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Oil Volatility and the Option Value of Waiting: An analysis of the G-7

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Author Info

  • Don Bredin

    (University College Dublin)

  • John Elder

    (Colorado State University)

  • Stilianos Fountas

    (University of Macedonia)

Abstract

There has recently been considerable interest in the potential adverse effects associated with excessive uncertainty in energy futures markets. Theoretical models of investment under uncertainty predict that increased uncertainty will tend to induce firms to delay investment. These models are widely utilized in capital budgeting decisions, particularly in the energy sector. There is relatively little empirical evidence, however, on whether such channels have industry-wide effects. Using a sample of G7 countries we examine whether uncertainty about a prominent commodity — oil — affects the time series variation in manufacturing activity. Our primary result is consistent with the predictions of real options theory — uncertainty about oil prices has had a negative and significant effect on manufacturing activity in Canada, France, UK and US.

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Bibliographic Info

Paper provided by Geary Institute, University College Dublin in its series Working Papers with number 201004.

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Length: 38 pages
Date of creation: 01 Jan 2010
Date of revision:
Handle: RePEc:ucd:wpaper:201004

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Keywords: Oil; Volatility; Vector autoregression; Multivariate GARCH-in-Mean VAR;

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References

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  1. Tim Bollerslev, 1986. "Generalized autoregressive conditional heteroskedasticity," EERI Research Paper Series EERI RP 1986/01, Economics and Econometrics Research Institute (EERI), Brussels.
  2. Brennan, Michael J, 1990. " Latent Assets," Journal of Finance, American Finance Association, vol. 45(3), pages 709-30, July.
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  8. Hamilton, James D., 1996. "This is what happened to the oil price-macroeconomy relationship," Journal of Monetary Economics, Elsevier, vol. 38(2), pages 215-220, October.
  9. Stilianos Fountas & Menelaos Karanasos, 2002. "Inflation, Output Growth, and Nominal and Real Uncertainty: Empirical Evidence for the G7," Working Papers 0064, National University of Ireland Galway, Department of Economics, revised 2002.
  10. Alberto Moel, 2002. "When Are Real Options Exercised? An Empirical Study of Mine Closings," Review of Financial Studies, Society for Financial Studies, vol. 15(1), pages 35-64, March.
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Cited by:
  1. Van Robays, Ine, 2012. "Macroeconomic uncertainty and the impact of oil shocks," Working Paper Series 1479, European Central Bank.
  2. Soojin Jo, 2012. "The Effects of Oil Price Uncertainty on the Macroeconomy," Working Papers 12-40, Bank of Canada.

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