Question

QUESTION 12. A factory is situated next to a dormitory for nurses who work nightshifts. The production process is noisy and the nurses complain that their sleep is disturbed. The following graph depicts the MPC and MSC of the factory production 600 500 400 300 MPC 200 MSC p 340 460 260 100 0 0 10 20 30 40 50 60 70 80 90 100 110 120 130 140 Output (Q) The market for the output good is competitive and the market price is £340. The current output is 120 a) What is the efficient level of output here and why? b) Explain how the government could use Pigovian taxes to rectify the market failure Explain whether Coasian bargaining could rectify the market failure without the intervention of government in this case c) d) Can the failure of banks during the crisis of 2007-8 be described as a market failure?

Answer 1

At efficient o/p level, P = MSC, P = price in Perfect compt thus theta^* = 80 b.) Now impose Pigovian tax, equals to marginal damage at MD efficient o/p level, at Q^* = 80, MD = MSC - MPC = 340 - 260 = 80. thus Pigovian Tax t* = 80 per unit of prodn thus Now Mkt private cost (Marginal) - MPC uparrow by amount of tax, So New MPC' = MPC + t so efficient o/p is produced. at Q = 120, Now MPC' = 340 + 80 = 420. c.) Yes Coasian Bargaining can Rectify the Mkt failure, B co 2 Coase Theorem says that of trade in externality is possible, with low Negotiation (transaction) costs, then bargaining will lead to efficient ok. If Nurses are assigned the property Rights to clean the environment, then factory can compensate nurses for every unit of prodn, equals to difference b/w MSC & MPC & thus efficiency is achieved d.)