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Learning and Price Volatility in Duopoly Models of Resource Depletion

  • Martin Ellison
  • Andrew Scott

We introduce learning into a Hotelling model of a non-renewable resource market. Bycombining learning and scarcity we add signi?cantly to the dynamics implied by learning and substantially enhance the volatility of commodity prices. In our learning model we show how a self con?rming equilibrium exists but is not constant over time. As scarcity increases the SCE shifts from a non-cooperative rational expectations equilibrium to a cooperative rational expectations outcome. As a result prices trend at a rate faster that the rate of time preference. We show the existence of escape dynamics which generate substantial volatility in commodity prices despite the fact the model is subject only to i.i.d shocks. The shifting SCE signi?cantly alters escape dynamics with the time to escape shortening and the magnitude of dynamics reducing as scarcity rises. In terms of the Hotelling model, a shifting SCE and variable escape dynamics introduces greater volatility at low frequencies and substantially larger cyclical volatility. These price ?uctuations show sharp upward breaks in price and non-linear, non-stationary and asymmetric price ?uctuations. We show these results are robust to a range of extensions, including extractions costs, stochastic shifts in demand and learning assumptions closer to rational expectations.

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Paper provided by Oxford Centre for the Analysis of Resource Rich Economies, University of Oxford in its series OxCarre Working Papers with number 025.

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Date of creation: 2009
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Handle: RePEc:oxf:oxcrwp:025
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