Question

The market for paper in a particular region has the supply and demand curves: QD = 160,000 - 2,000P QS = 40,000 + 2,000P, where Q is measured in hundred-pound lots, and P is price per hundred-pound lot. There is currently 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 associated with the paper production is given by the expression: MEC = 0.0002Q.

1.Determine the socially optimal levels for output.

2.Determine the socially optimal levels for price.

Answer 1

The market for paper in a particular region has the supply and demand curves: QD = 160,000 - 2,000P or

P = 160,000/2000 - Q/2000 = 80 - 0.0005Q

QS = 40,000 + 2,000P or P = 40000/2000 + Q/2000 or P = 20 + 0.0005Q

The marginal external cost associated with the paper production is given by the expression: MEC = 0.0002Q. This makes Supply function P = 20 + 0.0007Q,

1.Determine the socially optimal levels for output.

This happens when market demand = market (social) supply

80 - 0.0005Q = 20 + 0.0007Q

60 = 0.0012Q

Q = 50000 units

2.Determine the socially optimal levels for price.

Price = 80 - 0.0005*50000 = $55.