Question

WA 3: OPEC Summit. DUE: December 1 Writing Assignment 3: OPEC Summit. DUE: December 1 Key objective: exemplifying the limitations of the power of oligopoly due to short-term and long-term elasticities. Setting: Imagine you are representing one of the members of the OPEC, and you are motivated by an increase of your revenue from the sale of crude oil. You have to compromise on current decision on possible output decrease as to stimulate the world price of gas. Please consider the historical relation of the reaction of the gas price at the pump to the world price of the crude oil per barrel. Please resort to the NYU STERN case on The Petroleum Market: 1970 - 2000 (via link provided below the assignment), but most of all to the research on the following issues in the summer of 2008 in the US and now, and the political debate on the energy crisis, environmental protection and renewable sources of energy. Instruction: As usually, please complete the assignment discussing the relevant economics concepts and applying economic tools with supporting data for problem solving in this real-life imitating simulation, and include also a memo summarizing the points of agreement to be reached and followed by OPEC unanimously, and with the compliance in the forthcoming months.

Answer 1

Crude oil is refined to make fuels ( petrol & diesel), lubricants & chemicals since the 1850s. Industrialisation was by & large possible because of it. Its an important scarce resource, & there’re still no cost effectual substitutes to oil for producing petrol & diesel.

Its demand has a number of essential features :

Demand is escalating in the advanced, OECD nations, which make up nearly 66 per cent of overall world demand. Between 1980 & 2008, world demand augmented by 40 per cent.

1. Oil’s demand is comparatively inelastic with regard to price level, given that oil has some direct substitutes.
2. In the same way, demand for oil is comparatively inelastic with regard to income in the advanced, OECD nations. Although, income elasticity of demand in developing nations like India is likely to be greater, with estimates suggesting that YED is near 1.

The Strategic Petroleum Reserve (U.S) is the world’s biggest stock of state-owned oil. It was set up in 1977 as a reaction to the drop in supplies from the Middle East coming into the U.S. The stock of crude oil, held in surface facilities & caves in the Gulf of Mexico, are an emergency stock which can be utilized in case of disturbed global supplies.

An increase / drop in crude oil price level may not impact pricing at the petrol pumps. There are a some reasons for this-

1. There may already be prevailing stocks of petrol at the initial prices.
2. The cost of refined petrol signifies only about 22 per cent of the retail price of petroleum.
3. In several economies, the retail marketplace has become increasingly competitive recently.
4. Supermarkets subsidise the cost of petroleum from profits on their other commodities, thus lessening the retail price.
5. Contracts between purchasers such as BP, and sellers , are usually agreed upon a minimum of 3 months in advance. These agreements are known as futures.
6. Around 55 per cent of the price of petroleum & diesel at the petrol pumps is government petroleum duty & Value added tax.

Rising petroleum prices mirror increases in crude oil level of prices. The chief factors contributing to the general increase in crude oil prices recently are:-

• Escalating world demand, specially from China

• Cost shocks, like the combat in Iraq & storm Katrina (2005)

However, during 2008 the price level of a barrel of oil dropped from its record high. This was an outcome of the downturn in global demand for oil, specially from China, as the worldwide recession started to spread.