims legitimately for burden sharing in the inevitable adjustment process that OPEC members will undergo.

Since its creation in 1960, the Organization of Oil Exporting Countries (OPEC) has been widely regarded as the linchpin of the global oil market. Given the significance of oil to economic growth and development, the self‐proclaimed cartel of oil‐producing states is widely viewed as a key player in global energy. OPEC’s instruments to push oil output levels upwards or downwards and hence influence the price of the ‘black gold’ are widely perceived as among the most powerful and effective mechanisms governing the oil market. Yet, what is OPEC’s record in using its supply‐side ‘toolbox’, and what does its historical performance suggest for the future? Is the oil cartel indeed a force to be reckoned with in governing global oil in the 21st century, and in global energy governance in general?

Drawing on lessons from the past, this article focuses on the future of OPEC, and the factors that are likely to determine its ability to influence the global oil market. The analysis in this article is guided by two key questions. Can OPEC cope with major challenges ahead, in particular the necessity to organize effective outreach towards critical non‐members such as Russia and Brazil, as well as the drive towards a low‐ or no‐carbon world economy? And building on that, what role can OPEC play in the context of new institutional players such as the International Energy Forum (IEF), aimed at balancing the interests of producers and consumers in the global oil market, and thus contributing to reducing price volatility?

The article is structured as follows. Section 1 briefly introduces OPEC’s main modus operandi, offers some basic clues with regard to the internal politics that shape the organization and explains its historical performance in the global oil market. Section 2 discusses the various challenges the organization is confronted with in the years ahead, and how these influence OPEC’s ability to achieve its mission. Section 3 lays out how in the wider context of enhanced producer–consumer cooperation and climate policies OPEC could contribute to effective global energy governance. The final section concludes.

1. OPEC in the global oil market

To understand the potential and limits of OPEC, it is important first to assess the organization’s basic modus operandi and the main political cleavages that structure its work and impact.

OPEC’s collective action challenge

In terms of formal organization, OPEC today has 12 member countries – Algeria, Angola, Ecuador, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, the United Arab Emirates and Venezuela. Its mission is:

to coordinate and unify the petroleum policies of its 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 for those investing in the petroleum industry.¹1 See http:www.opec.org/opec_web/en/about_us/23.htm [Accessed 2 April 2010].

The work of the organization is regulated by the OPEC Statute that was approved at the OPEC Conference in Caracas in January 1961 and has remained virtually unchanged since then.²2 OPEC Statute, Vienna, 1861. See also: http:www.opec.org/opec_web/static_files_project/media/downloads/publications/OS.pdf [Accessed 3 April 2010].
The Statute stipulates that the OPEC Conference is the ‘supreme’ decision‐making body in the organization.³3 The OPEC Conference usually convenes in June and in November (or December) of each year. However, extraordinary meetings have been frequent in the past as well, especially during times of market turmoil.
Decisions of the Conference require a quorum of 75 per cent of members to be present. Each full member state has one vote, and all decisions need to be taken unanimously. That also implies that each member state – no matter how small – has an effective veto right. It follows that compliance is entirely voluntary. Various efforts to soften the unanimity rule for some types of decision (e.g. to approve the Secretariat’s budget and work program, or the election of the OPEC Secretary General) have ended in acrimony and inaction.

How does the organization’s set‐up affect its ability to act as a cartel? Essentially, a cartel is an attempt by producers to organize monopoly‐like conditions in a given market without forcing market participants into a single organizational structure. The key incentive for producers to participate in a cartel is thus that they can accrue monopoly rents without giving up their organizational independence. In theory, the effectiveness of a cartel depends on three key factors: the number of market participants (in OPEC’s case – of producers), the transparency of the market and the existence and effectiveness of enforcement rules. With regard to market structure, the fewer producers there are, the easier the formation and eventual decision making within a cartel is likely to be. Fewer veto players exist, and transaction costs can be minimized. Market transparency is important as well. In a less transparent market (i.e. where it may not be clear how much of a good is produced by each market participant), there are more opportunities for cheating by cartel members than in a market where perfect transparency exists. Finally, a cartel is only as effective as the enforcement rules that are in place. Cartel members must be confronted with effective sanctions in case of cheating or other rule violations.

