5. The effects of property rights on achieving efficiency Aa Aa Consider a town

Question

5. The effects of property rights on achieving efficiency Aa Aa Consider a town with a lake. The town has a resort whose vlsitors use the lake for recreatlon. The town also has a fish cannery that creates Industrial waste, which it dumps into the lake. This pollutes the lake and makes it a less desirable holiday destinatlon. That is, the fish cannery's effluent decreases the resort's profit. Throughout this problem, assume that negotiations are costless Imagine that the fish cannery could use an alternatlve productlon method involving water recycling. This would reduce the pollutlon In the lake to levels safe for recreation, and the resort would no longer be affected. If the fish cannery uses the recycling method, then the fish cannery's profit is $15,000 per week, and the resort's profit is $17,000 per week. If the fish cannery does not use the recycling method, then the fish cannery's profit is $20,000 per week, and the resort's profit is $10,000 per week Total profit (the fish cannery's profit and the resort's profit combined) Is highest when the recycling productlon method Is When the fish cannery uses the recycling method, the resort earns $17,000 - $10,000 $7,000 more per week than It does with no recycling. Therefore, the resort should be willing to pay up to $7,000 per week for the fish cannery to use water recycling. However, the recycling method decreases the fish cannery's profit by $20,000-$15,000 = $5,000 per week. Therefore, the fish cannery should be willing to use the recycling method If it is compensated with at least $5,000 per week Imagine the resort has the property rights to the lake. That is, the resort has the right to a clean (unpolluted) lake In this case, assuming the two firms can bargain at no cost, the fish cannery will and will pay the resort the recycling method per week Now imagine the fish cannery has the property rights to the lake, including the right to pollute It. In this case, assuming the two firms can bargaln at no cost, the fish cannery will resort will pay the fish cannery the recycling method, and the per week Which of the following statements are correct? Check all that apply The fish cannery will only use the recycling method if it has the property rights The resort will make the most profit when it ha$ property rights to a clean lake, and the fish cannery will make the most profit when it has the property rights to pollute the lake The lake will remain polluted regardless of who has the property rights

Explanation / Answer

Total profit is highest when recycling production method is used. Firstly, make the table from the given data:

Now, we can see from the above table that total profit is more  by $2,000 when recycling method is used. Hence,total profit is highest recycling method is used .

Imagine the resort has the property rights to the lake.That is, the resort has the right to clean lake.In this case,assuming the two firms bargain at no cost , the fish cannery will use the recycling method and will pay the resort $0 per week. Because The recycling method decreases the fish cannery's profit by $5,000 per week. Therefore, the fish cannery is willing to pay the resort up to $5,000 to avoid using the recycling method. But when fish cannery doesn't use the recycling method then , resort will earn $7,000 less per week . Therefore, the resort will require at least $7,000 per week to allow the fish cannery to pollute the lake . It implies that because the resort owns the property rights to clean , the fish cannery only choice is to use a recycling method and the water remains clean , therefore, fish cannery doesn't need to pay any amount to resort.

Now, imagine the fish cannery has the property rights to the lake, including the right to pollute it . In this case, assuming the two firms can bargain at no cost, the fish cannery will use the recycling method and resort will pay the fish cannery between $5,000 and $7,000 per week. Because the recycling method increases the resort's profit by $7,000 . Therefore, resort is willing to pay the fish cannery up to $7,000 per week to use the recycling method. But when fish cannery uses the recycling method it earns $5,000 less , therefore, it require at least $5,000 to use the recycling method. Because using the recycling method is worth more to resort than it cost to fish cannery. Therefore, they decide that the resort will pay between $5,000 and $7,000. This will make both firms better off.

The resort will make the most profit when it has property rights to a clean lake ,and fish cannery will make the most profit when it has the property rights to pollute the lake. This statement is correct. Because whosoever has the property rights , the recycling method is used . But the distribution of profit will change depend on who has the property rights.

Fish cannery's profit Resort's profit Total profit Recycling 15,000 17,000 32,000 No Recycling 20,000 10,000 30,000

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