Final 2010 EEP1/ Econ 3
Berck, Papineau, Toledo
Do All 6 Questions
1. (5--1 pt each) Explain whether each statement is true, false or uncertain.
a. In a competitive market firms choose price so that p = mc(q).
b. Average cost is never above marginal cost.
c. Revealed preference methods are always preferred to stated preference methods.
d. If an allocation is pareto optimal, no one can be made better off.
e. A willingness to accept question elicits compensating variation
2. (8pts) The Clean Air Act and the Clean Water Act both seek to clean the environment. However,
they have slightly different roles for the states relative to the federal government. Give a brief
account of how these laws work. (Hint: think New Source Standards, TBES, State
Implementation plan, Acid Rain, NPDES, NAAQS, TDML). How are they fundamentally different?
3. (7 pts) What is abatement? Define the marginal cost of abatement and the marginal benefits of
abatement. Why should a regulator choose the abatement amount that makes them equal?
(Best explained with a diagram and a deadweight loss triangle. The quality of your explanation
matters!)
4. (7pts) Use a diagram with isoquants and isocost lines to show that a firm whose emissions are
regulated with a tax has higher costs than a firm regulated with an effluent standard. It will be
sufficient to show this is true for a single quantity of output. Label your diagram and explain
your work.
5. (8pts.) QA and QS are the pollution levels for Arrow and Solow Industries, respectively.
Profits (benefits) associated with polluting activity, Пi ( i = A, S), are ПA = 10QA – QA2 /2 and
ПS = 20 QS – QS2. Marginal benefits (profits) for each firm are MBA = 10 – QA, and MBS = 20 –
2QS.
a. (a) Unregulated, how much will each firm pollute? Why? What will total pollution
be? What will each firm‘s profits be?
b. (b) The Department of Environmental Quality (DEQ) would like to reduce pollution
by 60%--that is, pollution levels will be only 40% of the initial level. Initially, it
proposes a requirement that each firm roll back its emissions by 60%. How much will
each firm pollute? What will total pollution be? What will each firm‘s marginal
benefits be? What will each firm‘s profits be?
c. (c) Someone in DEQ studied environmental economics and suggests a marketable
permit system to achieve the 60% rollback, with each firm given permits representing
the level of its emissions in (b). Who (if either) will want to buy permits, and who
will sell? How much will each firm pollute? What will be the equilibrium permit
price? What will each firm’s profits plus receipts or expenditures from permit trading
be?
6. (5 points)The Coase theorem is touted by advocates of the free market as the solution to
pollution problems. State the Coase theorem? Why is it that the victims of air pollution
don’t buy the rights to pollute from the polluters?