In light of that, even a cursory analysis of the global oil market raises some doubts about the viability of an effective oil producer cartel generally, and the effectiveness of OPEC more specifically. First, there are not few but many producers of oil. While there are significant differences in oil production capabilities, there are still more than 20 significant oil producers in the world – and only 12 are members of OPEC. While controlling some 77 per cent of global crude oil reserves, the organization accounts for only 41 per cent of crude oil production (BP, 2010). This should make the emergence and governance of an effective oil cartel difficult, to say the least, and OPEC’s history clearly supports that assessment.

Second, the global oil market is famously non‐transparent. Not only are producer countries highly secretive with regard to their actual reserves, but there are also no reliable numbers for actual production for most producer countries. Indeed, the OPEC Secretariat which is supposed to assemble production data has always found it difficult to obtain the necessary data from its own member states.

Third, as indicated above, OPEC itself is a fairly weak organization in the sense that it does not have any significant enforcement tools. In other words, OPEC cannot effectively punish individual members for rule violations. In practice, there are of course political mechanisms that especially large producers such as Saudi Arabia can bring to bear (and they have done so in the past). But OPEC itself has no provisions for enforcing decisions that have been taken during the regular OPEC Conferences.

OPEC’s performance in managing the oil market

Given the above, it is not surprising that it is hard to depict OPEC’s history as a 50‐year success story. True, as highlighted earlier, OPEC has managed to increase its income share from oil production compared to the times when the ‘Seven Sisters’, a buyers’ cartel of western oil companies, controlled the oil market (i.e. to ‘safeguard’ its member states’ primary interest). Yet it has not effectively controlled output and prices over its 50‐year existence, it has not managed to align member states’ oil policies, and the energy security of consuming countries has been directly endangered by policies of OPEC members rather than safeguarded. This failure has not only been a function of regional political rivalries among key producing states in the Middle East or during the Cold War but was causally linked to two key factors: the enormous differences in oil reserves of member states and the market phase in which OPEC was operating.⁴4 This point is admittedly rather ironic, as the entire idea of a cartel is to control the market effectively and, hence, the price.
A quick discussion of the landmarks of oil market history – the 1973 oil price shock, the 1986 countershock and the oil market’s recovery in the early 21st century that led to the 2008 price hike – illustrates this.

While the 1973 events have created a lasting image of OPEC as a powerful organization, the embargo itself is very much a myth. In fact, many of the challenges consumer countries faced in the immediate aftermath of the OPEC announcements in 1973 were simply home grown. It was also only a faction within OPEC – the Arab producers organized in the Organization of Arab Oil Exporting Countries (OAPEC) – that organized the embargo. Within OPEC, by contrast, there were clear rifts. Counteracting the efforts of Kuwait, Iraq and Saudi Arabia to limit output and target the supply of selected western countries, non‐Arab countries such as Nigeria and Indonesia and large reserve holders such as Iran actually increased their production during the embargo (Crane et al., 2009, pp. 27 ff.; Taylor and Van Doren, 2003). Further, Saudi Arabia, while certainly being part of the Arab coalition launching the embargo, from the onset tried to ensure that OPEC/OAPEC policies would not damage its long‐term relations with its key consumers, notably the US. This policy was clearly the result of Saudi Arabia’s desire as a major reserve holder of oil to keep major consumers ‘hooked’ on its core product. Smaller producers and reserve holders such as Libya, by contrast, have particularly been most hawkish in OAPEC’s attempts to impose higher prices on consumer countries, reflecting their interest in pushing for high oil prices in the short term in order to maximize overall revenues from oil extraction. Still, since OPEC was controlling approximately 70 per cent of the market at that time, it was clearly considerably easier to organize collective action than a few years later, when market supply outstripped demand and prevented OPEC members from collusive behavior.

