Depletion Policies for Oil-Exporting Developing Economies
43
OXFORD 1Nrnnn-E ENERGY STUDIES - FOR- Depletion Policies for Oil-Exporting Developing Economies Yannis Stournaras Oxford Institute for Energy Studies WPM 2 1984
Transcript of Depletion Policies for Oil-Exporting Developing Economies
OXFORD 1Nrnnn-E E N E R G Y STUDIES
- FOR-
Depletion Policies for
Oil-Exporting Developing Economies
Yannis Stournaras
Oxford Institute for Energy Studies
WPM 2
1984
The contents o f t h i s paper a r e f o r the purposes of study and d i s c u s s i o n and d o n o t r e p r e s e n t t h e views of t h e Oxford Institute for Energy Studies or any of its members.
Copyright 0 1984 Oxford Institute for Energy Studies
ISBN 0 948061 01 4
T h e f a c t t h a t m o s t o i l - e x p o r t i n g c o u n t r i e s a r e
deve lop ing economies has important imp1 i c a t i ons f o r o i l supp ly
which have n o t been p r o p e r l y t aken i n t o account i n the l i t e r a t u r e
on e x h a u s t i b l e r e source d e p l e t i o n . I n t h i s paper we examine how
d e p l e t i o n p o l i c i e s are a f f e c t e d ( a> i n t h e presence of terms of
t r a d e u n c e r t a i n t y , g i v e n t h e h i g h d e g r e e of t h e major o i l
e x p o r t e r s ' "dependence" on c r u d e o i l r e v e n u e s ; ( b ) i n t h e
presence of inves tment t i m e l a g s which d e l a y t h e e x p l o i t a t i o n of
(some of 1 these countr ies' compara t ive advantage i n a pe t r o 1 eum
based development; (c> i n t h e p re sence of i d e o l o g i c a l o b j e c t i o n s
t o t h e i d e a l of a ren t ie r s o c i e t y and t o f o r e i g n c a p i t a l .
INTRODUCTION
1. AN ECONOMY WITH A COMPLETE SET OF MARKETS AND INSTANTANEOUS ADJUSTMENT
2 . THE MAJOR OIL-EXPORTERS AS A GROUP OF DEVELOPING ECONOMIES
3 . SUMMARY AND CONCLUDING COMMENTS
APPENDIX 1
APPENDIX 2
TABLES
NOTES
REFERENCES
1
4
a
26
30
32
34
36
37
I n model l i n g t h e behaviour of o i l - e x p o r t i n g c o u n t r i e s
i t i s u s u a l l y assumed t h a t t h e o b j e c t i v e i s t o maximize t h e
p r e s e n t v a l u e of o i l r e v e n u e s e v a l u a t e d a t a v e c t o r of m a r k e t
c l e a r i n g p r i c e s . Given t h e v a r i o u s assumptions on t h e r e l e v a n t
p a r a m e t e r s ( i n i t i a l r e s e r v e s , demand e t c ) and t h e m a r k e t
s t r u c t u r e , t h i s e x e r c i s e g i v e s an e x t r a c t i o n p o l i c y o r , wha t
amounts t o t h e same t h i n g , a v e c t o r of e q u i l b r i u m p r i c e s . A
s u b s t a n t i a l number of n u m e r i c a l e x e r c i s e s h a v e b e e n p r o d u c e d
a l o n g t h e s e l i n e s .
I n t h e l a n g u a g e of p o l i c y maker s and d e v e l o p m e n t
e c o n o m i s t s t h e o b j e c t i v e i s t o r a i s e s t a n d a r d s of l i v i n g by
choosing a development s t r a t e g y f o r t h e l e v e l of o i l p roduct ion ,
c o n s e r v a t i o n and e x p o r t ; t h e i n t e r t e m p o r a l a 1 l o c a t i o n o f
consumption; and t h e a l l o c a t i o n of o i l revenues between domest ic
c a p i t a l formation and f o r e i g n a s s e t s .
It migh t b e a r g u e d t h a t t h e s e two s t a t e m e n t s a r e
e q u i v a l e n t o r , more p r e c i s e l y , t h a t t h e f i r s t problem i s p a r t of
t h e s e c o n d , and c a n b e s o l v e d s e p a r a t e l y t o g i v e t h e p r o f i t
maximising e x t r a c t i o n p o l i c y and t h e v e c t o r of e q u i l i b r i u m wor ld
o i l p r i c e s . U n f o r t u n a t e l y , t h i s " s e p a r a b i l i t y " p rope r ty h o l d s
o n l y i n some s p e c i a l c a s e s , For i n s t a n c e , it h a s b e e n shown
( D a s g u p t a , Eastwood and Heal , 1978; D a s g u p t a and H e a l , 1 9 7 9 ,
1
ch10.5) t h a t t h i s p r o p e r t y w i l l n o t h o l d i f t h e r a t e of r e t u r n
on f o r e i g n c a p i t a l d e p e n d s on t h e o i l - e x p o r t e r s ' f o r e i g n
i n v e s t m e n t a n d / o r t h e r e i s u n c e r t a i n t y about t h e f u t u r e demand
f o r o i l .
A r a t h e r d i f f e r e n t k ind of c r i t i c i s m has t o do w i t h t h e
f a c t t h a t t h e method of d e r i v i n g t h e o p t i m a l o i l e x t r a c t i o n
p o l i c y desc r ibed above ignores a number of c o n s t r a i n t s comon t o
t h e o i l - e x p o r t i n g coun t r i e s . Most o i l - expor t e r s s h a r e a number
of problems wi th the rest of t h e d e v e l o p i n g world: t hey depend
a l m o s t e x c l u s i v e l y o n a s i n g l e s o u r c e of r e v e n u e ; t h e y s u f f e r
from i n s u f f i c i e n t i n f r a s t r u c t u r e and a l a c k of s k i l l e d l abour ;
and t h e y a r e s u b j e c t t o c e r t a i n s o c i a l and g e o - p o l i t i c a l
c o n s t r a i n t s . I g n o r i n g t h e s e p r o b l e m s m i g h t i n t r o d u c e a
s p e c i f i c a t i o n e r r o r t o t h e model and g i v e m i s l e a d i n g r e s u l t s .
T h i s p a p e r i s an a t t e m p t t o a n a l y s e some of t h e s e
i s s u e s and examine whether they can be i d e n t i f i e d as d i s t o r t i o n s
wh ich b i a s o i l s u p p l y . To f a c i l i t a t e t h e p r e s e n t a t i o n w e h a v e
c l a s s i f i e d them i n t h r e e c a t e g o r i e s a c c o r d i n g t o t h e t y p e o f
market f a i l u r e wi th which they might be a s s o c i a t e d .
F i r s t , w e a t t empt t o r a t i o n a l i s e t h e concept of "excess
dependence" on crude o i l revenue us ing t h e concept , more f a m i l i a r
t o e c o n o m i s t s , o f r i s k a v e r s i o n . We a r g u e t h a t t h e b i a s i n o i l
s u p p l y w i l l depend o n w h e t h e r c u r r e n t u n c e r t a i n t y , a s s o c i a t e d
w i t h the o i l - expor t e r s ' c u r r e n t terms of t r a d e , i s viewed as more
i m p o r t a n t t h a n f u t u r e u n c e r t a i n t y ( a s s o c i a t e d w i t h t h e
development of s u b s t i t u t e techno 1 og ies ) .
Second, w e examine how t h e lack of p e r f e c t c a p i t a l
m a l l e a b i l i t y (which m i g h t t a k e t h e f o r m of i n f r a s t r u c t u r a l
2
problems, investment t ime- lags , complementarity between f a c t o r s
of p roduc t ion , e t c ) a f f e c t c u r r e n t o i l supply. We argue t h a t t h e
b i a s w i l l be t o w a r d s l e s s c u r r e n t s u p p l y i n t h o s e c a s e s w h e r e
i n v e s t m e n t t i m e - l a g s d e l a y t h e e x p l o i t a t i o n o f t h e count ry ' s
compara t ive advantage when t h i s i s c o n s i s t e n t w i t h a pe t ro leum
based development. The ( f a m i l i a r ) ca se of a s s o c i a t e d gas , which
i s a j o i n t product t o o i l and a lmost a non-traded good because of
h i g h t r a n s p o r t c o s t s , p r o v i d e s a n e x a m p l e of s u f f i c i e n t
g e n e r a l i t y .
F i n a l l y , w e look a t some a s y m m e t r i e s toward f o r e i g n
i n v e s t m e n t .
ma jo r b o r r o w e r s on t h e w o r l d f i n a n c i a l m a r k e t s , f a c e c r e d i t
r a t i o n i n g and t h e i r a b i l i t y t o c o n t r o l d o m e s t i c e x p e n d i t u r e i s
s u b j e c t t o p o l i t i c a l c o n s t a i n t s . On t h e o t h e r hand , m a j o r o i l
e x p o r t e r s w i t h s m a l l i n d i g e n o u s p o p u l a t i o n s ( eg t h e G u l f
c o u n t r i e s ) w i l l be a f f e c t e d by d i f f e r e n t f a c t o r s . The a c t u a l
r a t e of r e t u r n on f o r e i g n i n v e s t m e n t o v e r e s t i m a t e s i t s s o c i a l
margina l v a l u e (because of t h e s e count r ies ' a v e r s i o n t o t h e i d e a l
of a p u r e l y r e n t i e r s o c i e t y l i v i n g on income genera ted abroad),
and makes o i l c o n s e r v a t i o n a n a t t r a c t i v e inves tment .
O i l - e x p o r t e r s w i t h l a r g e p o p u l a t i o n s , which a r e
A l t h o u g h t h e a b o v e t h r e e i s s u e s a r e n o t t o t a l l y
independent of each o t h e r w e f o l l o w a piece-meal approach which
h e l p s t o keep t h e a n a l y s i s a t a s imple l e v e l and t o concen t r a t e
on o n e i s s u e a t a t ime .
