Question

1. Compare two versions of the two-period depletable resource model that differ only in the treatment of marginal extraction cost. Assume that in the second version, the constant marginal extraction cost is lower in the second period than the first (perhaps due to the anticipated arrival of a new, superior extraction technology). The constant marginal extraction cost is the same in both periods in the first version and is equal to the marginal extraction cost in the first period of the second version.

• In a dynamic efficient allocation, how would the extraction profile in the second version differ from the first?
• Would relatively more or less be allocated to the second period in the second version than in the first version?
• Would the marginal user cost be higher or lower in the second version? Why?

Answer 1

A) in the above question it is very clear that marginal cost in second period is less than marginal cost in first period due to technological improvement so the dynamic allocation in second phase will be greater than first period due to lower marginal cost.

B) the allocation to the second period in second version is more than allocation in first version.

C) marginal user cost is an opportunity cost reflects the forgone future marginal benefit.

So in this case marginal user cost will increase.