Dynamic Investment in Extraction Capacity of Exhaustible Resources
Stevens Institute of Technology - Wesley J. Howe School of Technology Management
June 12, 2010
Scottish Journal of Political Economy, Forthcoming
This paper studies a resource extraction problem with capacity constraints, expansion options and stochastic demand process. The producer has to decide on the optimal rate of extraction and the optimal time to build further capacity simultaneously. Using numerical methods to solve the problem, it is shown that previous results which suggest that extraction capacity should be built at the beginning, are not necessarily true under uncertainty. I derive equations for the optimal time to build extra capacity. The results of this paper can contribute to better understanding of long-run energy and commodity supply.
Number of Pages in PDF File: 20
Keywords: Capacity Expansion Options, Hotelling Role, Investment Under Uncertainty
JEL Classification: Q31, G13Accepted Paper Series
Date posted: June 12, 2010
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