Saturday, April 26, 2008

The Why’s of Rising Oil Prices

As prices at the gas pumps rise almost daily questions about the role of oil companies start to float on TV and radio. Each night I watch the local TV news where a reporter stands in front of a gas station with the price prominently displayed in the background. This is usually followed by an enlightening man-on-the-street interview where people who are filling their tanks and emptying their wallets are asked why they think prices are increasing (as if they’re experts on the subject). The usual reply is that the oil companies are colluding to drive up prices simply to build up their bottom line. (A clip just like this aired while I was writing this.)

To shed some light on the forces at work here are several links that address what is happening in the global oil market.

In summary, this article lists the following factors:

  1. Rising demand, primarily from China
  2. Stagnant oil production
  3. Falling U.S. dollar
  4. Insufficient U.S. Refinery Capacity

This link - - has a nice explanation, some of which is provided below.

The Organization of Petroleum Exporting Countries (OPEC), a group of 11 countries,1 produces close to 40 percent of total world oil production2 and owns about 70 percent of proven oil reserves. Other major oil producers in decreasing order of production are the U.S., Russia, Mexico, China, Canada, and Norway.3 Overall, the Middle East, especially the Persian Gulf, remains the major oil-producing region, and holds around 60 percent of the proven global oil reserves.4

How Oil Prices Are Determined

Forces of supply and demand determine global oil prices. OPEC's primary goal is to manage market supply by limiting oil production among its members. The objective is to maintain prices that are high enough so that OPEC members make a healthy profit, but not so high that consumers significantly reduce their consumption of petroleum. Because of its production capacity and oil reserves, OPEC's decisions significantly influence world oil prices. However, the power of OPEC to manage world oil prices has diminished in recent years because of increased production from non-OPEC oil producers, such as Russia, Norway and Mexico.

1 OPEC countries include Algeria, Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, the United Arab Emirates and Venezuela.

2 International Energy Agency, Oil Market Report, May 11, 2005. For the most recent issue of the Oil Market Report, available free of charge, please go to

3 Department of Energy, Energy Information Administration, "Non-OPEC Fact Sheet." Available online at

4 For more information on oil and oil markets please see the Department of Energy, Office of Oil, Gas, Energy Information Administration's "Oil Market Basics"

This document by Global Oil Watch - - lists the world’s largest oil companies based on oil reserves.

A couple of interesting things can be taken from this list. First, the top 11 companies are government owned. Exxon Mobil, the first privately owned company on this list, controls only 1.08% of oil reserves. The UK’s BP comes in at number 17 with 0.85% of reserves. Second, the Middle East countries of Saudi Arabia, Iran, Iraq, and Kuwait possess more than half of the oil reserves. From this we can conclude that private oil companies who are the favorite whipping boys of the media and posturing politicians control literally a drop in the oil bucket and have little ability to influence the global market price of oil.

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