Charge It to OPEC

Few things could more quickly arouse the exporters to outrage than the prospect of a tariff in the oil-importing countries, for such a levy would transfer revenues from their own treasuries back to the treasuries of the consumers.

—Daniel Yergin, The Prize

The OPEC cartel is legal. Its thirteen members, major oil exporters all, agree to production limits about twice a year and post them on www.opec.org. These limits largely control the price of oil, and a $10-a-barrel price increase costs Americans an extra $70 billion a year. That’s $40 billion extra profit for foreign oil and $30 billion for domestic oil. Forty billion dollars is a thousand times more than President George W. Bush spent on his clean-coal program in its first five years.

The Organization of Petroleum Exporting Countries, OPEC, is legal, but isn’t there something we can do about it? As the 2001 recession got rolling, a reporter asked President Bush, “OPEC is about to cut production 1 million barrels a day [to raise the price]. What is that going to do to our struggling economy?” Bush replied,

It is very important for there to be stability in a marketplace. I read some comments from the OPEC ministers who said this was just a matter to make sure the market remains stable and predictable [emphasis added].

The president was reading the OPEC ministers correctly. They always say they are just “stabilizing” the price. But for some reason, they usually stabilize the price up, not down. And by the way, Mr. President, in the United States, it is illegal for a cartel to “stabilize” prices. Instead, we prefer what we call free competition.

Today, the U.S. government has no plan to challenge OPEC and apparently no serious desire to do so.¹. But at one time, organizing a consumers’ cartel to challenge OPEC was the highest priority of the U.S. government.

But could a consumers’ cartel work?

Some people say the oil-consuming nations just can’t agree on things, so we may as well let OPEC take us to the cleaners. Others, who know cartels are not free-market institutions, think it would be wrong for us to organize a cartel—even though the OPEC cartel is eating our lunch.

Another group, including some academics, think it just wouldn’t work because OPEC could outlast a consumer cartel in a standoff. That is, OPEC could do without our money longer than we could do without its oil. If a consumers’ cartel worked by confrontational negotiation, I’m sure this would be true. But it doesn’t work that way. Henry Kissinger understood this in 1974. OPEC has learned how to run a cartel, and it’s about time we remember what we once knew and even learn a bit more. We need to understand how a consumers’ cartel would work, why it would work, and how well it would work. This chapter covers a few basic points:

• The United States did organize a consumers’ cartel.

• A cartel is not about confrontation.

• OPEC is afraid of a consumers’ cartel.

• A consumers’ cartel could have a strong effect on price.

History provides useful lessons on how to organize a consumers’ cartel, and the time is right for another attempt. In fact, the Kyoto treaty is already a weak consumers’ cartel. To succeed, the next international climate agreement will need to harness the mutual benefits of a stronger cartel. This chapter and part 4 of this book will demonstrate that “charging it to OPEC” is a realistic goal.

What’s a Consumer’s Cartel?

First, let’s review the more common type of cartel, a producers’ cartel—say, for example, OPEC. How does OPEC work? It could work in two ways—and in the past it has. The cartel members can agree to raise the oil price, and they can agree to limit production. As OPEC found out, the two methods have exactly the same impact on the market, and that’s a key to unlocking the mysteries of cartels.

If all the OPEC countries agreed to sell oil for $200 per barrel and no less, they would soon be selling a lot less oil. Let’s say their sales fell from 30 million barrels per day to 20 million after some time. Now suppose instead that they make no price agreement but agree to cut production from 30 to 20 million barrels a day over the same time period. What will happen to the price of oil?

Economics teaches a surprising lesson about the connection between price and supply. If a $200 price would knock sales down to 20 million barrels, then cutting back production to 20 million barrels will send the world price up to $200. Even though OPEC makes no effort to raise the price, desperate consumers bid it up. It doesn’t matter which the producers do, raise price or cut supply; it comes out the same. Price goes to $200, and production falls to 20 million barrels. So a cartel can work either way. OPEC members now agree on production quotas simply because that agreement is easier to enforce.

