INTERNATIONAL ENERGY POLICY
International Energy Policy
Essay: On the 20th of July 2015 the United Nation Security Council members voted unanimously to lift the sanction against Iran that started with Resolution1696 in July 2006.This has had political, economic, social, technological, environmental and legal consequences on Iran. Over this period, the contribution of Iranian oil into the global market has significantly dropped by over 50%.
“Using the Iranian experience as the benchmark for your Report, critically evaluate the impact of sanctions on any other OPEC oil producing state’s energy policy.”
OPEC is one of the oil cartels that run the petroleum markets (Carlson, 2014). They have the power to determine the price that petroleum trades at and who the producers of the product are. In essence, they call the shots. It is clear that OPEC has the power to impact the economic stability of a country. Iran experienced this firsthand when sanctions were placed against them which led to a fall in the economic positioning of the country. So why put sanctions? What are the goals that OPEC aims to achieve when such measures are exercised? OPEC is controlled by the most powerful nations in the world such as the United States, the use of embargos and sanctions is a strategy that the group employs to counter the use of oil as a weapon to combat Western foreign policy or the United States (Cordesman & Al-Rodhan, 2005). From the impact that this had on Iran, it is clear that embargos and sanctions have devastating effects on the global economy when imposed (Cordesman & Al-Rodhan, 2005). When a major oil producer is sanctioned, oil prices are affected and the global economy as a whole. The cost of living increases and the gap between the rich and the poor widens.
Ever since the oil price shock of 1973, OPEC has received a great deal of attention from both the academic and political arenas (Barsky & Kilian, 2004). There have been multiple interpretations of the nature of the body and the influence it has over global oil prices. The debate has been noted to largely focus on the restrictions that the body imposes, as these seem to be its main strategy for domination of the oil market. What is clear is that a number of divergent views exist concerning OPEC’s ability to influence pricing in the oil market (Barsky & Kilian, 2004). It is noted that the perception concerning the role that OPEC plays in a number of areas has been undergoing a shift. Areas where it was previously thought to have little influence over are now some of the areas where it appears to now greatly impact as far as price is concerned.
Development of the oil pricing system
The history of the oil industry is centered on the discovery of oil in the Middle East in the early 20th century. At the time, OPEC member states did not play a role in the production or pricing of crude oil. The income generated from the industry for the different nations was based on the ‘posted price’ of the crude oil (Fattouh, 2007). As the posted price was a fiscal parameter, it did not respond to supply and demand and as such had no power over the industry as a whole. However, prices such as long-term contract prices and spot influenced the industry. Chief among them was the influence of seven multinationals that controlled the industry who were referred to as the Seven Sisters. The result was that oil trading was the preserve of these multinationals that traded the commodity among themselves (Adelman, 1980).
However, changes in the oil market in the late 1950s such as the emergence of independent oil companies (Adelman, 1982) with access to crude oil that was outside the control of the seven sisters started to challenge the influence of these multinational companies. Concurrently, OPEC member states lacked the strength to change the existing pricing regime. The early 1970s marked a shift in the oil pricing system (Adelman, 1982). Thus led to the price setting power changing from the multinationals to the OPEC. One of the factors that led to this change was the tight supply-demand conditions which emerged during this period. There was a sudden increase in the demand for oil supply which was met by OPEC. In 1973, the six member states of OPEC proposed an increase in the price of oil to the multinationals but negotiations proved unsuccessful (IEA, 2012). This led to the OPEC members making a unilateral announcement in October to increase the price of crude oil. In December of the same year, OPEC raised the price further. The new pricing system was characterized by the marker or reference price which member countries used to set their own prices.
Another development that had a direct impact on the pricing system was thee decision by OPEC governments to cease granting concessions (Barsky & Kilian, 2004). This resulted in many converting to equity participation any existent concessions and the development of full nationalization. However, this strategy did not succeed in reducing the powers of the multinationals that had previously held these concessions as the respective governments lacked the infrastructure and systems to facilitate both upstream and downstream divisions of the oil industry. Consequently, most governments ended up selling the same crude oil to these multinationals at a buyback price (Fattouh, 2007).
Nationalization and equity participation led to many multinationals losing large reserves of crude oil. This increased their dependence of OPEC supplies. The ripple effect was an increase in dependence on OPEC supplies and a weakening of the degree of vertical integration existing between upstream and downstream (Fattouh, 2007).
Within a span of just over 50 years, the oil pricing system has undergone a number of transformations (Barsky & Kilian, 2004). This has resulted in a shift in the oil market from the administered oil pricing system that was initially run by multinationals to one governed by OPEC.
