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Unformatted text preview: Problems and Applications 1. a. The externality is noise pollution. Ringos consumption of rock and roll music affects Luciano, but Ringo does not consider that in deciding how loud he plays his music. b. The landlord could impose a rule that music could not be played above a certain decibel level. This could be inefficient because there would be no harm done by Ringo playing his music loud if Luciano is not home. c. Ringo and Luciano could negotiate an agreement that might, for example, allow Ringo to play his music loud at certain times of the day. They might not be able to reach an agreement if the transaction costs are high or if bargaining fails because each holds out for a better deal. 2. If the Swiss government subsidizes cattle farming, it must be because there are externalities associated with it. Because tourists come to Switzerland to see the beautiful countryside, encouraging farms, as opposed to industrial development, is important to maintaining the tourist industry. Thus, farms produce a positive externality by keeping the land beautiful and unspoiled by development. The government's subsidy thus helps the market provide the optimal amount of farms. 3. a. It is efficient to have different amounts of pollution reduction at different firms because the costs of reducing pollution differ across firms. If they were all made to reduce pollution by the same amount, the costs would be low at some firms and prohibitive at others, imposing a greater burden overall. b. Command-and-control approaches that rely on uniform pollution reduction among firms give the firms no incentive to reduce pollution beyond the mandated amount. Instead, every firm will reduce pollution by just the amount required and no more. c. Corrective taxes or tradable pollution rights give firms greater incentives to reduce pollution. Firms are rewarded by paying lower taxes or spending less on permits if they find methods to reduce pollution, so they have the incentive to engage in research on pollution control. The government does not have to figure out which firms can reduce pollution the most&amp;#2; it lets the market give firms the incentive to reduce pollution on their own. 4. a. Fire extinguishers exhibit positive externalities because even though people buy them for their own use, they may prevent fire from damaging the property of others....
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- Spring '10