3
1. BB ECOLVOMY UITE A COWLETB SET OF MARKETS BBD I R S m O O S ADJusTHEm
The p r o b l e m s of d e r i v i n g o p t i m a l p o l i c i e s for an o i l
r i c h economy t r a d i n g wi th t h e o u t s i d e wor ld has been considered
by Dasgupta, Eastwood and H e a l , op c i t . They assume an o i l r i c h
open economy which produces a s i n g l e ou tpu t , Y , u s i n g c a p i t a l , K ,
and c r u d e o i l , R , a c c o r d i n g t o t h e w e 1 I - b e h a v e d p r o d u c t i o n
f u n c t i o n Y=F (K,R). O u t p u t may e i t h e r b e consumed o r u s e d t o
augment t h e t o t a l c a p i t a l s t o c k . T o t a l c a p i t a l s t o c k K T i s a
m a l l e a b l e q u a n t i t y and c a n e i t h e r b e u s e d a s an i n p u t (K D ) t o
domest ic product ion o r t ake t h e form of f o r e i g n assets (K F 1. home c o u n t r y c a n e x p o r t i t s o i l (R F ) o r u s e i t a s an i n p u t (R D )
The
t o produce domest ic ou tpu t Y.
A t each d a t e t , t h e fo l lowing i d e n t i t y must ho ld :
where C i s d o m e s t i c consumpt ion , K 'T i s t h e change i n
the t o t a l c a p i t a l s tock , p t he world p r i c e of o i l i n terms of the
c o n s u m p t i o n good and r t h e "world" r a t e of i n t e r e s t . The l e f t
hand s i d e of (1) i s t h e t o t a l e x p e n d i t u r e f l o w w h i l e t h e r i g h t
hand s i d e i s t h e t o t a l income flow. S ince o i l is an e x h a u s t i b l e
r e source :
4
i e t o t a l o i l used i n d o m e s t i c p r o d u c t i o n and e x p o r t e d c a n n o t
exceed t h e country’s r e s e r v e s R. By d e f i n i t i o n , t o t a l c a p i t a l -
s tock i s :
KT = KD + KF (3 )
E q u a t i o n s (11, ( 2 ) and ( 3 ) a r e t h e c o n s t r a i n t s t h e home economy
faces . To f i n d an opt imal pa th f o r t h e v a r i a b l e s Ct, Rf, Kf, Kf,
a f a r - s igh ted p o l i c y maker might choose them i n such a way as t o
maximise t h e discounted sum of p re sen t and f u t u r e u t i l i t y
s u b j e c t t o t h e c o n s t r a i n t s (11, (2) and ( 3 ) .
The s o l u t i o n t o t h i s p l a n n i n g p r o b l e m i n v o l v e s two
kinds of dec is ion . The f i r s t i s how t o a l l o c a t e ou tpu t between
s a v i n g s ( i n v e s t m e n t ) and consumpt ion ; t h e s e c o n d i s how t o
a l l o c a t e t o t a l w e a l t h e f f i c i e n t l y , i e t o choose t h e p a t t e r n of
investment .
The d e c i s i o n a b o u t t h e o p t i m a l amount of s a v i n g s i s
based on t h e w e 1 1-known Ramsey p r i n c i p l e ; t h i s r e q u i r e s t h a t t h e
m a r g i n a l r a t e of t r a n s f o r m a t i o n between consumption a t d a t e s t
a n d t + 1 m u s t e q u a l t h e m a r g i n a l r a t e o f i n d i f f e r e n t
s u b s t i t u t i o n . It h a s b e e n shown (Dasgup ta e t a l , o p c i t ) t h a t
t h i s c o n d i t i o n can be w r i t t e n a s :
u c c C t F K = 6 - I ( 5 )
where s u b s c r i p t s denote p a r t i a l d e r i v a t i v e s .
The n e x t d e c i s i o n is how t o a l l o c a t e i n v e s t m e n t . I n
t h i s model t h e home c o u n t r y c a n i n v e s t i t s w e a l t h i n t h r e e
a s s e t s : d o m e s t i c c a p i t a l KD, f o r e i g n c a p i t a l KF and o i l i n t h e
ground. An e f f i c i e n t a 1 l o c a t i o n of investment must be such as t o
5
e q u a l i s e t h e rates of r e t u r n t o those t h r e e a s s e t s (o therwise , a
r e a l l o c a t i o n f rom t h e l e s s t o t h e more p r o f i t a b l e i n v e s t m e n t
would i n c r e a s e prof i t s ) :
% iR r = F K = - = - 3
FR MR
r is t h e r a t e o f r e t u r n f rom i n v e s t i n g a u n i t o f c a p i t a l ab road
and is assumed t o be independent of t h e volume of f o r e i g n a s s e t s
h e l d by t h e home country. FK i s t h e marginal product of c a p i t a l
a t home. FR is t h e home m a r g i n a l p r o d u c t o f t h e r e s o u r c e ; t h e
r a t e of a p p r e c i a t i o n of F ~ , F R / ~ R , i s t h e r a t e o f r e t u r n from
k e e p i n g t h e m a r g i n a l u n i t of o i l i n t h e ground. MR is t h e
- marginal i e v e n u e from s e 1 I ing t h e marginal u n i t of t h e resource
t o t h e w o r l d marke t . S t a t i c e f f i c i e n c y r e q u i r e s t h a t , a t e a c h
d a t e , M R = FR ( o t h e r w i s e a r e a l l o c a t i o n of o i l b e t w e e n e x p o r t s
and domestic u s e w i l l i n c r e a s e income) and t h i s c o n d i t i o n g i v e s
t h e l a s t e q u a l i t y i n ( 6 ) .
One c a n s o l v e f o r t h e o p t i m a l e x t r a c t i o n p o l i c y , t h e
opt imal a l l o c a t i o n of o i l between expor t s and domest ic u ses and
t h e opt imal a l l o c a t i o n of c a p i t a l between domest ic and f o r e i g n
a s s e t s f r o m t h e s y s t e m o f t h r e e e q u a t i o n s ( 6 ) a n d t h e
e x h a u s t i b i l i t y c o n d i t i o n (2). I n f a c t , most of t h e n u m e r i c a l
e x e r c i s e s t h a t h a v e been p r o d u c e d t o s i m u l a t e t h e o i l marke t
c o n s i s t of s o l v i n g (2) and t h e equa t ion MR/MR = r .
L e t us now examine t h e a s s u m p t i o n s of t h e a b o v e model
more c l o s e l y . F i r s t , a complete set of forward marke ts e x i s t s ,
o r what amounts t o t h e same th ing , t r a d e r s have p e r f e c t f o r e s i g h t
( r a t i o n a l e x p e c t a t i o n s ) . S e c o n d , t h e r e i s no s u b j e c t i v e
6
u n c e r t a i n t y ; presumably, t h e r e is a p e r f e c t insurance market i n
t h e background of t h e model which c a n i n s u r e any k i n d o f risk.
T h i r d , c a p i t a l i s a m a l l e a b l e q u a n t i t y w h i c h c a n b e
i n s t a n t a n e o u s l y t r a n s f o r m e d f rom one a s se t i n t o a n o t h e r ; i n
a d d i t i o n , t h e world c a p i t a l market i s pe r fec t . A 1 1 t hese imply
t h a t t h e optimum s o l u t i o n i s s u c h t h a t a t e a c h d a t e , t h e r e t u r n
from expor t ing a u n i t ( b a r r e l ) of o i l , MR, is equal t o the S o c i a l
Marginal Value ( t h e shadow p r i c e ) of t h e resource ' and equa l t o
i t s home marginal product , FR; and t h a t t h e r e t u r n from i n v e s t i n g
a u n i t of c a p i t a l i n f o r e i g n a s s e t s , r , i s e q u a l t o t h e S o c i a l
Marginal Va lue of c a p i t a l and equa l t o i t s home marginal product ,
FK. Hence, i n s u c h a w o r l d , i t i s l e g i t i m a t e t o d e r i v e t h e
opt imal o i l e x t r a c t i o n p o l i c y a s t h e s o l u t i o n t o t h e problem of
maximising t h e v a l u e of o i l revenues e v a l u a t e d a t the v e c t o r of
m a r k e t c l e a r i n g p r i c e s and d i s c o u n t e d at t h e "world" r a t e of
re t u r n .
U n f o r t u n a t e l y , t h i s i s n o t t h e e n v i r o n m e n t i n w h i c h
p o l i c y makers c o n c e r n e d w i t h o i l p o l i c i e s h a v e t o t a k e t h e i r
dec i s ions . In the next s e c t i o n s w e w i l l d e s c r i b e the n a t u r e of
t h e c o n s t r a i n t s they f a c e and examine t h e i r e f f e c t on o i l supply.
7
2. THE HAJOR OIL-EXPORTERS AS A GROUP OF DEVELOPIBG ECOWOHIES
There a r e a s u b s t a n t i a l number of books and a r t i c l e s on
t h e problems of economic development of t h e major o i l - e x p o r t i n g
c o u n t r i e s . We h a v e f o u n d p a r t i c u l a r l y u s e f u l t h e s t u d i e s by
Amuzegar (1983) and C h a l a b i and J a n a b i (1979). Here w e w i l l
p r e s e n t o n l y t h o s e a r g u m e n t s wh ich seem t o i m p l y t h a t t h e
o p t i r n a l i t y c o n d i t i o n s of t h e p r e v i o u s s e c t i o n o u g h t t o b e
modif ied.
A. Excess Dependence on Crude O i l Revenue. The o i l -expor t ing
c o u n t r i e s depend h e a v i l y on a s i n g l e sou rce of revenue , crude o i l
exports . Tab le 1 demonst ra tes t h a t on t h e b a s i s of commonly used
c r i t e r i a t h e o i l -expor t ing deve lop ing c o u n t r i e s show a greater
d e p e n d e n c e on a s i n g l e commodity t h a n d o o t h e r d e v e l o p i n g
coun t r i e s . These c r i t e r i a are the r a t i o of o i l expor t s t o t o t a l
e x p o r t s , t h e r a t i o of o i l e x p o r t s t o GDP and t h e r a t i o of o i l
revenue t o government revenue.