The subsequent soft market of the 1980s (and partially the 1990s) reflected a typical Cobweb cycle, as the price hikes of 1973 and 1979 had created significant incentives for producers inside and outside OPEC to ramp up production. Newly developed fields in the Gulf of Mexico or the North Sea made countries such as Mexico or Norway significant oil market players, while the Soviet Union became the world’s largest producer (though not net exporter). In addition, consumer countries made great efforts to reduce the oil intensity of their economies. As a consequence, OPEC started rapidly losing market share, with non‐OPEC production surpassing OPEC production in 1981 (see Figure 1). With an oil market turning soft, OPEC’s ability to ‘speak with one voice’– an option characteristic of a seller’s market as it enables the organization to satisfy the interests of its rather hawkish members without hurting the interests of the more dovish ones – disappeared for good. Individual interests and strong incentives to defect from quota goals for self‐benefit clearly trumped collective interests in a shrinking overall pie (see Figure 2). Particularly smaller reserve holders such as Libya or Algeria consistently kept a hawkish attitude, both exceeding quotas and pushing for high prices.⁵5 Iran and Iraq, though high reserve holders, also increased production significantly throughout the 1980s. Yet they acted under conditions of war, that is, they had an incentive to push for both higher prices and individually higher outputs.
Saudi Arabia, in response, created an oil glut and used its spare capacity as a means to discipline defecting cartel members (Gately et al., 1986). In sum, OPEC’s inability to keep and manage the relatively dominant market position it had gained during the 1970s led to the 1986 ‘countershock’, and turned OPEC from a price maker into a price taker.

Figure 1

OPEC and non‐OPEC crude oil production (1,000 b/d).
Source: OPEC.

Figure 2

OPEC production vs quota.
Source: EIA; calculations by James Smith, Southern Methodist University.

In 2008, finally, observers were quick to blame OPEC – in addition to anonymous ‘speculators’ of all kinds – for sending the oil price to an all‐time nominal high of almost US$150 per barrel. However, it was primarily non‐OPEC‐related factors that in fact contributed to the price hike. Among them were demand‐side factors such as the stellar rise of emerging economic heavyweights such as China and India; supply‐side factors such as upstream projects moving into deep sea water such as the Arctic, which implied higher capital costs; indirect factors such as soaring input prices of drilling technology, skilled labor and equipment;⁶6 As CERA’s Upstream Capital Costs Index (UCCI) reveals, finding and development costs in oil and gas rose by more than 200 per cent between 2005 and 2008 only, adding a significant cost chunk to crude supply. See http:ihsindexes.com/ucci‐graph.htm [Accessed 21 April 2010].
natural disasters, such as Hurricanes Katrina and Rita; political events, such as the 2002 PdVSA strike in Venezuela, the 1996 Libya Iran Sanctions Act (limiting foreign investment in Iran’s oil industry) or civil war in Iraq following the US‐led invasion of the country (restricting supply increases); and a looming American housing crisis, leading to major shifts in investment portfolios towards commodities.⁷7 In that, and counter to conventional claims that speculators are to blame for the 2008 price hike, it was investors with rather long‐term time horizons that, ironically driven primarily by the looming housing market crunch, searched for a safe haven and moved into oil, which contributed to driving prices up.
OPEC clearly benefited since the emerging sellers’ market enabled the cartel to satisfy the interests of its traditionally hawkish members (Iran and Venezuela, among others); yet OPEC did not drive these market developments. The fact that OPEC members were now able to align their preferences more effectively was simply due to a clear limit on the excess capacity of most OPEC members. In other words, even if members wanted to cheat, they simply were unable to do so.

2. OPEC in the 21st century: new competitors and climate change

Since the price explosion of 2008 and its subsequent collapse to US$30 per barrel, the oil price picked up again in late 2008 and since then has hovered around US$80 before rising to US$120 in the aftermath of the turmoil in the Arab world. And while the financial crisis that started in 2008 certainly did have its impact on oil consumption, demand reductions are likely to remain temporary and restricted to the Organisation for Economic Cooperation and Development (OECD) world only. According to all major forecasts, future increments in global demand will exclusively stem from non‐OECD countries, notably China and India (IEA, 2010, p. 105). In sum, by the end of the first decade in the new millennium, the sellers’ market is clearly back, which in theory should strengthen OPEC’s ability to organize collective action. Yet, in addition to the general difficulties that OPEC is confronted with in effectively manipulating output and prices on the global oil market, two additional factors are likely to undermine OPEC’s pull on the market in the years ahead: the role of independent producers such as Russia and Brazil, and climate change.

