2009

OPEC and It’s Influence

Archil Kublashvili
[CEU Business School]
27/06/ 2009
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1. A Brief History of OPEC

The Organization of the Petroleum Exporting Countries (OPEC) is a permanent,

The five Founding Members were later joined by nine other Members: Qatar (1961); Indonesia
(1962); Socialist Peoples Libyan Arab Jamahiriya (1962); United Arab Emirates (1967); Algeria
(1969); Nigeria (1971); Ecuador (1973–1992); Gabon (1975–1994) and Angola (2007). OPEC had its
headquarters in Geneva, Switzerland, in the first five years of its existence. This was moved to
Vienna, Austria, on September 1, 1965.

OPEC's objective is to co-ordinate and unify petroleum policies among Member Countries, in order
to secure fair and stable prices for petroleum producers; an efficient, economic and regular supply of
petroleum to consuming nations; and a fair return on capital to those investing in the industry.
www.opec.org

The 1960s
These were OPEC’s formative years, with the Organization, which had started life as a group of five
oil-producing, developing countries, seeking to assert its Member Countries’ legitimate rights in an
international oil market dominated by the ‘Seven Sisters’ multinational companies. Activities were
generally of a low-profile nature, as OPEC set out its objectives, established its Secretariat, which
moved from Geneva to Vienna in 1965, adopted resolutions and engaged in negotiations with the
companies. Membership grew to ten during the decade.

The 1970s
OPEC rose to international prominence during this decade, as its Member Countries took control of
their domestic petroleum industries and acquired a major say in the pricing of crude oil on world
markets. There were two oil pricing crises, triggered by the Arab oil embargo in 1973 and the
outbreak of the Iranian Revolution in 1979, but fed by fundamental imbalances in the market; both
resulted in oil prices rising steeply. The first Summit of OPEC Sovereigns and Heads of State was
held in Algiers in March 1975. OPEC acquired its 11th and final current Member, Nigeria, in 1971.
www.opec.org

The 1980s
Prices peaked at the beginning of the decade, before beginning a dramatic decline, which culminated
in a collapse in 1986 — the third oil pricing crisis. Prices rallied in the final years of the decade,
without approaching the high levels of the early-1980s, as awareness grew of the need for joint action
among oil producers if market stability with reasonable prices was to be achieved in the future.
Environmental issues began to appear on the international agenda.

The 1990s
A fourth pricing crisis was averted at the beginning of the decade, on the outbreak of hostilities in the
Middle East, when a sudden steep rise in prices on panic-stricken markets was moderated by output
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increases from OPEC Members. Prices then remained relatively stable until 1998, when there was a
collapse, in the wake of the economic downturn in South-East Asia. Collective action by OPEC and
some leading non-OPEC producers brought about a recovery. As the decade ended, there was a spate
of mega-mergers among the major international oil companies in an industry that was experiencing
major technological advances. For most of the 1990s, the ongoing international climate change
negotiations threatened heavy decreases in future oil demand. 1

2. Organization of the Petroleum Exporting Countries Functions

The OPEC Member Countries coordinate their oil production policies in order to help stabilize the oil
market and to help oil producers achieve a reasonable rate of return on their investments. This policy
is also designed to ensure that oil consumers continue to receive stable supplies of oil.

The Ministers of energy and hydrocarbon affairs meet twice a year to review the status of the
international oil market and the forecasts for the future in order to agree upon appropriate actions
which will promote stability in the oil market.

The Member Countries also hold other meetings at various levels of interest, including meetings of
petroleum and economic experts, country representatives and special purpose bodies such as
committees to address environmental affairs.

Decisions about matching oil production to expected demand are taken at the Meeting of the OPEC
Conference. Details of such decisions are communicated in the form of OPEC Press Releases.

The OPEC Secretariat is a permanent inter-governmental body. The Secretariat which has been based
in Vienna since 1965 provides research and administrative support to the MCs. The Secretariat also
disseminates news and information to the World at large.

