Trick of the trade : cheating in the oil industry.

Abstract

The concept of the Prisoner’s dilemma in Game Theory predicts that cartels should naturally dissolve as the dominant strategy for individual members is to cheat. However, OPEC has defied this prediction. This unusual phenomenon motivates our study on cheating behaviour by oil firms within OPEC. We devised a method to detect cheating by oil firms by observing the abnormal returns of oil firms’ stocks to OPEC announcements of production cuts. The model assumes that investors’ insider knowledge of oil firms’ cheating behaviour would be reflected in the abnormal returns. We also studied the effects of conflict intensity and oil prices on it. Our results show that higher levels of conflict intensity generally reduced the propensity to cheat while higher oil prices had differing effects on cheating propensity. The varied response may be due to differing firm objectives (profit maximization versus target revenue). Possible future areas of research may involve extending the methodology to include unlisted national oil companies in OPEC.