In the text we discussed the market for oil assuming zero production costs, but now suppose that it is costly to get the oil out of the ground. Suppose that it costs $5 dollars per barrel to extract oil from the ground. Let the price in period t be denoted by pt and let r be the interest rate.
(a) If a firm extracts a barrel of oil in period t, how much profit does it make in period t?
(b) If a firm extracts a barrel of oil in period t+1, how much profit does it make in period.
(c) What is the present value of the profits from extracting a barrel of oil in period t+1? ___________. What is the present value of profit from extracting a barrel of oil in period t? __________.
(d) If the firm is willing to supply oil in each of the two periods, what must be true about the relation between the present values of profits from sale of a barrel of oil in the two periods? _____________. Express this relation as an equation.

(e) Solve the equation in the above part for pt+1 as a function of pt and r.
(f) Is the percentage rate of price increase between periods larger or smaller than the interest rate?

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1(4+1) = 1ti(1+1) c-It