Econ 200 A

Autumn 2014

OPEC Tension and Plummeting Oil Prices

Alex Menendez
October 14th , 2014
Econ 200 A, Autumn 2014
Oil has been perhaps one of the most heavily scrutinized commodities to ever be bought and sold. It is common
knowledge that it consumes a hearty portion of a nations transportation infrastructure, utilities ,and military
budget, and now it seems that oil is driving the members of the Organization of Petroleum Exporting
CountriesOPECinto a mad frenzy to seize the greatest share of the oil market. With a growing trend toward
alternative sources of energy such as nuclear energy, natural gas, and coal, market analysts are now wondering how
the race to remain competitive in the oil market will affect OPECs members.
Description / Summary:
An October 13th article published by The New York Times outlines the global trend of quickly-falling oil prices
and tension among OPECs constituents to seize the largest possible portion of the oil market. Currently, the
average price for gasoline in the United States is approximately $3.20 per gallon, which is roughly 9 cents below
where oil prices stood one year ago. One may wonder why so much attention would be given to falling oil prices;
yet at the same time oil prices are falling, tension is mounting among OPEC constituents. Not only is the division
in OPEC to blame for oil prices summarily plummeting in recent months, but one also has to be wary of global
energy trends, specifically those adopted in the United States, Europe, and Asia. Together, all of these factors push
the price of oil downward, thus affecting the entire market for oil.
Analysis:
As autumn approaches, one would suspect that declining fuel prices are to be expected, as the overall demand for
driving begins to diminish leading up to the winter months where driving is both a danger and an inconvenience
(see figure 1). A closer analysis of current fuel prices, however, would suggest that the plummeting price of oil
comes by way of more than just the approaching holiday season. From a microeconomic perspective in which we
work with only two variables, it becomes rather tempting to suppose that oil prices are dropping due to only one
other factor, such as a larger supply of oil. This, while partly trueaddressed later in the analysisis not the only
culprit. Lets approach all of the culprits individually, and ultimately combine their effects to gain a more thorough
idea of why it is that the oil market is behaving as it currently is. In Europe and Asia, arguably the frontrunners in
alternative energy exploration, the transportation and utilities markets are shifting away from oil, as evidence
outlined in the New York Times article suggests. The shift away from oil is primarily led by the increasing
popularity of nuclear power and natural gasor in our case substitutes. From a strict oil perspective, a shift
away from oil is bad 1 (refer to figure 2); what exploring alternative energy promotes is a decrease in the
consumption in oil, reducing the share of the oil market held by its leading producers. Who are these producers?
The producers outlined in the article are the members of the Organization of Petroleum Exporting Countries,
alternatively known as OPEC. As some of the largest producers of oil in OPEC, Saudi Arabia, Iraq, and Iran
remain ever wary of global trends that could potentially stunt their share of the market. Coincidentally, these
harmful trends are the exact ones aforementioned in Europe and Asiaas European and Asian consumers bow
out of the oil marketremove their demandin favor of adopting alternative modes of energy, the profit to be
made and the share of the oil market to be owned by Saudi Arabia, Iraq, and Iran decreases accordingly. Thus,
OPECs leading names are faced with a decision outlined in any microeconomic textbook: allow customers to slip
away in favor of more efficient, more sensibly priced substitutes, or take measures to remain competitive? The
decision is quite clear: remain competitive using the most effective strategy known to attract customers back into
the marketcutting prices, and let it remain in a freefall (figure 3). At this point, there may be a bit of confusion,
as Ive spent the entire article thus far discussing European and Asian energy markets, while the original intent was
to explain plummeting U.S. fuel prices2 . Of course, OPEC does export to the United States (not nearly as much,
for reasons that will be explained) and their haggling of prices amongst themselves is one explanation for falling
fuel prices (using a very classical model of supply and demand), yet the drop in U.S. oil prices can more adequately
be explained by the most recent shale boom. According to the article, U.S. oil productionon its ownhas
reached nearly 9 million barrels per day, thus shifting our demand for foreign oil left, and shifting our demand for
domestic oil right. Thus, we see thatin foreign marketsconsumers are pining to move toward alternative
sources of energy, forcing OPEC into a scramble into how to salvage the largest share of the market. In domestic oil
1 The

widely held opinion is that, no, it isnt, but in microeconomics, we always isolate our perspective to just one angle.
keep in mind that this paper excludes a very obvious factor in the fluctuation of U.S. oil pricesmilitary involvement in the
Middle East. Recently, we saw oil prices shoot upward upon the offensive launched against the Islamic State.
2 Also

Econ 200 A

Autumn 2014

markets, however, the focus is still on oil, yet is concerned with exclusively U.S.-produced oil, thus adding to the
urgency within OPEC to secure a large portion of the global oil market. What we can gather from the analysis is
that numerous factors are driving down the price of oil: namely, alternative energy in foreign markets, new
production techniques in domestic markets, and an all-out price war among OPECs constituents. Thus, we can
rightfully conclude that the toppling of oil prices is largely due tooddlya lack of interest in foreign markets and
an increase in interest in domestic markets; both of these being overseen by a high-strung OPEC.