Chapter 11 in the text covers price discrimination and other basic pricing strategies firms use in conditions of monopoly, monopolistic competition, and oligopoly, and the conditions under which each type of strategy is feasible. Often, managers have imperfect information about demand functions, costs, sources of products, and product quality. Decisions are complicated by uncertainty. If information is probabilistic, it is advisable to form an expectation of the mean, variance, and standard deviation of outcomes that will result from alternative actions. A manager facing a decision to choose among risky projects must evaluate the projects' risks and expected returns and then document this evaluation using mean-variance analysis, which can be similarly applied in assessing this discussion situation. Applying these tools contextually will better understand how a manager uses economic analysis to make optimal decisions.

Oil from different geographical locations will have unique properties; oils vary in their viscosity, volatility, and toxicity across regions. Light sweet grades can be processed with less sophisticated and energy-intensive processes and refineries. A West Texas field considered here would be expected to produce West Texas Intermediate light sweet crude oil, while a Wyoming well would be expected to produce high-sulfur sour crude. Light crude oils are usually priced higher than heavy, sour, or sulfur-rich crude oils, in part because gasoline and diesel fuel, which often sell at a significant premium to residual fuel oil, can usually be more quickly and cheaply produced using light, sweet crude oil. Producers and refiners often mix grades to achieve specific blends, and prices for each component can rise or fall to reflect current demand and supply. However, all oil varieties have a relatively low elasticity of demand, given that few available substitutes exist.

For purposes of this discussion, assume that you are a manager of an oil extraction firm currently considering two projects. As a manager, you think of yourself to be risk-averse. The first project involves extending licenses to drill in Wyoming that geologists estimate will produce up to 1 million barrels of crude oil. The second project, based in Texas, involves expanding existing wells, growing at 2 million barrels per month. The firm's economists predict a 10 percent chance of a recession and a 90 percent chance of an economic boom. During a boom, the first project is forecasted to lose $10,000, whereas existing operations will continue to earn $20,000. However, during a recession, the Wyoming field is projected to reach $12,000 while existing fields will lose $8,000. What would you do if the alternative is earning $3,000 on a safe asset (say, a Treasury bill)? Would you choose to expand current production by extending operations to include both projects? Would you instead concentrate on a single project? Would you rather invest in a safe asset? Why? Document your evaluation using mean-variance analysis. Begin by summarizing the available information to document the relevant alternatives, using a tabular form such as this:

Summary of Information

Project	Boom Cost	Recession Value	Mean Value	Standard Deviation
Wyoming
Texas
Joint Project
Treasury Bill

Note: Value in $

Summarize these and other factors that are essential to your decision, verbally, and use graphical representations as you find these to be applicable.

Discuss the following:

You are the risk-averse manager of an oil extraction firm currently considering two projects. With consideration of the possible gains and losses for each project, you must decide:

1. Would you choose to expand current production by extending operations to include both projects?
2. Would you instead concentrate on a single project?
3. Would you instead invest in a safe asset?
4. Explain your choice(s).
5. Evaluate each option. Begin by summarizing the available information to document the relevant alternatives, using a tabular form. Document your evaluation using mean-variance analysis. Summarize factors essential to your decision in writing and with graphical representations.