What happens when an oligopoly faces competition?

There are textbooks, classes, even entire careers dedicated to economic theory. Some of the theories are good, some only apply in certain circumstances, and some are completely divorced from economic reality. One theory that is likely to become increasingly important over the next few years in the oil and gas sector is the power of oligopolies. Not in what they are, but in what happens when their grip on a market starts to loosen, suggests Kay Rieck, an experienced market observer and investor.

There is a saying that if you put five economists into a room together and ask them to discuss a specific subject, they are likely to come up with nine opinions. One thing that they all tend to agree on though is the impact on monopolies and oligopolies on economic conditions.

In the main monopolies and oligopolies tend to create price stability, because it is in the interests of the participants to maintain the status quo and keep prices at a manageable level. High enough to make the business worthwhile, but not so high that consumers find another way to fulfil their needs and move elsewhere.

Despite its nuances, the oil and gas sector over the last century has been a classic oligopoly, with prices maintained as far as possible by a small group of organisations and oil producing states. It’s an arrangement that has given the global economy the stability it needed to thrive, fuelling businesses, innovation and development on a scale unprecedented in human history.

Make hay while the sun shines…

The next few years are likely to bring an accelerating level of change. Alternatives are becoming more viable and receiving support from governments in terms of infrastructure projects. If the evidence of the last few weeks in the oil and gas markets are anything to go by, consumers will be moving quickly over the next few years come away from oil and gas, if only to protect themselves from erratic prices.

The problem is that on the one hand the price rises in both oil and gas over the last few months are completely understandable. There are a myriad of reasons, both covid and non-covid related, why prices are rising in the gas and oil markets, but in many ways this current period of short-term price fluctuations doesn’t necessarily matter in the long term.

Why? Because for the first time in a century, prices are rising at a point where the power of the handful of states and organisations at the top of the sector is becoming weaker. This puts the sector in the precarious position of needing to rebuild financial reserves after an exceptionally challenging couple of years while simultaneously needing to keep prices down in order to maintain market position.

…but be ready for the chill winds of reality

This is the first time in a long time that market position has been a relevant consideration to oil or gas, and how the sector deals with the new reality is likely to set the direction of global energy policy for a long time to come.

Ever since the economic difficulties of the nineteen seventies, the energy sector has been dominated by decisions made in a handful of board and government offices. What could be about to happen is that if they make the wrong decisions, they will accelerate the move away from oil and gas. While most people like to think that they make decisions based on their conscience and the needs of society as a whole, in reality, economics tends to have the most a significant impact.

In normal times, the fact that an electric car or heat-pump boiler costs a third more than a comparable oil or gas fuelled one is probably enough for most of us to stick with the status quo. But with the high price of fuel making running costs higher, more and more people are going to reach the tipping point when it comes to their commitment to oil and gas. They will become willing to take what has been seen as the risk of moving to an alternative. And as more and more people do that, the nature of secondary discussions such as the infrastructure implications of changing the energy mix at a national level, will also change.

Defining the pace of change

As I have said in my articles several times over the last few months, the oil and gas sector faces a choice: it can either make steps to improve efficiency, show itself to be willing to support governments and consumers in their ambitions to reduce the perceived impact of oil and gas on the planet, or it can carry on regardless and act like nothing’s happening. The latter approach is a far quicker route to obsolescence.

There are plenty of reasons to be positive about the future of the oil and gas sector, but the bottom line is that if the industry keeps behaving like it’s an oligopoly, it is going to lose out quickly in the face of competition. It’s the economic argument that usually wins in the end