Question

Possible Solutions

Total Cost of eliminating 2 units of pollution

The options for the first fill in the blank (Firm X) are: $295, $120, $215, $320.

The options for the second fill in the blank (Firm Y) are: $1250, $800, $1850, $1500

The options for the third fill in the blank (Firm Z) are: $180, $250, $230, $100

The options for the forth fill in the blank are: $1490, $2420, $1625, $1645

	Firm X	Firm Y	Firm Z
Initial pollution permit allocation	2 units	2 units	2 units
Action	Options: Don’t buy/sell, sell one permit, sell two permits, buy one permit, buy two permits	Options: Don’t buy/sell, sell one permit, sell two permits, buy one permit, buy two permits	Options: Don’t buy/sell, sell one permit, sell two permits, buy one permit, buy two permits
Final Pollution Amount	Options: 1 unit, 2 units, 3 units, 4 units	Options: 1 unit, 2 units, 3 units, 4 units	Options: 1 unit, 2 units, 3 units, 4 units
Cost of Pollution Reduction	Options: $0, $415, $215, $120	Options: $800, $450, $0, $1250	Options: $330, $0, $180, $100

The options for the next fill in the blank are: $995, $1190, $745, $0.

The options for the last fill in the blank are: more, less.

6. Correcting for negative externalities - Regulation versus tradable permits Suppose the government wants to reduce the total pollution emitted by three firms in its area. Currently, each firm is creating 4 units of pollution in the area, for a total of 12 pollution units. The government wants to reduce total pollution in the area to 6 units. In order to do so, the government can choose between the following two methods Method 1: The government sets pollution standards Method 2: The government allocates tradable pollution permits Compare the two methods to determine the least-cost way of achieving the desired pollution quantity Eliminating pollution can be more difficult (and thus more costly) for some kinds of firms than for others. The following table shows the cost of eliminating each unit of pollution for each of the three firms Firm X $95 $120 $200 $1,400 Firm Y $450 $800 $1,050 $5,250 Firm Z $80 $100 $150 $900 Cost of eliminating the first unit of pollution Cost of eliminating the second unit of pollution Cost of eliminating the third unit of pollution Cost of eliminating the fourth unit of pollution Under method 1, the government sets pollution standards so that each firm must reduce its pollution by 2 units. Fill in the following table with the total cost to each firm of reducing its pollution by this amount. Firm X Firm Y Firm Z Total cost of eliminating 2 units of pollution Adding up the costs to the three firms, you can see that the total cost of eliminating 6 units of pollution through regulatory standards is Now suppose the government uses method 2 to reduce pollution in the area from 12 units to 6 units by issuing two pollution permits to each firm. For each permit a firm has in its possession, it can emit 1 unit of pollution, but firms are also free to trade pollution permits with one another. For example, if firm Y were to buy a permit from firm Z, firm Y would end up with three permits and would need to reduce its pollution by only 1 unit, whereas firm Z would end up with only one permit and would have to reduce its pollution by 3 units. Assume the negotiation and exchange of permits are costless Because of its high pollution-reduction costs, firm Y might be better off buying permits from firm Z and firm X so that it doesn't have to reduce its own pollution emissions. At which of the following prices are both firm Z and firm X willing to sell one of their permits to firm Y? Check all that apply $275 □ $190 $110 $310 Again, suppose that you are considering the method of pollution reduction involving tradable permits. Suppose the owners of the three firms get together and agree on a trading price of $195 per permit. Fill in the following table with the action taken by each firm, the amount each firm will pollute, and the amount it costs each firm to reduce pollution to the necessary level. (Hint: Do not include the prices of permits in the cost of reducing pollution.) Firm X Firm Y Firm Z Initial pollution permit allocation Action Final pollution amount Cost of pollution reduction 2 units 2 units 2 units Given this scenario, the total cost of eliminating 6 units of pollution using a tradable permit system is On the basis of this example, you can conclude that eliminating pollution is allocates pollution permits that can be bought and sold than when it directs each firm to eliminate a certain amount of pollution costly to society when the government

Answer 1

	X	Y	Z
Total cost for 2 units	95+120 = 215	450+800= 1250	80+100= 180

Total cost for 6 units = 1645

MCQ :

option A & D

since if firm X sell one permit than cost of abating 3 rd unit = 200, for firm Z. , It is = 150

So X will be willing to sell a permit if it gets at least 200 $ & z will sell if it gets $ 150,

So both will be willing to sell a permit if price is greater than 200

So a & d are correct .

Now at price 195, only firm Z will sell only one permit

	X	Y	Z
Initial permit	2	2	2
Action	don't sell	buy one permit	sell one permit
Final amount	2 units	1	3
Cost	215	450	330

total cost of elimination = 215+450+330

= 995

hence eliminating pollution is less costly with permit system