Investment in oil production on the UK continental shelf (UKCS) involv
es three separate but highly interrelated activities: exploration, dev
elopment and extraction. The exploration and extraction decisions have
recently been analysed by Pesaran and Favero. The aim of this paper i
s to provide a model of the investment decision on the UKCS, where the
development process is explicitly modelled within an intertemporal op
timization framework. The model highlights the importance of the lengt
hy time lags that exist between price and tax changes and changes in o
il supplies from UKCS. The empirical results show significant improvem
ents over the previous studies, demonstrate the importance of theoreti
cal considerations in modelling the oil supply process and illustrate
the pitfalls involved in relying on standard unrestricted distributed
lag models in the econometric analysis of oil investment.