Assignment_1_solutions_revised - LKY School of Public...

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LKY School of Public Policy PP5227: ENVIRONMENTAL POLICY AND NATURAL RESOURCE MANAGEMENT (WITH AN APPLICATION TO CLIMATE CHANGE) AY 2009-10 Semester 2 Shreekant Gupta Solutions to Assignment 1 (Total points 90) Pindyck and Rubinfeld Chapter 18, Questions 3, 6 and 9 (10 points each): 3. Assume that scientific studies provide you with the following information concerning the benefits and costs of sulfur dioxide emissions: Benefits of abating (reducing) emissions: MB=500-20A Costs of abating emissions: MC=200+5A where A is the quantity abated in millions tons and the benefits and costs are given in $/ton. a. What is the socially efficient level of emissions abatement? (1.5 points) To find the socially eff icient level of emissions abatement, set m arginal benefit equal to marginal cost and solve for A: 500-20A=200+5A A=12. b. What are the marginal benefit and marginal cost of abatement at the socially efficient level of abatement? (1.5 points) Plug A=12 i nto the m arginal benefit and m arginal cost funct ions to find the bene fit and cost: MB=500-20(12)=260 MC=200+5(12)=260. c. What happens to net social benefits (benefits minus costs) if you abate 1 million more tons than the efficient level? 1 million fewer? (4 points) Net social benefits are the area under the marginal benefit curve minus the area under the marginal cost curve. At the socially efficient level of abatement this is equal to area a+b+c+d in the figure: 0.5(500-200)(12)=1800 million dollars. 1
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If you abate 1 million more tons then the net social benefit is area a+b+c+d-e or 1800-0.5(265-240)(1)=1800-12.5=1787.5 million dollars. If you abate 1 million less tons then the net social benefit is area a+b or 0.5(500-280)(11)+(280-255)(11)+0.5(255-200)(11)=1787.5 million dollars. d. Why is it socially efficient to set marginal benefits equal to marginal costs rather than abating until total benefits equal total costs? (3 points) It is socially efficient to set marginal benefit equal to marginal cost rather than total benefit equal to total cost because we want to maximize net benefits, which are total benefit minus total cost. Choosing the point where total benef it is equal to total cost will result in too much abatement, and would be anal ogous to choosing to produce where total revenue was equal to total cost. If total revenue was always equal to total cost by choice, then there would never be any profit. In the ca se of abatement, the more we abate, the costlier it is. Given that funds will te nd to be sca rce, money should be al located to a batement only so long as the benefit of the last unit of abatement is greater than or equal to the cost of the last unit of abatement. 2
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6. The market for paper in a particular region in the United States is characterized by the following demand and supply curves Q D 160,000 2000 P and Q S 40,000 2000 P , where Q is the quantity demanded of paper in 100 lb. lots, is the quantity demanded of paper in 100 lb. lots, and P is the price per 100 lb. lot of paper. Currently there is no attempt to regulate the dumping of effluent into streams and rivers by the paper mills. As a result, dumping is widespread. The marginal external cost (
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This note was uploaded on 03/15/2010 for the course LKYSPP PP5227 taught by Professor Shreekantgupta during the Spring '10 term at National University of Singapore.

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Assignment_1_solutions_revised - LKY School of Public...

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