Question;ECN 445 FALL 2014;PROBLEM;SET 3;[Lecture;Welfare evaluation #2] Missioni sweaters are greatly admired by their;aficionados. The demand for these sweaters is given by Q = 13 - 0.02 P, where Q;is the quantity of sweaters purchased per person per year, and P is the price;of a sweater. These sweaters typically sell at the Missioni store for $500 per;sweater. However, in a special promotion, Target decides to offer Missioni;sweaters at a price of $50, while limiting purchases to 2 sweaters per person.;What is the gain in consumer?s surplus for a Missioni fan who can get these;sweaters at Target instead of at the Missioni? Draw the appropriate diagram to;illustrate this gain, and also do the numerical calculation.For the following questions see the Lectures on;Externality: Pigou & Coase.The;production of gasoline causes air pollution but the damage from this pollution;is not priced and is not factored into the price of gasoline. Markets are;interconnected, and the price of gasoline affects the cost of transportation;the cost of transportation affects how easy it is to get people and goods;including food, from one place to another and thus affects the value of land;for housing and the cost of food, the cost of transportation also affects the;market for cars and public transportation, and all of these affect people?s;budgets. Given this interconnection of markets, what are the consequences of an;unpriced (and unregulated) externality in the market for gasoline? If there are;competitive markets in all these other markets, are they likely to produce an;efficient allocation of these other goods? Explain the reasons for your answer.(a);What is the difference between a pecuniary externality and a real (physical);externality? (b) What does the First Theorem of Welfare Economics state about;the outcome of an economy with perfectly competitive markets? (c) Which type of;externality, according to Pigou, leads to a violation of the First Theorem of Welfare;Economics, and why: explain why that type of externality leads the outcome of a;perfectly competitive economy not to maximize the public interest? (d) What;alternative remedies did Pigou prescribe? (e) Did Coase believe that either of;Pigou?s remedies was needed? If not, how did Coase see the situation being;resolved? (f) Are there circumstances in which you would find Coase?s criticism;of Pigou unpersuasive? What circumstances?A;builder proposes a skyscraper that would block sunlight to the neighboring;houses. The building would have net benefits to the builder of $100,000. The;neighbors, who use some solar heating, would face reduced property values and;increased heating costs totaling $80,000.(a) The law clearly stipulates that;the neighbors have the right to solar access. Is a Paretoimproving exchange;possible? What do you expect the outcome to be?(b)How, if at all, would the outcome be;different if the builder had the right to construct the skyscraper, even if it;blocked solar access?(c) Suppose again that the neighbors;have the rights. Because there is a large number of neighbors, hiring an;attorney to negotiate with all of them will be expensive, perhaps as much as;$25,000. Is a Pareto-improving exchange possible? What do you expect the outcome;to be?(d)Now suppose that the builder has the;rights, and the costs of the lawyer (still $25,000) belong to the neighbors. Is;a Pareto-improving exchange possible? What do you expect the outcome to be?;Compare this scenario with those of the other parts of this problem. What has;led to these different outcomes?5.[See also Review lectures on Theory of production and;cost, and profit maximization] Acme Charcoal is a charcoal producing company in;Cleveland. Its total cost function is C(QA) = 25 + 10QA+;4QA2, where QAis charcoal production per week;in thousands of tons.;What;is the formula for the average variable cost of production?What;is the formula for Acme?s marginal cost function? What portion of this marginal;cost curve lies above Acme?s minimum average variable cost?If;charcoal sells in Cleveland for $810 per thousand tons, how much charcoal will;Acme produce?6. Acme Charcoal (continued) [Lectures on Externality;Pigou & Coase]Clearview is an eyeglass company located near Acme Charcoal;in Cleveland. Clearview?s production of eyeglasses is negatively affected by;the smoke from Acme?s production of charcoal.;As;in the previous question, charcoal sells in Cleveland for $810 per thousand;tons. This is the nineteenth century, and no pollution control laws have yet;been passed in the US. Does the fact that Acme?s charcoal harms Clearview;change your answer to part (c) of the previous question? Explain the reason for;your answer.Clearview?s;total cost function to produce eyeglasses isC(QE) = 40QE+ 2QE2+;2QA where QEis;Clearview?s weekly production of eyeglasses and QAis Acme?s weekly;production of charcoal in thousands of tons. What is the extra cost to;Clearview from an additional thousand tons of charcoal production by Acme?Eyeglasses;sell for $140 per eyeglass. How many eyeglasses would you predict that;Clearview produces per week?How;much profit do Acme and Clearview each earn in this situation?How;much higher would Clearview?s profit be if Acme went out of business or at;least did not operate in the vicinity of Clearview?s premises?If;a municipal ordinance were passed in Cleveland making a polluter in Cleveland;liable for damages caused by his pollution, what do you predict would be the;outcome in terms of Acme and Clearview? How much would each firm produce?;Explain the reasoning behind your answer.7. [Lecture on Pollution control policy] It is 2025 and;Globus Electricity company has to manage its carbon emissions from burning coal;to generate electricity. For this it must employ a carbon capture and storage;(CCS) plant to abate carbon emissions. In the absence of any abatement, Globus;would generate 50 tons of carbon. It has a CCS plant on the Westside with the;following cost function for carbon abatement: Abatement cost = 50QW + 5QW2;where QW is the tons of carbon abated at that plant, the marginal cost of;abatement is MC = 50 + 10QW.;For;each ton of carbon emissions that Globus does not abate it must pay a federal;emissions tax of $300 per ton emitted. How much carbon will Globus choose to;abate? Explain the reasoning underlying your calculation.Why;doesn?t Globus decide to abate all its emissions in case (a)?Globus now decides that it will abate allof its emissions, rather than paying any tax on emissions. It;acquires a second CCS plant on the Eastside. This plant has as cost function;for carbon abatement given by: Abatement cost = 30QE + QE2, where QE is the;tons of carbon abated at the east plant, the marginal cost of abatement at this;plant is MC = 30 + 2QE.Given;Globus?s decision to abate all of the 50 tons of carbon, how much abatement;Globus will choose to conduct at each plant? Explain your reasoning.8. [Lecture on public goods] (a) What is the definition of;a public good? How does it differ from a conventional market good? (b) Explain;why one might see a lighthouse as a public good. Are there other transportation;related facilities that could be seen as a public good ? which facility, and;how does it fit the criteria for a public good? (c) Is it possible that there;could be private provision of lighthouses? (d) Would private provision be;expected to generate a socially optimal level of provision of a public good?;Explain the reasons for your answer.
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