Assessing alternative options for allocating oil revenue in Iran Zahra A. Barkhordar a , Yadollah Saboohi b,n a Mechanical Engineering Department, Sharif University of Technology, P.O. Box 11365-9567 Tehran, Iran b Sharif Energy Research Institute (SERI), Sharif University of Technology, P.O. Box 11365-9567 Tehran, Iran HIGHLIGHTS  A recursive dynamic general equilibrium model is applied for Iran.  The total factor productivity is calculated endogenously.  Alternative revenue allocation options are investigated.  Physical investment of oil windfalls leads to higher economic growth in medium run.  Financial investment of oil revenues leads to higher economic growth in long run. article info Article history: Received 22 January 2013 Accepted 30 August 2013 Available online 23 September 2013 Keywords: Recursive dynamic CGE model Oil revenue management Validation abstract The present paper focuses on medium-term effects of alternative windfall management strategies for a resource abundant country where the resource revenues are expected to last over a prolonged period. In particular, the trade-off between spending and saving is analyzed within the framework of a recursive dynamic computable general equilibrium model. The model is further validated against historical data available for 2001–2010. The total factor productivity is calculated endogenously in the model based on a function that reflects the changes in factor productivity. The results suggest that saving oil revenues, whether in an oil fund or through physical investment in domestic sectors, leads to a higher economic growth. However, physical investment is superior in the short to medium term based on the resultant GDP while creating an oil fund might be more beneficial in the post oil era. & 2013 Elsevier Ltd. All rights reserved. 1. Introduction Iran has been producing oil for more than a century. In 2010, Iran earned around 70 billion dollars in oil export revenues, which represented roughly 13% of GDP. Therefore there is clearly poten- tial to accelerate economy-wide growth utilizing oil revenue. However, several challenges remain. The Iranian economy is heavily dependent on oil sector. While crude oil and its derivatives account for nearly 80% of Iran's total exports, oil export revenues comprise half of the government income. While in the period from 2002 to 2008 the average oil price grew fourfold and oil revenues have quadrupled, the state budget has increased from 185 trillion Rials in 2002 to 703 trillion Rials in 2008 (CBI, 2010) which is a fourfold increase. This is indicative of serious budgetary dependence on oil revenue. Moreover, decline in production, overvaluation of the foreign exchange rate and increase in non-oil imports are all symptoms of mismanagement of oil revenues. Similar adverse experience in other resource abundant coun- tries led many economists to believe that resource abundance is not a blessing but a ‘curse’. Indeed, there is a vast literature on the issue of economic effects of exhaustible resource. Some conserva- tive views argue that spending resource windfalls often lead to Dutch disease effect. Auty (1993) was the first who used the term ‘resource curse’ to describe how resource abundant countries had lower economic growth than other countries. While this hypoth- esis has been confirmed by many studies (e.g. Sachs and Warner, 1995), there are evidences that instill doubts in the negative effect of resource abundance on economic growth. (e.g. Cavalcant, 2011). Specifically, Brunnschweiler and Bulte (2008) argue that not only the resource curse paradox does not exist, but resource abundance has a positive effect on growth. The literature on resource curse generally focuses on the short term implications of resource abundance (e.g. van der Ploeg and Venables, 2009). However, the opposing literature often Contents lists available at ScienceDirect journal homepage: www.elsevier.com/locate/enpol Energy Policy 0301-4215/$ - see front matter & 2013 Elsevier Ltd. All rights reserved. http://dx.doi.org/10.1016/j.enpol.2013.08.099 n Corresponding author. Tel.: þ98 21 66085198, þ98 9121484035; fax: þ98 2166085197. E-mail addresses: adel_barkhordar@yahoo.com (Z.A. Barkhordar), saboohi@sharif.edu, saboohi@sharif.ir (Y. Saboohi). Energy Policy 63 (2013) 1207–1216