OPEC and independent producers

Since its creation, OPEC has tried to reach out to oil producers that remained outside the cartel. It has recently reinforced these efforts, particularly with regard to Russia and Brazil. Russia produced around 10 mbd in 2009 and thus overtook Saudi Arabia as the world’s number one producer. Brazil produced much less (2 mbd) but is considered a major reserve holder due to recently discovered offshore reserves (BP, 2010). If successful, OPEC’s charm offensive is likely to yield some obvious gains for the organization. Besides control over a larger share of global reserves, an enlarged membership would also imply that fewer producer countries remain non‐cartelized, resulting in less competition with producers outside the organization.

In order to entice the oil heavyweights to join OPEC, the organization has adopted various strategies. Most importantly, it granted observer status to Russia in 2000, marking a new level of OPEC’s long‐standing outreach activities towards Moscow. The Russians, in turn, have greeted this upgrade with more frequent and high‐level participation in OPEC meetings (Businessweek, 2008; Middle East Economic Survey, 2008; OPEC, 2009a). In 2003, Saudi Arabia’s Prince Abdullah visited Russia, which was the first visit of a Saudi head of government in decades and underlined the importance that Riyadh, the de facto leader of OPEC, ascribes to Russia. Moscow itself has more recently also openly played with the idea of joining OPEC (Bloomberg, 2008). Further, Iran has recently brought up the idea of inviting Brazil to join the organization (Reuters, 2008). OPEC has backed this advance, as have – at least initially – public officials in Brazil. President Lula’s public contemplations on Brazil joining the oil cartel even inspired markets and temporarily lifted oil prices in 2008 (The Times, 2008).

For both Russia and Brazil, however, the downside of joining OPEC clearly outweighs the upside. Russia, while an important producer, is not a large reserve holder of oil. It would therefore enter the organization as a junior partner, not on a par with Saudi Arabia. Brazil, by contrast, still needs the time to develop fully, especially for its offshore fields. Further, both countries are clearly better off staying with their current, comfortable situation as ‘ad hoc’ members. During times of high oil prices they can fully reap the benefits of acting as ‘independent producers’, not bound by production quotas. In a bearish market, they can align with OPEC members in production cuts in order to bring the market back to acceptable price levels. Both countries can even choose to free‐ride on OPEC efforts to bring the market back into contango. While leaving the necessary production cuts to OPEC, they can retain unchanged production levels, thus shouldering none of the costs but benefiting from a higher price. In fact, as historical evidence suggests, Moscow has pursued this very strategy, aligning with OPEC only in cases of severe market situations such as in 1998 and successfully pushing prices from a depressed market back towards acceptable levels (Kohl, 2002). Although officially paying lip service to enhanced cooperation, both Moscow and Brasilia have recently rejected full membership (Reuters, 2009; Wall Street Journal, 2009). All in all, the prospects of OPEC reaching out to major competitors on the market seem rather thin.

OPEC and climate change

While competitors outside the organization are not likely to put OPEC’s existence in question, another issue may indeed prove life‐threatening for the cartel: climate change. Almost 20 years after the publication of the first Assessment Report of the Intergovernmental Panel on Climate Change (IPCC), measures to reduce the use of fossil fuels have now started in earnest. Climate change policies are about to make OPEC’s life more difficult along a number of fronts. Most importantly, the transition to a low‐carbon economy is likely to render oil markets harder to predict, making it more difficult for OPEC to structure long‐term policies.

