Oil prices in a general equilibrium model with precautionary demand for oil

This paper analyzes the interaction between oil prices and macroeconomic outcomes by incorporating oil as an input in production alongside a precautionary motive for holding oil in a general equilibrium model. The driving forces are factor-specific technology shocks, oil supply shocks, and news shocks about future oil supply. Storage and the zero lower bound on stored oil are crucial for the model to match observed business-cycle statistics, the relationship between oil price changes and recessions, and for generating state-dependent responses to shocks. Large oil-price increases are mainly driven by increasing precautionary/smoothing demand for oil. Most of the time, oil-related shocks are of limited importance for the business cycle, but when oil inventories are low, negative news about the future oil supply can drive the economy into a recession that is triggered by oil scarcity. (C) 2018 Elsevier Inc. All rights reserved.