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Cartels:
People of the same trade seldom meet together, even for merriment and diversion,
but the conversation ends in a conspiracy against the public, or in some
contrivance to raise prices. It is impossible indeed to prevent such meetings, by
any law which either could be executed, or would be consistent with liberty and
justice. But though the law cannot hinder people of the same trade from sometimes
assembling together, it ought to do nothing to facilitate such assemblies; much
less to render them necessary.
—Adam Smith
A cartel is a formal (explicit) agreement among firms. It is a formal organization
of producers that agree to coordinate prices and production. Cartels usually occur
in an oligopolistic industry, where there are a small number of sellers and
usually involve homogeneous products. Cartel members may agree on such matters as
price fixing, total industry output, market shares, allocation of customers,
allocation of territories, bid rigging, establishment of common sales agencies,
and the division of profits or combination of these. The aim of such collusion is
to increase individual members' profits by reducing competition. Competition laws
forbid cartels. Identifying and breaking up cartels is an important part of the
competition policy in most countries, although proving the existence of a cartel
is rarely easy, as firms are usually not so careless as to put agreements to
collude on paper
OR
By Cartel we mean a combination of several firms into a group sharing an
identical interest. When a large number of firms or industries join hands they
enjoy extra power. They can exert considerable influence on the market conditions.
They can charge exorbitantly high prices and exploit consumers. For this reason,
cartels are normally banned in various nations. In some implicit or explicit forms
cartels do exist in different parts of the world. Generally cartel organizations
take undue advantages of the loopholes in the legal provisions. Cartels are
theoretically akin to monopolies but in practice are far more menacing and
damaging in effect.
The best and most notorious example of cartels in the recent past is that of OPEC
- Oil Producing and Exporting Countries.
Advantages of Cartels:
1. The basic advantage and the foremost reason for the formation of cartels is
the increased profit level. When the firms join together they act as a monopoly
thus they fix price and quota. This leads to the end of non price competition in
form of excessive advertising thus they are able to reduce marketing cost.
Cartelization puts an end to all the price wars between members thus they need not
to undergo excessive price cutting thus leading to increased profit level. When
cartels are formed all members charge a price that is equivalent to the monopolist
price and provide quantity equivalent to monopolist quantity after that all
members are provided with fix quotas.
When they acted as rivals firm they charged price P1 and produced quantity q1 but
as they formed a cartel they were able to charge p and sell q resulting in being
better off.
2. When firms form a cartel their bargaining power increases they are able to
fulfill their demands effectively for example in 1973 & 1978 OPEC lead to the
price hike of petroleum there was a increase of more than 500% prices rose from $6
per/barrel to $32 this lead to increase in cost of production and a recessionary
phase over the world. However since all firms exporting oil was in mutual
consensus thus they had a lot of bargaining power and no super power was able to
affect them.
3. Cartels are beneficial for the host countries for they are able to increase
GDP, achieve positive B.O.P and high employment. Rapid global economic integration
has created invaluable opportunities for developing countries to grow, through
gaining foreign technology, participating in global market competition by opening
the countries’ borders to foreign goods and services. The growth of trade in goods
and services, however, has also made developing countries more vulnerable to
foreign sources of anti-competitive behavior.
Disadvantages of Cartels:
1. Cartels are not a very successful form of operations for there is always an
incentive to cheat charge a bit lower price, sell higher output and increase
profits. For example The Organization of Petroleum Exporting Countries (OPEC)
includes major oil producers Saudi Arabia, Iran, Kuwait, and Venezuela. Like any
other cartel, OPEC suffers from the problem that individual members prefer to
exceed their quotas. From a short-term perspective, no matter what others do, each
member’s best strategy is to cheat.
In November 1994, OPEC members met to decide production quotas for the following
year. Iran’s oil minister Gholamreza Aqazadeh remarked, “it will be very good for
the market . . . I hope everybody will agree to the quota without violations”.
Twelve months later, it was estimated that Venezuela had exceeded its 2.359
million barrel per day (bpd) quota by 300,000 bpd.
Besides cheaters within the cartel, OPEC had also to contend with high output from
non-member countries. In June 1998, OPEC agreed that its members would reduce
production by 2.6 million bpd, and non-members Mexico, Norway, Oman, and Russia by
500,000 bpd. Saudi oil minister Ali Ibrahim Naimi was cautiously optimistic: “I
don’t think that anybody expects 100% compliance. . . . Is three million bpd going
to be pulled out of the market? Probably not. But is 2.5 million? That is still
good.”
Predictions of the impending demise of the OPEC cartel or its continued importance
abound. As late as 2001, OPEC was referred to as a “historically doomed
organization” but the subsequent rise in oil prices to record levels has led many
to question this prediction. Oil production data indicate that OPEC production
(April 2006) was 27.94 mbd, almost equal the total OPEC quota target of 28 mbd,
although 6 of the 10 OPEC members (excluding Iraq) were exceeding their individual
quotas. A recent assessment of the future of OPEC states that “Large price swings
reveal errors in forecasting and execution, not a lack of power to move the
price.”
2. Cartels like monopoly do lead to dead weight loss for they charge P and sell
q but they should have charged P1 and sold Q1 this leads to decrease in consumer
surplus and resources being kept ideal. Allocative efficiency is achieved when the
value consumers place on a good or service (reflected in the price they are
willing to pay) equals the cost of the resources used up in production. Condition
required is p=mc but since cartels do not meet this condition they are surely
inefficient. Productive efficiency refers to a firm's costs of production and can
be applied both to the short and long run. It is achieved when the output is
produced at minimum average total cost (AC). For example we might consider whether
a business is producing close to the low point of its long run average total cost
curve. When this happens the firm is exploiting most of the available economies of
scale. Productive efficiency exists when producers minimize the wastage of
resources in their production processes. Thus they don’t even match this category
they are even productively inefficient.
3. Cartels are not even of a great help to their own economies for example
OPEC’s stated mission is to promote the economic development and growth of its
member states while minimizing volatility in the oil markets. But after a
promising beginning many member states’ economies have declined rather than
prospered—a clear indication of OPEC’s failure to meet their development goals.
Thus, we ask if a resource cartel can achieve the joint goals of development and
resource market
stability. In a model in which oil producing countries choose whether to join an
oil cartel or remain in the fringe, we find that, in a highly elastic oil market,
a profit maximizing cartel is inconsistent with oil market stability in the face
of demand shocks.
CONCLUSION:
Cartels are an attack against free market economies. Modern history has shown that
they harm great economies. Cartels inflate prices, restrict supply, inhibit
efficiency and reduce innovation. Today governments around the world accept the
principle that industrial progress is best obtainable in a free market where
demand and supply fix price and price is not fixed for consumer exploitation.