6.1 A dam is proposed on a stretch of wild river, a river that is currently used for recreation. The dam will generate electricity. The dam will have a useful life of 50 years, after which its reservoir will be full of sediment and the dam will need to be removed. The following are characteristics of the dam: Initial Cost: $100,000,000 Electricity produced: 100,000 MWh per year at $100/Mwh Cost of decommissioning dam: $10,000,000 Value of recreation lost: $5,000,000 per year Assume that costs and benefits accrue at the end of each period. a. If the social discount rate is 3% per year, is the dam a good idea? b. If the social discount rate is 10% per year, is the dam a good idea? c. Calculate the "cutoff" discount rate, c, such that the dam is a good idea for discount rates rc and a bad idea for discount rates r > c.
6.1 A dam is proposed on a stretch of wild river, a river that is currently used for recreation. The dam will generate electricity. The dam will have a useful life of 50 years, after which its reservoir will be full of sediment and the dam will need to be removed. The following are characteristics of the dam: Initial Cost: $100,000,000 Electricity produced: 100,000 MWh per year at $100/Mwh Cost of decommissioning dam: $10,000,000 Value of recreation lost: $5,000,000 per year Assume that costs and benefits accrue at the end of each period. a. If the social discount rate is 3% per year, is the dam a good idea? b. If the social discount rate is 10% per year, is the dam a good idea? c. Calculate the "cutoff" discount rate, c, such that the dam is a good idea for discount rates rc and a bad idea for discount rates r > c.
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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Transcribed Image Text:6.1 A dam is proposed on a stretch of wild river, a river that is currently used for recreation.
The dam will generate electricity. The dam will have a useful life of 50 years, after which
its reservoir will be full of sediment and the dam will need to be removed. The following are
characteristics of the dam:
Initial Cost: $100,000,000
Electricity produced: 100,000 MWh per year at $100/Mwh
Cost of decommissioning dam: $10,000,000
Value of recreation lost: $5,000,000 per year
Assume that costs and benefits accrue at the end of each period.
a. If the social discount rate is 3% per year, is the dam a good idea?
b. If the social discount rate is 10% per year, is the dam a good idea?
c. Calculate the "cutoff" discount rate, c, such that the dam is a good idea for discount rates
rc and a bad idea for discount rates r > c.
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