The political economy of OPEC Gal Hochman a , David Zilberman b a Corresponding author: Department of Agriculture, Food, and Resource Economics and Rutgers Energy Institute — The State University of New Jersey Rutgers — NJ — Phone: 848.932.9142 — email:gal.hochman@rutgers.edu. b Department of Agriculture and Resource Economics and Energy Bioscience Institute — University of California Berkeley — Berkeley — CA — email:zilber11@berkeley.edu. Abstract We develop a conceptual model that captures OPEC pricing behavior, and apply it to explain the large gap observed between domestic fuel prices in OPEC countries and prices in the rest of the world. We model OPEC as a cartel of nations, not firms, and assume politician use two instruments: production quotas and domestic fuel consumption subsidies. The cartel- of-nations model suggests that introduction of alternatives to petroleum products may lead OPEC to reduce exports and increase domestic fuel con- sumption. The empirical analysis suggests that when OPEC sets produc- tion quotas, it places similar weights on consumers and producers surplus. But when OPEC countries set domestic fuel subsidies, on average 6% more weight is given to consumer surplus with some of the OPEC countries pur- suing very aggressive domestic cheap fuel policies. Keywords: Big economy, cartel of firms, cartel of nations, cheap oil policies, crude oil, domestic fuel subsidies, export-tax model, fuel, OPEC, political economy, production quotas. 1. Introduction There is growing interest in the behavior of fuel markets as countries and the global community are establishing climate-change and energy-security policies. But, to understand fuel markets (i.e., the downstream oil markets), we need to understand the unique institutional setup that characterizes the oil industry (i.e., the upstream oil markets). To this end, the Organization of the Petroleum Exporting Countries (OPEC) is not a textbook cartel. It is Preprint submitted to Energy Economics September 15, 2014 *Manuscript Click here to view linked References