Key factors that influence the oil market
The ability to predict the price of oil is one that has eluded the key players in the industry for years. This is largely because a number of factors come into play. They are:
- The disparity in the haves and the have-nots. Countries that have free market economies and are ranked as developed nations have the ability to easily adapt to price hikes and supply challenges. Those that are ranked as the poor nations which have foreign reserve and payment problems tend to struggle even more. The result is a model that favors a select few in the global economy (Cordesman & Al-Rodhan, 2005).
- A growing debate concerning thee ability by OPEC nations to create a balanced market. Generally, the market lacks confidence in its producers who are more concerned with self-interest than the creation of a healthy and sustainable trade environment that benefits the mass market and the global economy as a whole (Fattouh, 2007).
- The cost implication involved in the creation of a system for the production, export of petroleum products is capital intensive, and one that is yet to be determined at a fixed rate (Crémer & Salehi-lsfahani, 1991). This uncertainty contributes to the inability to create a more predictable oil market as far as price is concerned.
- Little effort goes into determining whether a country possesses the ability to adopt best-practices in the production and export process. The result is such countries are exposed to unstable political environments and poor economic conditions which tend to impede growth and adequate development (IEA, 2012).
- The coming up of alternative sources of energy, conservation and efficiency have a long term effect on the market (OPEC Bulletin, 2004)
- It is also uncertain whether the earth possesses ample oil reserves to keep powering the globe for all time (Barsky & Kilian, 2004).
- Inability by countries that import crude oil to refine it and distribute it to the domestic market in a manner that adequately responds to the forces of supply and demand can result in the buildup of bottleneck pressure which ends up putting the consumer at a disadvantage as the end product reaches him at a much higher price owing to heightened demand (Cordesman & Al-Rodhan, 2005)
- It is clear that oil prices have impact the economic growth and wealth of developed nations. When prices increase, economic growth is negatively affected. However, low economic growth in industrialized nations has been noted o lead to a decrease in the demand of oil thereby resulting in price reduction. This is a plus for developing nations (Crémer & Salehi-lsfahani, 1991).
- The rise of new economic giants such as China and India in the recent past has led to an increase in the demand for oil. The IMF has reported this as one of the factors that have led to an increase in oil prices by up to forty percent (Cordesman & Al-Rodhan, 2005).
- Higher oil prices attract more investors into the industry. However, the high risk in the form of lack of geopolitical instability and uncertainty concerning how long prices will remain high discourages the majority from venturing in the industry (OPEC Bulletin, 2004).
The United States is a major player in OPEC and this explains why majority of the policies that the organization sanctions tend to favor Western foreign policy (Barsky & Kilian, 2004). The impact of high oil prices on global oil dependence by markets such as the US cannot be ascertained owing to a number of the factors highlighted above. As a result, no clear determinant exists to help put a peg on the value of oil in the global market. Worth noting is the presence of oil producing nations that are not a part of OPEC such as Russia and China (Adelman, 1982). This contributes to the inability to determine oil prices considering the non-OPEC nations operate based on policies geared towards self-interest. Forecasts have shown an expected increase in the production of oil by the non-OPEC countries over time however it’s doubtful that they will be able to produce more than OPEC (Cordesman & Al-Rodhan, 2005).
The events that surounded key events in the industry such as the pricce collapse in 1998 and the 2004 price hike (Carlson, 2014). In 1998, speculation leaned towards OPEC having losst its poweer to influencce oil prices. The production cuts that followed thereafter showed that OPEC still had the influence needed to control the oil market.it is now clear that OPEC’s power over pere varies deending on a myriad of factors. The body has succeeded in implementing a number of price cuts to control oil prices. One of the key members of the body i.e Saudi Arabia, has been instrumental in offsetting the impact that suddent disruptions of supply have on oil prices (Morriss & Meiner, 2014).
OPEC is a trendsetter in the oil industry especially as far as policies are concerned. The result is, the body possesses a great deal of influence over the expectations of participants in the futures market (Fattouh, 2007). Organisations such as the International Energy Agency (IEA) and energy Information Administratio (EIA) project rely largely on oil producersin the Middle East (IEA, 2012). As a result, the predictionof market share is largely based on the oil exporters in this region. The ripple effect is an increase in the powerthat OPEC has over the oil market. The anticipated move therefore would be for OPEC to increase their investment in the region. However, with the bottleneck challengeds that plague such an investment, it is clear that there would be huge barriers to discourage such a move (Adelman, 1980). However, should OPEC choose to follow through with the investment, it would increase its market share. This however does not mean that it wll have increase its ability to control the price of oil in the market.
OPEC was able to succeed in taking control o the oil industry in the 1970s and ever since, it has successfully controlled the price strategy for the oil market. The prediction of market share is largely based on the oil exporters in the Middle East. The result is that the global economy is lagely dependent on the price strategy that OPEC employs. A ripple effect is the ability of thee body to cripple a nation’s economy through sanctions, as was the case for Iran.
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