The l a c k of revenue d i v e r s i f i c a t i o n imp1 ies t h a t these
c o u n t r i e s a r e p a r t i c u l a r l y v u l n e r a b l e t o f l u c t u a t i o n s i n t h e
w o r l d demand for c r u d e o i l . A c c o r d i n g t o o f f i c i a l s t a t e m e n t s
( see , among o t h e r s , A t t i g a , 1979) one of t he p o l i c y o b j e c t i v e s i s
t o r e d u c e t h e i m p o r t a n c e of c r u d e o i l e x p o r t r e v e n u e i n t h e
economies of t he major o i l - e x p o r t i n g coun t r i e s . The q u e s t i o n i s
8
how b e s t t o f o r m a l i s e t h i s o b j e c t i v e . It might be suggested t h a t
we only need t o add one more c o n s t r a i n t i n t o t h e model o f t h e
p r e v i o u s s e c t i o n and d e r i v e new o p t i m a l i t y c o n d i t i o n s . For
i n s t a n c e , we m i g h t r e q u i r e t h a t , a t e a c h d a t e t , t h e f o l l o w i n g
c o n s t r a i n t be s a t i s f i e d :
p (RF> RF - - < R (7)
F (KD, RD) + r K F + p (RF) RF
(7) r e q u i r e s t h a t o i l e x p o r t r e v e n u e d o e s n o t e x c e e d a c e r t a i n
p r o p o r t i o n of Nat iona l Income.
However, t h i s c o n s t r a i n t is f a r t o o r i g i d and i n v o l v e s
v a r i a b l e s which h a v e noth ing t o do with t h e problem, The problem
d e s c r i b e d above is u n c e r t a i n t y about t h e c u r r e n t w o r l d demand f o r
o i l . Crude o i l i s now t r a d e d in a n i n c r e a s i n g l y d e c e n t r a l i s e d
m a r k e t . Long-term c o n t r a c t s a r e no l o n g e r the d o m i n a n t form of
t r a n s a c t i o n i n an i n t e g r a t e d i n d u s t r y ; today t h e market has seen
a s u b s t a n t i a l i n c r e a s e i n t h e number of t r a d e r s a s w e l l as a
s t e a d y i n c r e a s e i n t h e number and v o l u m e of s p o t t r a n s a c t i o n s .
I n s u c h an e n v i r o n m e n t , o i l - e x p o r t e r s c o n s i d e r t h e i n d u s t r y ' s
demand f o r c r u d e o i l a s s t o c h a s t i c d u e t o u n p r e d i c t a b l e
f l u c t u a t i o n s i n o v e r a l l economic a c t i v i t y , l e v e l of i n v e n t o r i e s ,
t a x a t i o n of o i l p r o d u c t s , e t c . They a r e r i s k a v e r s e d u e t o
missing ( o r imperfec t ) markets and because t h e process of revenue
d i v e r s i f i c a t i o n r e q u i r e s time.
I n t e r m s of t h e model c o n s i d e r e d i n t h e p r e v i o u s
s e c t i o n , t h e d i s t o r t i o n i n v o l v e d h e r e r e f l e c t s a l a c k of
i n s u r a n c e m a r k e t s a n d c a p i t a l m a r k e t i m p e r f e c t i o n s . Fo r
i n s t a n c e , i f c a p i t a l markets w e r e s u c h t h a t an o i l - e x p o r t e r could
9
bor row t h e d i f f e r e n c e be tween t h e p l a n n e d and t h e a c t u a l o i l
revenue wi thout a l t e r i n g t h e i n t e r e s t r a t e he would n o t need t o
be c o n c e r n e d w i t h s h o r t - t e r m f l u c t u a t i o n s in c r u d e o i l demand.
O b v i o u s l y s u c h a s i t u a t i o n i s i n c o n c e i v a b l e under c u r r e n t
c i rcumstances. 2
T h e r e a r e two w a y s t o f o r m a l i s e t h i s i d e a . One i s t o
maximise t h e Expected U t i 1 i t y of Income t r e a t i n g t h e world demand
f o r c r u d e o i l as s t o c h a s t i c ; w e w i l l examine t h i s l a t e r . We
w i l l f i r s t c o n s i d e r a n o t h e r , p e r h a p s l e s s r i g o r o u s , a p p r o a c h ;
t h e j u s t i f i c a t i o n f o r c o n s i d e r i n g t h i s a p p r o a c h i s t h a t i t i s
more f l e x i b l e and a l l o w s f o r a more gene ra l argument.
The f a c t t h a t w o r l d demand for o i l i s s t o c h a s t i c and
o i l - e x p o r t e r s a r e risk a v e r s e i m p l i e s t h a t t h e S o c i a l Margina l
V a l u e t o an o i l - e x p o r t e r of a b a r r e l of c r u d e o i l e x p o r t s i s
equa l t o the expected margina l revenue MR minus a r i s k premium,
U:
SMvt = mt - U t , U > 0, ( 8 )
where U depends on t h e d e g r e e of r i s k a v e r s i o n ( i e t h e o i l -
e x p o r t e r ' s p r e f e r e n c e s ) and t h e p r o b a b i l i t y d i s t r i b u t i o n of t h e
wor ld demand f o r o i l . This sugges t s an i n d i r e c t way t o d e a l w i t h
t h e problem. We assume t h a t , a t each d a t e t , w e l f a r e depends on
consumption and t h e v a r i a n c e of o i l expor t revenue. 3
U t = U t (C,) - A a ( R F 1 2 = Ut(Ct,Rf) (9)
where A i s a p o s i t i v e cons tan t . The assumptions unde r ly ing (9)
( i d e n t i c a l l y and i n t e p e n d e n t l y d i s t r i b u t e d r i s k s f o l l o w i n g a
n o r m a l d i s t r i b u t i o n ) a n d i t s s p e c i f i c f u n c t i o n a l form
( s e p a r a b i l i t y ) a r e q u i t e r e s t r i c t i v e b u t h e l p t o s i m p 1 ify t h e
a n a l y s i s s u b s t a n t i a l l y .
10
Optimal p o l i c i e s can be d e r i v e d as t h e s o l u t i o n t o t h e
problem m
Max. .b U ( C t , RF) e -6t d t (10)
s u b j e c t t o ( 1 1 , ( 2 ) and (3 ) .
From t h e f i r s t o r d e r c o n d i t i o n s for a maximum of (10)
subject t o (11, (2) and ( 3 1 , w e g e t ( s e e Appendix 1):
( a ) t h e cond i t ion for t h e opt imal amount of s a v i n g s ;
t h i s is t h e same as b e f o r e ( equa t ion ( 5 ) ) .
(b) t h e c o n d i t i o n € o r t h e o p t i m a l a l l o c a t i o n of
c a p i t a l which is a l s o t h e same as befo re : r = FK . ( c > t h e cond i t ions for t h e opt imal e x t r a c t i o n of t h e
r e source o v e r t i m e :
- iR - + - r =-
FR MR (11)
I n o rde r t o compare (1.1) w i t h t h e c e r t a i n t y c a s e w e have t o f i n d
t h e s i g n of t h e t e r m i n t h e p a r e n t h e s e s . The t e r m s M R . U c and
The termURF i s e q u a l t o URRR ' F ; U R R i s
which i s
n e g a t i v e s i n c e R F is a n e g a t i v e f u n c t i o n ( i t i s t h e p a r t i a l
d e r i v a t i v e of t h e w o r l d demand for o i l w i t h r e s p e c t t o t h e o i l
p r i c e ) and i s p o s i t i ~ e . ~ Hence flRF i s p o s i t i v e . Therefore t h e
- 6 U R F a r e b o t h p o s i t i v e .
n e g a t i v e by t h e c o n c a v i t y of U; 'F R is e q u a l t o R F i P
P
t e r m i n t h e p a r e n t h e s e s is p o s i t i v e and implies t h a t t h e r e a r e
gains t o b e had f rom k e e p i n g o i l i n t h e g round o v e r and a b o v e
t h o s e d u e t o t h e ( e x p e c t e d ) s t o c k a p p r e c i a t i o n ; t h a t i s , o i l
e x t r a c t i o n should be more c o n s e r v a t i o n i s t t han i n t h e c e r t a i n t y
case .
11
case. T h i s r e s u l t h a s a n a p p e a l i n g i n t u i t i v e e x p l a n a t i o n .
The g a i n s f rom c o n s e r v i n g o i l o v e r and a b o v e t h o s e d u e t o t h e
e x p e c t e d s t o c k a p p r e c i a t i o n a r e p r o p o r t i o n a l t o (URF-GURF).
The t e r m - 6 URF i s t h e i n s t a n t a n e o u s g a i n i n u t i l i t y f rom n o t
s e l l i n g a b a r r e l of o i l a t a p a r t i c u l a r d a t e t ; t h e term URF
r e m i n d s us , however , t h a t a u n i t of o i l wh ich h a s n o t been s o l d
a t d a t e t w i l l h a v e t o b e s o l d l a t e r when demand is s t i l l
u n c e r t a i n . T h e r e are two a r g u m e n t s wh ich s u g g e s t t h a t URF i s
p o s i t i v e . F i r s t , s i n c e the (average) p r i c e is r i s i n g o v e r time,
t h e wor ld demand i s f a l l i n g and t h e o i l e x p o r t e r s w i l l be " l e s s
dependent" on t h e r isky commodity a t any d a t e t + t han a t d a t e
t. Second, s i n c e we a r e d e a l i n g w i t h e x t r e m e l y u n d i v e r s i f i e d
economies , i t i s n a t u r a l t o e x p e c t t h a t new a c t i v i t i e s and
s o u r c e s of r e v e n u e w i l l d e v e l o p o v e r t i m e w h i c h w i l l p r o v i d e
o p p o r t u n i t i e s t o hedge a g a i n s t risk and, t h e r e f o r e , r e d u c e t h e
u n d e s i r a b i l i t y of f o r e i g n t rade . 5
I t i s n o t s u r p r i s i n g t h a t t h e a b o v e r e s u l t c o n t r a s t s
w i th t h e expressed view that u n c e r t a i n t y induces o i l - e x p o r t e r s t o
a c c e l e r a t e o i l e x t r a c t i o n (see, among o t h e r s , Kay and Mirrlees,
1975 , Heal , 1975 , D a s g u p t a , Eastwood and H e a l , 1978) . T h i s i s
d u e t o t h e f a c t t h a t we a r e c o n s i d e r i n g a d i f f e r e n t s o u r c e of
u n c e r t a i n t y . Here w e h a v e a r g u e d t h a t o i l e x p o r t e r s a r e
concerned w i t h period-by-period f l u c t u a t i o n s i n world crude o i l
demand, w h i l e t h e a u t h o r s m e n t i o n e d a b o v e assume t h a t c u r r e n t
demand i s c e r t a i n and t h e o n l y u n c e r t a i n t y l i e s i n the p o s s i b l e
d i scove ry of a cheap s u b s t i t u t e . Our view i s tha t , as f a r as t h e
m a j o r o i l - e x p o r t e r s a r e c o n c e r n e d , t h e p e r i o d - b y - p e r i o d
12
u n c e r t a i n t y i s more i m p o r t a n t t h a n t h e u n c e r t a i n t y a s s o c i a t e d
wi th the development of cheap s u b s t i t u t e s . As we w i l l s e e l a t e r
o i l -expor te rs ' undergo a process of revenue d i v e r s i f i c a t i o n , t h e
m a j o r p a r t of which c o n s i s t s o f t r a n s f o r m i n g c r u d e o i l i n t o a
series of r e f i n e d products and petrochemicals . Most of t hese o i l
p roducts have no s u b s t i t u t e s except a t a very h igh p r i ce . Hence,
u n l e s s one b e l i e v e s t h a t t h e r e i s a chance of a major i n v e n t i o n
wh ich w i l l p r o v i d e a s u b s t i t u t e f o r most of t h e u s e s of c r u d e
o i l , t h e above argument l o s e s much of i t s importance. We would
a l s o l i k e t o p o i n t ou t t h a t t h e r e seems t o be a consensus i n t h e
o i l i n d u s t r y , and n o t only among t h e m a j o r o i l - e x p o r t i n g
c o u n t r i e s , t h a t i t is now more d i f f i c u l t t o f o r e c a s t short- term
c r u d e o i l demand t h a n t h e l o n g - t e r m o i l p r i c e . ( S e e S t o f f N e s ,
1983).
