Economics 423 -- Environmental and Natural Resources Economics (Fall ’07)

Quiz 1, Professor Steven Hackett

Name (1 point): Answer Key (answers in italics)

Part 1: Only for those taking the course for 3 units and NOT in the lab (7.5 points each)

Price ($)	“Social Cost” Quantity Supplied	“Private Cost” Quantity Supplied	Quantity Demanded
10	0	1,500	2,500
20	0	1,600	2,400
30	1500	1,700	2,300
40	1600	1,800	2,200
50	1700	1,900	2,100
60	1800	2,000	2,000
70	1900	2,100	1,900
80	2000	2,200	1,800
90	2100	2,300	1,700
100	2200	2,400	1,600

1. Using the “private cost” quantity supplied, and quantity demanded, the “free market” equilibrium price = $60 and quantity = 2,000 in the table above.

2. Using the “private cost” quantity supplied, and quantity demanded, at what price in the table above is there an excess demand of 400? $40.

3. Suppose that the market in the table above generates $20 of marginal external cost for each unit of output produced. Then in the absence of any regulation, the correct value for total external cost in the “free market” equilibrium from question 1 will be:

$40,000 = $20 x 2,000

4. Suppose that a Pigouvian tax of $20 per unit of output is used to fully internalize the negative externality in the market in the table above. This causes an inward shift in supply. Now sellers will require an additional $20 added to price in order to provide the same quantity that had been supplied in the free market. Thus in the new “social cost” supply schedule, quantity supplied now equals 0 for all prices below $30; quantity supplied equals 1,500 when price equals $30, quantity supplied equals 1,600 when price equals $40, quantity supplied equals 1,700 when price equals $50, and so forth. The relationship between price and quantity demanded, however, has not changed. First revise the supply schedule in the table above, and then determine the new socially optimal equilibrium values below:

Socially optimal equilibrium price = $70 and quantity = 1,900.

5. Which of the following, if any, in the table below would usually cause equilibrium price to increase? (circle any/all correct answers)

Inward shift in demand	Internalizing a positive externality
Internalizing a negative externality	Outward shift in supply

6. Which of the following, if any, in the table below will clearly and specifically promote the implementation of renewable energy production? (circle any/all correct answers)

$50/megawatt-hour tax on electricity generated from renewable sources	$50/ton tax on carbon dioxide emitted from electricity generation
$0.50/therm natural gas subsidy for all low-income natural gas consumers	$20/ton subsidy for coal production in the US

Part 2: Only for students participating in the 4^th unit lab (7.5 points each)

Suppose that demand is given by the equation P = 2,000 - Q

Private-cost supply is given by the equation P = 100 + Q

Social-cost supply is given by the equation P = 400 + Q

Marginal external cost is $300

1. Derive the numerical value for equilibrium price and quantity in the “free market” equilibrium, using the private cost supply curve (assuming that firms can freely pollute without regulation or reputational consequences). Please show your work.

P = $1050 Q = 950 2,000 – Q = 100 + Q, 2Q = 1900, Q = 950

P = 2,000 – 950 = 1050

Draw the picture.

2. Derive the numerical value for the gross gains from trade (CS + PS) to buyers and sellers (ignoring negative externalities) associated with the correct answer to question 1 above. Please show your work.

Gross gains from trade = $902,500 Draw the picture. (CS + PS) =

0.5 x (2000 – 100) x 950 = $902,500

3. Derive the numerical value for total external cost associated with the correct answer to question 1 above. Please show your work.

Total external cost = $285,000 Draw the picture. $300 x 950 = $285,000

4. Derive the numerical value for the true net gains from trade to market participants and society associated with the correct answer to questions 1-3 above, taking into account negative externalities. Please show your work.

True net gains from trade = $617,500 Draw the picture. The correct answer is:

902,500 - $285,000 = $617,500

5. Derive the numerical value for equilibrium price and quantity assuming that a Pigouvian tax has fully internalized negative externalities. Please show your work.

P = $1,200 Q = 800 2,000 – Q = 400 + Q, 2Q = 1600, Q = 800

P = 2,000 – 800 = 1,200

Draw the picture.

6. Derive the numerical value for the true net gains from trade to market participants and society associated with the correct answer to question 5 above, assuming the Pigouvian tax is used to address and offset the damages caused by the pollution. Please show your work.

True net gains from trade = $640,000 Draw the picture. The correct answer is:

0.5 x (2,000 – 400) x 800 = 640,000

Part 3: All students (6 points each)

7. True/False (circle one): A public policy that is Pareto efficient relative to the status quo implies that while some people are better off, and perhaps some are unaffected, nobody is made worse off by the policy change.

8. True/False (circle one): Internalizing negative externalities has no impact on the market price of products generating pollution, and thus cannot enhance the market viability of less-polluting alternatives over time.

9. True/False (circle one): When positive externalities are internalized in a well-functioning, competitive market, price reflects the social benefits of the good being bought and sold, and not just the private benefits to the buyer.

10. True/False (circle one): Res nullis refers to the property rights regime in which the rights of access, withdrawal, management, and exclusion are held in common by a group of proprietors.

11. True/False (circle one): If there are three policy options for managing a parcel of National Park land, then the opportunity cost of the preferred option is the sum of the value of the other two alternatives.

12. True/False (circle one): All scarcity, and thus economics, is an artificial construct created by capitalist enterprises.

13. True/False (circle one): Deadweight loss is equal to producer surplus minus consumer surplus, and reflects excess profits flowing to business enterprises.

14. True/False (circle one): The criterion for ethical policy choice under utilitarianism – maximizing net social utility – eliminates the potential for tyranny of the majority.

15. True/False (circle one): Tax subsidies and conservation easements internalize positive externalities generated by landowners who possess a property right to develop their land; regulation can be used to mandate the provision of positive externalities generated by landowners when those externalities are seen as public trust resources with government as the proprietor.