[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

today, but it will also depend on prices expected in the future. The role played by
prices expected in the future is important for understanding how quickly the limited
supply of a natural resource will be used.
Just as we did in Chapter 9 when we discussed household saving, we will simplify
by considering only two periods, today and the future. Let’s also assume that
known reserves of oil are one billion barrels. The oil can be sold now or left in the
ground and sold in the future. Oil producers will want to sell the oil today if they
think prices in the future will be lower, and they will want to leave it in the ground
today and sell it in the future if they expect prices then will be higher. Of course, we
learned in Chapter 9 that we cannot compare prices today and in the future directly—
a dollar in the future is not worth as much as a dollar today because today’s dollar
could always be invested, earning interest and thus yielding more than a dollar in the
future. To compare prices in the future with prices today we need to look at the present
discounted value of the future price (Chapter 9 explained how to calculate this
figure). If the expected price of oil in one year is $55 per barrel and the interest rate
is 10 percent, then the present discounted value of that $55 is $55/1.1 = $50.
We can now restate the comparison that oil producers will make. Oil producers
will compare the current price with the present discounted value of the future price
of oil. If the current price is above the present discounted value of the future price,
they have an incentive to sell all one billion barrels today. But an attempt to sell
all the oil reserves today will depress the current price of oil, pushing it down toward
the present discounted value of the future price. In the opposite case, when the current
price is less than the present discounted value of the future price, oil producers
have an incentive to save the oil and sell it in the future. But because the oil is
withheld from the market today, the current price will rise, until it equals the presented
discounted value of the future price. Thus, market forces will tend to make
the current price and the present discounted future price equal. By definition, in
equilibrium an oil producer must be indifferent between the choices of selling an
extra barrel today and saving it to sell in the future. This tells us that the current
price and the presented discounted future price will be equal in equilibrium.
If the current price and the present discounted future price are equal, oil producers
have no preference as to when they sell the oil. What then determines how
much oil will actually be sold today? To answer this question we need to know something
about the demand for oil, both today and in the future. In equilibrium, the
quantity demanded today and in the future, when the current and present discounted
future prices are equal, must add up to the total amount of oil—in our
example, one billion barrels.
We can now understand how the price of oil is affected by such factors as the development
of new technologies or more fuel-efficient cars. Suppose these developments
lower the demand for oil in the future. The demand curve for oil in the future then
shifts to the left, lowering the future price of oil. Whenever the present discounted
future price of oil falls, oil producers will want to sell more of their oil today. As we
have seen, an increase in the supply of oil today causes the current price of oil to fall.
The current price must adjust until it again equals the present discounted future price,
and total demand today and in the future equals one billion barrels. Because reduced
demand in the future lowers the current price of oil, it leads to higher current
consumption of oil and an increase in the quantity of oil produced today.
GENERAL EQUILIBRIUM ANALYSIS ∂ 233