The official language of the Secretariat is English, official Currency USD per barrel of oil.2

Additional functions include: Printing publications, Special Events, Communications, Organizing

1
http://www.opec.org/aboutus/history/history.htm
2
http://opec.cit.nih.gov/about.html
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3. OPEC’s management and organizational structure 3

OPEC Energy Studies Department

Monitors, analyzes and forecasts world energy developments in the medium and long term, including
analysis of energy supply, demand and environmental policies, government policies on energy
conservation and other relevant factors, as well as technological developments affecting
hydrocarbons and products and their non-energy end-uses. The Department prepares medium and
long-term forecasts of the demand for OPEC oil and gas.

OPEC Petroleum Market Analysis Dept.

Monitors and analyzes short-term oil market indicators and world economic developments, factors
affecting the short-term oil supply/demand balance, crude oil and product market performance,
oil/product trade, stocks, spot price movements and refinery utilization, as well as the latest
developments in energy policies which directly affect prices and demand for various petroleum
products. 4

3
http://www.opec.org/aboutus/organigram/OPEC_ORGANIGRAM.pdf
4
http://www.opec.org/aboutus/Secretariat/RD.htm
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4. OPEC Price Band

Oil markets have recently been experiencing severe oil price slumps. The OPEC Basket crude oil
price fell from a level of $140.73/B on 3 July 2008 to less than $40/B by the end of the year. The
price fall comes at a time when oil exporting countries are highly dependent on their oil revenues. Oil
production and export hikes aimed at making up for the shortage of oil revenues at a time when the
market is experiencing surplus production will certainly be followed by irreparable consequences.
This is particularly the case under circumstances when declining demand for oil as a consequence of
a global financial crisis underlies the market down-trend. Other factors such as a big boost in the
storage of crude oil in the member states of the OECD, an increase in surplus oil production capacity,
an easing of geopolitical tensions, a strengthening of the dollar’s value, and the behavior of
speculators should also account for the slipping oil prices. Meantime, surplus oil production capacity
has increased due to the development of new oil fields in the OPEC and non-OPEC oil producing
states and also the recent production cuts by the OPEC member states.

OPEC has learnt a lot from previous oil market panics. In response to the current situation OPEC
member states have initiated production cuts in order to impede slipping oil prices. At their 149th
ordinary meeting on 9-10 September 2008, OPEC member states stressed observation and adherence
to OPEC’s September 2007 approved production ceiling of 28.8mn b/d. In the course of their 150th
extraordinary meeting on 24 October 2008, OPEC member states reached consensus over daily
production cuts of 1.5mn b/d beginning from 1 November 2008. At the 151st extraordinary meeting
on 17 December, OPEC member states agreed that cuts would amount to 4.2mn b/d from actual
September 2008 OPEC-11 production of 29.045mn b/d. However, such decisions by OPEC have
failed to revive oil prices. It appears that the wide-scale global economic crisis has diminished
demand for oil beyond OPEC’s intended oil production cuts.

To what extent is OPEC planning to reduce its production rate is a question that requires the
specification of price targets. When oil prices were at their peak, OPEC officials frequently
proclaimed that they were not pursuing any price target and that the oil market itself would best
determine prices. At that time, restricted production capacity had made it impossible for OPEC
member states to determine prices. In addition to the high growth rate of the global economy
fostering demand for oil, there were also geopolitical tensions, unforeseen cuts in oil and gas supplies
from OPEC and non-OPEC producing states, high costs associated with the development of new oil
fields, and ultimately the behavior of speculators. All these factors were beyond the control of OPEC
and contributed to the emerging price hikes.

Key To Adjusting Production

How can OPEC concentrate its efforts on maintaining control over production and stabilize the
market? The response to this question would be possible if one takes a glance at the recent history of
this Organization. In its 109th ordinary meeting in March 2000, OPEC unofficially introduced its
price band mechanism to the market. Within this mechanism, in the case of the average OPEC Basket

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crude price falling under $22/B for more than 10 successive working days, OPEC member states
would be obligated to cut their daily production by 500,000 b/d, and in the case of the price
exceeding $28/B for 20 successive working days, OPEC would increase production by 500,000 b/d.
Although OPEC took advantage of this mechanism only once, increasing production by 500,000 b/d
beginning on 31 October 2000, and gave up the whole idea in January 2005, introduction of this
mechanism affected the market psychologically and stabilized prices during the period that OPEC
was not inclined to change prices beyond specific limits.

