4
It is shown that, marginal cost providers (US shale oil producers) that are crucial for price
setting do not behave as described by Hotelling.
The marginal cost providers increase their supply today and in the future with an increasing oil price (positive supply elasticity). The Hotelling calculus, taking less from the “warehouse” today, and selling these quantities later (negative supply elasticity), is not a concept
being observed for them. Therefore, the supply side approach outlined by Sinn, a tax on oil
production, which is now high and declines over time, would incentivize a constant increase
in the oil production, which would increase CO 2 emission further.
2 THE HOTELLING RULE
Resource owners are faced with the alternative of leaving their assets as carbon in the soil
or mining the resource and investing the resulting surpluses in the capital market. As fossil
fuels become increasingly scarce as production progresses, untouched resources are becoming more and more valuable: the resources therefore generate a return in the form of ongoing increases in value. On the other hand, there is the capital market return if the resource
is mined today and the proceeds are invested on the capital market. This consideration goes
back to the fundamental work of the American economist Hotelling in 1931. Sinn assumes
that all resource owners follow this simple decision-making principle.
3 RESOURCE ECONOMICS
The basic model for the economic theory of exhaustible resources, which was used both as
an explanatory approach to the behavior of non-renewable resource providers and to explain
and forecast the price of oil, was developed by (Hotelling, 1931) and has since been empirically tested, criticized and further developed many times.
In its basic model, Hotelling considered the production decisions of raw material producers over time. Their goal is to maximize the present value of their current and future profits
from producing the resource in the deposit.
The time path of the price development results from the producer’s decisions regarding
the production volume. The producer can invest the yields generated by the current
production (p0 per unit produced) on the market at the market interest rate and receives
p0 × (1 + r) monetary units from this in the following period. If the following applies to the
price of the raw material in the next period: p1 = p0 × (1 + r), the producer would be indifferent between today’s and tomorrow’s production. If, on the other hand, p1 < p0 × (1 + r)
applies, the producer will opt for today’s production because it will generate higher profits than tomorrow’s production. However, if all suppliers behave accordingly and already
produce today, the supply of the corresponding raw material would increase and today’s
price (p0) would fall.
According to (Watkins, 2006) and (Fattouh, 2007), the Hotelling model is primarily
suitable for analyzing the production strategy of individual oil suppliers rather than the
overall market.
(Anderson, Kellogg, & Salant, 2014) showed that the actual production decisions of oil
producers in Texas and, accordingly, the production volumes there as a whole cannot be
explained by the theory of Hotelling.
(Adelman, 1990) in turn rejected Hotelling’s assumption of a static resource stock. Instead,
in his model he took into account increases in recoverable reserves through investments in the
further development of already developed resources and the exploration and development of
new resources. According to his model, price development depends less on the scarcity rent
than on the development of marginal costs, the replacement of old resources by new ones.
(von Wahl, 1991) shows that, in accordance with the theorem of cost theory, the development of new resources leads to an increase in the optimal size of the operation and thus in
the production volume as marginal revenues rise.
It is shown that, marginal cost providers (US shale oil producers) that are crucial for price
setting do not behave as described by Hotelling.
The marginal cost providers increase their supply today and in the future with an increasing oil price (positive supply elasticity). The Hotelling calculus, taking less from the “warehouse” today, and selling these quantities later (negative supply elasticity), is not a concept
being observed for them. Therefore, the supply side approach outlined by Sinn, a tax on oil
production, which is now high and declines over time, would incentivize a constant increase
in the oil production, which would increase CO 2 emission further.
2 THE HOTELLING RULE
Resource owners are faced with the alternative of leaving their assets as carbon in the soil
or mining the resource and investing the resulting surpluses in the capital market. As fossil
fuels become increasingly scarce as production progresses, untouched resources are becoming more and more valuable: the resources therefore generate a return in the form of ongoing increases in value. On the other hand, there is the capital market return if the resource
is mined today and the proceeds are invested on the capital market. This consideration goes
back to the fundamental work of the American economist Hotelling in 1931. Sinn assumes
that all resource owners follow this simple decision-making principle.
3 RESOURCE ECONOMICS
The basic model for the economic theory of exhaustible resources, which was used both as
an explanatory approach to the behavior of non-renewable resource providers and to explain
and forecast the price of oil, was developed by (Hotelling, 1931) and has since been empirically tested, criticized and further developed many times.
In its basic model, Hotelling considered the production decisions of raw material producers over time. Their goal is to maximize the present value of their current and future profits
from producing the resource in the deposit.
The time path of the price development results from the producer’s decisions regarding
the production volume. The producer can invest the yields generated by the current
production (p0 per unit produced) on the market at the market interest rate and receives
p0 × (1 + r) monetary units from this in the following period. If the following applies to the
price of the raw material in the next period: p1 = p0 × (1 + r), the producer would be indifferent between today’s and tomorrow’s production. If, on the other hand, p1 < p0 × (1 + r)
applies, the producer will opt for today’s production because it will generate higher profits than tomorrow’s production. However, if all suppliers behave accordingly and already
produce today, the supply of the corresponding raw material would increase and today’s
price (p0) would fall.
According to (Watkins, 2006) and (Fattouh, 2007), the Hotelling model is primarily
suitable for analyzing the production strategy of individual oil suppliers rather than the
overall market.
(Anderson, Kellogg, & Salant, 2014) showed that the actual production decisions of oil
producers in Texas and, accordingly, the production volumes there as a whole cannot be
explained by the theory of Hotelling.
(Adelman, 1990) in turn rejected Hotelling’s assumption of a static resource stock. Instead,
in his model he took into account increases in recoverable reserves through investments in the
further development of already developed resources and the exploration and development of
new resources. According to his model, price development depends less on the scarcity rent
than on the development of marginal costs, the replacement of old resources by new ones.
(von Wahl, 1991) shows that, in accordance with the theorem of cost theory, the development of new resources leads to an increase in the optimal size of the operation and thus in
the production volume as marginal revenues rise.