Question

Suppose that Sea Shell oil company (SS) is pumping oil at a field off the coast of Nigeria. At this site, it has an extraction cost of $30 per barrel for the first 15 million barrels it pumps each year and then $60 per barrel for all subsequent barrels that it pumps each year, up to the site’s maximum capacity of 90 million barrels per year. Instructions: Enter your answers as whole numbers.

a. Suppose the user cost is $50 per barrel for all barrels and that the current market price for oil is $95 per barrel. How many barrels will SS pump this year? What is the total accounting profit on the total amount of oil it pumps? What is the total economic profit on those barrels of oil?

b. What if the current market price for oil rises to $125 per barrel, while the user cost remains at $50 per barrel? How many barrels will SS pump?

Instructions: Round the following answers to 1 decimal place.

What will be its accounting profit? What will be its economic profit?

c. If the current market price remains at $125 per barrel but the user cost rises to $100 per barrel, how many barrels will SS pump this year?

What will be its accounting profit? What will be its economic profit?

Answer 1

a) Seashell will pump 15 million barrels

Price =95

Cost = 50+30 =80

Accounting profit = 95-30*15 = 975 million

Economic profit = 95-30-50*15 = 225 million

b) Price = 125

Seashell will produce 90 million barrels

Accounting profit = 125-30*15 = 1425 million+ 125-60*75 = 4875 million = 6300 million

Economic profit =125-30-50*15 = 675 million+125-60-50*75 = 1125million = 1800 million

c) Price = 125 User cost = 100

Seashell will pump 0 barrels as extraction cost is greater than the price

There is no accounting and economic profit