Question

8. Problems and Applications Q8

Suppose that the government decides to issue tradable permits for a certain form of pollution.

True or False: It is more economically efficient in the market for pollution for the government to distribute the tradable permits than to auction them off.

True

False

True or False: If the government chooses to distribute the permits, the allocation of permits among firms does not matter for efficiency, but it would affect the distribution of wealth.

True

False

Answer 1

1. False 

   In terms of economic efficiency in the market for pollution, it does not matter whether the government distributes the permits or auctions them off, as long as firms can sell the permits to each other. The only difference would be that the government could make money if it auctioned the permits off, thus allowing it to reduce taxes, which would help reduce the deadweight loss from taxation in other markets. Some deadweight loss could also occur if firms use resources to lobby for additional permits. See Section: Market-Based Policy 2: Tradable Pollution Permits.

2. True.

   If the government allocates the permits to firms that do not value them as highly as other firms, the firms could sell the permits to each other so they would end up in the hands of the firms who value them most highly. Thus, the allocation of permits among firms would not matter for efficiency, but it would affect the distribution of wealth, because those firms that got the permits and sold them would be better off. See Section: Market-Based Policy 2: Tradable Pollution Permits.