Consumer cartels work the same way, but in reverse. Consuming countries could agree to import 10 million barrels a day less. That would drive the price down. Or they could agree not to pay above a certain price. (Also see sidebar: Two Flavors of Market Power)

The price approach seems appealing: Let’s just refuse to pay OPEC’s high prices. This is the confrontational approach I mentioned previously. If consuming nations really did this, it would bring the world price of oil down to the consumers’ target price. But first, OPEC would stop selling oil. Only after OPEC got desperate for revenue would it accept the low price. Chances are we would get desperate for oil first, so this approach is a nonstarter. Both producers’ and consumers’ cartels work best by controlling quantity, not price.

How to Run a Consumers’ Cartel

In a consumers’ cartel, the consuming nations agree to reduce their consumption, and price reduction follows. Several types of agreements are possible, and the United States suggested some of them in the 1970s. First, every country could cut its imports in half. But this is easy for a country that imports only 4 percent of its oil, and difficult for one that imports 100 percent of its oil. The first country has to cut its consumption by 2 percent, and the second, by 50 percent. So high-import countries, particularly Germany, rejected this approach.

Instead, as OPEC does, the consumers’ cartel could assign each country an individually determined cut in oil consumption. The problem with assigned quantity reduction, however, is that countries do not have good ways to control their consumers, so they might try but fail. Or they might pretend to try, but fail. The Kyoto Protocol is having just this problem. Setting an oil-consumption quantity is like setting a cap on emissions. Both are limits on quantities that are hard to control. Countries agree to a quantity, and they “try” to comply, but they fail. Who can say why? And no one can know if countries are trying hard enough until it is too late.

So quantity limits are the wrong way to run a consumers’ cartel.

This could be confusing, because I just said that a consumers’ cartel should control quantity, not price. That still holds true. The consumers’ cartel should control quantity, but not by setting quantity limits. And it should not try to set the world market price directly.

Instead, Kissinger proposed a brilliant end run around the problem. Set a domestic “floor price.” The floor price keeps the domestic price of oil above the floor but does nothing to keep the world price of oil above the floor. This means there are two oil prices: the floor price and the world price. Here’s how it would work: If the floor price is $11 and the world price is $10, then each country would put a $1 tax, tariff, or untax (the best solution, in my view) on imported oil. Domestically, the price of oil would be $1 higher than the world price, or $11. The tariff would vary to keep the domestic price at least at the floor.

This is how to run a consumers’ cartel. In fact, a floor price on oil is policy number two of the Core National Energy Policy that I propose in chapter 7, although it’s not a new idea. The floor, or domestic, price reduces domestic oil consumption, which reduces the world price of oil.

A country’s imports and consumption are not controlled by any limit or cap. As long as each country sets a floor on the domestic price, that’s good enough. Today that floor price might be $95 a barrel. As the reader may notice, a floor price on oil is policy #2 of the Core Energy Plan that I proposed in chapter 7. It’s not a new idea. A higher floor price causes more conservation and more use of alternative energy. That means less oil imported and a lower world price of oil.

Not surprisingly, the easiest time to implement a floor price is when the untax rate would be zero. That’s when the world price is already above the floor price—for example, $100 when the floor price is $95. Of course, $95 a barrel is a good floor price only if it’s high enough to cause significant import reductions. It was last time, so suppose it is this time. When the world price is higher than the floor price, OPEC is the enforcer, and its members keep the profits. But when decreasing imports bring the world price down to $90, the floor price takes over domestically. The government would charge an untax of $5 per barrel, but it would return all of these revenues to consumers. So that extra $5 per barrel stays in the United States instead of going to members of OPEC. But since the domestic price remains at $95 with the untax, consumers will continue to conserve, forcing the OPEC price down further. The further OPEC’s price falls, the more money we keep.

Without the floor price, OPEC’s price would fall for a ways, and then imports would kick up again and keep OPEC’s price from falling any more or perhaps help it rise again.

The floor price reduces oil use, and no one needs to agree on quantities or enforce quantities or judge if a quantity-reduction plan will work in five or ten years as promised. Countries can implement a floor price immediately, in contrast to quantity reductions. And everyone can see immediately if a country has complied. Compliance is the key to success with a consumers’ cartel or a Kyoto Protocol or OPEC or whatever climate agreement comes next. If the member countries cooperate, the organization works. If they cheat, it fails. Heroic goals lead to failure. Enforcement of cooperation, gentle or otherwise, leads to success.

