Does Oil Market Volatility Earn OPEC a Risk Premium?

34 Pages Posted: 12 Jan 2018

See all articles by Marc H. Vatter

Marc H. Vatter

Marc H. Vatter, Ph.D.; Elevation Direct; Economic Insight, Inc.; Brown University Dept. of Economics

Date Written: January 11, 2018

Abstract

The question is examined whether OPEC is in a position to collect a risk premium to effectively insure others against a macroeconomic downturn, which may, in turn, result from a rise in the price of crude oil. Contingent exchange is modeled such that parties whose consumption is elastic with respect to aggregate consumption hedge; they pay risk premia to smooth consumption. Parties whose consumption is inelastic or negatively related to aggregate consumption collect risk premia. OPEC’s revenues are estimated, insofar as they are explained by OPEC’s cartel pricing, to be strongly negatively related to aggregate consumption. Insofar as they are explained by exogenous macroeconomic changes, they are highly inelastic with respect to the aggregate. Either way, OPEC is in a strong position to collect a risk premium from volatility in the market for crude oil. This may incent it to destabilize the market, which would lower macroeconomic output because of the asymmetric effects of oil prices on the macroeconomy.

Keywords: OPEC; risk premium; volatility; crude oil; asymmetric

JEL Classification: Q43

Suggested Citation

Vatter, Marc H., Does Oil Market Volatility Earn OPEC a Risk Premium? (January 11, 2018). USAEE Working Paper No. 18-328. Available at SSRN: https://ssrn.com/abstract=3100569 or http://dx.doi.org/10.2139/ssrn.3100569

Marc H. Vatter (Contact Author)

Marc H. Vatter, Ph.D. ( email )

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HOME PAGE: http://appliedecon.net

Elevation Direct ( email )

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HOME PAGE: http://www.elevationdirect.com/

Economic Insight, Inc. ( email )

9 Underhill Street
Nashua, NH 03060-4060
United States
603.402.3433 (Phone)

HOME PAGE: http://appliedecon.net

Brown University Dept. of Economics ( email )

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United States
401-863-3836 (Phone)

HOME PAGE: http://www.brown.edu/Departments/Economics/

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