Economics 473 Spring 2020 Problem Set Three Submit your answers via D2L by noon Wednesday, April 1. You can submit a WORD file with typed answers or a scanned file. You do not need to include any graphs with your answers. 1. (6 points) Consider a wholesale electricity market with the following two types of suppliers: Type Marginal Operating Cost Capacity Coal $24/MWh 3000 MW Natural Gas $40/MWh 2000 MW In order to answer the questions below, graph the hourly competitive supply curve for this market and use this with demand information. a. What is the competitive equilibrium price if demand is perfectly inelastic at 2400 MW? Does either type of supplier earn profits in equilibrium? b. What is the competitive equilibrium price if demand is perfectly inelastic at 4400 MW? Does either type of supplier earn profits in equilibrium? c. Suppose that suppliers with 1500 MW of solar generation with zero marginal cost enter the market. How does this change your answers to parts (a) and (b)? 2. (10 points) Consider the following scenario about daily GhG (greenhouse gas) emissions. The marginal cost of emissions (also called the social cost of carbon) is constant and equal to $20/ton of emissions. The marginal benefit curve for emissions is linear, starting at $100/ton at zero emissions and falling to $0/ton at 1,000 tons per day. Emissions in tons/day $ 1000 100 20 SCC MB 2 The graph above depicts the MB and SCC (MC) curves. a) How large would you expect daily GhG emissions to be if there is no regulation of emissions? b) Explain how to find the socially optimal levels of GhG emissions and of emissions abatement on the graph. Provide a number for the socially optimal number of tons/day of emissions and for emissions abatement. c) Suppose that a tax of $10 per ton of emissions is imposed. How much emissions abatement would occur as a result of the tax? How would the level of emissions abatement compare with the socially optimal level? d) How much tax revenue would be raised by the $10 per ton tax? e) Extra Credit (4 points): Suppose the government institutes a cap and trade program for GhG emissions, and further suppose that the cap for emissions is set at the socially optimal level. What trading price would you expect for emissions permits under this cap and trade scheme? Explain. Does it matter whether the government auctions off all permits (requiring any firm that would emit greenhouse gases to purchase a permit at its auction) or the government gives permits away to firms (e.g., in proportion to prior emissions) and then allows firms to buy and sell emissions permits in a trading market? If it matters, explain how. If it doesn’t matter, explain why it doesn’t. HINT for parts (b) through (e): The marginal benefit curve is linear and so has constant slope. You can use the slope, coupled with knowledge of the vertical intercept, to find the quantity of emissions for any $-value of marginal benefit.
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