5(2 pts) Consider the use of marketable pollution permits for the control of sul

Question

5(2 pts) Consider the use of marketable pollution permits for the control of sulfur dioxide emissions from two electric utilities, Low Buzz (LB) and More Juice (MJ)The following table shows the production cost for the two firms with different amounts of SO2 emissions. Assume the government issued 9 permits to MJ and 9 to LB and the firms have equal power. Production Cost for MJ $20,000 $23,000 $29,000 $38,000 $50,000 Tons of Sulfur Production Cost Dioxide SO2for LB $20,000 $21,000 $23,000 $26,000 $30,000 10 tons 9 tons 8 tons 7 tons 6 tons a. Is there a market with MJ selling to LB?; if so, predict the price; if not, explain. b. Is there a market with LB selling to MJ?; if so, predict the price; if not, explain. 4.(2 pts) Youth Pay to Drive (slightly modified problem 5.7, ch.16). Assume the demand for automobile travel by young drivers (age

Explanation / Answer

3.

Economic activity causes pollution. Pollution is a spillover cost of production that causes inequality and distorts the allocation of resources. Government therefore regulates private business by the standard approach and incentive based environmental policies. With the standard approach, a maximum acceptable level of pollutant is established and firms that exceed this level are punished by the means of fine. On the other hand, the incentive-based regulation schemes are pollution fees and pollution permits that utilize efficiencies of the marketplace.

Two classification of standard approach is: (a) Performance standard, (b) Design standard.

Two incentive based regulation scheme for regulation of pollution are: (a) Pollution fees; and (b) Marketable Pollution Permits.

a)

In this case, the government issues 9 permits to each firm. This implies that the firms can emit 9 units of SO2 each. The cost of production for LB with this level of SO2 emission is $21,000 and for MJ is $23,000. If MJ sell 1 permit to LB, it will have to emit 8 units of SO2 and the production cost of MJ will rise to $29,000. This implies a increase in cost of $6000. On the other hand, the LB with 10 units of SO2 emission will bear the cost of $20000. This implies a cost reduction of $1000 only. Thus the benefit to LB is less than the cost to MJ. Then the compensation MJ will need will be greater than the price LB will be willing to pay. Hence, there will be no market with MJ selling to LB.

b)

In this case, the government issues 9 permits to each firm. This implies that the firms can emit 9 units of SO2 each. The cost of production for LB with this level of SO2 emission is $21,000 and for MJ is $23,000. If LB sell 1 permit to MJ, it will have to emit 8 units of SO2 and the production cost of LB will rise to $23,000. This implies a increase in cost of $2000. On the other hand, the MJ with 10 units of SO2 emission will bear the cost of $20000. This implies a cost reduction of $3000. Thus the benefit to MJ is greater than the cost to LB. Then the compensation LB will need ($2000) will be less than the price MJ will be willing to pay ($3000). Hence, there will be a market with LB selling to MJ. The price will be between $2000 and $3000.

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