1. Suppose oil is only to be extracted over two periods (period 0 and period 1)...

1. Suppose oil is only to be extracted over two periods (period 0 and period 1) . T he inverse demand for oil is estimated to be p = 300 - q , where p is the price of oil and q is the quantity demanded. The marginal cost of extraction is given by MC = q . These relations do not change from period to period. Assume a discount rate of r = 0.05.

Suppose the initial stock of oil in period 0 is S 0 = 16 0. Also suppose , in period 0 , it is anticipat ed that there will be new discovery in period 1 which will add to oil reserve s by  S=145 in period 1. Think about the optimal allocation of oil in the following two cases:

(i) the case without the anticipated new discovery of oil in period 1 ,

(ii) t he case with anticipated new discovery of oil in period 1 .

Please compare the optimal allocation and price of oil in these two case . (You do not need solve for exact numbers.)

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Expert Solution

Rahul Sunny answered 1 year ago

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