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A Glimpse into the Global Politics During Part 3 of Ella Hickson's Oil

After World War II, the oil industry grew quickly due to discoveries in the important producing areas—the Middle East and Venezuela, then Africa. From the mid 1940s through the early 1970s, seven English and American corporations, dubbed the “Seven Sisters,” dominated the universe of petroleum, controlling approximately 85% of the global oil reserves. (Due to mergers and name changes, the present-day descendants of those seven companies are BP, Shell, ExxonMobil, and Chevron.)

Anywhere an oil company wanted to drill for oil, it first had to sign a concession agreement with the country whose borders contained that land. A concession is a grant extended by a government to permit a company to explore for and produce oil within a particular geographic area. Agreement details varied but Francisco Parra in Oil Politics says that the following features were common to all concessions:

  • The company received an exclusive right to oil exploration and production in a defined area for a limited period of time.
  • The company received the rights to the oil, including how to dispose of it.
  • The company assumed all the costs and the financial and commercial risk.
  • The country received payments including a signing bonus and royalties.

At first taxes were not included. Most agreements included clauses stating that the government would not add taxes during the life of the concession. Concessions covered enormous areas—sometimes whole countries. They were written to remain in effect for decades. These concessions always came out to the huge advantage of the oil companies, rather than the countries that contained the oil.

The Founding of OPEC

Throughout the 1950s, oil demand and consumption grew at an extraordinary pace, but supply grew even more quickly. After the 50/50 agreements, which guaranteed an equal share of profits between oil producing countries and the companies exploiting the oil, the revenues of the oil producing countries had increased exponentially, and they wanted to force them even higher. In the “buyer’s market” of the 1950s, as the way to make more money, the countries pressed the oil companies not to raise prices but to continually increase production and volume sold. For the companies, who already had a surplus of oil and not enough markets, the growing glut meant they had to sell their oil at progressively larger discounts from their “posted price”—i.e., the publicly advertised price of a barrel of oil.

A company’s posted price was important to the revenues of the producing countries because it was used to calculate their sales take—taxes and royalties. They were supposed to receive 50% of the profits based on the posted price, but in reality they were receiving a higher percentage of sales than the oil companies—up to 60 or 70%—because the actual price at which the oil was sold, the discounted price, was falling. The blow from the price cuts was impacting the oil companies alone. So twice in 1959, the oil companies unilaterally cut their posted price, igniting a wave of anger and condemnation from the producing countries, whose revenues had dropped.

In September 1960, the major oil exporting countries—Venezuela, Saudi Arabia, Iran, Iraq, and Kuwait—formed a new organization called the Organization of Petroleum Exporting Countries (OPEC) whose aims included defending the price of oil and insisting that the producing companies confer with them on issues of pricing. For all their frustration and passion in 1960, though, OPEC members accomplished just about nothing for the first decade of the organization’s existence. The exporting countries were not fully prepared for a confrontation with the oil companies and were limited in the control of the resource, since the companies owned the oil reserves. Moreover, the countries often had conflicting political interests and were consistently competitors on the world market for oil. After the initial uproar, the oil companies didn’t show much respect for OPEC for many years.

OPEC’s Declaratory Statement of Petroleum Policy

The most significant act by OPEC in its first decade was the implementation of the 1968 Declaratory Statement of Petroleum Policy in Member Countries. Based on UN resolutions asserting the rights of nations to permanent sovereignty over their natural wealth and resources, it stated that the exploitation of oil, a finite resource, should be directed toward procuring the greatest possible benefit for the OPEC member. Therefore, the member countries, not the oil companies, should directly control the principles governing participation, pricing, and production. Of the Statements’ nine basic principles, three became crucial. One provided for the government itself to establish the posted prices on which income taxes (revenue) would be based. Another provided for conservation rules, based on best practices, to be set by the governments.

The third important principle dealt with participation, i.e. partial ownership by the exporting countries of the oil resources within their borders. It reads: “Where provision for Governmental participation in the ownership of the existing concession-holding company under any of the present petroleum contracts has not been made, the Government may acquire a reasonable participation, on the grounds of the principle of changing circumstances.” The fundamental principle of changing circumstances is a concept in international law (often treaties). It requires parties to a contract to perform their obligations in good faith but provides an escape valve for either party to terminate, suspend, or revise an agreement if an unforeseeable change in circumstances arises so the agreement no longer reflects the initial intention of the parties.

The oil companies paid no heed to what they thought was just another ineffective OPEC resolution. But it came to be considered a landmark for OPEC and the policies of its member countries, as its aim was to transfer control from the oil companies to the producing countries.

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