An a l t e r n a t i v e way of f o r m a l i s i n g t h e a rgumen t is t o
maximise t h e Expected U t i 1 i t y of P resen t Value Income, t r e a t i n g
w o r l d c r u d e o i l demand as s t o c h a s t i c . I n o r d e r t o s i m p l i f y
p r e s e n t a t i o n we w i l l cons ider a two-period model and concen t r a t e
on t h e o p t i m a l e x t r a c t i o n of t h e r e s o u r c e . ( S e e Appendix 2 f o r
a n o t h e r example ) . The p r o b l e m i s e q u i v a l e n t t o t h a t o f a r i s k
a v e r s e resource Owner f a c i n g a s t o c h a s t i c demand f o r t h e resource
in b o t h p e r i o d s . I f R i s t h e i n i t i a l amount of r e s e r v e s and he
dec ides t o e x t r a c t and s e l l X u n i t s i n t h e f i r s t pe r iod he w i l l
h a v e to s e l l R - X u n i t s i n t h e n e x t p e r i o d . The f i r s t p e r i o d
p r i c e w i l l be po (X, eo> and the second per iod p r i c e w i l l be
p1 (R - X, 9'1, where 8°,91 a r e i d e n t i c a l l y and i n d e p e n d e n t l y
d i s t r i b u t e d v a r i a b l e s ; however, t h i s assumption is n o t necessary
f o r t h e argument.
-
13
The problem is:
Max. E U ( I ) , x (12)
- where I = Po (X, eo) .X + - 1 p1
1 +r (R - X, el) .@ -XI, (12')
and U i s a c o n c a v e f u n c t i o n . The f i r s t o r d e r c o n d i t i o n for a
maximum of (12) is :
E UI. (MRo -L MR1) = 0, 1 +r (13)
where MRo (MR1) i s t h e f i r s t ( s e c o n d ) p e r i o d m a r g i n a l r e v e n u e
from s e l l i n g a unit of t h e r e source .
E (XY) =
Using t h e proper ty
( E X ) (EY) + Cov (X,Y) and r e - a r r a n g i n g t e r m s we c a n r e -
write (13) as:
M i d 1 cov [U,, MRo - - 1 *
(14) 41 =- l+r m o - - i+r EUI
^ 1 A
where MRo, MR d e n o t e e x p e c t e d m a r g i n a l r e v e n u e s f o r t h e two
periods. Since EUI i s p o s i t i v e , t h e s i g n of t h e r i g h t hand s i d e
of (14) is oppos i t e t o t h e s i g n of t h e Covariance t e r m . The s i g n
of t h e C o v a r i a n c e i s t h e same as t h e s i g n of t h e p a r t i a l
d e r i v a t i v e of t h e f i r s t v a r i a b l e i n t h e Covariance w i t h r e s p e c t
t o t h e second:
- auI - Sign Cov (* , I 1 = Sign 1 a[mo - - M R I 1 +r
a 1 1 a[m* - - M R I I1 = Sign U
1 +r
, Re-arranging (12 w e o b t a i n
I = Po.x -1 pl.X +L p 1 - .R 1 +r 1 +r
(16)
14
where po and p l a r e as def ined above. By d e f i n i t i o n , w e have:
po = MRo - pg .x , p l = MR1 - p+i-x) . (R-X)
Hence, (16) can be w r i t t e n as : c .-L -
- (17) I=X l M R 0 - 1 MR' I - p,".X' + 1 p 1 X.(R-X) + R p
Therefor e :
Since U I I < 0 (because of risk a v e r s i o n ) and t ak ing i n t o account
(18) and (15) w e o b t a i n :
We can now r e w r i t e ( 1 4 ) a s :
where K i s e q u a l t o t h e r i g h t hand s i d e of (14) and i s p o s i t i v e .
The l e f t hand s i d e of (20) i s t h e r e t u r n f rom e x t r a c t i n g and
s e l l i n g a u n i t of t h e r e s o u r c e i n t h e f i r s t p e r i o d ; t h e r i g h t
hand s i d e is t h e (p re sen t v a l u e of t h e ) r e t u r n from s e l l i n g t h e
margina l u n i t in t h e second per iod. Since t h e first per iod g a i n s
a r e lower t h a n i n t h e c e r t a i n t y ( or i n t h e r i s k n e u t r a l i t y )
w o r l d (MRO - K < M R O ) , o i l e x t r a c t i o n i s more c o n s e r v a t i o n i s t .
The s o l u t i o n i s shown in t h e f o l l o w i n g d i a g r a m 6 (F igure 1)
I n the p r e s e n c e of u n c e r t a i n t y and risk a v e r s i o n t h e
I n t h e a b s e n c e of f i r s t p e r i o d s u p p l y and p r i c e are XMU,pMU.
u n c e r t a i n t y t h e f i r s t p e r i o d s u p p l y and p r i c e a r e X M J p M . The
15
P
PrnU
Prn
XrnL
\ -
/
/ \
F i g u r e 1
16
d i f f e r e n c e X, - Xnu i s t h e o p t i m a l r e s t r i c t i o n of t r a d e d u e t o
r i s k a v e r s i o n ; c a n b e i n t e r p r e t e d a s a n o p t i m a l
expor t t a r i f f .
B. When t h e m a j o r o i l -
e x p o r t e r s took over c o n t r o l of product ion and p r i c i n g d e c i s i o n s
of t h e i r o i l s e c t o r i n t h e e a r l y 1970's t h e y were a g r o u p of
economies w i t h inadequate i n f r a s t r u c t u r e , and a l a c k of s k i 1 l e d
l a b o u r and c a p i t a l - b a s e d i n d i g e n o u s t e c h n o l o g y . One of t h e
c r u c i a l d e c i s i o n s t h e y had t o t a k e a t t h a t t i m e was on t h e
a p p r o p r i a t e development s t r a t e g y . I n e f f e c t , they had t o dec ide
on w h e t h e r t o c o n t i n u e t o be e x p o r t e r s of c r u d e o i l o n l y , o r t o
f o l l o w an " i n t e g r a t i o n s t r a t e g y " based on t h e use of c rude o i l i n
t h e d o m e s t i c m a n u f a c t u r e of o i l p r o d u c t s . Under t h e s e c o n d
s t r a t e g y , o i l would be e x p o r t e d i n " h i g h e r fo rms" (Amuzegar,
1983; Cha lab i and Janab i , 1979).
M or, P i4u- P
Lack of Perfect C a p i t a l Hal l e a b i l i t y .
I n t h e w o r l d of i n s t a n t a n e o u s a d j u s t m e n t and p e r f e c t
c a p i t a l m a l l e a b i l i t y , as desc r ibed i n t h e f i r s t s e c t i o n of t h e
p a p e r , t h e s e c o n s i d e r a t i o n s do n o t a f f e c t o i l s u p p l y . F o r ,
suppose t h a t an o i l -expor te r ' s f a c t o r endowment i s such t h a t i t s
c o m p a r a t i v e a d v a n t a g e l i e s i n a p e t r o l e u m b a s e d
i n d u s t r i a l i s a t i o n . Since t h e a p p r o p r i a t e c a p i t a l s t o c k can b e
i n s t a l l e d i n s t a n t a n e o u s l y , t h e margina l revenue from crude o i l
e x p o r t s wou ld b e t h e same a s t h e M a r g i n a l V a l u e o f a b a r r e l of
crude o i l transformed i n t o r e f i n e d products or pe t rochemica l s (MR
= F D> and t h e on ly change would be i n t h e expor t mix. R
However, t h e p rocess of economic development r e q u i r e s
t ime . The t i m e - l a g b e t w e e n p o l i c y m a k e r s d e c i d i n g t h a t
1 7
pet ro leum based i n d u s t r i a l i s a t i o n i s s o c i a l l y d e s i r a b l e and those
pe t ro leum based i n d u s t r i e s being b u i l t and s t a r t i n g product ion i s
m e a s u r e d i n y e a r s a n d s o m e t i m e s d e c a d e s . U n d e r t h e s e
c i r c u m s t a n c e s , t h e d e c i s i o n w h e t h e r t o e x t r a c t and e x p o r t t h e
m a r g i n a l b a r r e l of o i l now o r t o k e e p i t i n t h e ground and s e l l
i t i n t h e f u t u r e c a n n o t be based o n l y on c o m p a r i s o n s be tween
p r e s e n t and f u t u r e world c r u d e o i l p r i c e s . We w i l l b e more
s p e c i f i c about t h i s below.
