Question

Consider two firms: A and B. Each firm currently dump 100 tons of chemicals into the local river. The government has decided to adopt a policy to reduce pollution by 50%. To achieve this goal, the government will require a pollution permit for each ton of pollution dumped into the river. It costs firm A $200 dollars for each ton of pollution that it eliminates before it reaches the river, and it costs firm B $100 for each ton of pollution that it eliminates before it reaches the river. The government gives each firm 50 pollution permits. Government officials are not sure whether to allow the firms to buy or sell the pollution permits to each other.

a. What is the total cost of reducing pollution if firms are not allowed to buy or sell permits to each other?

b. What is the total cost of reducing pollution if firms are allowed to buy or sell permits to each other?

Answer 1

Ans:

Each firm currently dump 100 tons of chemicals,each firm is given 50 pollution permits.each firm should eliminate 50 tons of pollution.

A) Total cost of reducing pollution if firms are not allowed to buy or sell permits to each other.

Firm A = 50 * $200

= $10,000

Firm B = 50 * $100

= $5000

Total cost of reducing pollution = $10,000 + $5000

= $15,000

B) Total cost of reducing pollution if firms are allowed to buy or sell permits to each other.

Since the cost of reducing pollution is higher for firm A, it will buy permits from firm B.In this case firm A will eliminate zero tons and firm B will eliminate 100 tons of pollution.

Firm A = 0

Firm B = 100 * $100

= $10,000

Total cost of reducing pollution = 0 + $10,000

= $10,000