Oil production, resource movement effects, and macroeconomic adjustment

Abstract

The paper is concerned with simulating the macroeconomic adjustment processes arising in a small open economy experiencing a temporary period of oil production. In a recent paper, Harvie conducted a similar exercise for an economy in which the spending effect arising from such oil production dominated the resource movement effect. That paper concluded that the wage adjustment processes operative were important in influencing the macroeconomic adjustment process arising. Specifically, that paper concluded that wage indexation was preferable during the period of oil production, but that de-indexation was preferable in the post oil production period. Although, in the present paper, the principles underlying the simulated model are the same as in Harvie, the emphasis here is placed on the resource movement consequences arising from temporary oil production. The major conclusion identified is that wages policy is still important in influencing the macroeconomic adjustment processes identified. However, a difference arises not in regard to the profile of that adjustment but rather in its magnitude. The paper emphasizes, in particular, developments in non-oil output, consumer prices, and the stock of domestically held foreign assets. The simulation results suggest that, where the resource movement effect dominates, it would be preferable to de-index wages during the period of oil production and index wages in the post oil production period. Hence wages policy should be regarded as an important component of a government's policy response arising from a period of temporary oil production, irrespective of whether the resource movement or spending effect dominates. However, what that policy response should be would depend on the relative importance of either effect.