The m a j o r o i l - e x p o r t e r s ' c h o i c e o f p e t r o l e u m b a s e d
i n d u s t r i a l i s a t i o n i s b a s e d o n t h e t h e o r y o f c o m p a r a t i v e
advantage. Downstream a c t i v i t i e s ( o i l re f in ing and product ion of
pet rochemica ls ) are h i g h l y c a p i t a l i n t e n s i v e a c t i v i t i e s and d o
n o t r e q u i r e more t h a n a s t a n d a r d i s e d t e c h n o l o g i c a l "know-how".
Hence , t h e y a r e o b v i o u s c h o i c e s for t h o s e o i l e x p o r t e r s w i t h
s u b s t a n t i a l o i l and c a p i t a l w e a l t h , s m a l l p o p u l a t i o n s and a
l i m i t e d a g r i c u l t u r a l p o t e n t i a l ( e g S a u d i A r a b i a , UAE, Kuwai t ,
Libya) .
The e x i s t e n c e of l o n g g e s t a t i o n p e r i o d s h a s s e r i o u s
i m p l i c a t i o n s f o r c rude o i l supply which a r e n o t cap tured by t h e
model d e s c r i b e d i n t h e f i r s t s e c t i o n of t h e pape r . I n o u r
o p i n i o n , t h e m o s t i m p o r t a n t c o n s e q u e n c e i s d u e t o j o i n t
product ion. Crude o i l e x t r a c t i o n i s a s s o c i a t e d w i t h n a t u r a l g a s
( " a s s o c i a t e d gas") ; i t h a s been e s t i m a t e d t h a t t h i s r e p r e s e n t s
10-12% of t h e e n e r g y c o n t e n t of t h e b a r r e l o f c r u d e o i l w i t h
which i t i s a s s o c i a t e d (Dabdab and Mohyuddin, 1982). Associa ted
gas has t r a d i t i o n a l l y been f l a r e d o f f as a was te product and o n l y
s m a l l volumes were u t i l i s e d w i t h i n t h e o i l f i e l d s . Although i t
i s a l m o s t a n o n - t r a d e d commodity b e c a u s e o f i t s e x t r e m e l y h i g h
t r a n s p o r t and/or 1 iquef a c t ion c o s t s it can p r o v i d e f eeds tock t o
t h e domestic p roduc t ion of pe t rochemica ls . I n f a c t , one of the
more important arguments f o r t h e e s t a b l i s h m e n t of pe t rochemica l
i n d u s t r i e s i n t h e major o i l - e x p o r t i n g c o u n t r i e s ( e s p e c i a l l y i n
Saudi Arabia) i s based on the i d e a t h a t a s s o c i a t e d gas p r o v i d e s
a n i n p u t w i t h a n e g l i g i b l e o p p o r t u n i t y c o s t ( s e e C h a l a b i and
J a n a b i , 1979).
A c c o r d i n g t o e s t i m a t e s , t h i s g i v e s a c o m p e t i t i v e
a d v a n t a g e t o t h e m a j o r o i l e x p o r t i n g c o u n t r i e s over US and
European pe t rochemica l i n d u s t r i e s (Dabdab and Mohyuddin, op c i t ) .
However, u n t i l t h e inves tment has been completed, t h e Margina l
S o c i a l V a l u e of a u n i t of c r u d e o i l e x p o r t s i s the m a r g i n a l
e x p o r t r e v e n u e r e d u c e d by t h e c o s t of f l a r e d ( a s s o c i a t e d ) g a s
measured i n terms of its f u t u r e marg ina l product.
To f o r m a l i s e t h e i d e a we w i l l a g a i n use a s i m p l e , two-
p e r i o d model. (To g e n e r a l i s e t h e r e s u l t s is s t r a i g h t f o r w a r d and
w e o m i t t h i s ) . We assume t h a t a s s o c i a t e d g a s is a n o n - t r a d e d
commodity ( o b v i o u s l y t h i s a s s u m p t i o n can be r e l a x e d once we
i n t r o d u c e t r a n s p o r t c o s t s ) , t h a t t h e v a l u e of t h e d o m e s t i c
margina l product of bo th o i l and g a s is z e r o in t h e f i r s t per iod
(because t h e inves tmen t has no t been completed y e t ) , b u t p o s i t i v e
i n t h e second. We w i l l o n l y c o n c e n t r a t e on t h e i n t e r t e m p o r a l
a l l o c a t i o n of the e x h a u s t i b l e r e s o u r c e and ignore t h e a l l o c a t i o n
of product ion between consumption and investment. For e f f i c i e n c y
i n product ion w e maximise
1 +r
19
s u b j e c t t o
RZ + RY + RF =
(211 F GI = G - cRo -
The second equa t ion i n ( 2 1 ) i s t h e r e source c o n s t r a i n t on gas and
s a y s that the amount of a s s o c i a t e d gas a v a i l a b l e f o r t h e second
p e r i o d (GI) i s t h e t o t a l deposit z r e d u c e d by t h e q u a n t i t y o f
gas " f l a r e d " i n t h e f i r s t p e r i o d . For s imp1 i c i t y we a s s u m e
t h a t t h i s i s equa l t o a f r a c t i o n c of t h e o i l e x t r a c t e d and s o l d
F a b r o a d Ro.
It i s s t r a i g h t f o r w a r d t o show t h a t t h e s o l u t i o n of
(21) s a t i s f i e s t h e fo l lowing c o n d i t i o n s :
(23) and (24) are t h e necessary conditions f o r e f f i c i e n c y i n t h e
u s e of o i l and c a p i t a l i n t h e second period. S ince t h e s e are t h e
same as b e f o r e t h e y need n o a d d i t i o n a l comment. Condition ( 2 2 )
is t h e a r b r i t r a g e equat ion which governs o i l e x t r a c t i o n and says
that t h e g a i n f r o m s e l l i n g a unit of o i l i n t h e f i r s t p e r i o d i s
t h e m a r g i n a l e x p o r t r e v e n u e r e d u c e d b y t h e o p p o r t u n i t y c o s t of
a s s o c i a t e d gas . I t i m p l i e s t h a t t h e f i r s t - p e r i o d o i l s u p p l y
ought t o be l e s s , r e l a t i v e t o t h e case where e i t h e r t h e r e are no
20
l a g s i n d o m e s t i c i n v e s t m e n t o r t h e amount o f a s s o c i a t e d g a s i s
n e g l i g i b l e .
As a ma t t e r of f a c t , a number of important i nves tmen t s
i n pe t rochemica l i n d u s t r i e s , us ing a s s o c i a t e d gas a s f eeds tock ,
h a v e b e e n u n d e r t a k e n i n t h e G u l f c o u n t r i e s . A l t h o u g h some of
them h a v e a l r e a d y been completed, l a r g e s c a l e product ion i s n o t
expected t o s t a r t be fo re t h e l a t e e i g h t i e s . (See Tab le 2)
Our s o l e purpose h e r e was t o show how o i l e x t r a c t i o n i s
a f f e c t e d by t h e e x i s t e n c e of t i m e - l a g s and j o i n t p r o d u c t i o n .
Obviously t h e r e a r e a number of o t h e r i n t e r e s t i n g i s s u e s w e h a v e
n o t t o u c h e d on. For i n s t a n c e , one m i g h t w i s h t o c o n s i d e r how
downstream p r o j e c t s ought t o be eva lua ted . I n t h e above s i m p l e
model w e d i scoun t "future" prof i t s by t h e "world" ra te of r e t u r n ,
which i s a l s o assumed t o be t h e shadow pr ice of domestic c a p i t a l .
This can be j u s t i f i e d i n t h e piece-meal approach adopted i n t h i s
p a p e r b u t is c l e a r l y i n a p p r o p r i a t e a s a method of p r a c t i c a l
p r o j e c t e v a l u a t i o n . I n f a c t , i f revenue d i v e r s i f i c a t i o n i s among
t h e o b j e c t i v e s of t h e o i l - e x p o r t i n g c o u n t r y , t h i s h a s t o b e
r e f l e c t e d i n t h e e v a l u a t i o n of c o s t s and b e n e f i t s of t h e v a r i o u s
p r o j e c t s . Methods t o d e a l w i t h t h e p r o b l e m e x i s t and a r e w e l l
understood. See, among o t h e r s , Lind (1982).
C. Bates of Return on Foreign Investment. The r a t e of r e t u r n on
f o r e i g n i n v e s t m e n t i s a n i m p o r t a n t p a r a m e t e r a f f e c t i n g o i l
supply. As w e have a l r e a d y noted, t h i s i s u s u a l l y considered a n
exogenous parameter by assuming a p e r f e c t w o r l d c a p i t a l market.
However, once t h e r a t e of r e t u r n i s made a n endogenous v a r i a b l e ,
i t is no l o n g e r p o s s i b l e t o s e p a r a t e t h e d e c i s i o n on r e s o u r c e
2 1
e x t r a c t i o n from o t h e r dec is ions .
T h e r e i s a v a r i e t y of a s s u m p t i o n s one c a n make a b o u t
how t h e world r a t e of r e t u r n is a f f e c t e d by t h e o t h e r v a r i a b l e s
i n t h e p rob lem. I t h a s b e e n s u g g e s t e d t h a t t h e w o r l d r a t e of
i n t e r e s t might depend on t h e volume of f o r e i g n a s s e t s h e l d by t h e
o i l expor t e r s ; o r i t might depend on t h e o i l p r ice . It has been
shown t h a t u n d e r t h e s e c o n d i t i o n s , t h e r e s u l t s c h a n g e
d rama t i ca l ly .
For in s t ance i f t h e i n t e r e s t rate depends on t h e l e v e l
of f o r e i g n s a v i n g s and t h e r e i s l i m i t e d d o m e s t i c a b s o r p t i v e
capac i ty , t h e marginal r e t u r n on investment may be n e g a t i v e and
an o p t i m a l e x t r a c t i o n p a t h migh t r e q u i r e i n c r e a s i n g r e s o u r c e
e x t r a c t i o n and a d e c r e a s i n g r e s o u r c e p r i c e o v e r t i m e . ( H o e l ,
1980). I f t h e i n t e r e s t r a t e depends on t h e o i l p r i c e ( t h e h ighe r
t h e p r i c e of o i l , t h e lower t h e world r a t e of r e t u r n ) t h e opt imal
m o n o p o l i s t i c p r i c e p a t h w i l l be l e s s s t e e p ( t h a t is, i n i t i a l
r a t e s of e x t r a c t i o n w i l l be lower and t h e i n i t i a l p r i c e h igher )
t h a n i t would h a v e b e e n i n t h e c a s e where t h e w o r l d r a t e of
r e t u r n is exogenous (Hoel, 1981).
