Assume the market price of natural gas is $6.40 per mcf (thousand cubic feet) and production and consumption of gas are 23 Tcf (trillion cubic feet). The average price of oil, which affects the demand and supply of gas, is $50 per barrel. The price elasticity of supply is 0.2 and cross-price elasticity of supply is 0.1 (oil and gas are discovered and produced together; therefore, higher price of oil will increase the production of natural gas). The price elasticity of demand is -0.5 and the cross-price elasticity with respect to oil price is 1.5.
a. Obtain the supply equation for natural gas.
b. Obtain the demand equation for natural gas.
c. If price of natural gas is set to $3 per mcf, what impact would this have on the quantity of gas supplied and the quantity demanded?
d. Draw a demand and supply graph and show the effect of price ceiling by highlighting the changes in consumers and producers surplus.
e. Calculate the annual change in consumer surplus.
f. Calculate the annual change in producer surplus.
g. Calculate the annual deadweight loss.
h. Who are largely affected by this price ceiling?
i. Calculate the deadweight loss if price of oil rises to $80 per barrel.
j. What price of oil would yield a free-market price of natural gas of $3?