Oil crisis of the 1970s

Figure 1. A sign at an Oregon gas station indicating the availability of gasoline to its customers in 1973. The Shortage from the embargo meant that gasoline had to be rationed, quantities per purchase limited and at times there was simply no gasoline available.

The oil crisis of the 1970s was brought about by two specific events occurring in the Middle-east, the Yom-Kippur War of 1973 and the Iranian Revolution of 1979. Both events resulted in disruptions of oil supplies from the region which created difficulties for the nations that relied on energy exports from the region. Canada, Australia, New Zealand, the U.S, Western Europe and Japan experienced large shortages in petroleum supplies and as a result suffered high prices.

The countries named above were hard hit because they were industrial centers in the world economy which had a large demand for cheap oil exports from the Middle-east.

By 1970 the Organization of Oil Exporting Countries (OPEC) had steadily been expanding its share in the market, by 1973 OPEC was supplying 56% of the world’s oil, up from 47% in 1965.

The 1973 Crisis

In October of 1973 Egypt and Syria (supported by a number of Arab nations) launched an attack against Israel which came to be known as the Yom-Kippur War. At the time the U.S had rising oil consumption, falling production and increasing imports of oil, mostly from OPEC countries. The decision by the U.S. to intervene in the Yom-Kippur War on the side of Israel had a disastrous effect for the US economy. Early in the war, the U.S decided to supply Israel with arms, this angered the Arab delegation of OPEC which responded with an embargo of oil sales to the U.S, Canada, the UK, Japan and the Netherlands.

The embargo shocked the oil market and created a shortage in supply. The embargoed nations were able to get oil companies to sell them oil from other sources however, the mass confusion resulting from the normal supply translated into a sharp rise in prices. Oil traders and companies having to shift supply lines and resources lead to large transport and transaction costs which played into the already high price resulting from the shortage. Additionally, it took time to sort out new sources which meant the hole left by the embargo was not filled immediately.

The embargo was a shift in global political and economic power as now the OPEC countries (largely centered in the Middle-East) could influence powerful nations such as the UK and U.S by manipulating oil supplies.

It is important to note that OPEC did and does not have a monopoly over the oil market, in 1973 they only had 56% of the oil market and while this led to a large amount of influence it does not allow OPEC to totally control the market. OPEC is an international cartel. The governments of the OPEC countries agreed to coordinate with petroleum firms (both state owned and private) in order to manipulate the worldwide oil supply and therefore the price of oil. OPEC has always had trouble cooperating, the 12 countries are not always able to coordinate policies to ensure their control over the market due to a large number of political and economic factors. Because OPEC does not control the whole market they are restricted by what the rest of the market does. In the instance of the 1973 embargo the embargoes nations were able to reconfigure their supply lines to keep the oil flowing despite a short-term drop in supply and rise in prices. The ability to find other sources limited the effects of the embargo to the short term.

Additionally, the OPEC nations had inadequate or underdeveloped downstream activities so they are reliant on mostly western companies to get their product refined and to market.

By May 1974, the U.S was able to convince Israel to withdraw their troops form the Sinai peninsula (A strip of land east of the Suez Canal seized form Egypt by Israel in the Six-Day War of 1967)and as a result, the embargo was lifted and supplies of oil began to flow again.

The Iranian Revolution (1979)

Figure 2. A demonstration during the Iranian Revolution in Freedom Square, Tehran, Iran.

On January 16, 1979, the Shah of Iran , Mohammad Reza Shah Pahlavi was exiled after mass protest and strikes. The Shah was exiled and there was a vote to reconstitute the Imperial State of Iran into the Islamic Republic of Iran. The new republic was led by the religious leader, Ayatollah Khomeini who got the title of Supreme Leader.

During the revolution, the workers of the oil sector had been actively protesting which ground Iranian oil production to a halt. The loss of production amounted to 2.5 million barrels per day. The loss in production left a large hole in the export of oil and the other OPEC countries mad an effort to increase their production in order to keep prices reasonable and the supply flowing.

The lower level of productions caused prices to rise, even when the new government had made an effort to revamp production, it was still not enough to offset the initial loss.

Iran-Iraq War

Following the Iranian Revolution in January 1979, the neighboring country of Iraq under its leader Saddam Hussein invaded Iran in September of 1980 in fear that the revolution might spread into Iraq. The war had a devastating effect on both countries, with regards to the effects on oil, the production of both countries was vastly decreased.

The Iranian Revolution (1979) and the subsequent Iran-Iraq War (1980-1988) restricted the supply of oil from Iran, their production had collapsed. Production increases form other OPEC members plugged the hole left by Iranian production. By July, 1980 the oil marker price was $30 (over $100.00 today), more than double the $12.70 market price in December 1978. By the 1990s the price of OPEC oil had increased almost 40% since 1980.

The effects of this conflict were short lived on the economy however, nations had already mobilized efforts to stabilize oil supplies after the 1973 crisis. Other oil sources had been under development in Alaska, the Gulf of Mexico, Siberia, Canada and the North Sea. In addition, countries dependent on oil from the Middle-east region had begun to shift away from oil as an energy source in order to avoid the fluctuations in supply and price. Countries reliant on OPEC oil sought to mitigate the effects of rising prices and dependence by replacing oil with other fuel sources such as coal, nuclear power and natural gas. The switch to coal for electrical generation was a simple change, in addition more research was done and emphasis was placed on the use of nuclear power to encourage the switch from oil.