Question

3. ChooChoo Company operates trains on a new railroad running through a rural town called Wellspring, earning the company revenues of $15,000 a day and incurring no explicit costs. However, the sparks created from running trains is leading to fires in neighboring corn fields. The fires cause $5,000 in damaged crops per day. Property rights are such that ChooChoo Company can operate as many trains as it wishes with no regulation a. What are the private and social costs associated with running trains in Wellspring? b. CoolTech Corp develops a device that can control the sparks and prevent trains from causing fires. CoolTech rents this device out for $7.000 a day. Given the current assignment of property rights would ChooChoo Company be willing to rent this device? Would farmers be willing to rent it? In the interest of economic efficiency should CoolTech's device be installed? Given the current property rights can this outcome be achieved? Briefly explain how. d. Suppose that all the costs to the residents were actually underestimated and are actually twice what they were ($10,000). In the interest of economic efficiency should CoolTech's device be installed for ChooChoo Company's trains? Given the current property rights can this outcome be achieved? Briefly explain how. e. How might your answers to parts c) and d) change if property rights were assigned to farmers in Wellspring?

Answer 1

a)

Private cost = $0

Social cost = External damage imposed + Private cost = $5000

b)

No, this is because the cost of device is greater than the external cost imposed on the society.

No, farmers will also not be willing to rent it because the cost of device is greater than the loss incurred

c)

No, because the cost of device is greater than external cost imposed from running the train

d)

Yes, because now the cost of device for controlling the crop damage is less than the crop damage incurred

No, the outcome will not be achieved with the current allocation of property rights because the company is not bearing the loss and will thus not install and incur a charge of $7000

e)

If farmers were assigned the property rights, then the machine will be installed because the machine will help farmers save $10000 - $7000 = $3000 in losses