Topics Today (2/6/14)

Transcription

1 Topics Today (2/6/14) Approaches to correct for externalities Government can make things worse last time and today The Coase Theorem today Other approaches future lectures The economics of pollution control The efficient level of pollution The marginal pollution damages curve and the marginal abatement cost curve Homework #2 is posted, due next Tuesday 2/11 Optional reading: Text pgs

2 Government Failure Rent seeking Rent seeking refers to the attempt by interest groups to persuade government officials to pursue options that are beneficial to the group, but that would not maximize social net benefits. Rent seeking is an unfortunate turn of phrase. It would be better called privilege seeking. Examples include subsidies and tax breaks that do not serve to reduce an externality. For instance, subsidy for oil exploration. 4-2

3 Rent seeking as a case of government failure Q P without subsidy 4-3

4 Experiment 4

5 Introduction to the Coase Theorem Example: Hog farm and a neighbor Odor from the hog farm causes tremendous welfare loss to the neighbor Cost of reducing the odor is low MPD >>MAC; economic efficiency demands that something should be done. Q: What should be done about this problem? Ronald Coase ( The Problem of Social Cost, 1960) thought about this issue very differently than economists had been before his work The rise of Right to Farm laws 5

6 Solutions to Market Failure : The Coase Theorem The Coase Theorem (Ronald Coase 1960): Premise: Two parties have an incentive to negotiate an economically efficient and mutually advantageous solution to a dispute. Required: One party is given unilateral property rights to the asset in question. Key Point: The outcome will be the same no matter who has the initial property right. Caveat: zero (or low) transaction costs 6

7 How does this relate to the earlier graphs concerning negative externalities? I thought you said the socially optimal solution was to eliminate the externality I thought you said the socially optimal solution required government intervention $ B E Q* S C D Q* M MC s MC p MWTP=Demand Vehicle miles 7

8 Solutions to Market Failure : The Coase $ 20 3 Theorem Paper mill and a fishing resort both use a river. Suppose the paper mill has the property right to use the river for waste disposal. The fishing company would pay the mill to reduce 4 units of pollution (units 10 through 7). MAC Q*=6 MPD SNB= conceptual emissions Pollution unit Marginal abatement cost to the mill (MAC) Marginal pollution damage to resort (MPD) 10 $2 $12 9 $4 $11 8 $6 $10 7 $8 $9 6 $10 $8 5 $12 $7 4 $14 $6 3 $16 $5 2 $18 $4 1 $20 $3 8

9 Solutions to Market Failure : The Coase $ 20 Theorem Suppose the fishing company has the property right to use the river for fishing. SNB=57 The mill would pay the fishing company for the right to pollute 6 units (units 1 through 6). As shown earlier, this is the efficient level of pollution. MAC MPD 12 conceptual Pollution unit Marginal abatement cost to the mill (MAC) Marginal pollution damage to resort (MPD) 10 $2 $12 9 $4 $11 8 $6 $10 7 $8 $9 6 $10 $8 5 $12 $7 4 $14 $6 3 $16 $5 3 Q*= emissions 2 $18 $4 1 $20 $3 9

10 Graphical Exposition of the Coase Theorem in the Fishing Company-Mill example A=ABC B=ABQ**Q* C=AQ*Q** D=DAC E=ODAQ* D $ MAC to mill A With this graph we can emphasize that the assignment of property rights has a substantial effect on the distribution of benefits from moving to the efficient solution B MPD to fishing company C O Q* Q** emissions 10

11 Solutions to Market Failure : The Coase Theorem What would happen if the resort had the property right to clean water, and there were 2 mills on the river instead of 1? What about 10 mills? What would happen if there were 2 resorts using the river and they both had the right to clean water? What about 2 resorts and 100 recreational anglers? If the mills have the property right to the river, the same issues apply. 11

12 Solutions to Market Failure : The Coase Theorem Fundamental assumption of the Coase Theorem: transactions costs between parties are low. Transaction costs are the costs that are paid to organize economic activity, including information costs, negotiation, writing/enforcing contracts, etc. Transaction costs are most likely to be low when there are few parties involved in the dispute When transactions costs are high, Coase bargaining is unlikely to ensue, and the assignment of property rights does indeed determine the efficient outcome (hwk problem) 12

