TIME ZONE ONE

SCHOOL OF SOCIAL SCIENCES

Economics

ENVIRONMENTAL AND ENERGY ECONOMICS

Course Code: C21EN

December 2017

Duration – TWO hours

INSTRUCTIONS

Section A: Short Questions

Answer ANY FIVE questions in this section (40 marks)

Section B: Long Questions.

Answer ANY TWO questions in this section (60 marks)

Use of University Approved Calculators is Permitted.

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SECTION A: Short Questions

Answer any FIVE Questions in total.

Each question is worth 8 marks.

Question A1

Explain the concept of opportunity cost and give an example.

(8 marks)

Question A2

Illustrate with a graph the effect of a tax on the supply of good x. Show the change
in equilibrium price and quantity, and the amount of the tax paid by the producer
and the consumer.
(8 marks)

Question A3

Illustrate with a graph the effect of an advertising campaign that makes driving an
electric car more attractive. How would the equilibrium price and quantity of electric
cars sold change?
(8 marks)

Question A4

Explain the concept of “cross-price elasticity” of demand and give an example.

(8 marks)

Question A5

Compare the profit-maximising price and quantity of a competitive market

equilibrium and a monopoly market equilibrium.
(8 marks)

Question A6

What is the “tragedy of the commons”? Give an example from environmental or

energy economics.
(8 marks)

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Question A7

Assume that a coal plant will start to operate in the vicinity of a village. This plant
produces waste that will be dumped into the river of that area causing a negative
externality to the ecosystems. Illustrate diagrammatically the impact of the
externality in the traditional demand-supply graph. Show and briefly explain what
happens with the quantity produced and the price and identify the welfare loss.
(8 marks)

Question A8

Explain and show graphically how the deadweight loss and tax revenue vary with
the size of a tax.
(8 marks)

Question A9

In the case of a depletable resources, explain what happens with the price of the
resource (e.g. oil) if the stock is expected to increase due to exploration activities.
Show it graphically.
(8 marks)

Question A10

The discount rate plays an important role in the analysis of impacts and damages
of climate change. Explain what the effect of considering high and low discount
rates is on current emissions.
(8 marks)

Section Total: 40 marks

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SECTION B: Long Questions

Answer ANY TWO Questions in this section.

Each question is worth 30 marks.

Question B1

The standard view of the oil price shocks of the 1970s is that they were “supply
shocks”. The standard view of the 2000s oil price shock is that it was a “demand
shock”. Explain using the tools of supply and demand curves. How would you use
these tools to explain movements in world oil prices in the 2010s?
(30 marks)

Question B2

Answer both (i) and (ii):

(i) According to Harris (2006)* policies in the most developed countries can
commonly be expressed under seven themes. Identify these themes and
discuss the priorities in the current European energy policies. State the
drivers of the energy policy design you consider are relevant.

(ii) On the other hand, transition and developing countries have different policy
objectives. Identify these objectives and explain their differences and
priorities.
(30 marks)
*Harris, C. (2006). Electricity Markets. Wiley Finance Editorial. England. Ch.3.

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Question B3

Suppose you receive an oil well from which you can obtain 30 barrels of oil. The
marginal cost of producing the oil is constant and equal to $4. Assume you have
only 2 periods to extract the oil (today and tomorrow). A study has found that the
demand for oil in each period is:

MB = 40 – 0.3q

where q is the quantity extracted.

MB = Marginal benefit = demand.

(i) Assuming that you can only invest the money in the bank, calculate the
extraction path of the oil. Assume an interest rate of 10% and a competitive
market. How does this extraction path differ from the case of infinite
resources? Explain briefly the major reasons for these differences.
(12 marks)

(ii) Calculate the price of a barrel of oil you expect to collect in each period.
Compare those prices with the given marginal cost (which would be the price
for an infinite extraction horizon) and explain why they differ.
(10 marks)

(iii) Calculate the total benefit you will obtain in each period.
(8 marks)

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Question B4

The following table presents part of the results of a contingent valuation study that
elicits the willingness to pay for generating electricity by using renewable energy
sources (RES) instead of hydropower and fossil fuels. Note: Results are taken from
the paper of Aravena et al., 2012.
Aravena, C.; Hutchinson, G. and Longo, A. (2012) “Environmental pricing of externalities from different
sources of electricity generation: Evidence from a contingent valuation study in Chile”. Energy Economics,
34, 1214-1225.

RES instead of
RES instead of Fossil Fuels
Hydropower

Variable Coefficient t- value Coefficient t- value

Constant 1.44*** 2.45 -0.17 0.32

Bid (Price) -0.78*** 18.15 -0.46*** 18.47

Female 0.17 1.02 -0.09 0.59

Age -0.02*** 3.32 -0.005 0.84

Education 0.08** 2.21 0.11*** 3.55

Income 0.0009*** 3.90 0.0005*** 2.57

Have seen a Dam 0.16 0.86 - -

Heard about project -0.04 0.20 - -

Plan Visit Patagonia 0.54** 2.16 - -

Visited Patagonia -0.65** 2.16 - -

Know current source

0.37* 1.88 0.52 2.70
of energy generation

Mean WTP 3401 4014

(CLP) (7.1 USD) (8.5 USD)
WTP St. Error 106.64 155.69
*** Statistically significant at 1%level; ** Statistically significant at 5% level; *
Statistically significant at 10% level
Note: WTP = Willingness To Pay; CLP = Chilean Pesos; USD = US Dollars.

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a) Considering these results, what can you conclude about the effect of
education and income on the willingness to pay for renewable energy
sources in Chile?
(8 marks)

b) Considering the willingness to pay for the different scenarios (WTP). Imagine
you are a consultant for the Chilean Ministry of Energy, which is looking for
input to decide on the policy to support different energy sources in the country
(Remember options are hydropower, thermoelectric and renewables). What
is the ranking of energy sources you would suggest to the Ministry of Energy?
Explain clearly your selection.
(10 marks)

c) Assume an aggregate WTP for renewable energy sources instead of fossil

fuels of US$4,200 million for the next 20 years. The Chilean Government has
been informed that the cost of producing the additional energy needed by the
country with fossil fuels for that period is US$ 5,100 million. There are also
two potential alternatives available for future introduction of renewables to
produce that energy (see details below). However, these alternatives are
more expensive.

Alternative A: 50% Biomass + 50% Wind power

Cost: US$ 6,500 million.

Alternative B: 50% Solar + 50% Wind power

Cost: US$ 9,800 million.

Imagine again you are a consultant for the Chilean Ministry of Energy. Using the
information of costs and WTP provided above, what alternative or alternatives
should be developed in Chile for future energy generation; Fossil fuels, Alternative
A or Alternative B? Explain your choice. Are policy instruments needed to
implement the alternative of your choice? If yes, what policy instrument(s) would
you use?
(12 marks)

Section Total: 60 marks

- END OF EXAM PAPER -

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