3 - Externalities

Question 1

How does externalities related to welfare theorem?

Answer 1

Question 2

Examples of externalities

Answer 2

Question 3

Graph:

Negative externalities and deadweight loss

Answer 3

Question 4

A simple model of externalities: consumers

1) Consumer budget constraint
2) Consumers utility

Answer 4

Question 5

Equations:

1) Firms maximise profit
2) Individuals maximise utility
3) Private marginal benefits = private marginal cost in equilibrium

Answer 5

Question 6

1) List the social welfare equation
2) Perturbation argument

Answer 6

Question 7

Solutions to externalities

Answer 7

Question 8

Explain Coasian Bargaining

Answer 8

Question 9

Coase Theorem

Answer 9

Question 10

Limits to Coasian Bargaining

Answer 10

Question 11

1) When should the government intervene in cases externalities?
2) Types of public solutions to externalities
3) What do the methods differ in?

Answer 11

Question 12

1) Explain Pigouvian taxation
2) Practical limitations

Answer 12

Question 13

Graphically show pollution tax

Answer 13

Question 14

1) Explain Regulation as a public sector solution
2) Advantages and disadvantages

Answer 14

Question 15

Show allocative inefficiency with heterogenous cost under Regulation as a public sector solution

Answer 15

• Efficient regulation requires knowing each firm’s cost function
• Cap-and-trade and taxation both avoid this

Question 16

Explain permits/cap-and-trade as a public sector solution

Answer 16

Question 17

Explain cap-and-trade equilibrium graphically

Answer 17

Question 18

What information do we need to know to determine the solutions for externalities in reality?

Answer 18

Question 19

General issues with survey data

Answer 19

Question 20

Explain house price capitalization

Answer 20

Question 21

Explain the model of capitalization

Answer 21

Question 22

Explain the experiment regarding air quality and house price

Answer 22

Question 23

Explain the experimental result regarding air quality and house prices

Answer 23

Question 24

Explain internalities

Answer 24

Question 25

The UK recently introduced a tax on sugary drinks. Without any graphs or maths but using what you have learned, explain intuitively why this policy might have been introduced. (MT PS3)

Answer 25

Question 26

Think about: 1) The market for flu vaccinations 2) The market for coal energy What kind of externalities arise, and why? Use the concept of marginal cost for the different parties in your answer, and illustrate using a diagram. Clearly indicate the socially optimal outcome, the competitive equilibrium and the size of the inefficiency. (MT PS3)

Answer 26

Question 27

Explain why a Pigouvian tax can remedy the inefficiency arising from positive and negative externalities and illustrate using your diagram under (a). 1) What in the firm's or consumer's maximization problem changes with the introduction of a tax? 2) What practical concerns might determine whether Pigouvian taxes are feasible? Discuss. (MT PS3)

Answer 27

Question 28

Draw a diagram describing the marginal benefits and marginal costs of abating a negative consumption externality. (MT PS3)

Answer 28

Question 29

Explain why, if there is no uncertainty, it does not matter whether government chooses a price (tax) and allows the market to set quantity, or choose a quantity (of permits to be auctioned) and allows the market to set the price. (MT PS3)

Answer 29

Question 30

MT PS3

Answer 30

* The choice of a price (Pigouvian taxation) or of a quantity instrument (regulation) will matter in the presence of uncertainty. * Below we consider the case of uncertainty regarding the production side, with 2 possible MC curves, and we then consider different scenarios for the environmental consequences of production. * The first case could be assimilated to global warming - where production activity does not have a direct significant effect, hence the flat aspect of the MD curve. * The second case can be interpreted as a Nuclear leakage. * Whilst in the first case, a price instrument should be preferred to minimise the DWL, such conclusion is reversed in the second one.