Answer to Question #276970 in Microeconomics for Love

Question

Section D: Essay Writing. (500 words limit) (10 marks)

 

Write ONE essay from the following topics. Spend at least 80 minutes in this section.

 

1.     Discuss the merits of a proposal that the government should impose a tax or subsidy where a non-renewable resource is supplied monopolistically in order to increase the social net benefit. You may contextualize this to your home-country or to a current development that you may be aware of. (10 marks)

 

Answer 1

              A government should provide a subsidy to a monopoly until the producers marginal benefit at the monopoly’s chosen quantity maximizes welfare. Taking a case of France and the merits of the above proposal, fuel being a monopoly in the country, some benefit is; a fuel tax animates a more productive utilization of oil, increase in producer surplus and consumer surplus in the market. As the text explains, under the conditions specified, an increase in the extraction costs has an effect on the optimal extraction path qualitatively equivalent to a change from conditions of perfect competition to monopoly, other things being equal. A revenue subsidy is equivalent to a decrease in extraction costs. Therefore a revenue subsidy, which in effect reduces extraction cost, could be set at a rate consistent with inducing monopolistic extractor to extract at the socially efficient rate through time. Note that a subsidy on royalties will not have his effect.

                           Again, if resource extraction/ production costs are constant, resource producers invest in knowledge reducing extraction/ production costs endogenizing technical change. With constant costs there is a permanent trade-off between economic growth and a cleaner environment.