Working Paper: NBER ID: w12000
Authors: Murray Carlson; Zeigham Khokher; Sheridan Titman
Abstract: We develop equilibrium models of an exhaustible resource market where both prices and extraction choices are determined endogenously. Our analysis highlights a role for adjustment costs in generating price dynamics that are consistent with observed oil and gas forward prices as well as with the two-factor prices processes that were calibrated in Schwartz and Smith (2000). Stochastic volatility aries in our two-factor model as a natural consequence of production for oil and natural gas prices. Differences between the endogenous price processes considered in earlier papers can generate significant differences in both financial and real option values.
Keywords: exhaustible resources; price dynamics; adjustment costs; oil; gas
JEL Codes: Q04; G1
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| costless supply adjustments (D24) | price changes follow a random walk (E30) |
| temporary demand shocks (E39) | permanent effect on prices (D41) |
| costly production adjustments (D24) | significant differences in price dynamics (E30) |
| adjustment costs (J30) | prices influenced by costs of altering production levels (D24) |
| slope of the forward curve (G19) | price volatility is U-shaped (G13) |
| nature of demand shocks and production responses (E23) | periods of backwardation and contango in forward curves (G13) |