EMG5302 - TRADE, FINANCE AND SUSTAINABLE DEVELOPMENT

GROUP HOMEWORK 2

1. Use economic analysis to evaluate the following statement: The only amount of acceptable
pollution is no pollution at all.

2. Large amount of pesticide were released to surface waters in vegetable production. Among the
associated external costs are serious health risks for people using the rivers and stream: (a)
Show graphically the difference between the competitive equilibrium and efficient
equilibrium. Assume that the Marginal External Cost (MEC) is MEC = 0.05Q; (b) Compute
the competitive and efficient equilibria assuming that the supply function is P = 10 + 0.075Q,
demand function is P = 42 – 0.125Q, and MEC as in (a); (c) why the competitive equilibrium
is not efficient from the society viewpoint, but efficient from the private viewpoint; and (d)
graphically, show the profit loss by the producers, the gain to the society, and the net gain to
the society in the efficient equilibrium.

3. Using the same scenario as in question 3, use the following graph to answer the
questions below:

Price (RM) MEC

A D

B C

0 QE QC M Q (tonnes)

a) Show the competitive equilibrium (M = 0) and the efficient

equilibrium (M = MEC).
b) Give the economic interpretation of areas A, B, C, and D.
c) What area represents the loss to the producers as a result of the restoration of efficiency?
d) Which area represents the net gain to society? Should the reduction in output from QC to
QE take place? Why or why not?

3. Using the graph shown in Question 3, describe the bargaining process between the
producers and the recreational water users, assuming the producers have the right to
pollute.

4. Despite economists' support of a market approach to environmental policy, the command-

and-control approach continues to dominate the policy of most nations. Explain why this is the
case. In your response, cite and then comment on some of the common criticisms of market-
based initiatives.
5. Assume that there are two firms, each emitting 20 units of pollutants into the environment, for
a total of 40 units in their region. The government sets an aggregate abatement standard of 20
units. The polluters' cost functions are as follows:

Polluter 1: TAC1 = 10 + 0.75(A1)2, Polluter 2: TAC2 = 5 + 0.5(A2)2,

MAC1 = 1.5(A1), MAC2 = A2.

a) What information does the government need to support an assertion that the 20-
unit abatement standard is allocatively efficient?

b) Suppose that the government allocates the abatement responsibility equally such
that each polluter must abate 10 units of pollution. Graphically illustrate this
allocation, and analytically assess the cost implications.

c) Now, assume that the government institutes an emission fee of $16 per unit of
pollution. How many units of pollution would each polluter abate? Is the $16 fee a
cost-effective strategy for meeting the standard? Explain.

d) If instead the government used a pollution permit system, what permit price
would achieve a cost-effective allocation of abatement? Compare this allocation
to the equal allocation standard described in part (b).