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Question: Suppose the market for solar panels in Australia is competitive. a. Using the (market) demand and supply diagram, show the competitive market equilibrium. Label the competitive market equilibrium price and quantity pC and QC, respectively. (2 marks) Solar panel production reduces the amount of pollution that would have been created by alternative energy sources, like coal. b. Using the (market) demand and supply diagram, again, show the efficient equilibrium output. Label the efficient equilibrium output Qe. (4 marks) c. Briefly explain how the government can use a corrective tax or subsidy (which?), to get to the efficient output Qe. On the (market) demand and supply diagram, show the price to the buyers, Pb, and the price to the sellers, Ps, as a consequence of this government intervention. (6 marks) d. Using the diagram, do welfare analysis to show how much better off or worse off Australian consumers, producers and Australia as whole are from the corrective tax or subsidy from part c) (compared to the competitive market equilibrium). You may find it helpful to assign letters (A, B, C, etc) to refer to areas on your diagram. Be careful about the welfare analysis of Australians as a whole – you will need to think carefully about this.
As a text-based assistant, I'm not able to draw or present diagrams here directly. However, I can essentially explain how it is done. a) A competitive market equilibrium is achieved when demand equals supply. On a demand and supply graph, this would be represented by where the demand curve (downward sloping from left to right) and the supply curve (upward sloping from left to right) intersect. This point represents pC (competitive price) and QC (competitive quantity). b) To show the efficient equilibrium output (Qe), we'd need to account for the positive externalities that solar panel production introduces - reduced pollution. This effectively lowers the "true" cost of production, shifting the supply curve to the right. Where this new supply curve intersects with the demand curve would represent Qe. c) The government can introduce a subsidy (not a tax - a tax would be applicable for negative externalities, while here we're dealing with a positive externality) to bridge the gap between the competitive market equilibrium and the efficient output. The subsidy would lower the production costs for suppliers and shift the supply curve rightwards until it meets the demand curve at Qe. Pb (price to buyers) would be where the demand curve meets this new supply curve. Ps (price to sellers) would be this price minus the amount of the subsidy. d) Welfare analysis involves looking at changes in consumer and producer surplus. When a subsidy is implemented, consumer surplus generally increases since they pay less (Pb is lower than pC). Producer surplus can also increase since they effectively sell more at a higher price due to the subsidy. However, this increased welfare needs to be balanced against the cost of the subsidy which is borne by Australians through taxation. When done right, the net welfare gain (consumer and producer surplus increase less subsidy cost) can be positive. This is a general description and actual calculations might be necessary to ascertain the precise gains or losses.
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