Question

Ride powder” Is a small firm in Denver, CO that produces snowboards.
The demand for their snowboards is described by the following function: P=250 – Q.
Were P is the price in dollars and Q is quantity. Their cost of producing snowboards
are described by the following supply curve (marginal private costs): P=10+3Q. The
production of each snowboard imposes Marginal External Costs (MEC) on other
firms in Denver through worsened/polluted environment: MEC=1Q.
1. What quantity of snowboards will be produced in a competitive
market?
2. What quantity of snowboards will be produced at the social
optimum?
3. Suppose transaction costs are zero and a Causean solution to the externality
problem is possible:
a) Suppose “Ride powder” has the property rights to pollute.
What will be the quantity of snowboards produced in this case? Why?
b) Suppose other firms in Denver have the right for having a
clean environment. What will be the quantity of snowboards produced in
this case? Why?

Answer 1

1) The number of snowboards will be produced which results in equal marginal private cost and demand function. Thus we can state that

Marginal private cost = demand function

250-Q= 10+ 3Q

240= 4Q

Q=60

2) For having social optimum quantity, the demand will be equal to social private cost.

Thus we can state it as :-

Social private cost= marginal private cost + marginal external cost

Social private cost= 10 +3Q +10= 20 +3Q

so at equilibrium,

250-Q= 20+3Q

230= 4Q

Q= 57.5

It yields different values as we do not include the marginal external cost in a competitive market.

3) a) if ride powder has the property rights to pollute then it will equate demand function with marginal private cost.

If the property right to pollute is provided, then the production will be done where demand function is equal to marginal private cost thus, as we have calculated above, the production quantities will be 60 units.

b) If the right of a clean environment is provided then the demand will be equal to social private cost and as it has already been determined as 57.5 units to be produced.