Consider the market for plastic bottles. The demand in this market can be repres
ID: 1184627 • Letter: C
Question
Consider the market for plastic bottles. The demand in this market can be represented by the inverse demand function P(q) = 100 ?? 2q. Assume that there is a negative externality in the form of greenhouse gases that is increasing in the total production of plastic bottles. Suppose that estimates of the income lost due to global-warming-induced increases in extreme weather lead policy makers to think the negative externality cost is 2 dollars per cubic foot of greenhouse gas produced. Suppose there exist a large number of rms that produce plastic bottles with a marginal cost of 1 dollar per bottle. This production process generates 3 cubic feet of greenhouse gas per 1. Absent government intervention, how many plastic bottles will be produced in competitive equilibrium (fractions of a bottle are allowed in this and in all future parts of the problem)? 2. Using Pigouvian taxes, how can the government correct for the negative externality in this market (that is, how can the government get to the socially optimal quantity of plastic water bottles)? What is this quantity? 3. Now, suppose there are two markets with negative externalities. One market is the plastic bottle market, in which the negative externality is greenhouse gases contributing to global warming The other market is a chemical industry in which the negative externality is the poisoning of soil in the areas very near the sites of production. Suppose furthermore, that in each industry there are many di erent types of rms that di er from each other in their costs of production and di er in how polluting their technologies are. (a) Brie y describe the basic features of a cap-and trade regulatory scheme for these two markets. (No more than 2-3 sentences should be necessary). (b) Brie y explain the theoretical justi cation for implementing cap-and-trade instead of traditional cap-no-trade policies that simply limit pollution levels and issue penalties to rms that violate these limits. Your explanation should reference theoretical results from our course. (No more than 2-3 sentences should be necessary). (c) In light of your answer to the previous question, for which of these two industries would you recommend cap-and trade over cap-no-trade? Explain your answer. (No more than 2-3 sentence should be necessary).Explanation / Answer
The demand in this market can be represented by the inverse demand function P(q) = 100