To be effective, policies designed to reduce greenhouse gas (GHG) emissions will have to impact demand for carbon‐intensive oil. Major OECD economies have already taken steps in that direction. In the US, for example, consumption of biofuels, a direct competitor to oil, is targeted at 36 billion gallons by 2022 according to the 2007 Energy Bill. The EU has defined a blending rate of 10 per cent by 2020 (Zarrilli, 2010, p. 87). Even China has taken steps in this direction, setting a target of 15 per cent of biofuels in total transport fuel consumption by 2020 (Latner et al., 2006). In addition, both the EU and the US have put in place policies to make car fleets more fuel efficient, introducing more rigorous Corporate Average Fuel Economy (CAFE) standards, closing legal loopholes for gas guzzlers such as SUVs or imposing transport‐related CO₂ emission caps, such as Germany’s regulation forcing car makers to limit emissions to 120 grams of CO₂ per kilometer. There are also serious ongoing efforts to establish carbon cap and trade mechanisms. Cap and trade systems have a comparable effect to a carbon tax, discouraging the use of hydrocarbons. Ideally, such a system would be established on a global level. Yet, as the Copenhagen negotiations on a global carbon regime failed at the end of 2009, concrete steps now rely on cap and trade schemes at regional and national levels. The EU, for instance, established a carbon market in 2005, the European Union Greenhouse Gas Emission Trading System (EU ETS), while the US has abolished similar plans. As a result, no level playing field for carbon pricing exists on a global scale, which is likely to give unclear price signals to markets and investors.⁸8 For an overview of currently existing carbon markets see Capoor and Ambrosi (2009). For a discussion about the political economy of cap and trade markets see Witte et al. (2009).

Hence, while the aforementioned efforts are designed to reduce fossil fuel consumption, some of the measures also have the potential to increase uncertainty with regard to future consumption patterns, energy choices and, as a corollary, global investment needs. To be sure, recent policy initiatives to reduce the carbon intensity of economies are unlikely to put a significant dent in demand for oil in the near future. The good news for OPEC is that oil will be an integral part of the global energy balance for the next couple of decades – only the consumer structure will look fundamentally different. All future oil demand increases will now come from non‐OECD countries, and particularly from Asia. Even in what the International Energy Agency (IEA) calls the ‘New Policy Scenario’– accounting for already planned but not yet implemented climate policies – China’s consumption is projected almost to double between 2009 and 2035, to more than 15 mbd. Exhibiting even higher annual growth rates, India’s oil consumption is set to grow from 3.0 mbd to 7.5 mbd in the same period of time (IEA, 2010, p. 105). Yet, what makes life more difficult for OPEC is that it is uncertain at what pace change will occur, and what impact climate policies will have on the price of oil. Depending on the determination of China and other emerging powers to delink economic growth from oil consumption and decarbonize the transportation sector, demand will differ considerably two decades down the line. And depending on the success of emerging regional carbon reduction regimes and the degree to which they are effectively linked to each other, the price of carbon will vary, as will the price of oil. Both ‘wild cards’ will impact investment needs and timelines of planned upstream projects. Targeting price bands in oil effectively – a key goal OPEC has put forward with regard to oil market stability – will therefore prove more difficult than ever.

3. OPEC in global energy governance

Building on the analysis in the previous sections, we now look ahead and ask what constructive role, if any, OPEC could play in future global energy governance, especially with regard to mitigating oil market risks and policies designed to foster a low‐carbon energy transition. The focus of this section will be on OPEC’s position in climate policy regimes, and on OPEC’s role in new institutional contexts such as the IEF.

OPEC’s role in low‐carbon energy transition

Since fossil fuels are not only the core export product of OPEC members but also the organization’s sheer raison d’être, the oil club is naturally wary of efforts aimed at reducing the global consumption of oil. This has of course not prevented OPEC from being very active in climate negotiations in the UN Framework Convention on Climate Change (UNFCCC). Yet, and perhaps not surprisingly, the organization has by and large abstained from playing a constructive role. By contrast, as several observers argue, OPEC has openly used the G77 (many of which are OPEC members) as a vehicle to disrupt and torpedo the Kyoto negotiations (Barnett, 2008; Depledge, 2008; Dessai, 2004). In essence, OPEC’s strategy towards climate policies centers on two main goals: compensation and assistance in adaptation.

