Imperfect Cartelization in OPEC

38 Pages Posted: 9 Jan 2016 Last revised: 29 May 2016

See all articles by Samuel J Okullo

Samuel J Okullo

Potsdam-Institut für Klimafolgenforschung (PIK)

Frederic Reynes

VU University Amsterdam - Institute for Environmental Studies (IVM)

Date Written: May 29, 2016

Abstract

A model of global oil production is applied to study cartelization by OPEC countries. We define a measure for the degree of cooperation, analogous to the market conduct parameter of Cyert et al., 1973, Geroski et al., 1987, Lofaro, 1999, and Symeonidis, 2000. This parameter is used to assess the incentives for different OPEC members to collude. We find that heterogeneity in OPEC and the supplies of the non-OPEC fringe create strong incentives against OPEC cooperation. OPEC’s optimal supply strategy although observed to be substantially more restrictive than that of a Cournot-Nash oligopoly, is found to still be more accommodative than that of a perfect cartel. The strategy involves allocating larger than proportionate quotas to smaller and relatively costlier producers as if to bribe their participation in the cartel. This, is in contrast to predictions of the standard cartel model that such producers should be allocated relatively more stringent quotas. Furthermore, we find that cartel collusion is likely to be sustained for elastic than inelastic demand. Since global oil demand is well known to be inelastic, this observation provides another structural explanation for why OPEC behavior is inconsistent with that of a perfect cartel. Our study points to multiple headwinds that limit OPEC’s ability to markup the oil price.

Suggested Citation

Okullo, Samuel J and Reynes, Frederic, Imperfect Cartelization in OPEC (May 29, 2016). Available at SSRN: https://ssrn.com/abstract=2713106 or http://dx.doi.org/10.2139/ssrn.2713106

Samuel J Okullo (Contact Author)

Potsdam-Institut für Klimafolgenforschung (PIK) ( email )

Telegrafenberg 31
Potsdam, Brandenburg 14473
Germany

Frederic Reynes

VU University Amsterdam - Institute for Environmental Studies (IVM) ( email )

De Boelelaan 1115
Amsterdam, 1081 HV
Netherlands

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