Imperfect Cartelization in OPEC

CentER Discussion Paper Series No. 2016-011

30 Pages Posted: 21 Mar 2016

See all articles by Samuel Jovan Okullo

Samuel Jovan Okullo

VU University Amsterdam - Institute for Environmental Studies (IVM)

Frederic Reynes

VU University Amsterdam - Institute for Environmental Studies (IVM)

Date Written: March 21, 2016

Abstract

A model of global oil production is applied to study cartelization by OPEC countries. Writing out the shadow price on quota allocations so as to draw correspondence to coefficients of cooperation (Cyert et al. 1973), we examine the incentives that 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 contrary 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 OPECs ability to raise long-run global oil prices.

Keywords: Imperfect cartels, Oil, OPEC, Nash bargaining, Collusion strategies

JEL Classification: C61, C7, L13, L22, L71, Q31

Suggested Citation

Okullo, Samuel Jovan and Reynes, Frederic, Imperfect Cartelization in OPEC (March 21, 2016). CentER Discussion Paper Series No. 2016-011, Available at SSRN: https://ssrn.com/abstract=2749573 or http://dx.doi.org/10.2139/ssrn.2749573

Samuel Jovan Okullo (Contact Author)

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

De Boelelaan 1115
Amsterdam, 1081 HV
Netherlands

Frederic Reynes

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

De Boelelaan 1115
Amsterdam, 1081 HV
Netherlands

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