HARSH AGARWAL 12A IA COMMENTARY FOR OPEC OUTPUT CUTS

PRACTICE IA

OPEC (Organisation of petroleum exporting countries) is an organization that tries and helps regulate the oil producing countries and the oil market and ensure an efficient and proper oil supply to their consumers. The oil industry doesn't consist of many producers but has millions of potential consumers. Since there are not many firms competing but there is more than one firm in the market the oil industry can be classified as an oligopoly. An oligopoly is basically an industry where there are a few large firms which take up majority of market share. The oil industry is also an oligopoly because only a few countries has oil producing capabilities as it is a natural resource and only available to a few countries naturally. The cut in production of oil will decrease the supply of oil in the market which will lead to the supply curve shifting to the left which will lead to an increase in the price of per barrel. This will lead to more stable prices in the industry according to the OPEC. In the long term oil prices will always be rising as it is a scarce resource which is quickly depleting. The supply curve will shift from SS to S1S1 causing the price of the product to rise and quantity to fall. As seen on the graph the fall in quantity isn't large as the demand of oil is inelastic even though the price has risen by a significant amount. This is also due to the demand curve being steep. SHIFT IN SUPPLY IN THE MARKET OF OIL

This particular situation could also be described as a collusive oligopoly as they have all decided to decrease production to increase the market price of their product and also to help stabilize the market. This is also a formal collusion as OPEC in an official organization. This type of situation also be seen as long term monopolization of the market (by the few dominating firms)

HARSH AGARWAL 12A

PRACTICE IA

as even though there is more than one firm competing in the market they have still managed to set the market price according to their preference. The short term effects of this situation will be that the total revenue for the producer will increase as oil is an inelastic necessity and an increase in prices won't lead to a considerable fall in demand. The short term effect for the consumer will be that their disposable income will fall as they will still keep buying oil products at a higher price as it is a necessity. The fall in disposable income will also lead to a fall in demand for other products. The long term effect would be that if the US dollar weakens against other currencies they import would be more expensive for them and other nations that trade using the US dollar. This would lead to a rise in the prices on the oil. The rise in oil prices will also increase the transportation costs for firms that import and export and also need transportation domestically for their raw materials and products. This in turn will lead to another rise in the prices of goods and services for the consumers.

The graph above shows the abnormal/ super normal profits for the firms that they'll be experiencing after the cut in output. The point where marginal revenue intersects marginal costs is lower than the average costs which shows that the firm is making profits. The revenue from that point to the average revenue is profits as all costs have been covered. Since OPEC control the price of the oil they can sell it a price they wish to and manage to have abnormal profit. The word abnormal is used because this wouldn't have been possible if the firms were in perfect competition. In this situation the producers will be more willing to supply as they would be receiving a higher total revenue. The pre mediated decrease in output will benefit the producers and won't be good for the consumers. This in turn will have a sort of a chain effect on other products too as its affects the disposable income and oil is a cost for many firms and a rise in the price of oil will lead to a further rise in the prices of their products as their costs of production would have risen. Though

HARSH AGARWAL 12A

PRACTICE IA

these measures seem necessary as currently the oil market is unstable and needs to be regulated.

WORD COUNT: 748

Bibliography:
Oxford IB Course Companion by Jocelyn Blink http://karimedalla.wordpress.com/category/joo-nyahh/hl-economics/page/2/ http://www.dineshbakshi.com/ib-economics/microeconomics/161-revisionnotes/1771-oligopoly