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Equilibrium Exhaustible Resource Price Dynamics

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  • MURRAY CARLSON
  • ZEIGHAM KHOKHER
  • SHERIDAN TITMAN

Abstract

We develop equilibrium models of exhaustible resource markets with endogenous extraction choices and prices. Our analysis demonstrates how adjustment costs can generate oil and gas forward price dynamics with two factors, consistent with the behavior these commodities exhibit in the Schwartz and Smith (2000) calibration. Our two‐factor model predicts that stochastic volatility will arise in these markets as a natural consequence of production adjustments, however, and we provide supporting empirical evidence. Differences between endogenous price processes from our general equilibrium model and exogenous processes in earlier papers can generate significant differences in both financial and real option values.

Suggested Citation

  • Murray Carlson & Zeigham Khokher & Sheridan Titman, 2007. "Equilibrium Exhaustible Resource Price Dynamics," Journal of Finance, American Finance Association, vol. 62(4), pages 1663-1703, August.
    • Handle: RePEc:bla:jfinan:v:62:y:2007:i:4:p:1663-1703
    DOI: 10.1111/j.1540-6261.2007.01254.x
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    More about this item

    JEL classification:

    • Q4 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Energy
    • G1 - Financial Economics - - General Financial Markets

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