Economics homework help. 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