Title Page
WP/18/182
IMF Working Paper
Western Hemisphere Department
Welfare Gains from Market Insurance: The Case of Mexican Oil Price Risk
Prepared by Chang Ma and Fabian Valencia1
Authorized for distribution by Costas Christou
March 2018
IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.
Copyright Page
© 2018 International Monetary Fund
March 2018
Contents
I Introduction
II Mexico’s Oil Hedging Program
III Benefits/Costs of Hedging in a Two-period Model
IV Model Economy
A Benchmark Model with Defaultable Debt and Put Options
B An Economy without Put Options
C Recursive Equilibrium
V Quantitative Analysis
A Calibration
B Welfare Gains from Hedging
C Robustness Check
VI Extensions
A Selling Oil Forward
B Risk Averse Investors
VII Conclusion
References
Appendices
I Normalized Economy
II Proofs
A Proof of Proposition 1
B Proof of Proposition 2
C Proof of Proposition 3
D Proof of Proposition 4
III Algorithm
IV Estimation of Oil Price Process
V Option Pricing
Tables
1 Actual Strike Prices from Options
2 Parameters
3 Stochastic Steady State in the Hedging and No-hedging Economies
4 Sensitivity Analysis
5 Welfare Gains from Selling Oil Forward
6 Risk Averse Investors: Hedging and No-hedging Economies
Figures
1 Oil Production, Oil Prices, and Sovereign Spreads
2 Mexico’s Oil Hedging Program
3 Two-period Model
4 Welfare Gains, Borrowing, and Probability of Default
5 Bond Price and Sovereign Spreads
6 Event Windows
7 Welfare Gains under Different Cost Premiums
8 Two-period Model with Forwards
Johns Hopkins University and International Monetary Fund, respectively. The authors thank Paolo Cavallino, Costas Christou, Daniel Hardy, Dora Iakova, Olivier Jeanne, Laura Kodres, Anton Korinek, Leonardo Martinez, Hui Miao, Eugenio Rojas (discussant), Damiano Sandri, Alejandro Werner, Woo Jin Choi, and seminar participants at the IMF, the Bank of Mexico, George Washington University Student Research Conference, Spring 2017 Mid-west Macro Conference, 2017 Georgetown Center for Economic Research Biennial Conference, 2017 Asian Meeting of the Econometric Society, and China Meetings of the Econometric Society for valuable comments.