Cooperation Could Benefit Oil Producers, Consumers

During the tight energy era of the 1970s most oil experts predicted even more difficult days ahead. During the 1980s oil prices would soar above $50 a barrel. Members of the Organization of Petroleum Exporting Countries would accumulate astounding wealth.

Ten years later oil prices have dropped below $10 a barrel, and may go as low as $5. OPEC is in disarray, and its members’ treasuries either have run dry or are moving that way.

A decade ago the world’s major economic concern was so-called global stagflation. Now lower oil prices have improved the prospects for non-inflationary growth in the industrialized countries and perhaps even in the Third World. But other worries have surfaced.

These worries center on the effects of falling oil prices on the economic and political stability of countries such as Egypt, Jordan, Mexico, Nigeria and Indonesia. Even the Persian Gulf exporters may not remain immune to the destabilizing effects of lower prices.

Of more serious concern for the long term, today’s low oil prices are likely to increase global energy consumption and make the development of alternative energy resources uncompetitive. Consumers risk reverting to energy-guzzling habits of the 1960s. Thus the 1990s could see the world enter another tight energy crunch, with oil prices rising and OPEC once again in the driver’s seat.

Who or what is causing the drop in oil prices? What do they want? And what can be done about it?

The most important reason for the sharp drop in oil prices was the sharp increase in the 1970s. This set in motion conservation measures in the industrial countries, plus the aggressive exploration and development of energy alternatives to OPEC oil. Conservation and global recession reduced demand while exploration brought 7 million to 8 million barrels per day of non-OPEC oil onto the market. After the Iranian revolution, Saudi Arabia also increased oil production essentially to assist its Western allies, and the glut expanded.

By 1982 oil prices started downward. OPEC’s first response was to try to protect its price by cutting production. As a result, Saudi oil production in the summer of 1985 had fallen as low as 2 million barrels per day--one fifth of its boom-years’ high. Yet, with rapidly softening markets, OPEC’s ability to set prices was severely undermined. Other producers could more than offset any OPEC cutback. OPEC’s members also responded to a shortage of cash. None stuck to their agreed production limits.

The breaking point was reached late last year. OPEC clearly could not discipline its members. After a year and a half of bearing the brunt of OPEC cutbacks, Saudi Arabia reached its limit. OPEC thus abandoned the attempt to defend oil prices, and the Saudis increased production.

One reason for Riyadh’s action was to capture a greater share of the market. Another reflects a return to a basic Saudi concern from the 1970s.

Saudi Arabia holds 25% of the known oil reserves in the world. But it has only 5 million to 6 million people, plus a limited ability to develop a a viable, non-oil-based economy. Thus it has an intrinsic interest in seeing oil remain a competitive energy source well into the 21st Century. While it welcomed rising oil prices in the 1970s, it knew the risks. By 2000 or so, the consuming countries could develop alternatives. Saudi oil might sit in the ground instead of producing regular revenues. By accelerating the fall of prices today, the Saudis help to ensure that demand and thus price will go back up tomorrow.

Saudi Arabia has also discovered that the falling price is putting tremendous pressure on Iran--locked in combat with Iraq and, for a time this past winter, threatening a breakthrough. For two years Iraq has tried to squeeze Iran’s revenues by bombing oil installations. Now Riyadh, which supports Iraq, has found that the same goal can be achieved through the mechanism of price.

From the Arab point of view, this tactic has merit. Yet lower oil prices threaten more serious problems in other parts of the Middle East. Risks of political instability in Egypt, for instance, could outweigh the advantages of harming Iran.

Whatever the reasons for falling oil prices, consuming nations now face a problem. They must maximize the expansionary effect of lower prices on economic growth, while also keeping the 1990s from repeating the last decade’s oil shocks.

To accomplish this, it would be wise to start some form of dialogue and cooperation among oil producers and consumers. In the 1960s a weak OPEC advanced the idea. In the 1970s the catchwords of the threatened industrial world were “energy interdependence” and “dialogue.” By the 1980s both sides lost interest.

Many barriers to an effective dialogue still remain. But now that both sides have suffered from the roller coaster of rising and falling oil prices, they might view the idea with a new spirit.