energy

1. energy

2. oil and natural gas • supply 62% all energy consumed worldwide • how to transition to new sources? • use until mc of further use exceeds mc of substitute resources • More abundant coal • Or renewable solar • transition should be smooth • have allocations been efficient?

3. natural gas • huge shortages on 1974-75. why? • rise of automobile • rise of demand for gasoline • search for new sources of crude oil • uncovered large quantities of natural gas • in the 50’s gov’t put price ceilings

4. the effect of price controls

5. the effect of price controls • price ceiling reduces MUC (higher future prices no longer possible), decreasing total mc curve (supply) • consumers better off today (gained BC) • producers not better off: • Overproducing • giving up scarcity rent could have gotten without price controls (area D only measures current profit)

6. the effect of price controls

7. consumers also lose in the future • as resource depleted, supply curve shifts up (reflecting higher extraction costs) • when mc reaches price ceiling, QS=0 • but demand is not zero at that price: shortages • suppliers willing, demanders willing, but price control will not allow • overallocation to current consumers, underallocation to future consumers • losses to future consumers/producers are greater than gains to current consumers

8. oil • similar price control problems • second source of misallocation: OPEC • restrict supply, raise prices • why OPEC so effective? • price elasticity of demand for oil • inelastic, substitutes exist but are expensive • income elasticity of demand for oil • income grows, demand grows • supply responsiveness of non-OPEC members • OPEC produces 2/3; only Mexico may have influence

9. oil: national security problem • excessive dependence on imports • national security issue • dependent on countries with unstable political history • actual price we pay is higher than world price • when national security is an issue • market consumes too much oil • domestic production is too small

10. the national security problem vulnerability premium

11. market vs. efficient allocations • vulnerability premium reflects additional national security costs caused by imports • horizontal because each individual supplier has no effect on world price • market allocation • demand Q5 • Q1 domestically produced • Q5-Q1 imported • efficient allocation • demand Q4 • Q2 domestically produced • Q4-Q2 imported

12. the national security problem vulnerability premium

13. what would happen during an embargo? • consume Q1 at price of P2 • supply curve assumes enough time to develop the resources • if embargo hits, not enough time – in short run supply curve becomes perfectly inelastic at Q1 • price rises to P2 to equate supply & demand • huge loss in CS

14. the national security problem vulnerability premium

15. self sufficiency? • domestic supply = domestic demand • net benefits from Q3 < net benefits from Q4 (efficient allocation w/imports) • Efficiency loss (shaded triangle): because foreign mc is lower than domestic mc (supply) • loss between Q2 and Q4 (where domestic mc > foreign mc)

16. still better to import • vulnerability premium lower than cost of self sufficiency • embargos not certain events • possible to reduce vulnerability (strategic reserves) • using more domestically incurs user costs by lowering amounts available for future • paying vulnerability premium creates more efficient balance btw present/future

17. the national security problem vulnerability premium

18. how to achieve efficient consumption (Q4 instead of Q5)? • energy conservation, e.g. gas tax • reduces consumption, but no affect on share of imports • subsidize domestic supply • reduce imports, but not consumption • tariff on imports (P1-P0) or quota on imports (Q4-Q2) • price rises to P1, consumption falls to Q4, imports Q4-Q2

19. transition fuels • how to transition to renewables? • fuels receiving most attention: coal, uranium • coal: abundant • uranium: not abundant with current reactors • technology is changing this • biggest issue btw these: environmental impact

20. transition fuels: environmental problems • coal: air pollution (sulfur, particulates, CO2) • uranium: • nuclear accidents • storage of radioactive waste

21. energy conservation • significant role: defer capacity expansion • cost increases are substantial • by reducing demand for electricity, delay new plants, delay rate increases • current pricing systems rely on AC pricing, lower than true MC of new units

22. utilities invest in conservation when cheaper • rebates for conservation measures in homes • incentives for solar water heaters • energy audits

23. load management • peak period imposes 2 costs on utilities • requires firing up special generators during those periods (higher MC) • growth in peak period demand => capacity expansion • peak load pricing

24. the long run: renewables • hydro: flowing water • biomass: burning • solar energy: heat to drive turbines • solar into electricity: photovoltaics • wind energy: drive turbines • hydrogen: fuel cars / furnaces • geothermal: from deep in the earth