OPEC never admits it’s a cartel, but we are not fooled. Henry Kissinger never admitted he was forming a cartel, which didn’t fool OPEC or the French, who stayed out because they didn’t want to be seen in a cartel opposing OPEC. But even though Kissinger had a good international strategy, not saying cartel confused many Americans. So here’s how to tell if an organization is a cartel. Cartels are organizations that aim to change the market price. If we find an organization aimed at reducing the market price of oil, that’s a consumers’ cartel. With that in mind, let’s look back at the history of the struggle of oil-consuming nations to defend themselves against OPEC. (Also see sidebar: Be Fair to OPEC?)

Standing Up to OPEC

The United States began standing up to OPEC less than three months after the start of the 1973 oil embargo and with startling speed led the oil-consuming nations in the formation of the International Energy Agency, the IEA.

IEA: The Consumers’ Countercartel. On January 10, 1974, President Richard Nixon invited Japan and the nations of western Europe to an organizing conference. At the February conference, Secretary of State Henry Kissinger proposed that the consumer nations make a “study of joint consumer policies in an effort to hold down the use of energy.” By March, the head of OPEC “accused the major oil-consuming nations of ‘conspiring’ to force down the market price of oil,” according to New York Times. By September, the Times reported that participants had drafted an “extraordinarily detailed” 7,000-word proposal. The article continues:

The immediate objective is to exert downward pressure on oil prices. … Equal sharing of oil company data was a prerequisite for shaping the consumers’ counter-cartel, American officials state.

“American officials” were already calling the proposed agency a “consumers’ countercartel.” It was a countercartel in that it was intended to return prices to the competitive level. But any organization that intentionally changes the market price is a cartel, so a countercartel is itself a cartel—a consumers’ cartel.

In October, the New York Times reported:

The U.S. proposed that major industrial nations reduce oil imports by enforcing strict energy conservation measures. Kissinger and [Secretary of the Treasury William E.] Simon urged that each nation cut back by the same percentage. The British and German officials disagreed.

So the first cartel strategy that Kissinger proposed was for all member countries to cut their oil imports by the same percentage. But as I explained previously, this is more difficult for nations that import a higher percentage of their oil. So participants rejected this first cartel strategy. In November, the Times reported:

A “counter cartel” of the major oil-consuming countries, … is now a virtual certainty.

Countries that import 80 percent of the world’s oil are uniting. … The oil-consuming nations now intend to undertake a long-term program of energy conservation and accelerated development of alternative energy supplies … to break the extortionate price level. …. But alternative supplies will take years to develop. The immediate challenge is to limit consumption.

At this time, the oil-consuming nations had put together a cartel with an 80 percent market share—a huge percentage. They understood correctly that conservation was their main weapon for the next several years and that alternative energy was their hope for the future. They were determined to fight fire with fire and “break the extortionate price level”—in other words, break the OPEC cartel. That month, the sixteen-nation International Energy Agency was established, and it continues to this day, now with twenty-seven member nations.

By the end of November 1974, the United States had abandoned its initial plan for capping imports using equal percentages and had developed a new, domestic-price-based approach to coordinating the cartel. Writing in the Times under the headline “U.S. Oil Plan: High Price Is Key,” columnist Leonard Silk called it “startling news … that the United States is now founding its strategy on the $11 price.” At the time, the world price of oil was about $10.

The Federal Energy Administration had concluded that by 1985, an $11 price would cut imports to about 4 million barrels a day, whereas an oil price of $4 per barrel would send imports up to 13 million barrels a day. So without the domestic price locked at $11, if the consumers’ cartel did force down the world price, imports would rapidly rise and restore OPEC’s power. The same would be true in other oil-consuming nations. So the plan was to have all the IEA countries adopt a floor price of $11 per barrel. Each country would impose something like an oil tariff that would keep its domestic price at the floor level even when the IEA succeeded in driving down the world oil price. This would keep OPEC in check even after the consumers’ cartel succeeded.

When Kissinger proposed that “all the major consuming nations join the U.S. in establishing a ‘common floor’ for the prices,” as Time magazine put it, there was a surprising response.

In Western Europe and Japan, which are far more dependent on OPEC oil than is the U.S., critics argue that the floor plan is mainly aimed at getting the rest of the industrial world to safeguard a big U.S. investment in costlier sources of energy.

