Question

5. a competitive industry producing paper release toxic chemicals into a nearby river. Based on an assessment of its demand schedule and private cost supply schedule(which does not account for the release of chemicals that damages the river) the industry produces output of Q* per year and sells it as a price of P*. Draw a diagram to illustrate this outcome. Now, on your diagram, show the industry’s social cost supply schedule that includes the damages to the river. If the industry operated on the social cost supply schedule, how would its output level and price change? What is the efficient amount of output for this industry to produce? Why? What is the efficiency loss (deadweight loss) associated with output level Q*? does the government have a possible role to play in getting the industry to produce on the social cost supply schedule? 6. in question 5, suppose that a competitive industry’s inverse demand curve is P=110-2Q and the industry’s private cost supply schedule is P=5+0.5Q. find P* and Q*. Draw a diagram to show consumer surplus, producer surplus, total revenue, total cost, and total surplus. Also, find the dollar value for these concepts algebraically. Now find the corresponding solution for price and quantity if the industry operates on the social cost supply schedule P=35+0.5Q. find new values for customer surplus, producer surplus, total revenue, total cost, and total surplus.

Answer 1

As per Chege guidelines, in case of multiple questions only the first question is to be answered Kindly ask rest of the questions in a separate post. The required graph is below: MSC MPC Price ($) MSB Q, Q* Quantity As it can be seen, under free market, the producer will operate at the point where is marginal social benefit curve cuts the marginal private cost curve i.e. Q* and price p* However, in order to find the optimal point of production, the firm needs to focus on his marginal social cost and not marginal private cost. That is, it needs to internalize the external cost of the damage it is doing to the society. MSC = MPC + External cost Thus, at the socially optimal point, the producer will operate at the point where is marginal social benefit curve cuts the marginal social cost curve i.e. Q1 and price P1 This means in case of negative externality, there is overproduction of goods. The shaded triangle represents the deadweight loss.