DP69 World Oil Prices and Output Losses in Developing Countries

Author(s): David Pearce , Richard Westoby

Publication Date: July 1985

Keyword(s): Developing Countries , Oil Prices , Output Losses

JEL(s): 121 , 423 , 723

Programme Areas: International Trade and Regional Economics

Link to this Page: www.cepr.org/pubs/dps/DP69.asp

The purpose of this paper is to measure the impact of the 1979 oil price "hike" on a selected group of developing countries. The model used for this exercise is an adaptation of a straightforward income-determination model in which domestic oil revenues are treated as a "tax" revenue from oil exports as an exogenous source of government revenue. The basis of the model is a standard GDP accounting identity modified such that government expenditure is disaggregated into domestic oil revenue, foreign oil revenue, non-oil taxes and net government financing. Keynesian behavioural equations relate consumption and investment to national income net of non-oil taxes and oil revenue, while the non-oil trade balance is a linear function of overall national income. Net government borrowing enters the model as an exogenous variable while domestic oil revenue is related directly to the aggregate oil ratio multiplied by national income (which equals domestic oil consumption) by making the oil price a numeraire. It follows that foreign oil revenue equals the external oil price multiplied by the shortfall between domestic oil production and domestic oil consumption. The model is used in order to derive an elasticity of national income to a change in world oil prices. This elasticity is calculated for a number of developing countries and it is employed to estimate the impact of the 1979 oil price "hike". In general we find that, dollar for dollar, a 1 per cent change in world oil prices affects developing countries considerably more than the developed countries.