In fact, the critics were right (see The Floor Price: A Synfuel Subsidy?). With U.S. oil companies making a fortune off OPEC’s high prices, the idea of protecting the companies with a floor price lacked popular appeal.

In spite of the international misgivings, Time reported in March 1975, the IEA “agreed on a plan to safeguard investments in alternative energy sources” (largely synfuels). Unfortunately, the plan had no teeth, and members of the IEA did not manage to agree on a particular floor price until the following year, 1976. Then they agreed on $7 a barrel, the exact price that the Federal Energy Administration had analyzed in late 1974 and concluded would not work. It didn’t work. The $7 floor price had no effect; OPEC kept the world price above the domestic floor price forever after.

OPEC Strikes Again.

Three years later, in early 1979, when oil prices again started a rapid assent, Americans were stunned and suspicious that they were being “ripped off.” (see Accidentally Helping OPEC)

President Jimmy Carter set in motion the full decontrol of oil prices and called for a windfall-profits tax to recycle some of the oil companies’ gains from decontrol. Before the world economic summit in June, administration officials disclosed that Carter would take a tough line in favor of cooperation among oil-consuming countries. In fact, according to the New York Times,

Administration officials said there were several alternative ways the industrial oil-consuming nations might act in concert. For example, they could form a buyers’ cartel to negotiate directly with OPEC.

About this time, Germany suggested that the United States lead a consumer effort, and the Japanese did a complete about-face. Since the embargo of 1973, its policy had been to conciliate OPEC. Kiichi Miyazawa, an advisor to the Japanese prime minister at that time (although he later became prime minister himself), made these surprising comments in 1980, just a week before the Tokyo summit:

Our immediate task is to break that cartel [OPEC]. … We should not overlook the fact that we face a suppliers’ cartel. The only effective way to deal with it is to form a consumers’ cartel—there is no other way. … [Saudi oil minister Ahmed Zaki] Yamani is right. The West should economize on oil. —Kiichi Miyazawa, 1980

Time magazine, not quite keeping up with the changing mood, reported that “proposals for an outright buyers’ cartel to control consumption, much as OPEC controls production, are thought to be too ambitious.” Perhaps that would have been so, but on the first day of the summit, OPEC raised the base price of its oil by 24 percent. After the summit, the New York Times reported:

In a way, although nobody wants to pronounce the dread words, … the Tokyo agreement amounts to a consumers’ cartel.

Consumers’ cartel—the dread words. OPEC had the industrial world so frightened it was afraid even to talk about forming a real organization. But the industrial nations did talk tough for a few days and signed what amounts to a cartel agreement. The main purpose of the Tokyo agreement, according to the first U.S. Secretary of Energy, James R. Schlesinger, was to “inhibit the capacity of OPEC to raise prices” by holding down the growth of demand. That is precisely the definition of a consumers’ cartel. All seven nations pledged to hold imports through 1985 to roughly their levels in 1979. Unfortunately, the commitments were too late and too weak to make a difference.

In the end, the United States and probably all the other summit nations kept their pledges, but not because of their determination. OPEC acted as the enforcer for the agreement among the consuming nations. OPEC’s high prices assured compliance—and more. Never was there a better-paid enforcer.

Six months after the summit, the Organisation for Economic Co-operation and Development (OECD), which was monitoring the economies of the twenty-four leading non-Communist industrialized countries, found them plagued with double-digit inflation and economic stagnation. As a remedy, the OECD’s economists proposed an “oil consumers’ cartel,” according to the New York Times. That was near the end of 1979, and that is the last time I can find any mention of government-level proposals for a consumers’ cartel.

The 1986 oil-price crash was disastrous for the U.S. oil industry, but the rest of the country was ecstatic. The crash caused a national debate over whether the United States should, on its own, impose a tariff on imported oil to prevent OPEC’s eventual return to power. Conservatives and liberals alike supported such a tariff, and oil interests opposed it. The oil interests, with friends like George Bush Senior, won the debate. Of course, the United States, acting alone, would have had only a modest effect, because even the United States needs the extra market power a cartel brings.

