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Demand elasticity for CO2 abatement and life cycle analysis

A government wants to institute a hybrid car rebate of $3000 per car for hybrids that average $25,000 in price and get 45 mpg. Consumers are currently purchasing 750,000 of these hybrids annually. The demand elasticity of hybrid cars is 1.2. How much does it cost the government for every metric ton of carbon not emitted into the atmosphere over the life of the car as a result of the rebate program, if it goes into effect and runs for one year? Assume the average car owner drives 12,000 miles per year, and the average life of both types of car is 15 years. Those who don't buy hybrids purchase cars that average 30 mpg. In order to do a full "life cycle analysis" of the program what other factors would you need to consider?

How would I use a supply-demand curve to solve the problem? What factors would you need to undertake a full "life cycle analysis" of the government rebate program for hybrid cars?

Solution Preview

First, let's organize what we are given in point form:

-demand for hybrid = 750,000
-elasticity for hybrid = 1.2
-price for hybrid = 25,000
-rebate = 3,000
-hybrid = 45 mpg, normal cars = 30 mpg
-12,000 miles/year for 15 years.

The government gives a 3,000 rebate, or a 3000/25000 = 12% rebate. The elasticity tells us that if price reduces by 12%, demand will increase by 12% X 1.2 = 14.4%. After the rebate program, the new demand would be 750000 X 114.4% = 858,000. The government gives 3,000 to each car purchaser, thus the total spending on the gov't side is 2,574,000,000

Since each owner drives 12,000 for 15 years, ...

Solution Summary

Demand elasticity for CO2 abatement and life cycle analysis