I n a w o r l d w i t h i m p e r f e c t c a p i t a l m a r k e t s i t is
i m p o r t a n t t o d i s t i n g u i s h be tween b o r r o w e r s and l e n d e r s . The
d i s t i n c t i o n ma t t e r s n o t only b e c a u s e t h e s e two groups f a c e
d i f f e r e n t i n t e r e s t r a t e s b u t , a l s o , because they a r e in f luenced
by d i f f e r e n t f a c t o r s . O i l e x p o r t e r s who a r e b o r r o w e r s i n t h e
world f i n a n c i a l markets are l i k e l y t o f a c e c r e d i t r a t ion ing . The
form of r a t i o n i n g may d i f f e r from country t o count ry and t h e r e is
no agreement on how t o model i t . It w i l l c e r t a i n l y depend on how
t h e i n t e r n a t i o n a l f i n a n c i a l community e v a l u a t e s t h e count ry’s
2 2
prospec ts . It has been suggested f o r i n s t a n c e t h a t f o r e i g n banks
t a k e i n t o a c c o u n t t h e s i z e of f o r e i g n d e b t , t h e a b i l i t y o f t h e
country t o compress i t s imports, t h e deg ree of d i v e r s i f i c a t i o n of
expor t revenue , t he importance of t h e f o r e i g n t r a d e s e c t o r , e t c .
(see Maynard and D a v i e s , 1982). I n f a c t , t h e c o m b i n a t i o n of
c r e d i t r a t i o n i n g and t h e i n a b i l i t y t o c o n t r o l c u r r e n t consumption
f o r p o l i t i c a l reasons has l e d many economists t o t h e conc lus ion
t h a t i n t h i s ca se o i l supply shou ld be model led a s an ins t rument
c h o s e n t o s a t i s f y c e r t a i n t a r g e t s ( s e e , among o t h e r s ,
B r a i l o v s k y ' s a n d E l l m a n ' s comment s o n c h 9 o f B a r k e r a n d
B r a i l ovsky , 1981).
Due t o t h e f a c t t h a t o i l r e s e r v e s a r e h e a v i l y
c o n c e n t r a t e d i n a number o f c a p i t a l - e x p o r t i n g c o u n t r i e s w i t h
s m a l l p o p u l a t i o n s ( t h e Gulf c o u n t r i e s ) , t h e r a t e of r e t u r n t h a t
t h e s e c a n r e a l i s e on t h e i r f o r e i g n i n v e s t m e n t i s a n i m p o r t a n t
de te rminant of o i l supply. Although t h e s e c o u n t r i e s a r e 1 i k e l y
t o i n f l u e n c e t h e w o r l d r a t e of r e t u r n i n t h e way d i s c u s s e d
above, it has been suggested t h a t , f o r p r a c t i c a l purposes , they
c a n be c o n s i d e r e d a s exogenous . T h e r e a r e two s e p a r a t e i s s u e s
h e r e . The f i r s t c o n c e r n s t h e a c t u a l r a t e of r e t u r n t h a t t h e s e
c o u n t r i e s h a v e r e a l i s e d on t h e inves tmen t s abroad. The second i s
w h e t h e r t h e m a r k e t r a t e s of r e t u r n on f o r e i g n c a p i t a l a l s o
r e f l e c t i t s S o c i a l Marginal Value.
C a l c u l a t i o n s by t h e IMF and U N C T A D ( S e e T a b l e 3 ) show
t h a t du r ing t h e pe r iod 1973-1979 money market i nves tmen t s (which
c o m p r i s e d t h e b u l k of OPEC a s s e t s ) , US t a x a b l e bonds and
p lacements i n equ i ty s h a r e s y i e l d e d a y e a r l y a v e r a g e r e t u r n of
7.7, 7 and 7.9 per c e n t r e s p e c t i v e l y , w h i l e ove r the same per iod
23
t h e annual i n c r e a s e i n OPEC's import p r i c e index was more than 10
p e r cent. Although i t might be myopic t o form e x p e c t a t i o n s about
f u t u r e rates of r e t u r n by e x t r a p o l a t i n g p a s t r a t e s of r e t u r n ( i e
u s i n g a d a p t i v e e x p e c t a t i o n s ) i n a w o r l d of i m p e r f e c t c a p i t a l
m a r k e t s t h i s can a l m o s t be j u s t i f i e d . A c c o r d i n g t o o f f i c i a l
s t a t e m e n t s , i t seems t h a t t h i s is, i n f a c t , t h e way t h a t many
OPEC s u r p l u s c o u n t r i e s behave (for r e f e r e n c e s s e e Teece, 1982).
I f t h e s e a r g u m e n t s a r e a c c e p t e d , t h e n i t i s d i f f i c u l t t o
i n t e r p r e t t h e r e s u l t s of v a r i o u s s i m u l a t i o n m o d e l s a i m i n g to
p r e d i c t t h e o i l p r i c e , which assume t h a t OPEC i s u s i n g a r e a l
d i s c o u n t r a t e i n t h e range of f i v e t o t e n p e r cent.
The second i s s u e i s w h e t h e r t h e r a t e of r e t u r n on
f o r e i g n c a p i t a l r e f l e c t s i t s S o c i a l Margina l Value t o t h e o i l -
e x p o r t e r . I t h a s been s u g g e s t e d t h a t t h e i d e a l of a r e n t i e r
s o c i e t y l i v i n g on income genera ted by a s s e t s h e l d abroad ("coupon
c l i p p i n g " s o c i e t y ) i s i n c o n s i s t e n t w i t h t h e major o i l - expor t e r s '
n a t i o n a l a s p i r a t i o n s f o r p o l i t i c a l i n d e p e n d e n c e and s o c i a l
development (Teece, 1982). Obvious ly , t h i s would n o t be an i s s u e
i n a n i n t e g r a t e d world w i t h no p o l i t i c a l d i f f e r e n c e s . One c a n
f o r m a l i s e t h a t i d e a by making S o c i a l W e l f a r e , U , a f u n c t i o n o f
consumption, C, and f o r e i g n cap i t a l , KF :
Ut = U t (C,Kp>, U < 0 , (25) K F
w h e r e t h e n e g a t i v e p a r t i a l d e r i v a t i v e U g F r e f l e c t s t h e
i d e o l o g i c a l o b j e c t i o n s to f o r e i g n a s s e t s . I t i s e a s y t o show
t h a t maximising t h e u t i 1 i t y i n t e g r a l IwU(C,KF)e -6t d t s u b j e c t
t o t h e c o n s t r a i n t s (11, (2) and (3) g i v e s t h e f o l l o w i n g c o n d i t i o n
0
24
f o r o i l e x t r a c t i o n :
- 6t. " F e
FIR K - = r + , A > O HR A
(26)
S i n c e U < 0, (26) i m p l i e s a more c o n s e r v a t i o n i s t e x t r a c t i o n
p o l i c y than o therwise . K
The t o p i c of c a p i t a l market imperfec t ions i s ve ry r i c h
and i s i n no way e x h a u s t e d by what we h a v e w r i t t e n h e r e . Our
purpose was t o s t ress a p o l i t i c a l (o r i d e o l o g i c a l ) trade-off t h a t
h a s b e e n t o t a l l y n e g l e c t e d i n t h e l i t e r a t u r e of e x h a u s t i b l e
r e s o u r c e d e p l e t i o n b u t , i n o u r o p i n i o n , i s an i m p o r t a n t f a c t o r
r e l e v a n t t o m o s t o i l and c a p i t a l r i c h Middle Eas te rn coun t r i e s .
25
3. SuwlIBIlY AND COHCLUDIHG C(MM3HTS
T h i s p a p e r i s a n a t t e m p t t o a n a l y s e some p r o b l e m s
common t o t h e ma jo r o i l - e x p o r t i n g c o u n t r i e s and t o OPEC i n
p a r t i c u l a r u s i n g b a s i c p r i n c i p l e s of W e l f a r e Economics. The
emphasis i s on o i l p o l i c i e s ; our a i m is t o i d e n t i f y d i s t o r t i o n s ,
o t h e r t han t h o s e a s soc ia t ed wi th o l igopol i s t i c c o l l u s i o n , t h a t
might b i a s o i l supply.
A l t h o u g h we a r e aware t h a t mos t of t h e s e p r o b l e m s a r e
not d i s t i n c t f rom e a c h o t h e r , w e h a v e a d o p t e d a p i e c e - m e a l
a p p r o a c h , commonly used in W e l f a r e Economics, i n o r d e r t o
f a c i l i t a t e t h e f o r m a l p r e s e n t a t i o n of t h e a rgumen t s . We h a v e
thus c l a s s i f i e d t h e s e problems i n t h r e e c a t e g o r i e s , according t o
t h e n a t u r e of market f a i l u r e s ( d i s t o r t i o n s ) w i t h which they might
be a s soc ia t ed .
F i r s t , we have at tempted t o r a t i o n a l i s e t h e concept of
excess dependence on crude o i l expor t revenue. P o l i c y makers i n
o i l e x p o r t i n g c o u n t r i e s h a v e r e p e a t e d l y c l a i m e d t h a t i t i s
u n d e s i r a b l e t o b e e x p o r t e r s s o l e l y of c r u d e o i l , and t h a t t h e y
should t r y t o deve lop new sources of income. On t h e o t h e r hand,
a number o f e c o n o m i s t s s e e no p r o b l e m and r e j e c t t h e i d e a t h a t
"excess dependence" i s a cause f o r alarm. It i s a l s o u n c l e a r how
excess dependence" a f f e c t s c u r r e n t o i l supply. II
26
Excess dependence i s a problem i n an environment wi th
incomplete markets. Demand f o r crude o i l does n o t o n l y depend OR
c u r r e n t crude o i l p r i ces . The b u s i n e s s c y c l e , government i n d i r e c t
t a x a t i o n i n o i l consuming c o u n t r i e s , exchange r a t e movements ,
s u b j e c t i v e e x p e c t a t i o n s a n d a number o f o t h e r , l a r g e l y
u n p r e d i c t a b l e , f a c t o r s e x e r t a n important i n f l u e n c e on short- term
demand f o r c r u d e o i l and , t h e r e f o r e , on o i l - e x p o r t e r s ' c u r r e n t
income. I n an environment w i t h incomplete markets , t h e s p o t o i l
market i s p a r t l y r e s p o n s i b l e f o r t h e a l l o c a t i o n of risk. But how
does r i s k a v e r s i o n a f f e c t c u r r e n t o i l supply? The answer depends
on t h e o i l - e x p o r t e r s ' a t t i t u d e t o w a r d s c u r r e n t and f u t u r e
u n c e r t a i n t y as we1 1 as on t h e i r p a r t i c u l a r c h a r a c t e r i s t i c s .