OPEC can revive this mechanism under the present circumstances. Concurrent with OPEC’s 150th
meeting, the President of Venezuela declared that the organization should specify oil prices within the
price region of $70/B, $80/B or even $90/B. These statements revealed that at least some OPEC
member states are well prepared to utilize this mechanism, which is not intended to rule out market
fluctuations; rather it is meant to preserve a price average within a specific band.

Should OPEC member states wish to restore a price band mechanism, they are recommended to
introduce the following amendments:
• A price target should be defined – by making use of the OPEC Basket price – within a band
that would make investment in the oil industry attractive.

• A period of one month should be specified for the calculation of the price average.

• The production adjustment date should be prior to the regulation of oil loading programs by
the member states.

• The specified price band and production changes should be observed and adhered to by all.

• The scope of price band should not be very extensive, otherwise it would make no sense to
implement such a band.

• Within the mechanism, decision making should be activated automatically and communicated
to the member states by the OPEC Secretary General or President. 5

5. How OPEC Works

Fossil fuels, such as oil, gas and coal, provide ninety-two percent of the world energy resources with
sixty-five percent of the worlds known oil reserves being in the Middle East. Half of that oil in the
countries of Saudi Arabia and Kuwait.6

This is how OPEC works: each member country selects representatives. These representatives choose
a governor for their country. These governors go to the two OPEC meetings every year and they also
choose the OPEC chairman. All decisions are to be unanimous As stated in the OPEC Statutes, the
main objective is to set prices of oil and oil products and keep the price and supply stable with fair
returns to the investors.7
5
http://www.mees.com/postedarticles/oped/v52n06-5OD02.htm
6
The Third World Handbook- Guy Arnold 2006
7
www.Opec.org
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To increase the price of oil or oil products, OPEC decreases production. This makes oil harder to find
on the market, so countries end up paying more to get the hard to find oil. To decrease the price of oil
or oil products OPEC increases production. This makes oil easier to find, so countries end up paying
less for the abundant oil.

The increase or decreases of oil prices are used for many other things than just making money. The
change in oil prices is used for political reasons to get support for the region or for help from larger
countries and for elections of public officials. In 1970, Libya’s leader, Quadaffi, used OPEC’s
influence to put pressure on the other independent Middle Eastern states by cutting its supplies and
thus increasing the asking price per barrel. Even though Libya was not working within the OPEC
pact, it did lead to the OPEC decision to press for price increases and raised the tax on oil company
incomes.

But in the 1990, there was a real oil shortage caused by the Persian Gulf Crisis. Oil production
abruptly stopped during the crisis, and once again, oil prices quickly rose. The Persian Gulf Crisis
began in, May 1990. Saddam Hussein, President of Iraq, accused Kuwait of reducing the price of oil
lower that OPEC’s agreed price. Hussein also accused Kuwait of secretly drilling into Iraqi oil fields.
Hussein’s troops invaded Kuwait, destroying its oil fields, in the hopes of gaining control of the
entire Persian Gulf region. Hussein did not count on the other Arab nations coming to Kuwait’s
defense, but they did, along with the United States, Britain, France, Italy, Egypt and Syria. During
Operation Desert Storm, Iraq was bombed steadily for 40 days and then on, February 24, 1991, after
a 100 hour ground attack, the Gulf War was over. In response to the crisis, OPEC immediately
increased supplies from fields not affected by the Iraq-Kuwait crisis. This resulted in the stabilization
of prices.

Future trends in OPEC’s power will depend on three factors; the oil needs of OPEC, the oil usage of
the world’s main consumers and the prevalence of alternative energy sources. At the current rate of
production and usage, OPEC has approximately eighty years worth of reserves left. therefore, OPEC
will remain a vital part of global energy decisions for the foreseeable future. But the future does hold
some bad things for OPEC. This is because renewable energy usage will increase and the world will
improve its energy efficiency that will decrease the world’s dependency on Middle Eastern oil. These
changes will take many years, so OPEC will be around for a long while longer. 8

