Oil Crisis of 1973
In 1960, OPEC was formed to counter the cartel and try to control the prices of oil. Between 1965 and 1973, global demand for oil increased at a fast rate with an average annual increase of more than 3 million barrel per day during this period. Most of this increase was met by OPEC countries which massively increased its production from around 14 million b/d in 1965 to close to 30 million b/d in 1973.
About OPEC
The Organization of the Petroleum Exporting Countries is an intergovernmental organization of twelve oil-producing countries made up of Algeria, Angola, Ecuador, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, the United Arab Emirates, and Venezuela. OPEC has had its headquarters in Vienna since 1965, and hosts regular meetings among the oil ministers of its Member Countries. Indonesia withdrew in 2008 after it became a net importer of oil, but stated it would likely return if it became a net exporter again.
Thus, between 1965 to 1973, the share of OPEC in the global crude oil production increased from 44% to 51%. This was followed by certain politico-legal events. In August 1971, the United States triggered the collapse of Bretton Woods system by unilaterally pulling out of Bretton Woods Accord, taking the US off the Gold Exchange Standard, allowing dollar to float.
Gold Exchange Standard
In this system, only the value of the U.S. dollar had been pegged to the price of gold and all other currencies were pegged to the U.S. dollar. allowing the dollar to “float”.
Shortly thereafter, Britain followed the suit, floating the pound sterling. The industrialized nations followed suit with their respective currencies.
These respective currencies started fluctuating. In anticipation of the fluctuation, the industrialized nations also increased their reserves by printing more money. The result was a depreciation of the value of the U.S. dollar, as well as the other currencies of the world.
By that time, the oil was priced in dollars. The depreciation in dollar meant that the oil producers were now receiving less real income for the same price. So, the OPEC issued a joint communiqué saying that, from then on, they would price a barrel of oil against gold.
Oil Crisis of 1973
The huge demand for oil makes the oil markets as the sellers market. There was a significant power of the OPEC countries in the oil market in contrast with the multinational oil companies.
The decision of the OPEC to sell oil against Gold led to the so called Oil Shock. The prices of oil became extremely volatile. As of then, there were no institutional mechanisms to update prices rapidly enough to keep up with changing market conditions. In 1973-74, there was a substantial rise in the prices of Oil
In 1973, as a part of the Arab-Israel conflict, the Syria and Egypt launched an attack on Israel. The political crisis led to huge rise in oil prices. The western countries insisted on paying low prices to oil producing nations and at the same time also selling inflation priced goods (for example wheat) to oil producers. In October 1973, the OPEC countries placed an embargo i.e. a cut in production by five percent from previous month’s output, and to continue to cut production over time in five percent increments.
The pro-Israel policies of United States then led Libya to announce that it would embargo all oil shipments to the United States. The same suit was followed by Saudi Arabia and the other Arab oil-producing states. Oil stopped flowing to America and Western European countries.
Over the long term, the oil embargo changed the nature of policy in the West towards increased exploration, energy conservation, and more restrictive monetary policy to better fight inflation. The price of oil quadrupled by 1974 to nearly US$12 per barrel. The impact was dramatic on Middle East counties, they accumulated huge wealth. The other impact of this crisis was that the countries of the world recognized the importance of this vital commodity and started exploring / conservation oil and looking for other alternatives.
Oil Crisis of 1973 and Oil Glut of 1980s
The 1973 oil crisis had turned oil from a cheap to a very expensive energy source. During the 1973 energy crisis, the price of oil had quadrupled. The prices of virtually administered by OPEC for the next few years. In 1979, there was a political turmoil in Iran when amid massive popular agitations, the Shah of Iran Mohammad Reza Pahlavi, fled his country and Ayatollah Khomeini became the new leader. The oil sector of Iran was greatly affected as the production curtailed and exports suspended.
The new regime resumed the oil exports; but by that time the exports became inconsistent and in lower volumes. This pushed the oil prices up. By this time Iran was biggest exporter of Oil. The inconsistent export of oil by Iran was tried to make up with the increased exports from Saudi Arabia and other OPEC nations, but by that time, the widespread panic had resulted in the unexpectedly high prices of oil. This is called 1979 Oil Crisis. In 1980, the war between Iran and Iraq started. Thus, oil production in Iran nearly stopped, and Iraq’s oil production was severely cut as well. After that there was an increase in both production and export of oil from other countries such as Mexico, Nigeria, and Venezuela. Oil started flowing the market from North Sea and Alaska. The net result was that the grip of OPEC on oil prices diminished gradually.
In 1981, the production of oil by OPEC was surpassed by that of other countries. Additionally, its own member nations were divided among themselves. Saudi Arabia, trying to gain back market share, increased production and causing downward pressure on prices. Oil prices fell gradually and then there was a surplus crude in the market. This is called Oil Glut of 1980s. The result of the Oil glut was that the oil prices plummeted and the oil cartels lost its unity. The glut also adversely affected the other oil exporters such as Mexico, Nigeria, and Venezuela, whose economies had expanded in the 1970s, were plunged into near-bankruptcy, and even Saudi Arabian economic power was significantly weakened.