In fact, to this day OPEC refuses to acknowledge that fossil fuels – and specifically oil – are key to the climate change problem. Instead, OPEC claims that oil as such is not the culprit, but the industrialized countries that burn it (OPEC, 2009b, p. 3). Taking this logic even further, OPEC has argued that any planned regional or global carbon trading regime is likely to lead to a medium‐ or long‐term change in the energy mix of consumer countries – thus potentially endangering export revenues. Consequently, OPEC members have openly claimed the need for compensation in case consumers want to exit the carbon age (Barnett et al., 2004; The Times, 2009). In addition, OPEC has called for assistance to adapt to the negative effects of climate change. Indeed, some OPEC member states are quite exposed to these effects, not least a rise in sea levels of up to 88 cm, as projected by the IPCC. This would threaten, among others, the Iraqi Euphrates Delta, parts of the Emirates and the Niger Delta. The deltas in particular are heavily populated and, in the case of Nigeria, also host most of the country’s oil reserves and production. Already today, many OPEC members suffer from desertification, soil salination and other negative effects of climate change. Several OPEC members have already started to develop low‐carbon projects (such as Abu Dhabi’s Masdar City) or are signing up to projects based on renewable technologies linking electricity production with desalination (e.g. Algeria in the much‐debated Desertec project). But others are struggling with rapidly rising domestic oil consumption and a lack of readily available technologies to meet changing environmental conditions.⁹9 Domestic energy use will prove the biggest challenge for oil producers in the years to come, according to a Chatham House study (Mitchell and Stevens, 2008). For other pressing problems facing oil‐producing nations see, among others, Karl (1999); Sovacool (2010).
In light of this, OPEC has repeatedly stressed that it regards adaptation – rather than mitigation – as being at the core of global climate policies. However, according to OPEC’s interpretation, adaptation not only comprises financing projects related to rising sea levels, changes in agriculture or crucial capacity building among affected countries. It also includes assistance to oil‐exporting countries in their efforts to diversify away from a natural resource economy. OPEC was successful in driving home this point during the climate negotiations. Reflecting the developing countries’ general call for financial assistance in mitigating and adapting to climate change, the UNFCC has set up several support schemes for least developed countries (LDCs) and landlocked developing countries (LLDCs). One of these schemes, the Special Climate Change Fund (SCCF), which was established by the Marrakesh Accords in 2001, can also be used to finance diversification activities of oil exporters (Dessai, 2003).¹⁰10 See also Kasa et al., 2003.

Yet OPEC may need to change its position towards climate policies in the years ahead and become more proactive in low‐carbon policies – not for altruistic purposes, but in its own interest. In order to ensure that its member nations continue to reap economic windfalls from oil sales, the organization needs to find ways to prevent consumer countries from leaving the oil age for good. For this, it may not be enough to publicly favor adaptation over mitigation in climate policies. Instead OPEC as an organization will need to become part of the decision making on future energy demand patterns that affect its main export product. To hedge its own stakes, and avoid accepting that the world promotes low‐carbon technologies, OPEC will need to push for low‐carbon fossil fuel combustion technologies. Joining the world’s efforts toward low‐carbon energy transition would thus ensure that OPEC can co‐manage the process and influence the trajectory of low‐carbon policies. This would also enable OPEC effectively and legitimately to voice claims for burden sharing in the inevitable adjustment process that OPEC members will undergo. Consumer countries should therefore be prepared to expect a potentially more active OPEC in this regard, which is nonetheless clearly determined to keep oil as an integral part of the global energy mix.

OPEC’s role in producer–consumer cooperation

A key concern uniting both oil producers and consumers is price volatility. In many ways, oil price volatility is a bigger problem than high prices as such. In fact, as some would argue, it is primarily excessive price fluctuation – caused by recurring boom‐and‐bust periods in oil sector investments – which constitutes the real problem that requires an effective solution on a global level (Harks, 2010). The recent ‘roller coaster’ of prices hitting almost US$150 per barrel in June 2008 before dipping to US$30 and subsequently rising to almost US$120 in early 2011 again vividly illustrates this point. Overall, annual price variations have increased from a band of approximately US$5 in the 1990s to almost US$100 in 2008.

