Question

Assume that both Altoa and Calcoa emit 400 tonnes of pollution while producing bauxite. Suppose both firms have tradable permits that allow each to emit 200 tonnes of pollution. If it costs $5,000 and $6,000 for Altoa and Calcoa to eliminate 200 tonnes of pollution respectively, what will likely happen in the market for tradable permits?

Answer 1

Initially both Altoa and Calcoa emit 400 tons of pollution. So, initially 800 tons of pollution is produced in total.

Now both the firms are given the permit of producing only 200 tons of pollution. This means that both the firms still need to reduce 200 tons of pollution each. As the $5000 for Altoa to eliminate 200 tons of pollution and $6000 for Calcoa to eliminate 200 tons of pollution, Calcoa would like to buy the tradable permit of 200 tons of pollution from Altoa for a price greater than $5000 but less than $6000. By doing this, Calcoa would not have to reduce the pollution and will buy the permit at a lower cost than eliminating it. On the other hand, Altoa would have to reduce extra 200 tonnes of pollution for $5000 but would receive more than $5000 for selling the permit. In this way, both the firms Altoa and Caltoa have made profit by trading permits.

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