In this paper, we review this “Hotelling puzzle” and suggest modifications to current theory that The prices of exhaustible resources—oil, natural gas, copper, coal, etc. . Review of Economics and Statistics 92 (2), Oil is an exhaustible resource. The economics of exhaustible resources is expressed through Hotelling’s rule. Hotelling’s rule states that the. Hotelling’s rule defines the net price path as a function of time while maximizing economic rent in the time of fully extracting a non-renewable natural resource. ” Hotelling’s ‘Economics of Exhaustible Resources’: Fifty Years Later”. Journal of.

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Therefore during the evaluation of the currently extracted resource, that value should also be considered that would have been reached if the resource would be extracted in the future. The utility of consumption would be denoted by U Rt.

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That is, they all treat natural resources exhaustiblle provided freely by nature. In an exhauwtible exploitation of a non-renewable and non-augmentable resource, the percentage change in net-price per unit of time should exhaustiible the discount rate in order to maximise the present value of the resource capital over the extraction period. Whilst Hotelling was quick to recognize market failure, he failed to account for what is currently known as government failure Braddley The Economic Journalvol.

The theory thus proposed the time track of natural resource extraction that most increases the value of the resource reserve. Therefore a competitive mining firm will rise its production until its marginal production cost and the opportunity cost reaches the market price: Pierce and Turner, Otto et al.

Hotelling’s rule – Wikipedia

Retrieved from ” https: This is derived form the fact that the resource is non-renewable. However, if we gradually resolve these restrictions, we can get interesting conclusions that have important meaning for mineral industry.

In the optimal case, the demand for the resource will cease due to its high price when the substitution backstop technology becomes economic and can replace the original resource.

The opportunity cost or rather the shadow price at time t, Yt, is in the present case resuorces. It has formed the conceptual and theoretical framework used by economists to model the supply and the prices of nonrenewable resources.


The maximum rent is also known as Hotelling rent or scarcity rent and is the maximum rent that could be obtained while emptying the stock hohelling. In this respect, to reduce on the marginal cost of extraction, it would require that an industry be located close to the extraction point.

The selfish exploitation of natural resources at a rapid rate gave rise to the conservation movement Rothband This future value, which is lost due to extracting the resource today is called as the opportunity cost.

Logistics thus has an important role to play in determining the optimal extraction solution. Perhaps, to explain the real-world phenomena, it would be helpful to relax these assumptions.

Subscribe If you enjoyed this article, subscribe to receive more just like it. An important point to emphasize in the Exhasutible model is that the market price of non-renewable resources must increase with time, provided that costs remain time-invariant Chakravorty et al.

If this condition holds, then it is indifferent for the owner of the resource that it will be extracted now and sold at price P 0or will be extracted at any time in the future and sold at price P t. In other oof, under a perfectively competitive market, the market price of a non-renewable resource minus the marginal costs must grow in tandem with the interest rate.

However, in reality such an increase in the price of non-renewable sources exuaustible not persist as many og factors such as regulation and speculation in commodity markets may come into play resulting in alternative phases of upward and downward price movements Chakravorty et al. The objective is to maximize the marginal net revenue of extraction of the non-renewable resource.

Hotelling has shown that since the quantity of the resource is limited exhaustiblewe should consider that the resource extracted and consumed today will be not available for future generations.

The paper finds that while the Hotelling theory had contributed to the economics of nonrenewable resources and the rise of the conservationism movement, the assumptions laid out by the theory are not applicable to the real world. Journal of Political Economy 39 2— In Summary, the Hotelling theory has contributed to the economics of nonrenewable resources.

The firm should reach a price for the product that the cost of the last unit exhaustkble the product will be recovered. In other words, the resource rent is the resource royalty or resource’s net price price received from selling the resource minus costs.


The firm, extracting mine G at the marginal production cost, will be competitive only, if the market price exhaustibke its production costs and the opportunity cost see figure 1. His theory is fundamental in redources aspects: This would not only decrease the transport costs, but will also increase efficiency resokrces the supply chain and logistics. The paper presents a model of the Hotelling rule and examines its applicability to real life phenomena.

The opportunity cost has different names: But at the time, his analysis was way ahead of time as mathematics had not yet been incorporated into economics.

Not to be confused with Hotelling’s law. For example, in order to explain the price of oil, it would be necessary to discard all assumptions of inevitable increase in price and the assumption of a fixed stock.

For mines that produce at less production costs mines A resourcees F in figure 1 the net present value of the lost future profit includes the user cost and the Ricardian rent, too. School of Business and department of Economics. According to Hotelling, the opportunity cost is the discounted present value of the future profit which will be lost due to extracting the resource in the present.

Other important meaning of the user cost is that it expresses the in situ value of the resource, the value of the resource before the extraction for the mine producing at the marginal production cost.

Views Read Edit View history. Such a cyclical behaviour in the prices of non-renewable resources is not covered under the Hotelling model. Autobahn or Cul de Sac?

Including student tips and advice. Theorists such as Hotelling and Gray particularly pointed out to the additional intertemporal cost of extracting natural resources Shogren Hotelling’s article pointed out that economic behaviour exaustible mining firms differs from behaviour of other industrial sectors.

Since this theory is valid only under several restricting conditions, which are not realistic in the real world, the validity of his finding were debated econoics times, especially in the s.

The increase of nominal price of the resource by the Hotelling rule takes place until the exhaustion of the resource.