Episode – 2129 : The Rise and Fall of OPEC
Podcast Transcript
In 1960, a handful of oil-producing nations made a decision that would reshape the global economy.
They formed a cartel to control the world’s most vital resource, challenging powerful corporations and altering the balance of global power.
Over the decades, that organization would trigger crises, fuel economic booms, and influence energy prices across every corner of the planet.
Learn more about the creation, rise, and eventual decline of OPEC, the Organization of the Petroleum Exporting Countries, on this episode of Everything Everywhere Daily.
The origins of OPEC can be traced back to the end of the Second World War.
The world found itself in a situation in which the most important resources had shifted from iron and coal to oil. This wasn’t an overnight change, but by the end of the 1940s, planes, trains, and automobiles were all increasingly dependent on oil.
At the time, the oil industry was dominated by seven Western companies known as the seven sisters. The Seven Sisters, including Exxon, Mobil, Chevron, Gulf Oil, Texaco, Royal Dutch Shell, and British Petroleum.
They had secured long-term concessions across the Middle East and elsewhere in the early 20th century, before many countries recognized the value of their oil.
These agreements gave them the right to explore, produce, and sell oil in exchange for relatively modest payments to host governments. The companies controlled not only production but also pricing, refining, and distribution, effectively running a vertically integrated global system. Producing countries had little transparency and even less influence over pricing decisions.
The first cracks in this system appeared after World War II, when newly independent states and governments with rising nationalist sentiment began demanding a larger share of oil revenues.
A key turning point came in 1950, when Saudi Arabia negotiated a 50–50 profit-sharing agreement with ARAMCO. This model quickly spread to other producing countries and marked the first major shift in the balance of power. Governments were no longer passive recipients of royalties; they were now partners entitled to a defined share of profits.
Even with profit-sharing, however, the companies retained control over production levels and the “posted price” of oil, which determined how revenues were calculated.
Throughout the 1950s, the Soviet Union had massively increased its crude oil output, and as a result, members of the “Seven Sisters” had to lower their prices to compete with Soviet oil in several markets.
After a second consecutive cut in the posted price of oil by these companies in August 1960, the major producing nations had had enough.
The Organization of Petroleum Exporting Countries was founded on September 14, 1960, in Baghdad by its first five members: Iran, Iraq, Kuwait, Saudi Arabia, and Venezuela.
At the conclusion of the founding conference, it was announced that the purpose of OPEC would be to provide a forum for unifying member countries’ oil policies and to determine ways to safeguard members’ interests, both individually and collectively.
The members agreed that they could no longer remain indifferent to the attitude of oil companies in modifying prices, and demanded that oil companies keep prices stable and restore prices to those prevailing prior to the August 1960 price cuts.
The organization, however, was not immediately powerful or cohesive. At the 1962 members’ meeting, a battle broke out over export limits. Each country wanted to export as much oil as it could, but flooding the market with cheap oil would decrease the price, the very problem OPEC had been formed to prevent. The new organization was fragile and suffered from the fact that it straddled the divide between the economic and political realm.
Through the 1960s, OPEC members steadily increased their leverage. One of the most important tools they used was participation agreements, which gradually transferred ownership stakes in oil operations from the companies to the host governments.
Instead of abruptly expropriating assets of the oil companies, countries negotiated incremental increases in their share, often moving from minority stakes toward majority control. This approach allowed them to build technical and administrative capacity while avoiding immediate confrontation and the problems that would accompany immediate control.
Beyond its initial founding members, OPEC saw significant growth throughout the 1960s. Qatar became a member in 1961, followed by Libya and Indonesia in 1962. The organization continued to broaden its reach later in the decade as Algeria joined in 1969 and the United Arab Emirates, originally represented solely by Abu Dhabi, joined in 1967.
By the end of the 1960s, OPEC had transformed from a small founding group into a broader coalition spanning the Middle East, North Africa, and parts of Asia.
Here, I want to digress a bit to explain the economics behind cartels and what OPEC was trying to do.
Cartels are nothing new. A cartel is an agreement among competing producers to act like a monopoly. Instead of competing on price and output, members coordinate to restrict supply, thereby raising prices and increasing the group’s profits.
In economic terms, they try to move from a competitive equilibrium, where prices are driven down, to a monopoly-like outcome, where output is limited, and profits are maximized.
However, cartels seldom work in the long run because they depend on members sticking to the agreement. Each participant is assigned a production quota or target, and the collective output restriction supports higher prices.
The problem is that every individual member has a strong incentive to cheat. If everyone else is holding back production to keep prices high, a single producer can quietly exceed its quota, sell more at the elevated price, and earn extra profit without immediately collapsing the market.
That creates a classic prisoner’s dilemma. If too many members cheat, supply rises, prices fall, and the cartel’s advantage disappears.
By the early 1970s, the balance had tipped decisively in favor of OPEC member countries. Demand for oil was rising rapidly, especially in industrialized economies, and producing countries recognized their strengthened position.
