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Problem%20Set%205%20Part%202-Answer%20Key - Econ 131 Fall...

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Unformatted text preview: Econ 131 - Fall Quarter 2009 Problem Set 5 Part 2 : Answer Key The following questions are all relating to the following article: http://www.nytimes.com/2009/11/10/science/10patch.html?_r=2&hp 1. Assuming that all the plastic in the ocean is a byproduct of consuming some bundle of goods, X, can you develop a simple model that discusses where the market allocation is and where the social optimum is in this situation? Propose policy options to deal with this problem. (Hint: Feel free to make any simplifying assumption you would like as long as you deliver the main message.) Given a MB curve for X, one can think of the plastic trash as a negative externality from the production of good X. Hence, the MPC of X is smaller than the MSC of X. As a result, the market equilibrium quantity Xm will be greater than the social optimum X*. The government can tax the production of good X with a quantity equal to MSC(X*)-MPC(X*) to correct for the externality. 2. Assume that there is another bundle of goods, Y, the waste of which is biodegradable, but is much more expensive. Does this provide another policy option for the government? If yes, under what conditions would the policy in Question 1 be optimal compared to the policy proposed here. (Don't forget the role of the discount rate. What is an appropriate discount rate in YOUR opinion?) The government could subsidize the production of good Y. The government should choose between the two options based on the present value of net benefits from the policy in Question 1 and the subsidy policy proposed here. Note that the tax policy in Question 1 reduces the amount of plastic produced as a byproduct, whereas the production of Y would completely eliminate the production of plastic as a byproduct. It is reasonable to assume that the plastic trash will have increasing cost in the future as its amount continues to increase and pollute the environment. Hence, the comparative benefits from subsidizing good Y as opposed to taxing good X can come much further in the future. If the discount rate is large, these comparative benefits will be given nearly zero weight and hence would not play a big role in the decision. 3. Consumption is key to `growth'. How does this article show the other side of that growth, which is measured by GDP growth? What alternatives measures of growth would take the issues posed in this article into consideration? In light of the recession, would you recommend to your government to adopt these alternative measures or at least to consider them in addition to GDP growth? GDP growth does not account for any costs of externalities, such as pollution and contamination of the environment due to non-biodegradable waste. One could argue that a better or at least alternative measure to GDP growth is a growth rate that takes both the growth rate of GDP as well as other risks and negative costs to development into account. ...
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