Such considerable price volatility is detrimental to both energy security and a low‐carbon future. Oil producer countries will only invest billions of dollars into finding new resources if they can anticipate a stable and sufficient return on their investment. In the same vein, shifting toward low‐carbon sources of energy requires planning security. Cumulative energy investment needs until 2035 are estimated at some US$33 trillion in a ‘New Policies’ scenario, the equivalent to almost 2.5 times the current US GDP (IEA, 2010, p. 77). Roughly a quarter of these investments need to go into the oil sector, mostly in upstream and mostly in non‐OECD countries (IEA, 2010, pp. 139f.).¹¹11 Note that, due to data constraints and differing methodological bases of the IEA and OPEC, it is difficult to determine the exact share of OPEC investments in overall investment needs. But cumulative investment needs in the Middle East may serve as a proxy.
The bulk of funds will need to come from companies, households and commercial investors. All of these desire a reliable, long‐term price environment. A predictable oil price would as such play a major role in fostering both long‐term energy security and climate mitigation efforts. Adding to this, both producers and consumers have another clear incentive to avoid massive price swings: as producers seek to smooth income streams and thus national budgets over longer periods of time, large price fluctuations add a high degree of uncertainty to budgetary planning and subject the national economy to significant shocks. A case in point is Russia, which had to default on its sovereign debt in 1998, largely as a consequence of a sudden and unprecedented decline in world crude prices. Similarly, consumers have an interest in oil price stability since it provides planning security and avoids price shocks that can have devastating macroeconomic consequences.

A strengthened producer–consumer dialogue would therefore go a long way toward enhancing the predictability of the notoriously non‐transparent oil market, and thus help to stabilize prices.¹²12 Data on production and consumption levels are notoriously scarce, partially due to adverse undisclosure policies of producers such as Saudi Arabia or consumers such as China. A separate article in this special issue deals with initiatives aiming at enhancing information on energy markets.
Yet, such a dialogue also presupposes the existence of strong and credible interlocutors on both sides of the table. On the output side, some level of market organization and coordination on production and investment is a crucial necessity for a functioning and stable market infrastructure. In that regard, a strong OPEC may be an important element in mitigating oil market risks. The same claim holds true for market coordination on the consumer side, clustered around the IEA.¹³13 A separate article in this special issue deals with the challenges the IEA is facing in integrating new consumer heavyweights such as India and China.
Effective organizations, able to organize collective action among their members and make them ‘speak with one voice’, would be more than desirable for the stability of the global oil market. In that respect, instead of regarding OPEC as an adversary, the organization should be seen as a natural candidate to partner with consumers organized in the IEA, in joint efforts to smooth oil market fluctuations and provide for long‐term planning security on both sides – one of the key features of an effective global energy system.

In fact, OPEC–IEA talks started a decade ago, and have more recently been reinforced within the IEF, a nascent organization aimed at facilitating global producer–consumer dialogue. The first meeting of the IEF was convened in the wake of the first Gulf War in 1991. The forum then became more institutionalized when, at the initiative of Saudi Arabia, a permanent secretariat for the IEF was established in Riyadh in 2003. While organizationally weak, the IEF could be a potent player at least when considering its membership: it is constrained neither to OPEC nor to IEA members and thus brings significant non‐OPEC producers such as Russia and Brazil as well as emerging consumers such as India and China to the table. The IEF also involves energy companies through its Business Forum, an event that takes place prior to IEF meetings and provides for a platform of exchange between ministers and executives of the energy industry. The fact that the IEF has not evolved into a fully fledged international organization and hence retained a certain degree of ‘informality’ may, as some observers have noted, prove to be its key strength. Since the IEF has not (yet) been pushed into the straitjacket of a formal international organization with all its rules and protocols, the forum remains flexible and provides a ‘safe space’ for constructive dialogue (Harks, 2010). A visible and significant outcome of this dialogue is the launch of the Joint Oil Data Initiative (JODI) in 2005 which is designed to address the lack of transparency in the global oil market by collecting and sharing key data on reserves and production. In sum, while progress has been slow, the very fact that producers and consumers have both agreed that there is a dire need to enhance transparency is a good sign. Further steps need to be taken.

Overall, the creation of the IEF – regardless of how successful it will be in the years ahead – signifies some important key facts about the future global oil market. First, key OPEC members such as Saudi Arabia have realized that OPEC by itself is not capable of bringing about the type of market stability that they strive for in order to ensure long‐term price (and hence demand) predictability. The nature of the global oil market with its diverse set of producers and the looming threat of climate change makes singlehanded control of the market by OPEC a distant if not impossible objective. Especially, producers with large reserves and long‐term production ambitions thus need to find alternative ways of balancing the market.

