Does the Market Need OPEC/OPEC+?

Does the global oil market need management? Why or why not? What will happen if OPEC/OPEC+ are dissolved?

Dear Subscribers:

All eyes are on the much-anticipated meeting of OPEC/OPEC+ on Thursday, November 30. You have already received two reports over the weekend on what to expect from this meeting. We Will post more on the impact of the possible cut soon. For now, we are reposting this article that we published in the past: Does the Market Need OPEC/OPEC+?

We will hold an X Space tonight at 8:00 PM US CT to discuss the forthcoming OPEC+ meeting. Here is the link:

OPEC+ and the potential for a price war or a bigger cut?

The oil industry, just like any other extractive industry, is capital intensive with its costs mostly being sunk cost, while the operating cost is relatively small.  During a period of an economic downturn and very low oil prices, producers focus on the operating cost. They continue to produce despite the hefty losses. As history shows us, the result is cut-throat competition and a waste of the world’s scarce resources.

Extreme Volatility Hurts Producers and Consumers

High oil price volatility hurts both oil producers and consumers. It reduces global economic growth— which is the source of oil demand growth— and job growth and increases unemployment rates in oil-consuming countries. With high price volatility, industries, and various service companies cannot efficiently plan their expansions. They cannot even achieve the optimal allocation of their budgets and resources.  Therefore, high oil price volatility leads to a waste of resources, higher costs, and a deterioration of efficiencies in oil production and consumption.   

Historical evidence since the commercialization of the oil industry in 1859 indicates that the cost of high price volatility is very high for both producers and consumers.  It also shows that the two always want to reduce volatility and achieve some sort of price stability in the oil market. 

The history of the oil industry reveals that oil prices experienced several periods of high volatility and relative stability.  Relative stability was achieved only when the oil market was managed in one way or another.  

Figure (1) below illustrates this fact by showing nominal and real prices stable during periods of market management, while volatile when markets were not managed. The increased volatility during the OPEC era is explained below and the main takeaway is that without some management from OPEC members, the market would have significantly been more volatile.  We disagree with claims that volatility increased during the OPEC era because of the role played by the group.