Optimal Extraction and Taxation of Strategic Natural Resources: A Differential Game Approach

TL;DR

This paper models the strategic interaction between resource extraction companies and governments using a differential game framework, deriving optimal policies and equilibrium solutions for resource management under market fluctuations.

Contribution

It introduces a differential game model with Markov switching Lévy processes for resource valuation, providing explicit solutions for optimal extraction and taxation strategies.

Findings

Existence of a Nash equilibrium is proven.

Closed-form solutions for optimal extraction and taxation are derived.

Numerical example illustrates the model's application.

Abstract

This paper studies the optimal extraction and taxation of nonrenewable natural resources. It is well known that the market values of the main strategic resources such as oil, natural gas, uranium, copper,..., etc, fluctuate randomly following global and seasonal macroeconomic parameters, these values are modeled using Markov switching L\'evy processes. We formulate this problem as a differential game. The two players of this differential game are the mining company whose aim is to maximize the revenues generated from its extracting activities and the government agency in charge of regulating and taxing natural resources. We prove the existence of a Nash equilibrium. The corresponding Hamilton Jacobi Isaacs equations are completely solved and the value functions as well as the optimal extraction and taxation rates are derived in closed-form. A Numerical example is presented to illustrate our findings.