Spring 2009 Exam 2 Solution

Here are the final numerical results for each section of version P of the exam.  You can use them to check your work if you do the exam for practice.  If you have trouble with the problems, or don't get the answers shown here, stop by during office hours or make and appointment and we can go over them. 

Question 1 Pollution Control Under Uncertainty

(a) Q1=150, Q2=150; (b) 500 permits; (c) Q1=40, Q2=200; (d) Permit price is 50 since Qa=300 and the MCA at that point is 50; (e) Q1=50, Q2=250.

Question 2 Travel Cost

(a) 16,000 visitors; (b) A=13, B=1/2000 or B=0.0005; (c) CS=169,000; (d) PV = 1.69 million or 1.859 million depending on whether the year 0 CS is included: either answer is OK.

Question 3 Option Value

(a) 37 million; (b) it's higher because the government has the option to sell the land in period 1 if the recreational value is low; that is, it gets to pick the $60 million recreation value if that happens or pick the $25 million sale price if the recreation value is only $15 million. (c) do not sell the land.

Question 4 Rival and Non-Rival Uses of Water

(a) Qf=2000, Qr=2000; (b) Qf=4000 (all of the water), Qr=0; (c) $220,000.

Question 5 Effect of a Backstop

(a) without the backstop:

 (b) with the backstop:

 (c) 70 units produced via the backstop.

Question 6 Exploration

(a) Price that induces exploration is $600;

(b) without exploration:

 (c) with exploration:

Note that even though the original price in period 1 is $700, which is higher than the exploration price, no exploration will actually be done in the first period.  The reason is arbitrage: the owners of the existing resource see that R2 will drop to $500 so they sell more in period 1.  As they do so, R1 falls to 250 and P1 drops to $350, well below $600. 

(d) 2100 units produced by exploration;

(e) expected units found for N wells is N*(0.8*0 + 0.15*2 + 0.05*9) = N*0.75.  For the expected units to be 2100,  N=2100/0.75 = 2800.