a. Firm A will sell 10 permits and Firm C will buy 10 permits. Firm A is willing to sell permits because they can get more than the cost of removing the pollution (20 x 10 = 200) and Firm C is willing to buy permits because they can get them for less than the cost of removing the pollution (10 x 10 = 100). The total cost of pollution reduction in this situation is 300 (200 + 100).
b. The costs of pollution reduction would be higher if the permits could not be traded. In this case, Firm A would have to reduce pollution by 40 units at a cost of $800 (40 x 20 = 800) and Firm C would have to reduce pollution by 10 units at a cost of $100 (10 x 10 = 100). The total cost of pollution reduction in this situation would be 900 (800 + 100).
There are three industrial firms in Happy Vally.
Initial Cost of Reducing
Firm Pollution Level Pollution by 1 unit
A 70 units $20
B 80 units $25
C 50 units $10
The government wants to reduce pollution to 120 units, so it gives each firm 40 tradable pollution permits. Basically the government is allowing each firm to pollute up to 40 units and must remove the pollution for another over 40 units. By allowing the firm to trade (buy and sell) these permits to other firms in the industry, the firm can chose to sell its permits rather than use them.
a. Who sells permits and how many do they sell? Who buys permits and how many do they buy? Briefly explain why the sellers and buyers are each willing to do so. What is the total cost of pollution reduction in this situation? Show all calculations. (Hint: Each firm would be willing to sell permits if they can get more than the price of removing the pollution and each firm would be willing to buy permits if they could get them for less that the cost of removing the pollution.)
b. How much higher would the costs of pollution reduction be in the permits could not be traded? Show all calculations.
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