7 minute read
*Author Update - April 2025: Since this article was first published, OPEC+ fractures have only intensified, and my oil glut hypothesis has played out.
- OPEC+ "shocked markets" by more than tripling planned output increases for May 2025, shifting from price defense to deliberate overproduction.
- Angola officially exited the cartel, citing frustration with Saudi-led quotas.
- Russia has quietly increased oil exports, ignoring its production pledges.
- Meanwhile, oil prices continue to underwhelm despite repeated cuts—hovering below key break-even levels for many producers.
Oil Prices Are Falling — And OPEC+ Can't Stop It
Over the past year, oil has taken a beating.
Brent crude, the global benchmark for about two-thirds of internationally traded oil, peaked at $128 per barrel in March 2022. By November 30, 2023, it had slumped to around $81 - a 37% decline.
But here’s the thing: I’m not surprised.
Despite headline after headline about OPEC+ production cuts - led by Saudi Arabia - oil prices have kept drifting lower. The cuts haven’t worked. Why?
Because every time Saudi Arabia cuts output to prop up prices, other producers ramp up and cash in. They're benefiting while the Saudis take the hit. And this isn’t a new phenomenon - it's a recurring pattern that can be explained through game theory.
Game Theory 101: What Is the Prisoner’s Dilemma?
So, what exactly is the prisoner’s dilemma?
Put simply, it’s a game theory concept coined by mathematicians Merrill Flood and Melvin Dresher during the Cold War in 1950 to help make strategic decisions.
Imagine two suspects are arrested and placed in separate rooms. Each has two choices:
- Stay silent (cooperate)
- Confess (betray the other)
If both stay silent, they get light sentences.
If one confesses and the other stays silent, the betrayer walks free and the silent one gets a heavy sentence.
But if both confess, they both get medium sentences.
The catch? Each person is better off betraying—no matter what the other does. So both usually betray... and both lose.
This is exactly what’s playing out in the oil market.
Thus, the prisoner’s dilemma illustrates the challenges of cooperating when individuals or groups face conflicting interests.
Sometimes, choosing self-interest might not be of any value to you if others think only of their own gain.
For instance, if you think of the best interest of the group, but the other members of the group think of only their self-interests, you’ll end up bearing all the loss (just like the suspect who stays silent while the other blames him).
This prisoner’s dilemma gives us a great framework when looking at Saudi Arabia and OPEC oil cuts.
Because they’re looking like the real losers here. . .
Saudi Arabia And OPEC Are Stuck In Their Own Prisoner’s Dilemma
The biggest problem with the OPEC oil cuts is that each time they limit output (in an attempt to raise oil prices), other producers benefit – such as the U.S., Brazil, and Canada.
- For instance, U.S. oil production just hit a record high 13.05 million barrels per day in August 2023.
This is a thorn in the side of OPEC as they’re losing market share (reducing output) to try and keep prices higher while others – like the U.S. - come in and soak it up.
But let’s discuss OPEC itself here. . .
I believe there are two fundamental issues within OPEC – and even OPEC+ (aka including Russian and the Caucasus oil producers).
- First – oil revenues make up most of the income for several oil-producing countries. Thus, their government budgets and dollar reserves depend on oil output.
- Second – most of these countries have nationalized oil producers. Hence the state can choose oil output targets arbitrarily (whereas, for example, in the U.S. and Canada there is no mandated control of oil output).
So, in this context of OPEC, member countries face a dilemma when deciding on oil production levels.
Each country has an incentive to maximize its oil output to increase its revenue and gain a larger market share. And it often leads to cheating.
OPEC’s Recurring Problem: Cheating Pays, Until It Doesn’t
OPEC tries to address this dilemma through cooperation and collective decision-making.
The organization – under the heel of Saudi Arabia – sets production quotas for member countries, aiming to stabilize oil prices and maintain a balanced market. By limiting production, OPEC attempts to manage supply levels and support higher oil prices (a win-win).
However, the prisoner’s dilemma dynamics come into play when individual countries consider their own self-interests. . .
