In class we discussed considerations that where important in addition to extract
ID: 1110201 • Letter: I
Question
In class we discussed considerations that where important in addition to extraction cost for efficient oil use and import. Specifically we discussed how security premium and considerations for the climate change externality effect the total optimal production as well as where it comes from. Take the following information and use it to solve the questions in this section. Feel free to use the graph for reference Domestic Supply-50+20 World Supply-World Price (flat supply) 100 Domestic Demand-500-10QExplanation / Answer
a) With a security premium of 50 added to imports, the price of imports will increased by 50. Externality cost of 20 shifts the world supply and aggregate supply both by 20. We have new import demand as
Domestic demand - Domestic supply =
P = 500 - 10Q + 50 - 5Q - 20 - 20 = 510 - 15Q
World supply shifts up by 20 as well so world price is 100 + 20 = 120
Find the level of imports and import price
510 - 15Q = 120
q* = 26 and P* = 120
Hence domestic price of oil is equal to world price which is 120. Domestically, we produce 120 = 5Q + 40
Q* = 16 units domestically
Oil that is imported is 26 units.
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