Wednesday, December 20, 2006

OPEC and partial cartel (part 1)

by The Dreamer

A few days ago, I read an article on the wall street journal newspaper about OPEC. In the article, it said that OPEC will decrease the output in order to rise the oil price, thus the profit of each OPEC member. After reading this statement, there are several question popped up in my mind :

1. Is it true that the additional profit (of individual OPEC members) by decreasing output (thus price of oil will increase) is at least equal to the (additional) profit by just keep the same or increase the level of output of oil ?

Ok, the answer seems to be quite easy (at least for economics student, doesn’t it?). Now let imposed several additional information : this is a partial cartel. It means that this OPEC competes with other producer ( either by Bertrand and Stackelberg). Thus, any action of OPEC will be responded by other non-OPEC member.

With this additional information, is the answer still pretty obvious?.

To make things get complicated, let’s take into account that there are also potential entrant that will entry if the profit of in the industry is at least bigger than the entry and investment cost.

Now tell me, is the answer is still pretty obvious.?

2. This lead into the second question : is it the optimal action of the OPEC?

For this time, let not discuss it too deep. Since we compare two conditions, we need to the either analytical analysis or numerical analysis.

I think, it is quite tough to be answered actually. For examples, an article by Freshman and Pakes. By taking into account the entry and exit condition, full cartel, and the heterogenous firm, the effort to get the optimal level of collusionunder exit and entry behavior needs a looks-easy-yet-complex computation procedure. Taking into account partial collusion, instead of the full collusion will indeed make freshman-pakes approach becomes more complex.

O k. Just leave this matter into the economist in Harvard or Tell Aviv :D. (Pakes from Harvard and Freshman from Tel Aviv University)

Now, I will not debate this thing. Let’s go back and discuss more basic stuff. Why is there a partial cartel? Under certain assumption (especially the homogenous firms and goods assumption) some analytical solutions, show us that (in case of cournot -not bertrand ) profit of the non cartel firms is higher than the profit of cartel member. If this is true,:
1. why do you want to be a cartel member?
2. why don’t the cartel member invite the non-cartel member to join the cartel. If they do this, they will have a full cartel.

What do you think?

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