- For instance, if one country decides to exceed its production quota (let’s say Russia or Iran) and increase output, it can benefit by capturing a larger market share, potentially earning more revenue at the group’s expense.
- But if they all ‘cheat’ (because they don’t know if others are abiding by production cuts) – it can flood the market with oil (a lose-lose).
This creates tension within OPEC, as each member tries to strike a balance between maximizing their own gains and maintaining stability in the oil market.
And this “cheating” aspect happens much more often than many realize.
To put this into perspective, look at Iran's oil output (which was a founding member of OPEC) over the last few months. It’s risen roughly 600,000 barrels per day since this time last year – an over 20% increase.
It's important to note that Iran, Libya, and Venezuela are exempt from OPEC production quotas (meaning they don’t have set production limits).
Still, this is an awkward situation4 for Saudi Arabia – the main entity in OPEC – as they’re cutting while Iran (a geopolitical rival) increases output.
Or to put it another way – Iran is gaining at Saudi Arabia’s expense.
Saudi Arabia and OPEC often face challenges in enforcing production quotas and preventing free-riding behavior, where some countries exceed their limits while others adhere to them (win-lose).
And we’re already seeing the tension and resentment build in OPEC. . .
For instance, a few days ago, Saudi Arabia announced5 that they were delaying the OPEC+ meeting because it was “dissatisfied” with other members’ output levels – specifically the African producers and Iran.
Saudi Arabia is having difficulty with other OPEC+ countries that don’t exactly want to cut oil output since they depend on these revenues. Instead, these countries want to have their quotas increased (allowing more output).
In fact, after the meeting today, Angola – the second largest African oil producer in the cartel – said6 that it outright rejected the OPEC quota and will pump more oil than the quota dictates – which is a rare challenge to the Saudis.
Meanwhile, Russian crude oil exports have been rising when they should’ve been declining from “promised” 2023 cuts.
In fact – according to Bloomberg7 – Russian crude flows to international markets through seaborne shipments have been rising since August – and remain elevated at more than 500,000 barrels a day higher than they were at the end of 2022.
Russia appears to be losing its appetite to help prop up oil prices by cutting supply alongside OPEC+ ally Saudi Arabia.
Exports of Russian crude have steadily risen since August lows, even as the two countries reaffirmed their close “cooperation” in the oil market.
But looking at it from the prisoner’s dilemma angle – this makes sense.
The Russians can let Saudi Arabia and OPEC cut oil production further – thus pushing prices higher in the paper markets - while they reap the reward (higher margins).
Keep in mind that Russia is fighting a war in Ukraine and dealing with a weak domestic economy - forcing them to depend on oil revenues very heavily (their largest export is petroleum products).
And this is just Russia I'm talking about. . .
There are currently 13 OPEC member countries, and 23 if we include OPEC+.
All these competing actors trying to fulfill their own best interests are becoming the biggest problem for Saudi Arabia.
Because with each oil cut OPEC tries to do, it’s subsidizing U.S., Russian, Canadian, African, and Brazilian oil production (which have all risen steadily over the last two years) at their own expense.
Saudi Arabia is already expected to run a $21 billion deficit in 2023 (over 1.9% of GDP). How long will they continue doing so while others benefit?
No wonder there’s tension building within OPEC.
These countries don’t want to lose oil market share and the revenues they depend on for state budgets all to prop up other producers.
And if history means anything here – I expect further ‘cheating’ by OPEC members and further infighting.
Thus, the prisoner’s dilemma highlights the complexities faced by OPEC in maintaining cooperation and managing oil production.
It underscores the need for trust, effective communication, and a collective commitment to shared goals to avoid a “race to the bottom” scenario where everyone suffers from declining oil prices.
But as we’ve seen, these three things don’t really exist in the real world. As each country has its interests and is always looking for an advantage.
Eventually, I believe Saudi Arabia may flood the market with oil to try and price out marginal producers and regain market share.
We’ve seen it happen before. . .
Sources:
1. https://markets.businessinsider.com/commodities/oil-price
2. https://www.opec.org/opec_web/en/1000.htm
3. https://psychologenie.com/meaning-of-prisoners-dilemma-with-real-life-examples
Disclosure:
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