In the final days of the oil-price collapse, the Wall Street Journal reported:

Vice President George Bush Tuesday sparked a sharp jump in world oil prices. Mr. Bush, who departs today on a trip to Saudi Arabia and three other Middle Eastern countries, said at a news conference that he would make a plea to Saudi officials for stability in world oil markets. [emphasis added]

There’s George Bush Senior using that that same code word—stability—that his son found OPEC ministers using fifteen years later. No wonder George Junior believed the OPEC ministers, as I quote him saying in the second paragraph of this chapter.

Trying to stabilize an oil price that was in free fall after twelve painful years of high oil prices got Bush Senior in a peck of trouble, even with his own administration. An editorial in the Atlanta Journal-Constitution asked, “Will George Bush be boiled in oil?”

Was Bush Senior trying to help the Saudis? No, as the Wall Street Journal explained: “Mr. Bush, a former oil man whose political base is in Texas,” said “Hey, we must have a strong, viable domestic [oil] industry.” Nothing is better for domestic oil producers than having OPEC raise the world price of oil.

The debate over standing up to OPEC continued through 1986 and 1987 and up until Tuesday, November 3, 1988, when George H. W. Bush was elected president. The oil interests had triumphed.

OPEC’s Greatest Fear

If you want to know what strategy would work against OPEC, listen to OPEC. OPEC pays close attention to what would damage its profits. Of course, when the organization finds a threat, it doesn’t tell us directly what it is. Instead, OPEC looks for some reason to criticize the threatening strategy.

As Daniel Yergin explains in this chapter’s opening quote, a tariff on oil imports arouses the exporters to outrage because “such a levy would transfer revenues from their own treasuries back to the treasuries of the consumers.”

A tax—actually, an untax—on imported oil is exactly what I recommend, because, as Yergin said in 1991, it would transfer revenues from OPEC’s treasuries to the treasuries of the consumers. (Or, in the case of an untax, it would transfer money to the wallets of the consumers.) OPEC’s displeasure with this idea is a reliable sign that it’s a good idea. Selling oil is a zero-sum game: What they gain, we lose.

But since 1991, another reason for such a tax has worried OPEC more than the simple idea of cutting our oil costs. In 2007, OPEC stated that it was

concerned that many of the so-called 'green' taxes that are currently levied on oil do not specifically help the environment. Instead, they simply go into government budgets to be spent on other things. —OPEC, September, 2007.

Is this plausible? Might OPEC be concerned that the green taxes “do not specifically help the environment”? OPEC uses the word specifically because its members know that these taxes do help the environment by reducing the use of oil. It’s just that the tax revenues may not be used to help the environment. But what concerns OPEC is exactly the beneficial reduction in oil use—the part that does help the environment. As to the tax simply going “into government budgets,” well that would be our government’s budgets instead of their governments’ budgets. Again, it is easy to understand their “concern.”

But if OPEC doesn’t like green taxes, why did it sign the Kyoto Protocol? Well, besides the fact that the treaty requires its members to do absolutely nothing, they want to remain part of the international climate-change process. In another 2007 statement, OPEC stated that it

participates in many international meetings in order to remind governments and others who are debating environmental policies that they must consider the needs of developing countries, especially those that rely on their income from oil. September, 2007.

“Those that rely on their income from oil”—would they, by any chance, be the OPEC countries? So OPEC participates in climate-change conferences to protect its “income from oil.” How thoughtful. But, although OPEC does remind us of the needs of developing countries, it might be a bit more accurate to characterize what it does as trying to stir up trouble.

It is unfair and unrealistic to ask for more stringent commitments for developing countries over and above those already embraced by them in the Kyoto Protocol. —OPEC, December, 2007

“More stringent commitments”—I suppose that would mean “any commitments at all,” since developing countries currently have no commitments under Kyoto. I can think of one excellent commitment they should make: Developing countries should commit to stopping their subsidies for fossil fuels—in other words to stop wasting money and subsidizing global warming at the same time. Of course the developing countries that top the list of oil subsidizers are the OPEC countries. But this is getting off the point.

My point is that OPEC members fear effective climate-change policy, and most of all they fear “green taxes” or untaxes on oil. OPEC members fear these because they know the taxes work—they reduce the use of oil. Even more, OPEC members fear such taxes because when oil use falls, the price of oil falls. And that’s what really hurts OPEC’s members.

We also need to be sure that there will be enough demand for that oil and that we will get a reasonable price.

