Question

You are working during the summer in the natural gas rich country of Kazakhstan as an intern in the Kazakh Institute of Energy Systems Analysis. In early 2018, the government realized that its policy of having a market price ceiling for natural gas was leading to over-consumption and was hurting export revenues. It therefore decided to deregulate the natural gas industry. Before the step is taken, however, the minister of energy asks you to predict the impact on the local market. She is particularly concerned that the step not increase costs for the population too much or lower consumption too much. The information you use for the analysis is provided below.

Elasticity of demand *	-0.5
Average annual consumption of natural gas (in thousands of cubic meters) **	500,000
2018 regulated price of natural gas (in tenge) ***	25
Estimated market equilibrium price of natural gas (in tenge) ****	35

* Using estimates from the US; ** From Ministry of Energy reports; *** Tenge is the currency of Kazakhstan; **** Based on an average of prices worldwide

1. Given these data, what is your estimate of the total quantity of natural gas demanded in Kazakhstan after deregulation? Please show all your work.

2. How much will the monetary expenditures (in Tenge) on natural gas by the population go up?

Answer 1

a)

I shall use mid point approach in this case

Initial price=Po=$25

Revised price=P1=$35

Average price=P(Po+P1)/2=(25+35)/2=30

Percent change in price=(P1-Po)/P=(35-25)/30=33.3333%

Percent change in quantity demanded=Price elasticity of demand*Percent change in price=-0.5*33.3333%=16.6667%

So,

Initial quantity=Qo=500,000

Expected quantity=Q1=?

Average quantity=Q=(Qo+Q1)/2=(500000+Q1)/2

Percent change in quantity=(Q1-Qo)/Q=2*(500000-Q1)/(500000+Q)

We know percent change in quantity demanded=16.666667%

2*(500000-Q1)/(500000+Q1)=0.166667

1000000-2Q=83330+0.166667Q1

916670=2.1666667Q1

Q=(916670)/2.1666667=423079

Expected quantity after deregulation=423,079

b)

Total expenditure in regulated prices=500000*25=12500000 in thousand tenge

Total expenditure in unregulated prices=423079*35=14807765 in thousand tenge

Increase in expenditure=14807765-12500000=2307765 thousand tenge or say 2307.77 million tenge