Most OPEC members now had majority control over their oil production. Nigeria joined in 1971, becoming OPEC’s first sub-Saharan African member. Ecuador joined in 1973, and Gabon joined in 1975.
The early 1970s marked a decisive turning point. In 1971, the Tripoli Agreement was signed by major oil companies and OPEC members operating in the Mediterranean Sea region.
The agreement raised oil prices and increased the share of profits for producing countries. OPEC members were also moving aggressively toward outright nationalization of their oil industries, transferring direct control over their reserves away from Western oil companies.
The collapse of the Bretton Woods monetary system added further financial complexity. Because oil was priced in dollars, oil producers’ real income decreased when the dollar began to float free of the old link to gold.
OPEC finally showed the world the power of its fully operational Death Star in 1973.
The Yom Kippur War of October 1973 transformed OPEC from a regional trade organization into one of the most powerful forces in global geopolitics. At an OPEC summit at the Sheraton Hotel in Kuwait City on October 16, 1973, it was announced that oil prices would rise from $3.01 per barrel to $5.12 per barrel.
This was only the beginning.
In December, two months after the Yom Kippur War, prices were raised by an additional 130 percent, and the organization’s Arab members curtailed production and placed an embargo on oil shipments to the United States and the Netherlands, the main supporters of Israel during the war.
The result throughout the West was severe oil shortages and spiraling inflation. Between October 1973 and January 1974, the price of the reference “light Arabian” crude oil barrel rose by a factor of 4, from $2.32 to $9 per barrel. Although the embargo lasted only five months, it triggered a two-year economic crisis, and oil prices never returned to their pre-crisis levels.
The late 1970s brought a second dramatic disruption. A revolution in Iran, which was the second-largest oil exporter after Saudi Arabia, triggered a second oil shock in 1979. It caused a sharp drop in Iranian oil output, and panic buying followed.
The outbreak of the Iran-Iraq War in 1980 further disrupted supplies. By the end of the year, North Sea crude stood at a new high of $40 per barrel, a level not to be exceeded for another 10 years.
The 1970s and early 1980s were the golden years for OPEC.
The problem of keeping oil prices high is that you make it possible to explore and produce oil in places where it otherwise wouldn’t be economical.
High oil prices in the 1970s induced investment in oil production by non-OPEC countries, particularly for reserves with a higher cost of production, including Prudhoe Bay in Alaska, the North Sea fields of the United Kingdom and Norway, the Cantarell field of Mexico, and oil sands in Canada. At the same time, Western economies had become significantly more energy efficient.
The 1980s and 1990s marked the first signs of instability in membership. Economic pressures and internal policy disagreements led some countries to leave. Ecuador withdrew in 1992, citing the financial burden of membership fees and production quotas. Gabon followed in 1995 for similar reasons.
From 1982 to 1985, OPEC decreased oil production several times to stabilize prices, but these attempts failed as many OPEC members were producing above their quotas.
Saudi Arabia was one of the few OPEC countries actually implementing output cuts, and soon non-OPEC countries surpassed OPEC in oil production. By 1986, exhausted and losing market share, Saudi Arabia opened the spigot, flooding the market and crashing prices to historic lows.
Throughout the 1990s and early 2000s, OPEC continued to serve as a coordinating body, adjusting production targets to stabilize prices. Its influence fluctuated depending on market conditions.
During periods of tight supply, such as the early 2000s, OPEC regained some of its leverage. The rise of rapidly industrializing economies, especially in Asia, drove up oil demand, contributing to a prolonged period of higher prices that peaked in 2008.
The most structurally significant challenge to OPEC’s dominance in decades emerged from an unexpected source: technological innovation in the United States.
The U.S. shale revolution, driven by innovations in hydraulic fracturing and horizontal drilling, enabled American producers to ramp up output, ultimately making the U.S. the world’s top oil producer, a place it still holds today.
This led to the unprecedented Declaration of Cooperation in December 2016, with OPEC members and 10 non-OPEC oil-producing countries coming together to help rebalance the market, reduce inventory levels, and support oil market stability. This expanded grouping, dubbed “OPEC+”, represented an unofficial broadening of the cartel’s membership.
OPEC currently consists of 11 member countries and accounts for approximately 38 percent of global oil production.
In some ways, OPEC was a victim of their own success. Their ability to keep oil prices high in the 70s and 80s was an impetus for increased oil production outside OPEC member states.
They were also the victims of the same problems that every cartel faces. Many members, especially the smaller producers with less developed economies, had strong incentives to constantly cheat. This led many countries to leave OPEC over the years so they wouldn’t be subject to production limits.
OPEC still exists, but its ability to control oil prices has been extremely neutered because it doesn’t control the majority of the world’s oil supply. However, OPEC controls about 75% to 80% of the world’s proven oil reserves, most of that being in Saudi Arabia, Venezuela, and Iran.
It is entirely possible that, in the years or decades ahead, OPEC might become more relevant again if those reserves are tapped and if production in other countries declines.
But should that happen, they will face the same problems that they did before, of cheating and high prices encouraging more production.This episode can be found at: https://everything-everywhere.com/the-rise-and-fall-of-opec/