13 Solutions to Market Failure : The Coase Theorem The Coasean approach to environmental problems also suffers from free-riding. When? Large number of parties. Non-excludable good/bad. 13

14 Solutions to Market Failure : The Coase Theorem Advantages of Coasean Solution (gov t simply assign property rights): Solution is efficient when conditions are right. Government doesn t need to know MAC and MPD curves. Disadvantages of Coase: Theorem breaks down with transactions costs. Suffers from free-riding when goods are nonexcludable. 14

15 When Might the Coase Theorem Not Apply? Large number of parties and global externality. Ex/ Air pollution from power plants. Transactions costs are high because there are millions of people who may be harmed by pollution. Incentive for people who benefit from the reduced pollution to free-ride (non-excludability). 15

16 When Might the Coase Theorem Apply? Small number of parties and local externalities. Ex/ Neighboring crop-farmer and cattle-owner; wandering cattle destroy the farmer s crops. Transactions costs are low because there are only two parties. The externality is local so there is no free-riding by other parties. Do we see Coase bargaining in reality, even in this situation? Low transactions costs may be too high when the possible gains of negotiation are small. Remains a good conceptual point of reference for thinking about how to deal with externalities. 16

17 Summary Government intervention can sometimes make things worse Poorly designed policy that does not consider the behavioral response of consumers/firms reacting to the policy Policy designed in response to pressure from interest groups ( rent-seeking ) Negative externalities do not necessarily require direct government intervention Coase Theorem Now we move on to situations where government intervention to address a negative externality is required Discussion in the context of pollution control 17

18 The Efficient Level of Pollution What is the efficient level of pollution? The level that maximizes social net benefit Should we attempt to have no pollution in society? The pursuit of the economically efficient level of pollution is the pursuit of the biggest social welfare pie. The economically efficient level of pollution (the level that maximizes social net benefit) does not imply that everyone is better off. 18

19 The Efficient Level of Pollution A B A B A B Pie 1 Pie 2 Pie 3 The pies represent the social net gain from three different pollution control options, with two types of individuals, A and B. The second option generates more social net benefit than option1, although option 2 is not as fair as option 1. Option 3 maximizes social net benefit, but in this case type B individuals are actually worse off than with options 1 and 2. 19

20 The Efficient Level of Pollution The fact that in the previous slide the last pollution control option generated the largest social net benefit implies that under this option it is possible to make everyone better off compared to the other options. A B A B A B Pie 1 Pie 2 Pie 3 20

21 More detail about the marginal pollution damages curve and the marginal abatement cost curve Different Ways of Viewing the Problem $ MAC $ MPD MB of Reduction MAC Abatement* Pollution Reduction Emissions* Pollution Abatement* 21

22 More detail about the marginal pollution damages curve and the marginal abatement cost curve What s behind the MAC curve? Three ways to reduce pollution: Produce less output (e.g. produce less electricity) Change the input mix (e.g. produce the same amount of electricity, but switch away from coal) Change the technology of production (e.g. use scrubbers to remove pollutants before they enter the atmosphere) So what affects the MAC curve? Price of output Price of the input responsible for pollution Price of substitutes for the input/price of complements Cost of clean technology 22

23 More detail about the marginal pollution damages curve and the marginal abatement cost curve What happens to the MAC curve if $ MPD A=up and out B=down and in C=not possible to say D=NIW MAC Emissions* Pollution Abatement* 23

24 More detail about the marginal pollution damages curve and the marginal abatement cost curve What s behind the MPD curve (air pollution)? Abatement change in atmospheric concentration Change in atmospheric concentration change in dose Change in dose change in environmental/health outcomes Change in outcomes $ benefits 24

25 More detail about the marginal pollution damages curve and the marginal abatement cost curve $ What is the effect of a change in population in an area? What is the effect of an increase in cost of dose avoidance strategies? Emissions* MPD MAC Pollution Abatement change in atmospheric concentration Change in atmospheric concentration change in dose Change in dose change in environmental/health outcomes Change in outcomes $ benefits Abatement* 25

26 More detail about the marginal pollution damages curve and the marginal abatement cost curve Suppose there is a fixed amount to spend on pollution control, and there are two choices about where to spend it: an urban area with relatively clean air, or a rural area with relatively dirty air. Which area should receive the pollution control dollars? A=urban area B=rural area C=it depends D=NIW 26