Saudi ARAMCO Essay
Monopoly
of Saudi ARAMCO
Monopoly is the opposite extreme from perfect competition and occurs when one company produces an industry’s entire output. In contrast to perfectly competitive companies in free market environment, a monopolist sets prices, not takes them. There are several types of monopolies, for example, natural monopolies are created when the minimum efficient scale of production is large relatively to the market demand. A second way a monopoly can arise is when several companies agree to behave as if they were a single seller; such group is usually called a cartel or producers’ association. One of the examples of agreement among producers is the Organization of Petroleum Exporting Countries (OPEC), which is formed not by all market players, but by firms comprising a significant part of the market, which turns the market into oligopoly. There is yet another way to create a monopoly, coercive monopoly, which is usually created with government intrusion and will be discussed later in more detail.
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Saudi Aramco is the world largest oil company with the largest oil reserves. The company is owned by the state of Saudi Arabia and is a well-known example of coercive monopoly. Coercive monopolies can be created when a government grants certain permissions to a company (also called government granted monopoly) or, as in the case of Aramco, when a government entirely owns a company and creates laws eliminating any competition in the market (also called government or public monopoly).
Coercive monopoles are often created through government’s nationalization of natural resources or existing companies, which was exactly the case with Aramco. Few other examples of coercive monopoly include the US Postal Service and Venezuelan petroleum company PDVSA. In all mentioned cases, governments create laws that ban potential competitors to enter the market.
Arabian American Oil Company, now knows as simply Aramco, started in 1920 when the king of Saudi Arabia allowed foreign companies to explore the oil resources of the newly established country. In 1933, Standard Oil of California was granted an exclusive 60-year special agreement with Saudi Arabia. Aramco was fully nationalized by the government of Saudi Arabia in 1980 under the leadership of Ahmed Zaki Yamani. Since then, Aramco is a 100% state-owned group that manages all of the oil industry in Saudi Arabia, which has about a quarter of the world’s known oil reserves and is the world’s largest exporter. All these makes Aramco the world’s most influential oil producer supplying more than 10% of the world’s oil demand.
Aramco enjoys a significant level of freedom in its own country. Entry into the market is closed, so there is no way for other companies to complete on the market using price competition. Unlike any other kind of monopoly, coercive monopoly gives assurance of competition-free future.
Saudi Aramco in not the only oil producing monopoly in the world. Government-owned petroleum companies are common in oil-rich developing countries (example of Venezuela was already mentioned). Proponents of government monopolies argue that it is important to ensure public control over important industries and natural resources. Opponents usually criticize government monopolies for distortion of free market. Being a monopoly and one of the most influential international market players, Saudi Aramco has the power to increase production of oil when there is a shortage of global supply and to decrease production when prices are falling below the level it would like to maintain. Such positioning of power is definitely beneficial for the Saudi Arabia, not so much for the Western World.
Below are the most important characteristics of monopolies:
- Single Seller
- Market Power
- High Barriers to Entry and Competition
- Economic Barriers
- Economies of Scale
- Capital requirements
- Technological Superiority
- No Substitute Goods
- Control of Natural Resources
- Legal Barriers
- Deliberate Actions
All these characteristics will be discussed below in more detail and in relation to the Saudi Aramco.
Single Seller.
Aramco is the single seller of oil in the domestic market. It is a 100% state-owned corporation that manages all of the oil industry in Saudi Arabia, basically it is the industry.
Market Power.
Being the biggest producer of crude oil, the company has significant market power, not only in the domestic market, but also outside of the country. The company has significant freedom to set prices, limit production, and make any other decisions without fearing competition. Aramco is a government monopoly and its status of monopoly is supported by laws and regulations, so there is no fear of domestic competition in the future.
High Barriers to Entry and Competition
Economic Barriers
Economies of Scale. Natural barriers most commonly arise as a result of economies of scale. This is not exactly the case with Aramco.
Capital requirements.
Production of oil requires significant investments and capital resources, however, this alone still would not be enough to create a monopoly.
Technological Superiority.
One of the technology predetermined barriers is set-up costs. In some cases the costs of set-up and establishing new brand are so high that it is simply unprofitable to enter the market. It is definitely an important barrier, however, once again, this alone would not turn Aramco into monopoly.
No Substitute Goods.
Currently, consumers all over the world are extremely dependent on gas and oil. There are very few substitute goods, even though more and more governments and companies invest in development of sustainable substitutes for oil and gas. It is possible, that in the long run, sources of alternative energy will become dominant.
Control of Natural Resources.
Aramco owns all the oil resources in Saudi Arabia.
Legal Barriers.
Legal barriers are the most important in this case. Aramco is a government monopoly and competition is eliminated by law. The company is able to set prices and make all decisions without taking into consideration potential competitive forces because no competitors will enter the market.
Deliberate Actions.
Aramco does not need to engage into any deliberate actions or lobbying since its status of monopoly is already protected by the government.
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