|Chapter 7: Problems|
2. Explain the following concepts. Use specific examples if needed.
a. Marginal private cost.
b. Marginal social cost.
c. Marginal external cost.
d. Marginal social benefit.
a. Marginal private cost (MPC) is the change in the producer's total cost brought about by the production of an additional unit of a good or service. It is also known as marginal cost of production. For example if production costs rise from$1,000 to $1,050 as one more unit of a good is produced the marginal private cost is $50.
b. Marginal social cost (MSC) is the change in society's total cost brought about by the production of an additional unit of a good or service. It includes both marginal private cost and marginal external cost. For example, suppose it costs a producer $50 to produce an additional unit of a good. Suppose that when the additional unit is produced pollution is emitted which causes $25 worth of damage to the paint on your car. The marginal social cost of production is the producer's cost plus the external cost, or $75.
c. Marginal external cost (MEC) is the change in the cost to parties other than the producer or buyer of a good or service due to the production of an additional unit of the good or service. For example, suppose it costs the producer $50 to produce another unit of a good. Suppose this production results in pollution which causes $60 worth of damage to another company's plant. The marginal external cost is $60.
d. Marginal social benefit is the change in benefits associated with the consumption of an additional unit of a good or service. It is measured by the amount people are willing to pay for the additional unit of a good or service. For example, suppose you are currently consuming two slices of pizza .per day. Assume you would be willing to pay $.75 to consume a third slice of pizza per day. $.75 represents the marginal social benefit of the third, or additional, slice of pizza.
9. Explain how a market in pollution permits works to abate pollution and reduce compliance costs.
One example of pollution markets is the bubble concept. According to this concept a number of stacks, pieces of equipment, or plants are grouped together and treated as ff they were enclosed by a bubble. The goal of the regulatory agency becomes that of regulating the total emissions from the bubble. Sources within the bubble that are successrid in reducing emissions below the desired level are given emission credits that can be sold to sources that are not successful. The trading of these credits provides an incentive to firms to reduce emissions in order to obtain credits. It also spurs the search for less costly means of control.
The offset is another example of a pollution market. Under this concept the EPA allows new sources of air pollution to be constructed in areas not meeting current standards so long as the emissions added by the new source will be more than offset by emission reductions from existing sources. This means a firm can open for business if it can persuade another firm to reduce its emissions. This reduction is known as the "offset." The offset can be sold at a negotiated price. The prospect of these sales spurs firms to find new, lower-cost ways to control pollution.Banking can also reduce pollutants and lower the costs of compliance. Under the banking program, firms can store emission reduction credits for subsequent use in the offset, netting, or bubble programs. Firms may bank these credits for their use at a later date or for later sale to another firm seeking to change or expand operations.
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