6. Oil Production & Iraq

That need can be seen in the nation's production levels. In the first quarter of 2007 Iraqi crude oil
production averaged 1.95 million barrels per day, according to the US Special Inspector General.
That's far short of the Iraqi goal of some 2.5 million BPD.
It is true that in a perfect world, we would like to see Iraq deliver to the market 5 million barrels of
oil per day. This would provide the necessary revenue to fund the rebuilding effort. Unfortunately, it
is not a perfect environment and the insurgents depend on Iraq spending large sums of money to
rebuild oil and natural gas infrastructure so that they can once again destroy the facilities. The
insurgents want chaos and what better way to produce chaos then to destroy infrastructure especially
when that infrastructure is viewed as helping to fund one faction over the other. And when Iraq
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spends large sums on oil infrastructure, it takes away money from local economy and reconstruction
in otherwords; it has an opportunity loss factor. The achilles heal is that without oil revenue the
country cannot rebuild, but if we fund oil infrastructure and it gets destroyed, recovery will not take
place. It is a catch 22. The answer is really fundamental--sell the oil in the ground as "futures." A
foreign exchange credit to those countries willing to fund reconstruction. It can be likened to selling
war bonds during WWII only these bonds are backed by future oil deliveries. As a future however
and fortunately for those obtaining the oil credit, the oil cannot be sold at market value. It must be
sold at below the current opportunity cost of the oil.

Between 100,000 and 300,000 barrels a day of Iraq’s declared oil production over the past four years
is unaccounted for and could have been siphoned off through corruption or smuggling, according to a
draft American government report.
Using an average of $50 a barrel, the report said the discrepancy was valued at $5 million to $15
million daily.
The report does not give a final conclusion on what happened to the missing fraction of the roughly
two million barrels pumped by Iraq each day, but the findings are sure to reinforce longstanding
suspicions that smugglers, insurgents and corrupt officials control significant parts of the country’s
oil industry...

7. Kuwait’s Oil

Kuwait's economy is heavily dependent on oil export revenues. Current high oil prices are producing
a surge in oil export revenues for Kuwait, with 2005 the best year for oil export revenues in the past
decade. Non-oil sectors of the Kuwaiti economy, particularly services, have also experienced strong
growth fueled by the inflow of oil revenues. Real gross domestic product (GDP) grew by an
estimated 4.8 percent in 2005, while inflation was running at around 4.1 percent. Despite its currently
strong macroeconomic position, including sizable fiscal and trade surpluses, Kuwait would like to
diversify its economy away from near-complete dependence on oil revenues. Currently, the country
relies on oil revenues for around 90-95 percent of total export earnings and around two-fifths of GDP.
Kuwait channels around 10 percent of its oil revenues into the "Future Generations Fund" for the day
when oil income runs out. The bulk of this reserve is invested in the United States, Germany, the
United Kingdom, France, Japan, and Southeast Asia. In order of importance, foreign assets are
believed to be invested in stocks and bonds, fixed yield instruments (mostly short term), and real
estate. Kuwait follows a generally conservative investment policy.

With approximately 65 percent of the population under the age of 25, and with around 90 percent of
employees in the private sector currently non-Kuwaiti citizens, creating jobs for young Kuwaitis is a
major objective of the government. Kuwait hopes to attract additional foreign investment, and has
started a program to privatize state-owned businesses (outside the oil sector). Privatization is
complicated by the need to protect the jobs of Kuwaiti citizens, who traditionally have been
employed mostly (over 90 percent) by state-owned enterprises and the government.

In March 2001, Kuwait's national assembly passed the "Foreign Direct Investment Act," which aimed
at promoting foreign investment. Among other things, the Act eased restrictions on foreign banks,
provided long-term protection to foreign investors against nationalization or confiscation, and

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eliminated the requirement for foreign companies to have a Kuwaiti sponsor or partner. In the oil
sector, the Kuwaiti constitution forbids foreign ownership of Kuwait's mineral resources, but the
Kuwaiti government is exploring allowing foreign investment in upstream oil development under
terms (see below for more details) which provide for per-barrel fees to the foreign firms rather than
traditional production sharing agreements (PSA's). The Kuwaiti government is currently making an
attempt to enact legislation to facilitate foreign investment in the upsteam oil sector, as part of its
"Project Kuwait" initiative to boost production capacity. The Kuwaiti parliament is expected to take
up the proposed legislation sometime in late 2006, but with strong opposition from several
legislators.

