lecture 1: introductionecon101.wordpress.ncsu.edu/files/2019/08/are336_lec1.pdf · lecture 1:...

Lecture 1: Introduction

Sunjae Won

North Carolina State University

[email protected]

August 27, 2019

Sunjae Won (NCSU) ARE336 August 27, 2019 1 / 27

Outline

1 Environmental Economics

2 Impact of Deepwater Horizon Oil Spill

3 Review of Microeconomics

4 Q & A


Environmental Economics


What do you think of when you hear “Environmentaleconomics”?

How to think like an economist with regard to environmental issues

Economy and environment are highly interdependentExample BP Deepwater Horizon Oil Spill


BP Deepwater Horizon Oil Spill

Industrial disaster on April 20, 2010, in the Gulf of Mexico

One of the largest environmental disasters in American history

The largest marine oil spill: 8% to 31% larger in volume than theprevious largest oil spill


Impacts of BP Deepwater Horizon Oil Spill

Environmental impact

Oil spill killed over 82,000 birds, 25,900 marine mammals, 6,000 seaturtles and tens of thousands of fish (Centre for Biological Diversity)



Economic impact, DirectBP’s stock fell by 51% in 40 days

Firm’s total value lost is $105 billion

Total volume of leaked oil is 4.9 million barrels

One quarter of United States oil consumption per dayDollars’ worth of the oil spilled at current market prices is $400 million



Economic impact, IndirectForgone benefit is $17.2 billion

Damages to properties, fisheries, and tourismThe Gulf fishing and tourism industries produce $3.5 billion to $4.5billion a year

Incurred expense is $65 billion

Cleanup costs, penalties, legal fee, and charges over the spillExpected to be raise due to further chargesReuters article (Jan 16, 2018)



Deepwater Horizon Oil Spill-led Environmental policyExecutive order creating a commission to study the spill

New safety rules, standards, and environmental regulations

Executive order to promote environmental stewardshipTrumps executive order voids the Obama policy

That is why we need to study environmental issues and policies!


Why the principles of economics are needed to tackleenvironmental problems

1 Many of the causes and consequences of environmental degradationare economic

Market failure and inadequate incentive

2 Market-based approaches to environmental regulation are increasinglycommon

Cap-and-trade policies used to limit sulfur dioxide pollution in U.S

3 Economic arguments play an important role in environmental policydebates

Management of public lands


Framework for Creating Environmental Policy:

1 Identify an environmental problem

2 Design effective policy solutions3 Measure the costs and benefits of:

Compare: Doing nothing vs. Alternative policy solutions

4 Choose the policy that generates the maximum net benefits tosociety (Benefit/Cost Analysis)


How markets work and important basicconcepts


Market

Market: A decentralized collection of buyers and sellers whoseinteractions determine the allocation of a good through exchange

Allocation: Market is an institution for allocating goods from sellersto buyers

Decentralized: Buyers and sellers in scattered locations

Exchange: Based on the exchange of payment for goods rather thanone-way allocation


Demand

A Demand Curve represents the maximum amount of good X peoplewould be willing to purchase at price Y

A demand curve summarizes how much buyers in the aggregate willbuy at a given market price, with all other factors held constant

Law of Demand: As price falls, the quantity demanded rises(Downward sloping)


Market Demand

Market Demand: The horizontal sum of individual demands


Marginal willingness to pay

Marginal willingness to pay (Marginal WTP): Extra amount someone isWTP for an additional unit of the good

Marginal means incremental

Each point on the demand curve measures Marginal WTP

In other words, the marginal benefits (MB)


Marginal willingness to pay

In Bahamas package question,“Suppose you would be willing to pay (WTP) up to $550 for that trip butno more.”

A person’s WTP for the package shows the dollar value she attachesto it

Her marginal WTP for the package is thus a dollar measure of thebenefits the trip offers to her

Thus, MB for the trip is $550 which equals marginal WTP


Total willingness to pay

Total willingness to pay (Total WTP): total monetary value society placeson the consumption of some amount of a product

The total benefits

Measured as the area under the demand curve


Supply

A Supply curve represents how much a firm is willing to sell at a givenprice for its product

Summarizes the relationship between price and quantity on the supplyside

As the price increases, the quantity the firms are willing to sellincreases (Upward sloping)


Market Supply

Market supply : The horizontal sum of individual supplies


Marginal Cost

Marginal Cost (MC): The cost of an incremental unit of production

In perfectly competitive markets, the supply curves represent themarginal cost of production

Total Cost (TC): Total economic cost of production

Similar to Demand curves, the area under the supply curve is thetotal cost of producing X units of the good


(Supplementary) Proof a supply curve represents MC in perfectlycompetitive market

1 Perfectly competitive market condition: At perfectly competitivemarket, a firm is a price taker and P is constant. Hence, P = MR(=∆TR/∆Q) where ∆(Delta) means “Change in”

2 Profit maximizing condition: Economic profit (=TR-TC) ismaximized at the output level at which MR = MC (=∆TC/∆Q)

3 Combined condition: Profit-maximizing choices by firms in a perfectlycompetitive market will generate a market supply curve that reflectsmarginal cost. At any price, firm will choose the output level whichsatisfies P=MC

Result: A supply curve tells us the quantity that will be produced at eachprice, and that is what the firms marginal cost curve tells us. In otherwords, each point on the supply curve is the marginal cost (i.e. additionalcost) of producing an additional unit of the good.


Market Equilibrium

Market equilibrium: The combination of quantity and price for whichdemand equals supply

Markets aggregate the information about supplies and buyers andsignal this information through the equilibrium price that emerges

Intersection of demand and supply in graph: A quantity demand isequal to a quantity supplied


Stable Market Equilibrium

Stable market equilibrium: Market tends to maintain price andquantity as long as the underlying factors that drive demand andsupply keep unchanged

Underlying factors: Income, peoples tastes, and production costs


If the price is $2.00: Surplus, lower price to attract more consumers

If the price is $1.20: Shortage, sustain a higher price

At equilibrium, there exists no incentives for sellers to lower theirprices or buyers to accept higher prices


Market clearing condition

The market clears: All buyers are able to find sellers and all sellers areable to find buyers

Equilibrium price ($1.50 per cup) is the market-clearing price

The market-clearing quantity is 1200 cups a day


Q & A


lecture 1: introductionecon101.wordpress.ncsu.edu/files/2019/08/are336_lec1.pdf · lecture 1:...

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