Carlel Opec Case

Cartel, OPEC

01 November 2007

Fabrizio Bertoglio

1.0 Introduction

FIRST SECTION : General words on cartel Theory

1.1 Definition of Cartel and graphic representation

1.2 Main type of cartel

1.3 How a cartel can endure for a long time

SECOND SECTION : The OPEC case

2.1 OPEC in the world, general view of the actual OPEC business situation

2.2 Coordination in the OPEC Cartel

2.3 Product

2.3.1 Cost of production

2.3.2 Agreement on the price and coordination in fixing it

2.3.3 Demand elasticity

2.4 Detection of deviation

3.0 Conclusion

1.0 INTRODUCTION

The reason way I choose the cartel, as my theme, is only for personal interest and desire of learn more about this type of co-operation. OPEC is one the biggest international Cartel in the world. Numerous people write and speak about this co-operation, for his great influence in our everyday life and in our economics. This is a theme of great relevance.

The structure of my essay follow my study in depth of this subject, starting from the general information and studies on the cartel, founding the main characteristic and using them to study OPEC cartel efficiency.

My aim is to found in OPEC point of strength and of weakness (as a cartel), and compare them in a conclusion of the essay. In this way I will analyze the market of crude oil, the principle producers of crude oil, their production and consumption, the homogeneity of the products, their way of production, the agreement of the price and the coordination in the price fixing, some hint on demand of crude oil and the detection of deviation, how much is legally dangerous for OPEC members their collusion.

After this analyze, noting the main characteristic of OPEC, I will write my conclusion.

FIRST SECTION : General words on Cartel Theory

1.1 DEFINITION OF CARTEL AND A GRAPHIC REPRESENTATION

A cartel is a formal agreement among firms, with objective increase the individual member’s profit by reducing competition. That is a great advantage for the firms competing in the market, which can minimize the production cost and make good profits for long time. The agreement between the member of the cartel consist in price fixing, marketing share, allocation of customers, allocation of territories, bid rigging, establishment of common sales agencies, division of profits.

Here we can see a scheme of an output share and price fixing between two firms that make a cartel.

Fig.0.1.

The fig0.1.

If two firms share the market equally and have the same cost structures, then each firm will profit maximize at output Q and each gain the same level of super-normal profit. Consider the case of Firm A in the diagram below. The firm is assumed to have half the total market demand. It can profit maximize and still achieve economic profit. The other firm in the market will also profit maximizes at the same point and earns the same total profits. In the absence of a change in demand (which may not go equally to each firm) and/or a change in each firm's costs of production, neither firm has any reason to undercut the other.

1.2 MAIN TYPE OF CARTEL

A distinction needs to be drawn between public and private cartels.

In the case of public cartels, the government may establish and enforce the rules relating to prices, output and other such matters. Export cartels and shipping conferences are examples of public cartels. In many countries, depression cartels have been permitted in industries deemed to be requiring price and production stability and to permit rationalization of industry structure and excess capacity. In Japan for example, such arrangements have been permitted in the steel, aluminium smelting, ship building and various chemical industries. Public cartels were also permitted in the United States during the Great Depression in the 1930s and continued to exist for some time after World War II in industries such as coal mining and oil production. Cartels have also played an extensive role in the German economy during the inter-war period.

International commodity agreements covering products such as coffee, sugar, tin and more recently oil (OPEC) are examples of international cartels which have publicly entailed agreements between different national governments. Crisis cartels have also been organized by governments for various industries or products in different countries in order to fix prices and ration production and distribution in periods of acute shortages.

In contrast, private cartels entail an agreement on terms and conditions from which the members derive mutual advantage but which are not known or likely to be detected by outside parties. Private cartels in most jurisdictions are viewed as being illegal and in violation of antitrust laws.

1.3 HOW A CARTEL CAN ENDURE FOR A LONG TIME

Cartel longevity can vary much, from differences in their costs of self-enforcement and service value to members. The life of a cartel depends from how much convenient the agreement (legal or illegal) is between the firms, that depend from how many money the firms earn from the collusion, calculating the risk of sanction if the agreement is illegal, that make lower the real profit of each member,