8. Persian Gulf Oil and Gas Exports Fact Sheet

In 2003, the Persian Gulf countries (Bahrain, Iran, Iraq, Kuwait, Qatar, Saudi Arabia, and the United
Arab Emirates) produced about 27% of the world's oil, while holding 57% (715 billion barrels) of the
world's crude oil reserves. OECD gross oil imports from Persian Gulf countries averaged about 11.6
million barrels per day (bbl/d) during 2003, accounting for 46% of the OECD's total net oil imports.
Besides oil, the Persian Gulf region also has huge reserves (2,462 trillion cubic feet -- Tcf) of the
natural gas, accounting for 45% of total proven world gas reserves.

The Persian Gulf, also known as the Arabian Gulf, is a 600-mile-long body of water which separates
Iran from the Arabian Peninsula, and one of the most strategic waterways in the world due to its
importance in world oil transportation. At its narrowest point, the Gulf narrows to only 34 miles
wide.

There have been, and continue to be, significant territorial disputes between Persian Gulf countries.
Besides the Iraqi invasion of Kuwait in August 1990, and before that the Iran-Iraq War from 1980 to
1988, another important dispute is between the UAE and Iran over ownership of three islands -- Abu
Musa, Greater Tunb Island, and Lesser Tunb Island, all strategically located in the Strait of Hormuz.
The three islands were effectively occupied by Iranian troops in 1992. In 1995, the Iranian Foreign
Ministry claimed that the islands were "an inseparable part of Iran." Iran rejected a 1996 proposal by
the Gulf Cooperation Council (GCC) for the dispute to be resolved by the International Court of
Justice, an option supported by the UAE. On December 31, 2001, the GCC issued a statement
reiterating its support for the UAE's sovereignty over Abu Musa and the Tunbs, declared Iran's claims
on the islands as "null and void," and backed "all measures...by the UAE to regain sovereignty on its
three islands peacefully."

In 2003, Persian Gulf countries had estimated net oil exports of 17.2 million bbl/d of oil (see pie
chart). Saudi Arabia exported the most oil of any Persian Gulf country in 2003, with an estimated
8.40 million bbl/d (49% of the total). Also, Iran had estimated net exports of about 2.6 million bbl/d
(15%), followed by the United Arab Emirates (2.4 million bbl/d -- 14%), Kuwait (2.0 million bbl/d --
12%), Iraq (0.9 million bbl/d -- 9%), Qatar (0.9 million bbl/d -- 5%), and Bahrain (0.01 million bbl/d
-- 0.1%).

The Doroud 1&2, Salman, Abuzar, Foroozan, and Sirri fields comprised the bulk of Iran's offshore
output, all of which is exported. Iran plans extensive development of existing offshore fields and
hopes to raise its offshore production capacity sharply to 1.1 million bbl/d from about 675,000 bbl/d
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currently. In early October 2003, Iran re-launched a tender for eight exploration blocks in the Persian
Gulf after receiving little interest from a January 2003 announcement. One area considered to have
potential is located near the Strait of Hormuz. Another interesting area is offshore near Bushehr,
where Iran claimed in July 2003 to have discovered three fields with as much as 38 billion barrels of
oil reserves.
OPEC Quotas and Outputs 9

9. Oil Price Not as Simple as Demand and Supply

Crude market prices are continuing to seesaw — rather heavily. From a price approaching $70 a
barrel last week, it is currently hovering at around $65. Who is controlling the oil market prices and
who is pushing it?
Oil producers continue underlining that the market fundamentals are balanced. There is no dearth of
supplies. It’s the non-fundamentals that are calling the shots, they insist. While addressing the press
conference last year at the conclusion of the Asian energy ministers forum, Saudi Petroleum and
Mineral Resources Minister Ali Al-Naimi said that extra market forces — from geopolitics to
hurricanes and refining constraints – all are impacting the oil markets.

Likewise in the US, where the last new refinery was built 31 years ago, surviving refineries need to
operate at full tilt in order to come close to meeting demand, but seem less and less able to do so.

