Question

1. EXTERNALITIES IN THE ELECTRIC UTILITY INDUSTRY

The following equations represent the supply and demand for electricity in Pennsylvania, a state where the electricity market has been deregulated and is now operating as a competitive market. Quantity is measured in 100s of kilowatt hours (100 kwh).

Demand: ??= − 1/5? + 5 Supply: ?? = ? − 1

(a) Graph the supply and demand curves for electricity.

(b) Calculate algebraically the equilibrium price and quantity assuming a perfectly competitive market. Label this point on your graph from part

The electric utilities also generate sulfur dioxide (SO2) as a byproduct of their production of electricity. SO2 has health consequences, namely particulate matter from these emissions can lead to respiratory ailments. SO2 also has ecosystem effects, namely it is a precursor to acid rain. A careful study has been conducted to determine the costs of SO2 emissions and the following function describes these costs:

Marginal Cost of SO2: ?Cso2 = 4Qs + 4

(c) Calculate the Marginal Social Cost of electricity generation and add it to the graph from part (a).

(d) Algebraically solve for the socially efficient level of electricity generation and the socially efficient price. Label this point on your graph.

(e) Mathematically calculate the social welfare loss resulting from the externality. Shade in the area of welfare loss on your graph. Explain why this area is social welfare loss in 1-2 sentences.

Answer 1

SD2 – 1 pot 5 Ps 2 P - So lo Q 05282 (4,5)

go e s at (equilibrium) p+5 z P-1 - p + 25 = 5p - 5 30 a 6p P 2 30% = 5 G. 30%-1 n. equilibrium Price , p = 5 equilibrium quantity or n kwi me a 4 Goth marginal electricity social is cost of produciny. 4 kwa a sme das - 4 Jan dgs + 4 das 4 [837 + 4 [Fs 10" - 2* 16 + 4th 2 32 + 16 = 48 0,257 la mc =P(8) (at equilibriuag ornaroroon5 4G +4225-59 9 .21 (ou O, PC(,5) 9 2 27 6 P² 25-59 225 - 15 e socially efficient level 27 ABC is welfare loss. (point B) Kwe as barporto coordinate or roint c = (4,5) rame of me at gen, mela 220 coordinate o f 2 (4,20) arca on ABC & 2 x BDXAL 21 (4- 21 ) & Ro-5) 2 5 +5 to 12 * 15 * 73 - 2/2

social welfare This is because cover is at B Due to so this more output and welfare Loss loss is 25 Bears externarity. Because socially optimum but original equilibri who is at c. negative externality society produces cost of this output leads to social