A steel mill, S, produces 20 tons of water pollution for every 100 tons of steel it produces. The downstream village of Watertown (WT) spends $150 per ton of water pollution from S to eliminate its environmental harm. S is a price taker in an international market where the demand for steel is p = 100 – 3X and the market supply of steel is p = 40 + 3X. X is in units of one (1) million tons per day and p is the price in dollars per ton of steel. S has a daily increasing marginal cost of production function, MC = x. S's Total Cost function = x*x/2 where x is S’s daily output. (a) If S has no legal liability for its pollution, what is S’s daily production of steel? How does your answer here relate to the concept of private efficiency? (b) WT wants to bargain with S to reach an optimal agreement on this pollution. Assuming S is still not legally liable for its pollution and both S and WT do not use lawyers, would there be an agreement? How does your answer here relate the concept of private efficiency to social efficiency? Fully explain your answer. (c) Suppose the rule of strict liability is imposed on S. Assuming no transaction costs, how will bargaining proceed?
A steel mill, S, produces 20 tons of water pollution for every 100 tons of steel it produces. The
downstream village of Watertown (WT) spends $150 per ton of water pollution from S to eliminate its
environmental harm. S is a price taker in an international market where the demand for steel is
p = 100 – 3X and the market supply of steel is p = 40 + 3X. X is in units of one (1) million tons per
day and p is the price in dollars per ton of steel.
S has a daily increasing marginal cost of production function, MC = x.
S's Total Cost function = x*x/2 where x is S’s daily output.
(a) If S has no legal liability for its pollution, what is S’s daily production of steel?
How does your answer here relate to the concept of private efficiency?
(b) WT wants to bargain with S to reach an optimal agreement on this pollution. Assuming S is still
not legally liable for its pollution and both S and WT do not use lawyers, would there be an agreement?
How does your answer here relate the concept of private efficiency to social efficiency? Fully explain
your answer.
(c) Suppose the rule of strict liability is imposed on S. Assuming no transaction costs, how will
bargaining proceed?
(d) Fully explain how high transaction costs for S can change your answers (b) and (c)?
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