Market Structure Cartel

A Cartel is a company with a very unique position with the opportunity to use a simple model to optimize price. It is an organization with a very desirable position in the world; very few companies can experience the opportunity to determine their own prices without loosing significantly market share. OPEC is considered a Monopolistic-Cartel type of organization. Firm's demand curve

This type of structure has the advantage that while increasing oil prices may shift the demand curve. The model allows backstop technology and tariffs on oil imports; therefore, the imposition of tariffs to importing countries will reduce OPEC prices without affecting domestic prices. OPEC

For years the Organization of Petroleum Exporting Countries (OPEC) can be use as an example of a successful cartel. OPEC raised the price to consumers, made a fantastic amount of money, and has survived for years. Today, in United states it can appreciate that base on political swift the organization has benefit and maximized their earning, because the internal cartel lead by: Exxon, Chevron and Conoco-Phillips had influence the political atmosphere to benefit their domestic price decisions. It is clear that OPEC is a profit-maximizing cartel. History

a)Before OPEC seven major oil companies (The Seven Sisters) kept the price of oil the competitive level by restricting output. b)OPEC is formed with five major exporters in September 1960 c)From 1960 to early 1970 the price declaimed, because increase of competition by independent oil companies. d)From 1970 to 1973 exporting countries increased their control over supply (with agreements and nationalizing production). The oil prices reach the same level then the refineries. e)Six Persian OPEC members raised the amount they charged refineries, in addition to cutbacks of oil production, in October 1973 f)In 1974 the real price tripled the year before.

g)From 1979 to 1980 the price increased substantially to more than five times the 1973 price. h)By 1986 the price of gasoline was 10% above 1964 price level. i)Prior to Bush administration the gasoline kept relatively constant prices until late 1990s, around $50 barrel. j)The gasoline has reached a dramatic increase After the Bush administration took power until today is 120% increased from $50 to $60 average a barrel. Figure 5.1 U.S. Price of Crude Oil ($1991)

SOURCE: Nominal OPEC crude oil prices (U.S. Department of Energy, Monthly Energy Review) are converted to real prices using the implicit price deflator. The nature of OPEC can be summarized in four of the major theories: 1.OPEC is a profit-maximizing cartel. The cartel agreement can be suspended from time to time, but OPEC is able to reestablish the cartel. A slight twist to the theory OPEC countries have different discount rates, thus could disagree what would be the maximization of the discounted value of profits. 2.Saudi Arabia is a dominant firm. Saudi Arabia does not rely on any other more volatile countries within OPEC in order to restrict their output.

3.Through political power, OPEC Arab members are using oil as a weapon against Israel and the West. 4.The reason given on the 1973 200% price increased was that the competitive supply curve is backward bending, so that a slight shift in supply or demand can dramatically increase price and reduce output. Today the 120% increased from early 1990s to todays is base on the political influence in the white house of Big 3 members of the oil production in United States (Chevron, Exxon and Conoco), so the impact is internal for the domestic policy and not because of OPEC influence.

The Monopoly-Cartel Theory One of the main reason why OPEC is consider a monopoly-cartel is because it can control price oil base on their output, even if they operates on a very low capacity. Once the countries rich in oil starts to exhausts their resources is expected to see the gasoline prices skyrocket in the near future. In monopoly and competition, the interest rate influences price; thus, a small change in the interest rate could have a substantial effect on the path that prices would follow. In Pindyck's (1978) monopoly model, OPEC's profit-maximizing strategy was to charge a high price initially (taking advantage of the slow rate of adjustment of net demand to higher prices), then to lower price through the 1970s, and then to raise it as the oil reserves were depleted.

OPEC was able to raised prices in the early 1970s and increased output, because United States and other Western nations boycott OPEC boycott in 1973 caused many to panic, by built up large stockpiles for protection against future disruptions in the supply of OPEC oil. Stockpiling kept demand high for several years. Substitution away from oil by firms and households, worldwide recessions, and an end to the policy of stockpiling reduced the demand for oil in previous years; today the Bush administration policy oil companies have been able to cause price grouching at the pumps across the nation and elevating prices without real economical reason.