Topic 14: Natural Resources in an Intertemporal Setting

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Topic 14 Natural Resources in an Intertemporal
Setting

• David Letson
• University of Miami

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Main Points

• Are we running out?
• Natural resources as capital assets
• Hotellings Rule
• Efficiency and sustainability of markets

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Natural resource scarcity as limit to growth

• Gloomy forecasts
• Thomas Malthus
• Stanley Jevons The Coal Question
• U.S. oil reserves
• Club of Rome
• Paul Ehrlich and Julian Simon

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What is economic theory of natural resource
exhaustion?

• Natural resources as investments.
• Portfolio theory and resource use.
• Investment worthiness of natural resources.

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Hotelling r Rule

• Does resource owner extract resource or wait?
• use value
• asset value
• Value grows over time at rate discount rate.
• Marginal user cost
• MC marginal extraction cost marginal user cost

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Markets as Self-Correcting Mechanisms

• Consumers conserve and choose substitutes.
• More plentiful exhaustibles or renewables.
• Producers economize on resource use, and develop
  more efficient technologies.
• Backstop technologies.

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How do market changes affect resource use?

• rising discount rate
• falling extraction costs
• discovery of plentiful substitute and
• increase in demand.

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Can markets provide an efficient allocation? Yes,
if

• social and private discount rates are equal
• property rights are well defined and
• reliable information exists about future prices.

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Reliable Information from Futures
Prices Ability to substitute produced factors
for natural resources. Technical
progress Development of substitutes. Reduced
need for natural resource inputs. Sustained per
capita consumption possible if Elasticity of
substitutions is constant and gt1. Elasticity 1
and share of capital exceeds that of
NR. Resource augmenting technical
progress. Demand elasticity for NR intensive
consumption goods. Note Isoquant for essential
resource never intersects axis of the produced
factor.
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Effects of an externality? If internalized

• Demand side effect
• Supply side effect
• Interesting empirical question.

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What about monopoly?

• Recall that monopolists restrict output.
• Analogous r rule for the monopolist.
• Implies less rapid exhaustion.

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Solow (1974)

• futures markets can tell us marginal user cost
• resource prices eventually do turn up
• technical advance and resource substitutability
• sustainability non-declining consumption.
• build machines fast enough so that output will
  not decline as minerals become more scarce.

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Hartwick efficiency and sustainability

• Constant consumption requires re-investment.
• With discounting, some consumption of rents.
• Yet discounting is centerpiece of efficient
  intertemporal resource allocation.
• So efficiency is not sustainable.

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Global climate change

• Discounting emphasizes short-term costs over
  long-term benefits.
• May be efficient to wait and see.
• Waiting sustainable only if
• future is willing to accept compensation and
• we are willing to pay it.

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Species extinction

• Species seen as inferior asset.
• Must be earn competitive return.
• Sustainable harvests rather than trade bans.

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Conclusions

• Pessimists should study their economics.
• Natural resources as capital assets.
• Markets tend to be efficient.
• Less consensus on sustainability.