Vienna, October 8, 1973
Oil ministers of six Persian Gulf nations sat across the table from executives of the “Seven Sisters”, a group of companies that had dominated the oil market for half a century. The Gulf producers, operating as part of a broader bloc called OPEC (Organization of the Petroleum Exporting Countries), requested a doubling in oil prices as inflation was eroding profits and demand for oil was rapidly increasing. The Seven Sisters offered an increase of 15%, and said they could go no higher until they had spoken to their governments. When they returned with no better offer, the Gulf delegates left Vienna without an agreement.
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For decades, global oil prices were dictated by the Seven Sisters, five of which were American. They split profits with host governments, for a long time on a 50/50 basis, but kept the right to set official oil prices. Although the US was a net oil importer, throughout the 1950s and 1960s it was the world’s dominant oil power, with enough spare capacity to absorb any global supply shock. But by 1972, it had reached peak production capacity and was no longer able to satisfy rising domestic demand, making it more reliant on imports and vulnerable to any volatility in global oil markets. Meanwhile, by that time Middle Eastern production had reached roughly 40% of the world total. The balance of power had shifted, and the Gulf states realised it.
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On October 16th, the six ministers (from Saudi Arabia, Iraq, Iran, Kuwait, Abu Dhabi, Qatar) regrouped at the Sheraton Hotel in Kuwait City. After some discussion, they agreed to raise the price of Arabian oil by 70%, to $5 per barrel. The outcome marked a monumental change, as it was the first time in which governments unilaterally decided on the price of oil. “This is a moment for which I have been waiting a long time. The moment has come. We are masters of our own commodity”, said the Saudi minister of petroleum to another delegate.
The next day, they met again, and announced production cuts of 5% per month. This time, the decision was to use oil as a political weapon. The Yom Kippur war had started ten days earlier, and the US was supplying Israel with military equipment. The cuts were aimed at squeezing Europe and Japan to the point that they would pressure the US to halt its support to Israel. President Nixon ignored both the cuts and Europe’s frantic pleas, and went instead to Congress asking for an additional $2.2 billion in emergency funds for Israel. Gulf states, led by Saudia Arabia, were outraged by Nixon’s action and responded by putting an embargo on oil to the US.
Saudi Aramco, Saudi Arabia’s national oil company and the Seven Sisters complied, but instead of cutting the US off, they re-routed non-Arab oil and prorated supply so that all countries were impacted equally. The consequences of higher prices and lower supply were felt immediately across the globe: in the US, gas stations were able to fulfil only 80% of the demand, while in Europe multiple countries imposed lower speed limits and no driving on Sundays to minimize consumption. In Japan, the government announced an emergency programme to ration oil and electric power for industry. It also appealed to the public to conserve fuel voluntarily at home, at work and on the highway. Traditionally, oil was traded through long-term contracts at fixed prices and volumes. But by December, the global shortage became so severe that governments turned to the spot market (an informal market of oil to be delivered immediately) and paid over three times the price of longer term contracts.
Taking note of what was happening, the six countries that met in Kuwait City gathered again, this time in Tehran. Saudi Arabia’s Sheikh warned that letting oil prices go this high would trigger a recession in the West and harm long-term demand. But the host of the summit, the Shah of Iran, saw an opportunity to fund his grand vision of a modernized empire and a world-class military. All, except for Saudi Arabia, agreed to raise prices for Arabian oil to $11.6. In a press conference right after the summit, the Shah stated that “the industrial world will have to realize that the era of their terrific progress and even more terrific income and wealth based on cheap oil is finished”.
Three months later, following a US-brokered disengagement between Israel and Egypt, Arab states agreed to remove the oil embargo on the US. But prices remained fixed at the new high, and OPEC began to actively manage production to keep prices stable. For the US and Western industrial countries, permanently higher oil prices exacerbated inflation at a time when stagnation and rising unemployment were on the rise. For Arab countries, meanwhile, the result was different. Saudi Arabia, Kuwait, Qatar and Abu Dhabi channelled their new wealth into creating a welfare state and in foreign investments (mostly in the US). Iran and Iraq pursued instead a path of militarisation and modernization. Both introduced secular reforms, and alienated conservative clerics and traditional merchants. But while Iraq’s regime replaced private merchants with state monopolies and crushed any religious opposition, Iran only weakened these groups. So when the oil boom brought about hyperinflation and corruption among the ruling elite, these people turned to Ayatollah Khomeini to restore traditional Islamic governance.
By late 1978, mass protests against the regime escalated into general strikes that brought the economy to a standstill. Oil workers joined the strike, causing output to collapse by 4.8 million barrels per day (or 7% of world production). The Shah, ill with cancer and lacking support from the US, left the country. His departure left an open door for Khomeini to return from exile and for Iran to become an Islamic Republic.
Oil buyers panicked that the Iranian revolution would spread across the Persian Gulf, and that ever growing oil demand would continue to drive prices higher. They scrambled to build up large inventories, removing an additional 10% of available supply from international markets. The panic was felt most acutely on the spot market, where oil reached as high as $50 per barrel. Arab nations rapidly responded by increasing their contract prices, which doubled from $14 in 1978 to over $31 in 1979.
In September 1980, Iranian oil production had barely climbed back to half its pre-revolution level when Iraq invaded the country. The combined loss of production from the two countries amounted to about 6% of world production at the time. Spot prices jumped, and official prices were raised again, reaching as high as $37 by late 1980.
Prices did not, however, stay that high for very long. Demand for oil in the industrial world contracted because of new recessions and increased uses of alternative energy sources. At the same time, new oil supply started coming on the market from non-OPEC areas such as Alaska, the North Sea and Mexico. In response, OPEC introduced a formal production quota system to keep prices steady. For several years, Saudi Arabia, the largest Gulf producer, cut production while other OPEC members cheated on their quotas. But by late 1985 it grew tired of watching its market share shrink and abandoned the quota system. What followed was a collapse in oil prices, which reached a low of $12 in 1986.
Oil prices have continued to swing, and saw multiple other energy shocks (eg. 1990, 2008) as well as slumps (eg. 1997-98, 2014-15). Why the 1970s remain, to this day, so important is because they marked a turning point. In the hands of producers, oil became a political weapon, while for importers it became a national-security problem. Since then, Western nations have accumulated strategic stockpiles and created emergency-sharing mechanisms to cushion future embargoes. They also began viewing domestic oil production as a security asset rather than just purely a commercial one. What the meeting in Kuwait City in 1973 set in motion was therefore much more than a price increase: it ended the Seven Sisters’ hegemony, tied together foreign and energy policies, and elevated oil into a primary driver of geopolitics.
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