Back Matter
  • 1 https://isni.org/isni/0000000404811396, International Monetary Fund

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*

This paper was prepared as a background paper for the IMF policy paper, Fiscal Regimes for Extractive Industries: Design and Implementation (http://www.imf.org/external/pp/longres.aspx?id=4701). The author is grateful to Philip Daniel, Ruud de Mooij, Michael Keen, and Alistair Watson for careful reading of a previous draft and many helpful comments. Any errors that remain are the responsibility of the author alone.

2

The model is well behaved, meaning that the profit function is monotonic and a unique optimum always exists.

3

These figures represent the maximum reserves that could be recovered via primary recovery operations. Additional volumes are available via enhanced recovery, but adverse fiscal provisions could prevent even the full volume of primary reserves from being produced.

4

A technical derivation of this dynamic model of the probability of success is described in Smith (2005).

5

As Triest (1998, p. 761) observed, “Reliable estimates of how tax incentives affect behavior are an essential input to the formation of tax policy.” Similar sentiments can be found in Conrad and Hool (1984) and Poterba (2010).

6

We limit discussion to the taxation of petroleum. Many of the approaches described here have also been applied to assess tax impacts on mining operations, as discussed in Smith (2012).

7

Another reason to delay enhanced recovery is that overstimulation (adding too much pressure too soon) may cause water in the underlying aquifer to break through the formation, leaving unrecoverable oil trapped behind.

8

Formally, qi represents the conditional probability of field type i given that a commercial discovery is made.

9

“R-factor” is the simple ratio of the investor’s cumulative revenue to cumulative expense (undiscounted). Since expenditures precede production, the R-factor starts at zero and grows through time as the investment is recovered.

10

Recall that the value λ = 2.0 means that EOR would double the volume of remaining reserves.

11

This is an inherent feature of the exponential decline model; reducing the rate of initial production also reduces the subsequent decline rate.

12

The standard approach in public finance literature is to treat “progressivity” as a static attribute of the tax system with no allowance for behavioral response, but also to recognize that the degree of progressivity will have behavioral effects that may affect realized tax revenues.

13

If returns follow a normal distribution, which may not be a bad approximation, then the probability of realizing a NPV within 1 standard deviation of the expected NPV is roughly 68 percent. The reported coefficients of variation therefore indicate (approximately) the width of 68 percent confidence intervals for percentage variations in each party’s realized NPV.

14

This is tantamount to a “Brown tax” in which the government essentially becomes a working-interest partner in the project.

15

When a random variable is multiplied by a constant, the mean and standard deviation are also multiplied by the same constant, which leaves the CV unchanged.

16

Similar calculations performed for the IRR regime indicate that, although EOR would not have been planned initially, the IOC would in fact choose to implement EOR 36 percent of the time rather than simply abandoning the field at the appointed time.

17

Our price simulations are based on the assumption that, apart from the mean reversion component, percentage shocks to the price follow a normal distribution with zero mean and volatility = 30 percent: x=ln(pt+1pt)N(μ,σ2) with μ = 0 and σ = 0.3. It follows from statistical theory that the ratio of successive prices must then follow a normal distribution with mean greater than 1, since: y=ex=Pt+1PtLN(eμ+12σ2,e2μ+σ2×(eσ2-1)), where eμ+12σ2=1.046 given the presumed values of μ and σ Thus, the price tends to rise in absolute terms over time, which tends to raise returns under the stochastic simulations relative to the deterministic case. The mean reversion component fights against the rising price trend, but cannot completely nullify its effect.

18

An alternative approach would be to assume that multiple fields could exist within the block, and that the IOC would not necessarily cease exploration after the first discovery. An alternative model of discovery probabilities would apply in that case and it would be necessary to incorporate the impact of “sampling without replacement” at the exploration stage.

19

Without the ring fence, we assume that intangible exploratory drilling costs can (and will) be used to offset revenue from other blocks. We also assume that 80 percent of exploration costs are intangible, which means that even without a ring fence, 20 percent of exploration costs must be carried forward.

20

The figure displays results obtained under Scenario B (“geology”) and without a ring fence. Adding the ring fence would reduce the maximum number of wells under the CIT regime from six to five.

Modeling the Impact of Taxes on Petroleum Exploration and Development
Author: Mr. James L. Smith