Second, major consumer economies have understood that collaboration with producer countries is more important than ever, partly as a result of the diminishing importance of international oil companies (IOCs) as sources of supply. While the IEA in many ways was created by western oil consumers as an institutionalized response against OPEC, IEA members have recognized that effective governance of the oil market requires collaboration and a balancing of interests. As there is no new North Sea in sight, consumers have little choice but to find suitable ways to engage the key producers and their national oil companies (NOCs) in a dialogue. Market forces alone, and all‐out competition and confrontation between producers and consumers, are unlikely to deliver the type of stability and predictability needed by consumers to grow and to leverage investment in climate‐friendly technologies.

Conclusions

This article has examined the key factors that have impacted OPEC’s performance since the creation of the cartel, and specifically its role in regulating output and prices in the global oil market. As the discussion has revealed, OPEC’s ability to control the oil market and oil prices has clear limits, a result of both internal collective action problems and external factors such as the rise of new producers. After having reached a zenith in the 1970s, OPEC’s power has declined and the organization has since been driven more by the market than the reverse. The article has also identified some key trends that are likely to determine OPEC’s effectiveness in the years ahead, including the need to find a strategy to engage in climate change policies. Such policies, as the discussion has shown, do not put in question absolute oil consumption; rather, they may negatively impact long‐term planning security and hence the ability of OPEC to target price bands and smooth the oil market. In this regard, the possible re‐emergence of a strong sellers’ market at least in the medium term does not necessarily imply good news for OPEC’s future performance as a supply‐sided cartel. OPEC’s failed efforts to reach out to major present and emerging competitors on the oil market add to this problem.

As the discussion has also shown, much of the debate on OPEC – focusing on the negative role the supposed cartel plays in global energy governance, for example by continuously raising prices, by extracting monopoly rents and by refusing to engage in a serious dialogue on climate change – is one‐sided. Instead it was argued that such discussions overlook OPEC’s potentially useful role in managing key oil market risks. In fact, from the perspective of global energy governance, a stronger OPEC may actually be a very desirable partner for oil consumers. It would have an important role to play to combat price volatility, a key concern for both producers and consumers. A more predictable oil price would also facilitate the energy transition toward a low‐carbon future. And it would help to align some of the consumer countries currently exhibiting a more mercantilist stance to global oil with a more institutionalized market approach. For such coordination, the IEF may be most appropriate, and OPEC would certainly have a role to play in it.

Author Information

Andreas Goldthau is Associate Professor at the Department of Public Policy of Central European University (CEU), Budapest. He is also a Fellow with the Global Energy Governance programme of the Global Public Policy Institute (Berlin/Geneva). Having worked at think tanks such as the RAND Corporation before joining CEU, Dr Goldthau combines experience in both academia and applied policy research. His academic interests focus on energy security and on global governance issues related to oil and gas. Recent books co‐authored or co‐edited by Dr Goldthau comprise Dynamics of Energy Governance in Europe and Russia (Palgrave, forthcoming in 2012), Global Energy Governance: The New Rules of the Game (Brookings Press, 2010), Imported Oil and National Security (RAND, 2009) and OPEC: Macht und Ohnmacht des Oelkartells (Hanser, 2009).

Jan Martin Witte is a co‐founder and Fellow of the Global Public Policy Institute (GPPi). He is based in Kampala (Uganda) and serves as a senior project manager for the Kreditanstalt für Wiederaufbau (KfW). Jan Martin’s work experience includes consulting and research assignments at the Brookings Institution, the World Bank, the United Nations Development Program (UNDP) and the United Nations Office for Project Services (UNOPS). He has published widely on issues of energy policy, international development, UN reform, global governance and transatlantic relations, most recently Global Energy Governance: The New Rules of the Game (Brookings Press, 2010), OPEC: Macht und Ohnmacht des Oelkartells (Hanser, 2009) and Transforming Development? The Role of Philanthropic Foundations in International Development (GPPi, 2008).