OPEC’s Game-Theory Dilemma

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Over the last few years, producers belonging to the Organization of Petroleum Exporting Countries have had mixed success at winning the price-setting “game” for oil. To stand a better chance of regaining durable control, they must do a much better job of working together, and, importantly, they need to do so in a much broader and more institutionalized manner. Otherwise, they risk finding that the calming influence of a good July for the oil market, including a 9 percent price gain, could give way to continuing pressure from nontraditional suppliers, particularly in shale, that are benefiting from cost-cutting innovations.

To win the price-setting game, oil producers need to address two related issues: They must maintain prices at a relatively high level without losing more market share to nontraditional producers, and they need to retain unity amid geopolitical tensions and disparities in domestic economic and financial situations.

The easiest way to achieve this — absent a major exogenous shock to oil production — is through a large increase in energy demand. This is unlikely to happen anytime soon. The alternative is better supply management. Here, OPEC members have essentially three types of approaches available, and each comes with implementation challenges…

 

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