—OPEC, September, 2007.

Now, what price would OPEC consider “reasonable”? Might that be the highest possible sustainable price? That’s certainly what I would mean, were I in OPEC’s shoes. OPEC is always talking about “security of demand.” But its members are not concerned with a sudden demand disruption due to a terrorist attack on the United States. They are concerned that we might reduce our oil addiction over the long run. Pushers are always concerned about how to keep their users hooked. According to OPEC,

Oil demand is also greatly affected by consuming countries’ policies. Taxation of energy products is often seen not only as a means of raising revenue, but also as a means of controlling demand in addressing environment and energy security issues.

So there you have it straight from the horse’s mouth. “Oil demand is also greatly affected by consuming countries’ policies.” And what policy tops the list? “Taxation of energy products.” Might these “energy products” be oil? Can’t OPEC ever say what it means? Well, if I were them, I wouldn’t either.

How Strong Would a Consumers’ Cartel Be?

OPEC members’ big worry is a tax on oil, but just how worried should they be? In part, that depends on how hard it is for consumers to push down oil prices. To do this, consumers must reduce oil demand worldwide, but how much good will that do? Of course, that depends on how much consumers reduce their use of oil. What we would like to know is the relationship between oil-use reduction and oil-price reduction.

For example, would a 10 percent reduction in global oil use cause a 10 percent reduction in the price of oil, or would it cause a larger or smaller change? I will call the ratio of percent oil-use reduction to percent oil-price reduction the oil-use-change-to-oil-price-change ratio or, for short, the oil-change ratio (which I hope is more intuitive than the economists’ term, the “inverse price elasticity of demand”).

So what is the world’s oil-change ratio? As it turns out, I can’t pin it down, but it looks like a ration of 1-to-1.5 would be a safe bet. That means that a 1 percent reduction in oil use would cause a 1.5 percent reduction in the price of oil. Or, if we conserve more, a 10 percent reduction in oil use would cause a 15 percent reduction in the price of oil. This ratio gives us a way to evaluate energy policies, such as fuel-efficiency standards or subsidies for corn ethanol.

Unfortunately, I cannot find a single estimate of this important ratio in the economic literature. Estimates must exist, because economic models use the ratio. I think the problem is that the estimates are basically professional judgments, and so far, no economist has been willing to spotlight such an uncertain but important estimate.

This leaves only two ways to discover the value of the oil-change ratio. First, I can look to history and try to make an estimate. Second, I can look at the results of economic models that use the ratio and see what they suggest. I will do a little of both and then make a cautious choice.

The Great Energy Experiment. Before looking at the economic models, recall that OPEC conducted what I call, in chapter 1, the great energy experiment. This “experiment” tested the value of the oil-change ratio by raising the price of oil sharply and then waiting for conservation effects to reduce demand. In chapter 8, we saw that this caused a collapse in the world price of oil between 1981 and 1986. At that time every 1 percent drop in net demand caused roughly a 3 percent reduction in the world oil price. That’s a 1-to-3 oil- change ratio.

The Economic Models. Three major 1998 studies of the impact of the Kyoto Protocol apparently used oil-change ratios of 1-to-4 and 1-to-5 (see Who Says a Consumers’ Cartel Would Work?). These figures are even more optimistic than a ratio of 1-to-3, because the same effort reduces the oil price more.

A 2007 MIT report on congressional cap-and-trade bills, which I describe in more detail in the same box as the three Kyoto studies, does not report enough information to determine a ratio. However, it does find that a strong international climate-change program could reduce oil prices from an estimated $90 in 2050 to an astoundingly low $48 a barrel.

In the end, the oil-change ratio I have chosen to use is from the IEA. Organized by the United States in 1974 to confront OPEC, the agency now plays a largely informational role for its twenty-seven member nations. It is the world’s leading energy research institute and publishes the World Energy Outlook each year. This report includes both a “reference scenario”—a picture of what would happen with no new government energy policies—and an “alternative policy scenario,” a prediction of what would happen if governments implement interventions that they are already considering. I have chosen to use the value for the oil-change ratio that the IEA used in its 2005 alternative policy scenario.² This is the most conservative value I’ve found, and it is the most clearly explained. The alternative policy scenario demonstrates how to reduce the use of all fossil fuels, but here’s the IEA’s prediction of the demand for oil in the alternative scenario:

Demand for oil in the Alternative Policy Scenario rises to just under 5000 million tons in 2030, 580 million tons, or 10%, lower than in the Reference Scenario.

