16.7 PROBLEMS

Question 16.12

What type of externality (positive or negative) is present in each of the following examples? Is the marginal social benefit of the activity greater than or equal to the marginal private benefit to the individual? Is the marginal social cost of the activity greater than or equal to the marginal private cost to the individual? Without intervention, will there be too little or too much (relative to what would be socially optimal) of this activity?

  1. Mr. Chau plants lots of colourful flowers in his front yard.

  2. Your next-door neighbour likes to build bonfires in his backyard, and sparks often drift onto your house.

  3. Maija, who lives next to an apple orchard, decides to keep bees to produce honey.

  4. Justine buys a large SUV that consumes a lot of gasoline.

Question 16.13

The loud music coming from the house next door is a negative externality that can be directly quantified. The accompanying table shows the marginal social benefit and the marginal social cost per decibel (dB, a measure of volume) of music.

  1. Draw the marginal social benefit curve and the marginal social cost curve. Use your diagram to determine the socially optimal volume of music.

  2. Only the residents of the house benefit from the music, and they bear none of the cost. Which volume of music will they choose?

  3. The city imposes a Pigouvian tax of $3 per decibel above 90 dB of music played. From your diagram, determine the volume of music the residents of the house next door will now choose.

Question 16.14

Some Canadian dairy farmers are adopting a new technology that allows them to produce their own electricity from methane gas captured from animal wastes. (One cow can produce up to 2 kilowatts a day.) This practice reduces the amount of methane gas released into the atmosphere. In addition to reducing their own utility bills, the farmers are allowed to sell any electricity they produce at favourable rates.

  1. Explain how the ability to earn money from capturing and transforming methane gas behaves like a Pigouvian tax on methane gas pollution and can lead the dairy industry to emit the efficient amount of methane gas pollution.

  2. Suppose some dairy farmers have lower costs of transforming methane into electricity than others. Explain how this system leads to an efficient allocation of emissions reduction among farmers.

Question 16.15

Voluntary environmental programs have been extremely popular in Canada, the United States, Europe, and Japan. Part of their popularity stems from the fact that these programs do not require legislative authority, which is often hard to obtain. The voluntary Memorandum of Understanding (MOU) between Transport Canada and Canadian airlines in 2005 is an example of such a program. With this agreement, Transport Canada sought to reduce emissions of greenhouse gases. Companies were asked to voluntarily commit to reducing emissions by improving fuel efficiency from their 1990 levels by 24% by 2012. The program actually exceeded its target resulting in a 31% cumulative improvement. In 2012 a new voluntary agreement was signed between these parties that would see fuel efficiency improve by at least 2% per year until 2020.

For this question assume that fuel efficiency improvements result in an equal percent reduction in greenhouse gas emissions.

  1. As in Figure 16-4, draw marginal benefit curves for pollution generated by two airlines, A and B, in 1990. Assume that without government intervention, each airline emits the same amount of pollution, but that at all levels of pollution less than this amount, airline A’s marginal benefit of polluting is less than that of airline B (perhaps due to using a different type of aircraft). Label the vertical axis “Marginal benefit to individual polluter” and the horizontal axis “Quantity of pollution emissions.” Mark the quantity of pollution each airline produces without government action.

  2. Do you expect the total quantity of pollution before the program was put in place to have been less than or more than the optimal quantity of pollution? Why?

  3. Suppose the airlines whose marginal benefit curves you depicted in part (a) were participants in this MOU. In a replica of your graph from part (a), mark targeted levels of pollution in 2012 for the two airlines. Which airline was required to reduce emissions more? Was this solution necessarily efficient?

  4. What kind of environmental policy does this MOU most closely resemble? What is the main shortcoming of such a policy? Compare it to two other types of environmental policy discussed in this chapter.

Question 16.16

According to a report from the Association of Universities and Colleges of Canada, “university graduates will on average earn $1.3 million more during their careers [lifetime earnings] than a high school graduate and $1 million more than a college grad.” This indicates that there is a considerable benefit to a graduate from investing in his or her own education. Tuition at Canadian universities in 2011 covered only about 37% of the cost, so the government applies a Pigouvian subsidy to university education. If a Pigouvian subsidy is appropriate, is the externality created by a university education a positive or a negative externality? What does this imply about the differences between the costs and benefits to students compared to social costs and benefits? What are some reasons for the differences?

Question 16.17

The district municipality of Delta, south of Vancouver, provides free trees planted on municipal property adjacent to the side or front of homeowners’ yards when requested.

  1. Using concepts in the chapter, explain why a municipality would provide free trees planted near someone’s home.

  2. Draw a diagram similar to Figure 16-7 that shows the marginal social benefit, the marginal social cost, and the optimal Pigouvian subsidy on trees.

Question 16.18

Fishing for sablefish has been so intensive that sablefish were threatened with extinction. After considering banning such fishing, the Canadian Department of Fisheries and Oceans introduced individual tradable quotas in 1990, each of which entitles its holder to a catch of a certain size. Explain how fishing generates a negative externality and how the quota scheme may overcome the inefficiency created by this externality.

Question 16.19

The two dry-cleaning companies in Lafacville, Savon Cleaners and Big Green Cleaners, are a major source of air pollution. Together they currently produce 350 units of air pollution, which the town wants to reduce to 200 units. The accompanying table shows the current pollution level produced by each company and each company’s marginal cost of reducing its pollution. The marginal cost is constant.

  1. Suppose that Lafacville passes an environmental standards law that limits each company to 100 units of pollution. What would be the total cost to the two companies of each reducing its pollution emissions to 100 units?

    Suppose instead that Lafacville issues 100 pollution vouchers to each company, each entitling the company to one unit of pollution, and that these vouchers can be traded.

  2. How much is each pollution voucher worth to Savon Cleaners? To Big Green Cleaners? (That is, how much would each company, at most, be willing to pay for one more voucher?)

  3. Who will sell vouchers and who will buy them? How many vouchers will be traded?

  4. What is the total cost to the two companies of the pollution controls under this voucher system?

Question 16.20

  1. EAuction and EMarketplace are two competing Internet auction sites, where buyers and sellers transact goods. Each auction site earns money by charging sellers for listing their goods. EAuction has decided to eliminate fees for the first transaction for sellers that are new to its site. Explain why this is likely to be a good strategy for EAuction in its competition with EMarketplace.

  2. EMarketplace complained to the Competition Bureau that EAuction’s practice of eliminating fees for new sellers was anti-competitive and would lead to monopolization of the Internet auction industry. Is EMarketplace correct? How should the Competition Bureau respond?

  3. EAuction stopped its practice of eliminating fees for new sellers. But since it provided much better technical service than its rival, EMarketplace, buyers and sellers came to prefer EAuction. Eventually, EMarketplace closed down, leaving EAuction as a monopolist. Should the Competition Bureau intervene to break EAuction into two companies? Explain.

  4. EAuction is now a monopolist in the Internet auction industry. It also owns a site that handles payments over the Internet, called PayForIt. It is competing with another Internet payment site, called PayBuddy. EAuction has now stipulated that any transaction on its auction site must use PayForIt, rather than PayBuddy, for the payment. Should the Competition Bureau intervene? Explain.

Question 16.21

Which of the following are characterized by network externalities? Which are not? Explain.

  1. The choice between installing 110-volt electrical current in structures rather than 220-volt

  2. The choice between purchasing a Toyota versus a Ford

  3. The choice of a printer, where each printer requires its own specific type of ink cartridge

  4. The choice of whether to purchase an iPod Touch or an iPod Nano.