40 Years After Embargo, OPEC Is Over a Barrel

Today marks the 40th anniversary of the Organization of the Petroleum Exporting Countries embargo against the U.S. and states that supported Israel after Egypt and Syria initiated simultaneous offensives against it on Yom Kippur in 1973. While it’s not an anniversary that many will celebrate, it’s a good opportunity to reflect on how much more secure our energy situation is, despite our continued heavy reliance on fossil fuels.

Most commentators have focused, with good reason, on the West’s greatly enhanced ability to withstand similar shocks were they to occur today. Equally important, although generally overlooked, is the reality that OPEC has no incentive or real ability to inflict them on the world.

Go to OPEC’s website and you will be greeted not by articles remembering the havoc the organization caused in the name of Arab unity 40 years ago, but by a banner touting “Communication and cooperation.” That much of the Western world is remembering the embargo this week, while OPEC makes no mention of it, is not an effort by the organization to disguise its latent power and ambitions. Rather, it is almost inconceivable that OPEC would launch such an embargo today.

Changed Mideast

Why? First, the 1973 embargo, for all the bedlam it caused, didn’t work. The stated goal was ending Western support for Israel in the Yom Kippur War, and that didn’t happen. Second, the global political landscape has changed remarkably. What issue would inspire OPEC -- and Saudi Arabia in particular -- to take such measures against the U.S. and its other closest allies? The fault lines in the Middle East are much less stark than in 1973, when no Arab country had yet made peace with Israel.

While we cannot rule out “black swan” events, the two most explosive issues in the Middle East don’t even pit Israel against its Arab neighbors. Saudi Arabia’s biggest concerns in the region are Syria and Iran. The Saudis, although unsuccessful, actually sought to garner Arab support for U.S. strikes against Syria in the wake of the Bashar al-Assad regime’s use of chemical weapons.

Iran, and its pursuit of a nuclear weapon, is an even greater source of Arab unease. One hopes a sound and enduring solution can be found through negotiations, such as those just held between Iranian and Western diplomats in Switzerland. But if not, although Arabs may not cheer the use of American (or even Israeli) force against Iran, many will see it as preferable to living with a nuclear-armed regime in Tehran.

Third, the most powerful OPEC members don’t want to see huge spikes in oil prices. There are still “price hawks” within the organization: countries such as Iran and Venezuela, which see a higher price of oil as their only path to greater revenues, given constraints on increasing their production. But OPEC as a whole learned some powerful lessons from the 1973 embargo. The 1980s oil glut, and the correspondingly low oil prices, was directly related to the price spikes of 1973 and 1979. This contributed to the “stagflation” that plagued Western economies and tempered their demand for oil.

The 1973 crisis also launched widespread efforts in the West to find and develop “non-OPEC” oil, to increase energy efficiency, and to bring alternative sources of energy online. OPEC has no self-interest in tanking the fragile economic recoveries of today with high oil prices -- or in further catalyzing the already vigorous pursuit of non-oil energy sources.

Finally, re-creating a 1973-type oil embargo would require OPEC to take oil production off the entire market, not just ban its export to specific countries. OPEC’s decision then to reduce oil production by 5 percent per month is what caused the embargo to pinch; this was in contrast to the two largely unremarkable oil embargoes undertaken in 1956 and 1967, which simply barred exports to specific countries, resulting in initial hiccups that were quickly and relatively inexpensively resolved through the redirection of oil trade.

Avoiding Unrest

A commitment to an across-the-board reduction today would require a level of discipline and coordination that may be beyond OPEC’s capabilities. Unlike the 1970s, when the annual oil revenues of many OPEC countries exceeded their immediate and pressing costs, most OPEC countries today need all the revenue they can get to meet their budgets. In the wake of the Arab revolutions, governments are wary of measures that would require reining in the generous social and other expenditures seen as necessary to stave off political unrest. While Saudi Arabia has the discipline to bear the burden of cutting oil production each month, it also has grave concerns about steps that could jeopardize overall revenues -- and invite political instability to the kingdom.

All this is not to say that OPEC will never use the “oil weapon” again. But if I had to put money on it, I’d say the cartel is far more likely to increase global oil supply for political reasons than it is to restrict it. Fixated on avoiding a repeat of 1973, most of us tend not to appreciate that OPEC -- and, again, Saudi Arabia in particular -- has more recently used its ability to lower the price of oil to achieve political objectives than it has to raise it.

In the 1980s, the Saudis upped production to force down the price of oil in part to punish the Soviet Union for its invasion of Afghanistan, which many analysts saw as a Soviet push toward the warm waters of the Persian Gulf. In the 1990s, the Saudis did the same to discipline Venezuela for its efforts to greatly expand its domestic production.

Shale Threat

Why might Saudi Arabia or OPEC as a whole take such an approach today? Two possibilities seem plausible. First, they may see putting further economic pressure on Iran as instrumental in getting Tehran to abandon its nuclear pursuits. Given how sanctions have already put enormous pressure on Iran, I’d consider this a low probability.

Second, and despite rhetoric to the contrary, the countries of OPEC (not just Saudi Arabia) are surely nervous about the boom in U.S. shale oil production. They may decide that this surge will remain limited to the U.S. and that production there will taper off in the 2020s. If so, OPEC may just need to weather a few difficult years, with member countries drawing on their reserves in the face of lower oil prices induced by this additional supply.

However, these are pretty big assumptions on which to bank your survival, especially considering the constant technological advances of the industry. If shale oil turns out to be a bigger and longer-lasting threat, OPEC faces an existential challenge. Some in the organization must at least be attracted to the idea that a pre-emptive surge in OPEC oil production now could lower the cost of oil worldwide, undermining the incentive for expanding unconventional oil production.

For OPEC, the challenge comes back to the questions of will and capability. First, many countries, facing the political constraints of the post-Arab Spring era, are not going to be willing to risk the possibility of decreased revenues. While a few might be able to capitalize on the higher demand that would inevitably come with lower oil prices, most would simply be faced with less revenue. Even Saudi Arabia would be nervous about initiating something that might get out of control; the 1980s and 1990s are testimony to how such a strategy is an art, not a science. In addition, there are legitimate questions about how much sustainable spare capacity OPEC has now. Saudi Arabia could produce more than the 10 million barrels a day it is tapping now, but it is unclear how long it could maintain higher production.

In short, there is little reason to worry about a repeat performance of a politically inspired OPEC embargo in which global oil supply is gradually and systematically cut each month. Even the opposite -- a conscious effort to force down the price of oil -- is unlikely.

If we want to worry about OPEC, there are certainly scenarios worthy of our concerns. Large quantities of OPEC oil could come off the market in future months and years, but it will not be the result of an intentional use of “the oil weapon” by OPEC, but rather the result of domestic instability in Gulf countries. It is this possibility -- not a repeat of 1973 -- which should generate angst.