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Thursday, May 1, 2003

OPEC Sells Us Oil Because It Likes Us?

Jerry Taylor is Director of Natural Resource Studies at the Cato Institute.

Slavish devotion to common but wrong-headed ideas about economics is never more in need of exposure than when the subject is oil and the Persian Gulf. Here wrong-headed ideas about economics can get someone killed.

But there they were on full display last January in the New York Times, under the title “Axis of Oil,” when an editorialist stated, “Our fortunes are tied to the good offices of the big [petroleum] producers three decades after the oil shocks of the 1970′s.” The editorialist takes from this the need for the feds to do more to encourage/mandate energy efficiency. Foreign-policy elites take from this the need to keep authoritarian producer-states happy with the United States of America, which usually entails foreign aid, deference to their geopolitical interests, direct and/or indirect U.S. military commitments, and rhetorical support for the thugs who make life miserable for the now-famous denizens of “the Arab street.”

However, the argument that the only thing standing between us and a horrific, 1970s-style oil price shock is the good will of Persian Gulf oil producers is dangerous nonsense—the kind of nonsense that some think largely responsible for our present life-and-death struggle with al Qaeda.

The fact is that oil producers make decisions regarding how much petroleum to bring to market based not on how they feel about the West on any particular day, but on how to maximize revenues to their treasuries. The producing states’ self-serving representations to the contrary do not constitute evidence that anyone should take seriously.

The truth of that observation was settled conclusively in an exhaustive review of OPEC’s record over the past several decades by MIT economist M. A. Adelman (see Genie Out of the Bottle: World Oil Since 1970). Adelman finds that never once in OPEC’s history has the cartel or any member in it left money on the table to pursue some political objective. For instance, when the Ayatollah Khomeini kicked the Shah out of Iran in 1979, the oil kept flowing. When U.S. bombs rained down on Libya’s Moammar Gadhafi in 1986, the oil kept flowing. We had to impose an embargo on Iraq’s Saddam Hussein to get him to stop selling oil to the world market. And Castro Mini-Me Hugo Chavez labors mightily to get the oil flowing again to his hated enemies in the capitalist world.

Anti-American regimes stand to gain nothing by holding back oil from the world market. Where else would they find the revenue to fund terrorism or other “martyrdom operations” in the Middle East? To pay for their police states? To beef up their militaries? To build dozens of mansion/temple/monuments to themselves? To buy off opponents of their regimes?

Meanwhile, ostensibly pro-American Persian Gulf regimes have frequently turned into the fiercest price hawks of all. Take, for instance, the Saudi government, a group of potentates who supposedly have a “special relationship” with the United States. The Saudis took the lead in organizing the 1973 oil embargo and production cutbacks, sending oil prices from $2 a barrel to $7 a barrel. In 1974, despite promises to the contrary, they initiated another round of production cutbacks and tax hikes, sending oil prices to $11 a barrel. In 1978 OPEC, under Sheik Yamani’s direction, quietly established a goal of raising the price of crude oil to just below the cost of producing synthetic liquid fuels, which suggested a price of $60 a barrel (a whopping $136 in today’s terms). They began their campaign in January 1979, when a series of Saudi production cutbacks set off the second price explosion, culminating in prices of $34 a barrel ($60 a barrel in today’s money) by October 1981.

The only reason that crude oil prices never reached the levels dreamed of by our Saudi “friends” was the advent of independent oil commodity markets (particularly futures markets) and, in the words of the Kuwaiti oil minister at the time, because of “a consistent underestimation of potential supply and a consistent underestimation of the consumers’ ability to adjust their demand [which] . . . led OPEC to overestimate their strength.”

Prices Collapse

A price war followed, and after desperate Saudi attempts to stop it failed, Vice President George Bush traveled to Riyadh in 1986 to implore the Saudis to arrest the price slide because—I kid you not—the administration publicly feared the impact of cheap oil on the world economy. (Privately, it was probably more afraid of the impact on domestic producers, who were quite near death’s door by this time.) Since by this time the Saudis were feeding the collapse to inflict pain on competitors who needed a lesson in production discipline, they naturally responded to Bush’s pleas by . . . increasing output still more.

Once the price war was over, the Saudis encouraged Iraq to put the screws to Kuwait to punish that country for its history of cartel-breaking overproduction. According to Adelman, only when “the enforcer turned robber” in 1990 did Saudi Arabia reverse course and call for Western intervention. But even then, the Saudis fed the resulting price spike by refusing to increase production for over a month, and their refusal to fully tap their excess production capacity prolonged the economic damage.

Blind to this record of predation, the editorialist argues that “For now, at least, OPEC is helpfully trying to keep prices between $22 and $28 a barrel. It knows that allowing prices to hover above the $30 mark hampers global economic growth.” But what does the cartel care if the global economy goes into the tank? After all, their fattest economic years coincided precisely with the global economic stagnation of 1973–1981. These regimes typically have nothing else to sell to the market and little investment abroad. A slump bothers them not in the least.

The truth is that the cartel is well aware that sustained prices above $30 threaten to bring a flood of non-OPEC oil and increased interest in conservation. Those are the two hammers that nearly killed the cartel for a decade beginning in the mid-1980s. Of course, better to tell the gullible that filial commitment to the West explains cartel management rather than cold economic self-interest.

Adam Smith once wrote that it was not from the beneficence of the butcher, the baker, and the brewer that we got meat, bread, or beer. Likewise, it is not from the beneficence of the OPEC cartel that we get gasoline. Believing otherwise is dangerous nonsense.