Crude or Refined? Rationality of Downstream Investment for OPEC Members

47 Pages Posted: 13 Feb 2018  

Hamed Ghoddusi

Stevens Institute of Technology - School of Business

Franz Wirl

University of Vienna - Institute of Business Administration

Date Written: February 1, 2018

Abstract

Should oil-producing countries aggressively move toward downstream and invest in the oil refinery industry? This is a crucial development policy question for such economies. We critically review the rationale for a vertical integration strategy (i.e. downstream investment) within an oil-rich economy. We show that the average markup in the refining sector is significantly smaller than the profits in the upstream; thus, not much economic value-added can be expected through the vertical integration. We also find that while crude oil process contains unit-roots (i.e. random-walk), refining margins are stationary (i.e. mean-reverting). Thus, from a hedging prospective the more stable and mean-reverting refining margins can provide a revenue cushion when crude oil prices are low. Our theoretical model also shows that, among several other factors, the relative magnitude of refined demand to crude oil supply shocks plays a significant role in determining the optimal degree of integration. The analysis can inform energy sector investment decisions as well as export diversification policies of oil producing countries.

Suggested Citation

Ghoddusi, Hamed and Wirl, Franz, Crude or Refined? Rationality of Downstream Investment for OPEC Members (February 1, 2018). Stevens Institute of Technology School of Business Research Paper. Available at SSRN: https://ssrn.com/abstract=3116172 or http://dx.doi.org/10.2139/ssrn.3116172

Hamed Ghoddusi (Contact Author)

Stevens Institute of Technology - School of Business ( email )

Hoboken, NJ 07030
United States

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

Franz Wirl

University of Vienna - Institute of Business Administration ( email )

Bruenner Strasse 72
Vienna, A1210
Austria
+43 - 1 - 4277 38102 (Phone)
+43 - 1 - 4277 38104 (Fax)

HOME PAGE: http://ieu.bwl.univie.ac.at

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