The 10 percent decrease in the use of oil relative to the IEA’s reference scenario would also reduce the price of oil.

The oil price averages $33 per barrel in the Alternative Policy Scenario. This is $6, or 15%, lower than in the Reference Scenario, because lower demand depresses prices.

The IEA projects that a 10 percent reduction in global oil use will lead to a 15 percent reduction in the price of oil. That’s a 1-1.5 ratio. I use this figure in chapter 10 and through out the rest of this book.

But one more estimate of the oil-change ratio deserves attention. It is more recent and may be the most relevant to conditions we are likely to face. The IEA’s 2007 World Energy Outlook also considers a “high-growth” scenario, in which demand for energy is high—the opposite of the alternative policy scenario. Higher oil demand pushes the price of oil up instead of down:

International oil prices reach $87 per barrel in year-2006 dollars in 2030, 40% higher than in the Reference Scenario.

This is astounding, because in the high-demand scenario, global demand for oil is only 3 percent higher than in the Reference Scenario. So the IEA is using a 1-12 oil-change ratio. A 3 percent increase in demand (actually a hair more) causes a 40 percent increase in the price of oil. If the world finds itself in a high-oil-demand situation, then a demand-reduction policy—a consumers’ cartel—would be extremely valuable. Even if it reduced demand only 3 percent, this would cancel out the 40 percent oil-price increase.

In other words, if the oil market turns out to be tight—as it has been for a few years and promises to be in the future—a consumers’ cartel could have a more beneficial impact than the 1-1.5 oil-change ratio that I have selected would predict. The studies I have reviewed give oil- change ratios ranging from 1-to-1.5 all the way up to 1-to-12. To avoid any hint of exaggeration, I have chosen to use the lowest of these values. I will assume that each 1 percent reduction in world oil demand will cause, on average, a 1.5 percent reduction in the world price of oil.

This is a long-run effect, which applies to changes in demand that last for many years. The short-run effect is stronger, as we have seen recently. Small changes in supply and demand have sent the price of oil skittering up and down. Between 1998 and the start of 2008, the world’s use of oil increased only 13 percent, but the price of oil increased roughly 700 percent. That’s a short-run oil-change ratio of about 1-to-50. (See also sidebar: The Power of a 1-to-1.5 Oil Ratio)

* * *

Since Vice President George H. W. Bush flew to Saudi Arabia in 1986 to try to stanch the oil-price collapse, the U.S. government has been trying to curry favor with OPEC, a policy that has never paid off except for the oil companies. In such a climate, our politicians are still afraid to speak the words consumers’ cartel. But as Japan’s Prime Minister Kiichi Miyazawa said long ago, “A consumers’ cartel—there is no other way.” I agree. And to make that case, I have argued four main points in this chapter:

We have learned lessons from the original consumers’ cartels. During the early years of the first two OPEC crises, the United States organized two consumers’ cartels, the IEA and the Tokyo agreement. Both fizzled for lack of commitment, but the process of organizing the IEA in particular taught valuable lessons.

A cartel is not about confrontation. The key lesson concerning a consumers’ cartel is that it is not about confrontation. It’s no use trying to bargain OPEC down or refusing to pay its price. Instead, reduce the world’s demand for oil, and let the market do the job.

OPEC is afraid of a consumers’ cartel. OPEC displays its fear by publishing an annual report attacking European gasoline taxes and by arguing against effective climate policies except for ones related to coal.

A consumers’ cartel would have a strong effect. Both the historical record and a wide range of the most authoritative energy models predict that reducing the world’s appetite for oil will reduce OPEC’s price. The weakest predicted effect is a 1.5 percent drop in price for every 1 percent drop in demand. Even this smallest value is a strong effect.

An effect of this size means that every dollar of oil not purchased not only saves that dollar, but saves consumers worldwide another $1.50 in reduced oil prices. Even by itself, the United States could shift tens of billions of dollars of climate-change costs to OPEC and the other oil suppliers. But with a consumers’ cartel, the world really could “charge it to OPEC”—and Exxon and BP and all the rest.