C u r r e n t u n c e r t a i n t y w i l l i n d u c e o i l - e x p o r t e r s t o r e s t r i c t o i l
s u p p l y s i n c e t h e v a r i a t i o n o f t h e i r c u r r e n t i n c o m e i s
p r o p o r t i o n a l t o t h e i r o i l e x p o r t s . F u t u r e u n c e r t a i n t y
( a s s o c i a t e d with t h e development of s u b s t i t u t e t e c h n o l o g i e s ) w i l l
h a v e t h e o p p o s i t e e f f e c t . We h a v e a r g u e d t h a t t h e e f f e c t s of
c u r r e n t u n c e r t a i n t y a r e more l i k e l y t o dominate t h o s e of f u t u r e
u n c e r t a i n t y a n d , c o n s e q u e n t l y , t h a t t h e b i a s i s t o w a r d s l e s s
c u r r e n t supply.
Second, w e h a v e examined how t h e l a c k of c a p i t a l
m a l l e a b i l i t y (which m i g h t t a k e t h e form of i n f r a s t r u c t u r a l
problems, inves tment t ime-lags, complementar i ty between f a c t o r s
of p r o d u c t i o n , e t c ) m i g h t a f f e c t c u r r e n t o i l s u p p l y . We h a v e
a r g u e d t h a t , f o r a number of i m p o r t a n t o i l e x p o r t e r s , t h e b i a s
w i l l aga in be towards l e s s c u r r e n t supply. The argument i s t h a t
t h e l a c k of p e r f e c t c a p i t a l m a l l e a b i l i t y w i l l d e l a y t h e
e x p l o i t a t i o n of t h e coun t ry ' s c o m p a r a t i v e a d v a n t a g e i n t h o s e
27
c a s e s w h e r e t h i s i s c o n s i s t e n t w i t h a p e t r o l e u m b a s e d
i n d u s t r i a l i s a t i o n . We h a v e p r o v i d e d a n e x a m p l e of s u f f i c i e n t
g e n e r a l i t y t o make t h i s i d e a more p r e c i s e . O i l - e x p o r t e r s w i t h
s i g n i f i c a n t o i l and c a p i t a l w e a l t h p e r head should i n v e s t (and i n
many c a s e s have a l r e a d y inves t ed ) i n domest ic , petroleum based
i n d u s t r i e s ( r e f i n e r i e s , pe t rochemica ls , e tc) i n o rde r t o e x p l o i t
t h e p r e s e n c e of p r o d u c t s j o i n t t o o i l ( e g a s s o c i a t e d g a s ) , t h e
v a l u e of which w i l l o t h e r w i s e be n e g l i g i b l e due t o t h e i r
t e c h n i c a l c h a r a c t e r i s t i c s ( e g v e r y h i g h t r a n s p o r t c o s t s ) .
Delays i n t h e i n t r o d u c t i o n of t h e s e i n d u s t r i e s or long g e s t a t i o n
pe r iods reduce t h e s o c i a l v a l u e t o t h e o i l - e x p o r t e r of a b a r r e l
of e x p o r t e d c r u d e o i l by a n amount e q u a l t o t h e shadow p r i c e of
j o i n t p roducts and make o i l conse rva t ion more a t t r a c t i v e t h a n i t
would o the rwise have been.
F i n a l l y , w e examined i s s u e s r e l a t e d t o f o r e i g n c a p i t a l .
We h a v e r e j e c t e d t h e v i e w t h a t o i l - e x p o r t e r s a r e u s i n g t h e
a v e r a g e " w o r l d r a t e of r e t u r n a s t h e i r s o c i a l d i s c o u n t r a t e .
Oi l - expor t e r s f a c e d i f f e r e n t r a t e s of r e t u r n accord ing t o whether
t h e y a r e b o r r o w e r s o r l e n d e r s on t h e w o r l d c a p i t a l m a r k e t , and
a r e t h e r e f o r e i n f l u e n c e d by d i f f e r e n t f a c t o r s ( b o r r o w e r s a r e
l i k e l y t o f a c e c r e d i t r a t i o n i n g and l e n d e r s a r e l i k e l y t o
i n f l u e n c e t h e r e t u r n they can g e t by t h e i r volume of sav ings) . A
number of s o c i o - p o l i t i c a l f a c t o r s might reduce t h e d e s i r a b i l i t y
of f o r e i g n i n v e s t m e n t and i n c r e a s e t h e a t t r a c t i v e n e s s of oil-
c o n s e r v a t i o n . T h i s i s p a r t i c u l a r l y t h e c a s e w i t h t h o s e o i l
e x p o r t i n g c o u n t r i e s w i t h s u b s t a n t i a l oil w e a l t h b u t smal 1
indigenous popu la t ions and 1 imited domest ic a b s o r p t i v e c a p a c i t y ,
II
28
who might put themselves i n jeopardy from s o c i a l antagonism and
p o l i t i c a l problems t h a t m i g h t be c r e a t e d i n a r e n t i e r s o c i e t y
based on income generated by a s s e t s h e l d abroad.
W e t h i n k t h a t t h e a b o v e a r g u m e n t s migh t e x p l a i n a
number of important e v e n t s i n t h e post-1973 per iod and p r o v i d e a
framework i n which t o p r o p o s e p o l i c i e s aimed a t r e d u c i n g t h e
i n e f f i c i e n c i e s a s s o c i a t e d w i t h t h e oil marke t . I t c a n a l s o b e
considered a s a c r i t i c i s m of t hose models which have at tempted t o
e x p l a i n what happened i n t h i s per iod by assuming t h a t e v e r y t h i n g
was t h e r e s u l t of market c a r t e l i s a t i o n and no th ing e l s e .
29
The problem is: CO
Max. I U(Ct,RtF)e dt
subject to
A,: K T = F (RtD,KtD) + rKtF + pt(RtF) RF - Ct, . - - p : Rt = - ( R t D + RtF), given Ro ,
F D 7Tt: K t T = Kt + K t 3
In terms of the discounted shadow price of investment, A , the Hamiltonian of the above program is
The first-order conditions for a maximum of H are 7
aE These conditions y ield :
hr = T
x =--71
l J = 0
Differentiating both sides of ( 2 A ) w i t h respect to t and using (7A) we obtain
30
D i v i d i n g both s i d e s of ( B A ) b y XMR and using ( l A ) , (5A) and (6A) w e o b t a i n
= r PIR 4 3 F 6 URF - + - - - MR MRUC MRUC
Also, d i f f e r e n t i a t i n g b o t h s i d e s of ( 3 A ) with r e s p e c t t o t and
t ak ing i n t o account ( 5 A ) , (6A) and ( 7 A ) w e obtain FR/FR = r.
31
APPENDIX 2
Each period's i n v e r s e expor t demand function i s assumed
t o be et P t ( R f ) where e t a r e i n d e p e n d e n t l y , i d e n t i c a l l y and
normal ly d i s t r i b u t e d random v a r i a b l e s wi th E ( e t ) = 1, Var ( e t ) =
2 0 . We w i l l concen t r a t e on product ion e f f i c i e n c y o n l y and ignore
the d e c i s i o n about t h e op t ima l t rade-off between consumption and
sav ings . The Maximand w i l l be t h e Expected U n t i l i t y of P re sen t
Value Income
E U [I =.:a ( e ~ ( R F > RF + F ( K ~ , RD) - r K D > e - r t d t ] , (lb')
( 2A') sub jec t t o 1 " ( R F + RD) d t = R 0
S i n c e a l l 0' come f rom a normal d i s t r i b u t i o n and a s s u m i n g a
cons t an t a b s o l u t e degree of r i s k a v e r s i o n we can w r i t e (Newbery &
St igl i t z , 1981 1
E U (I) = E (I) - f AVar(1) ( 3A')
( - U ~ l f u ~ ) . where A i s the a b s o l u t e d e g r e e of r i s k a v e r s i o n ,
Hence, (1A ' ) is equ iva len t t o
J w [ p ( R F ) RF + F (KD, RD) - r K D ] e-r tdt +... ( - ) $ A 2 j m ( p ( R F F )R d t
0
( 4A')
The first o r d e r c o n d i t i o n s f o r a maximum of (4A') s u b j e c t t o
(2A') a r e : 8
r = FKD ( 5A'
FRD = P I (6A')
MRe'rt - ha2 Q e - 2 r t MR = ( 7A'
where i s t h e m u l t i p l i e r a s s o c i a t e d wi th t h e c o n s t r a i n t (ZA'), Q
is e q u a l t o p (RF> RF and MR i s t h e p a r t i a l d e r i v a t i v e of Q w i t h
r e s p e c t t o RF ( t h e M a r g i n a l Revenue f u n c t i o n ) . C o n d i t i o n (5A')
32
i s t h e same a s b e f o r e and n e e d s n o comment. D i f f e r e n t i a t i n g
( 7 A ’ ) w i t h r e s p e c t t o t i m e , t , and t a k i n g i n t o a c c o u n t t h a t = 0
we o b t a i n :
Re-arranging terms we o b t a i n :
MR r qQ 2qQr - - - - + - ___ -
MR 1-qQ 1-qQ 1-qQ ( 9A‘
where q = A 02e- r t .
>O.
