Fall 2021 Exam 3 Solution

Here are the final numerical results for each section 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

Net present values for the policies: `NPV_S=$5.4B`, `NPV_G=$7.1B`. The gradual approach is better.

Not required: the downside of the gradual approach is that the delay reduces the PV of the benefits from $31.3B under S to $19.2B under G (a drop of $12.1B). However, the upside is that it reduces the costs even more: from $26.0B under S to $12.1B under G (a drop of $13.9B).

Question 2

Annual expected damages under BAU = $1B and under W = $200M; expected annual gain from winterizing is the avoided damages = $800M; NPV including the investment = $6B; the region should go ahead with requiring winterization.

Question 3

(a) `EV_CA= $1M`; `EV_CB= $3M`; `EV_D=$7M`; D is best by far: $4M better than the next best policy per chemical.

(b) With litigation for type Y chemicals the payoff from D drops: `EV_D=$2.5M`. CB is now best. Loss per chemical relative to (a) is $4M: $7M-$3M or 0.25*$16M (the expected loss due to the chance that an X chemical is being regulated using policy B rather than policy A).

Question 4

(a) PV construction cost of either type of infrastructure: `PVC=$1544M`; PV benefit of EV0 if E occurs: `PVB_{EV0}^E=$3683M`; PV benefit of EV0 if F occurs: `PVB_{EV0}^F=$1228M`. EV of EV0: `EV_{EV0}= $1648M`. For FC0 a similar approach gives: `EV_{FC0}=$175M`.

(b) `NPV_{EV10}=$1313M`; `NPV_{FC10}=$1313M`; `EV_W = $1313M`. Does not change the decision: EV0 is still best.

Question 5

`Q=31`; `P=$190`; profit`=$85`.

Question 6

`Q=100`; `P=$3500`; profit`=$250k`.

Question 7

(a) PV of monopoly profit if the project succeeds and the FDA approves the device: $3.116M; EV of the research project: -$402k; firm would not proceed.

(b) PV of CS during the patent period: $1.558M; PV of CS after the patent: $3.769M; total PV of CS: $5.327M.

Question 8

New EV to the firm: $78k; the firm would now proceed with the project; EV to the government: $798k.