Topic 5: Solutions to Externalities

Question 1

explain coase theorem

Answer 1

Assuming transaction costs (costs in time parties occur in process of exchange) are low, bargaining > efficient outcome regardless of the initial allocation of property

Question 2

what are the two government solutions

Answer 2

command and control

market based

Question 3

explain command and control

Answer 3

• Requiring or forbidding certain activities

Question 4

what are the two types of market based policies

Answer 4

a. Corrective Taxes and Subsidies

a. Tradeable Permits

Question 5

explain Tradeable Permits

Answer 5

♣ Tax negative externalities + Subside positive externalities
♣ Gives economic incentive and specifically changes behaviour
• ‘internalising the externality’

Question 6

explain Corrective Taxes and Subsidies

Answer 6

♣ Find level of output that corresponds with socially efficient solution (amount of pollution occurs with level of output) = fixed
♣ Divide up into parcels and
• Sells
• Gives away

Question 7

define DWL

Answer 7

The reduction in total economic surplus that occurs when the market does not operate at its most efficient point