AQA AS-Level Economics Paper 1 June 2023
Extract C (lines 13–14) states: ‘Concerns about the impact of oil on the environment have led to the encouragement of renewable energy, such as solar, wind and tidal power’.
Explain how the development of renewable sources of energy is likely to affect the market for oil.
A market is a place where buyers and sellers meet to exchange goods and services,. Oil and renewable energy are in competitive demand, as they are substitute goods. Line 14 states that there is support in the form of subsidies for renewable energy. A subsidy is a payment given by the government to firms, to reduce costs of production. This, alongside technical progress would cause the supply of renewable energy to shift to the right, as shown below. Supply is the quantity of goods and services that firms are willing and able to produce at any given price.
This causes a fall in the equilibrium price of oil. Renewable energy is a substitute good to oil. This is because the two goods have a positive cross elasticity of demand. When there is a fall in price of renewable energy, this would cause the demand for oil to fall, as there is less oil that consumers are willing and able to buy oil. Overall, the market for oil would see a fall in price from p1 to p2 and a lower equilibrium quantity, as shown below.
The fall in demand may not be huge as oil and renewable energy may be considered weak substitutes currently due to the fact that renewable energy is not easily accessible for everyone.