Let us consider the effects of the Emergency Petroleum Allocation Act (EPAA) on

Question

Let us consider the effects of the Emergency Petroleum Allocation Act (EPAA) on the domestic supply of crude oil. Assume the world price is 15, the price of old oil is set at 10, a domestic supplier is classified as a stripper if and only if its production does not exceed 10, and the base production control level is 20. Derive the effect of EPAA on the supply decision of a domestic supplier of crude oil when its marginal-cost curve is represented by

a. MC(Q) = 5 + 2Q

b. MC(Q) = 5 + 0.75Q

c. MC(Q) = 0.02Q2

Explanation / Answer

a) He will equate P= MC.

5+2Q = 10 . 2Q = 5. Q =5/2.

Without EPA we will take P = 15 tat is the world price. This implies 5+2Q = 15

2Q = 10. Q =5

Supply will decrease with EPA.

b) 5+0.75Q = 10. Q = 5/0.75 = 6.67.

Without EPA Q = 10/0.75 = 13.33

Supply will decrease with EPA.

c) 0.02Q2 = 10

Q2 = 500. Q= 22.36. But Q cannot be3 greater than 20. This implies Q =20

Without EPA

Q2 = 15/0.02 = 750

Q = 27.39, Q =20

Supply will remain same.

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