S i n c e p > 0, e q u a t i o n (7A‘) i m p l i e s I - qQ
A l s o , s i n c e 4 = ( M R ) i F < 0, i t i s s t r a i g h t f o r w a r d t o show
t h a t the r i g h t hand s i d e of (9A’) is less than r. That i s :
M R + E = r , E > O ( 1 OA‘) - MR
Equation (10A’) h a s t h e same meaning as e q u a t i o n ( 2 0 ) i n t h e
t e x t ,
33
TABLE 1
OIG3XFOBTIHG DWELOPIHG COUHTRIES : ALTEBHBIIVE MEASURES OF DEPEHDEBCE OB OIL EXPORTS
AllD OIL PBODlJCTIO%, 1980
R a t i o of Oil R a t i o of Oil Rat io of O i l Exports t o Exports t o Revenue t o Total GDP Government Exports 1980 Revenue 1980 1979
Surplus major o i l - e x p o r t e r s
Saudi Arabia Kuwait UAE Qata r L i by an Arab J ama h ir i y a I r a q
Other major o i l - e x p o r t e r s
I r a n Oman Venezuela Niger ia A l g e r i a Indone s ia
Net o i l - e x p o r t e r s
Bahrain Bo 1 i v i a Congo Ecuador EgY Pt Gabon Malaysia Mexico Peru Syr i an Arab Republic T r in idad and Tobago Tuni s i a
Non-oil primary product e x p o r t e r s
96.3
99.9 89.8 93.8 95 .O 99.9 99.2
87.3
94.4 92.4 91.4 95.3 91.8 58.7
43.8
33.6 2.4
79.6 55.6 23.0 70.4 9.7
63.1 20.4 63.3 66.5 38.2
50.7
72.4
87.8 74.7 65.7 77.4 63.8 65.1
30.1
16.3 57.7 29.3 28.1 30.8 18.4
13.4
---- 0.4
12.3 7.4
39.7 5.3 5.3 4.6 10.3 38.5 9.8
----
17.1
89.3
91.2 81.8 95.7 93.7 88.3 85.2
68.0
64.3 85.7 65.5 75.4 55.4 61.5
37.4
77 .O 44.3 43.3 21.5 20.0 54.9 40.0 25.8 26.3 22.8 54.4 20.4
_-_-
Source : Amuzegar, 1983.
3 4
TBBLE 2
ARAB GULF PETROCHEMICAL PRODUCTIOB 1986/87
Products M i l 1 ion % of world tonnes p . a . production
E t hy 1 ene Me than o 1 Ethanol Et hy 1 ene Styrene LDPE HDPE Ammonia
3 .300 1.515 0.280
Glycol 0.635 0.635 0.868 0.265 5.430
6.6 9.5 7 .O
12.0 5.4 5.5 3.3
11.4
Source: Dabdab and Mohyuddin, 1 9 8 2 .
TABLE 3
RATES OF RETUBR OB IHVESTHEBITS 1974-1980
Average Rate New York of Return on Market Stock OPEC's Import Money Price of Exchange Price Index Market US Taxable Index ( 1 9 7 5 = 100)
Year Investment(%) Bonds ( 1 9 6 5 = 5 0 )
1 9 7 4 10.7 57.45 43.84 93 1 9 7 5 7.19 57.44 45.73 100 1 9 7 6 6.49 58.96 54.46 1 0 0 1977 6.09 56.89 53.69 1 0 8 1 9 7 8 6.68 51.26 53.70 1 2 4 1 9 7 9 9.65 47.99 58.32 147 1980 12 .54 68.10 166 -----
Source: Amuzegar, 1 9 8 3 .
3 5
1.
2.
3 .
4.
5.
6 .
7.
8.
D e n o t i n g b y V t h e maximum v a l u e of ( 4 ) s u b j e c t t o (11 , ( 2 ) and ( 3 1 , t h e S o c i a l M a r g i n a l V a l u e of t h e r e s o u r c e i s t h e p a r t i a l d e r i v a t i v e VR.
This a p p l i e s no t o n l y t o net borrowers but t o ne t s a v e r s as w e 1 1. C a p i t a l s u r p l u s o i l - e x p o r t e r s cannot m o b i l i s e t h e i r s a v i n g s c o s t l e s s l y i n o r d e r t o c o v e r d e f i c i t s c a u s e d by u n p r e d i c t a b l e f l u c t u a t i o n s i n o i l r e v e n u e . T h i s p r o b a b l y e x p l a i n s why t h e y p r e f e r liquid a s s e t s , o f f e r i n g a v e r y s m a l l r a t e of r e t u r n , t o l e s s l i q u i d l o n g - t e r m a s s e t s o f f e r i n g a h i g h e r r a t e of r e t u r n . I n a d d i t i o n , we s h o u l d a l s o p o i n t t o t h e f a c t t h a t e v e n i n t h e c a p i t a l s u r p l u s OPEC c o u n t r i e s , t o t a l f o r e i g n a s s e t s a r e modes t r e l a t i v e t o annual oil r evenues (Teece, 1982).
Assuming a d d i t i v e r i s k s w e c a n w r i t e e a c h p e r i o d ' s o i l e x p o r t r e v e n u e as :
Q , = [ e t + p(R:)IRi, w h e r e e a c h B t i s N ( 0 , 0 2 1 a n d
independent ly d i s t r i b u t e d . Therefore Var Qt = U (RF12.
I n p r i n c i p l e , t h e c a s e p < O c a n n o t b e e x c l u d e d . It c a n b e shown t h a t p < O if r M R + 6 U R F / U c < 0. However, we t h i n k t h a t t h i s i s a r a t h e r i m p l a u s i b l e c o n d i t i o n i n t h e p r e s e n t context . Hoe1 (1980) has shown t h a t i )<O might occur under c a p i t a l market imperfect ions.
This argument i s no t p a r t of t h e p rev ious a n a l y s i s . However i t c a n b e e a s i l y i n c o r p o r a t e d i n f o i t by mak ing A i n equat ion ( 9 ) a f u n c t i o n of t i m e w i t h AcO.
We have n o t been a b l e t o p r o v i d e an i n t u i t i v e e x p l a n a t i o n of t h i s r e s u l t . T h i s w a s p o s s i b l e i n the p rev ious s e c t i o n (and i n t h e e x a m p l e i n A p p e n d i x 2) due t o t h e n o r m a l i t y assumption which a1 lowed us t o work i n terms of the Var iance of revenues. Also, g e r e r a l i z i n g t h i s r e s u l t t o an i n f i n i t e hor izon i s n o t t r i v i a l .
We assume i n t e r i o r s o l u t i o n s throughout. Corner s o l u t i o n s can be ana lysed from t h e complementary s l a c k n e s s condi t ions . We a l s o assume t h a t t he expor t revenue f u n c t i o n P(RF>RF is concave.
Footnote 5 a p p l i e s h e r e as w e l l .
36
Amuzegar, J (1983) : " O i l E x p o r t e r s ' Economic Deve lopmen t i n an In te rdependent World". Occasional paper, N0.18, I n t e r n a t i o n a l Monetary Fund, Washington DC.
A t t i g a , A (1979): " G l o b a l Energy T r a n s i t i o n s and t h e R i s e of OPEC O i l " i n Mahmoud A b d e l - F a d i l ( e d ) : P a p e r s o n t h e Economics of O i l .
B a r k e r , T and V B r a i l o v s k y ( e d s ) ( 1 9 8 1 ) : O i l o r I n d u s t r y ? Academic P r e s s .
C h a l a b i , F a n d A J a n a b i ( 1 9 7 9 ) : "Optimum P r o d u c t i o n a n d P r i c i n g P o l i c i e s ' l h e J o u r n a l of EnerRy and Development, I V , No 2.
Dabdab, N and B Mohyuddin (1982): " O i l Based and non-Oi l Based I n d u s t r i a l D e v e l o p m e n t i n t h e A r a b G u l f R e g i o n " , G u l f O r g a n i s a t i o n f o r I n d u s t r i a l Consul t ing , Doha, Qatar .
D a s g u p t a , P , R E a s t w o o d , a n d G Heal ( 1 9 7 8 ) : " R e s o u r c e Management i n a Trading Economy", Q u a r t e r l y J o u r n a l of Economics.
D a s g u p t a , P and G H e a l ( 1 9 7 9 ) : E c o n o m i c T h e o r y a n d E x h a u s t i b l e Resources, Nisbe t , Cambridge.
H e a l , G ( 1 9 7 5 ) : "Economic A s p e c t s of N a t u r a l R e s o u r c e Deple t ion" in D Pearce, and J Rose (eds)The Economics of N a t u r a l Resource Deplet ion.
H o e l , M (1980) : "Opt imal Resource E x t r a c t i o n w i t h I m p e r f e c t I n t e r n a t i o n a l C a p i t a l M a r k e t s a n d a L i m i t e d A b s o r p t i v e Capacity", Memorandum from t h e I n s t i t u t e of Economics, U n i v e r s i t y of Oslo.
R o e l , M (1981) : "Resource E x t r a c t i o n by a M o n o p o l i s t with I n f l u e n c e o v e r t h e R a t e o f R e t u r n o n n o n - R e s o u r c e Assets", I n t e r n a t i o n a l Economic Review, Vol. 22.
Kay, J and J Mir r lees (1975) : "The D e s i r a b i l i t y of N a t u r a l R e s o u r c e D e p l e t i o n " ; i n D P e a r c e a n d J R o s e ( e d s ) : The Economics of Natura 1 Resource Dep 1 e t ion.
L i n d , R (ed)(1982): D i s c o u n t i n E f o r Time and R i s k i n Ene rgy P o l i c y , Resources f o r t h e Future , John Hopkins.
M a y n a r d , G a n d P D a v i e s ( 1 9 8 2 ) : " E v o l v i n g P r o b l e m s of I n t e r n a t i o n a l F i n a n c i a l I n t e r m e d i a t i o n " i n D F a i r , a n d F d e J u v i g n y ( e d s ) : Bank Management i n a Changing Domestic and I n t e r n a t i o n a l Environment, Nijhof f , The Hague.
Newbery, D and J S t i g l i t z (1981): The Theory of Commodity P r i c e S t a b i l i s a t i o n , Oxford U n i v e r s i t y P res s .
37
S t o f f u e s , C ( 1 9 8 3 ) : "The P r i c e o f o i l I n f l a t i o n " , TOTAL Information, No 95 , Compagnie Francaise des Petroles .
Teece , D ( 1 9 8 2 ) : "OPEC Behaviour: An a l t e r n a t i v e view" i n J G r i f f i n and D T e e c e ( e d s ) : O P E C B e h a v i o u r and World O i l Pr ices .
3 8
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