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6. Oil price is crucial indicator for Oil Producing countries, OPEC as a cartel often fails to reach the consensus among members regarding Supply of olil. Critically explain the reasons? (5 marks)

Solution

The profit from oil extraction of OPEC countries depend on the price of oil. The price of oil depends upon the demand and supply of oil in the world market. Therefore, OPEC wants to create a cartel by agreeing to cut oil production to push up oil price. However, a cartel creates a dilemma for the OPEC member countries. When the cartel is active and oil price is high due to low production, each member country has an increasing incentive to break the cartel, produce more and make more profit from the high oil price. Because of this incentive to break the cartel and increase production to book more profit, one or more countries break the cartel and others follow suit. OPEC has no way to enforce the cartel through punishments. Therefore, the OPEC cartel hardly works and member countries break the cartel. Since all member countries want to increase production by a little more to earn more profit, there is hardly an agreement on the right level of oil production and supply.