9
www.opec.org- Annual Report 2008
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With refinery output declining, a rough indication points to higher refinery profitability. A measure of
the spread between the price of crude and the price of refined products has nearly tripled, from an
average of just $3.56 in 1999 to $10.94 last year. Amid the recent shortages, this so-called “crack
spread” shot as high as $24.80, Bart Melek said. He forecast in a recent report that “we (could) look
for sky high crack spreads throughout the summer”.

10.Top Petroleum Exporting Countries

11. Environmental Impact of Oil consumption

The presence of oil has significant social and environmental impacts, from accidents and routine
activities such as seismic exploration, drilling, and generation of polluting wastes. Oil extraction is
costly and sometimes environmentally damaging, although Dr. John Hunt of the Woods Hole
Oceanographic Institution pointed out in a 1981 paper that over 70% of the reserves in the world are
associated with visible macroseepages, and many oil fields are found due to natural leaks.

Offshore exploration and extraction of oil disturbs the surrounding marine environment.[11] But at
the same time, offshore oil platforms also form micro-habitats for marine creatures. Extraction may
involve dredging, which stirs up the seabed, killing the sea plants that marine creatures need to
survive. Crude oil and refined fuel spills from tanker ship accidents have damaged ecosystems in
Alaska, the Galapagos Islands, Spain, and many other places.

Burning oil releases carbon dioxide into the atmosphere, which contributes to global warming. Per
energy unit, oil produces less CO2 than coal, but more than natural gas. However, oil's unique role as
a transportation fuel makes reducing its CO2 emissions a particularly thorny problem; amelioration
strategies such as carbon sequestering are generally geared for large power plants, not individual
vehicles.

Renewable energy alternatives do exist, but given current technology, alternatives are uneconomical.
Solar, wind, geothermal, and other renewable electricity sources cannot directly replace high energy
density liquid petroleum for transportation use; instead automobiles and other equipment must be
altered to allow using electricity (in batteries) or hydrogen (via fuel cells or internal combustion)
which can be produced from renewable sources. Other options include using biomass-origin liquid
fuels (ethanol, biodiesel). Any combination of solutions to replace petroleum as a liquid
transportation fuel will be a very large undertaking.
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12.References
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2. A brief history of OPEC -http://www.opec.org/aboutus/history/history.htm
3. http://www.forbes.com/afxnewslimited/feeds/afx/2008/09/10/afx5406908.html
4. http://www.opec.org/library/opec%20statute/pdf/os.pdf
5. http://www.bp.com/liveassets/bp_internet/globalbp/globalbp_uk_english/publications/energy_rev
iews_2006/STAGING/local_assets/downloads/pdf/table_of_world_oil_production_2006.pdf
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//english.aljazeera.net/English/archive/archive?ArchiveId=6664
7. BW Online | January 20, 2003 | Is OPEC About to Lose Control of the Spigot? -http:
//www.businessweek.com/magazine/content/03_03/b3816074.htm
8. OPEC, by Benjamin Zycher: The Concise Encyclopedia of Economics: Library of Economics and Liberty
-http://www.econlib.org/library/enc/OPEC.html
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12. http://www.eia.doe.gov/emeu/cabs/OPEC_Revenues/OPEC.html
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strength -http://www.saudiembassy.net/1999News/Statements/SpeechDetail.asp?cIndex=327
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15. Saudis Vow to Ignore OPEC Decision to Cut Production -
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//www.opec.org/library/faqs/aboutopec/q3.htm
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//www.cia.gov/library/publications/the-world-factbook/fields/2119.html
18. http://en.wikipedia.org/wiki/CIA_World_Factbook
19. "Field Listing - Area". Central Intelligence Agency. -
https://www.cia.gov/library/publications/the-world-factbook/fields/2147.html
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21. Iraq: Baghdad Moves To Euro - http://www.rferl.org/features/2000/11/01112000160846.asp
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http://www.globalresearch.ca/index.php?context=viewArticle&code=CLA20060210&articleId=1937
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http://www.bloomberg.com/apps/news?pid=20601086&sid=aGBuWpZJ9cPI
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//www.eia.doe.gov/emeu/steo/pub/3atab.html ,
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