Suppose the government wants to reduce the total pollution emitted by three local firms. Currently, each firm is creating 4 units of pollution in thearea, for a total of 12 pollution units. If the government wants to reduce total pollution in the area to 6 units, it can choose between the following twomethods:Available Methods to Reduce Pollution1. The government sets pollution standards using regulation.2. The government allocates tradable pollution permits.Each firm faces different costs, so reducing pollution is more difficult for some firms than others. The following table shows the cost each firm faces toeliminate each unit of pollution. For each firm, assume that the cost of reducing pollution to zero (that is, eliminating all 4 units of pollution) isprohibitively expensive.Cost of Eliminating the...First Unit of PollutionSecond Unit of PollutionThird Unit of Pollution(Dollars)(Dollars)Firm(Dollars)Firm X6080120Firm Y5006751,100Firm Z75100160Now, imagine that two government employees proposed alternative plans for reducing pollution by 6 units.Method 1: RegulationThe first government employee suggests limiting pollution through regulation. To meet the pollution goal, the government requires each firm to reduceits pollution by 2 units.Complete the following table with the total cost to each firm of reducing its pollution by 2 units.Total Cost of Eliminating Two Units of PollutionFirm(Dollars)Firm X140Firm Y1,175Firm z175 Method 2: Tradable PermitsMeanwhile, the other employee proposes using a different strategy to achieve the government's goal of reduding polution in the area from 12 units to6 units. This employee suggests that the government issue two polution permits to each firm. For each permit a firm has in its passession, it can emit1 unit of pollution. Firms are free to trade polution permits with one another (that is, buy and sell them) as long as both firms can agree on a price.For example, fierm x agrees to sell a permit to firm Y at an agreed-upon price, then firm Y would end up with three permits and would need to reduceits polution by only 1 unit while firm X would end up with only one permit and would have to reduce its polution by 3 units. Assume the negotiationand exchange of permits are costiess.Because firm Y has high polution-reduction costs, it thinks it might be better off buying a permit from firm X and a permit from firm 2 so that itdoesn't have to reduce its own polution emissions. At which of the following prices are both firm X and firm 2 willing to sell one of their permits tofirm Y? Check al that apply.O st14O s138O s144O s279O s636Suppose the the government has set the trading price of a permit at $126 per permit.Complete the falowing table with the action each firm wil take at this permit price, the amount of polution cach firm will eliminate, and the amountiecosts each firm to reduce polution to the necessary level. If a firm is wiling to buy two permits, assume that it buys one permit fram each of theocher firms. (Hint: Do not include the prices paid far permits in the cost af reducing polution.)Initial Pollution PermitFinal Amount of PollutionCost of PollutionAllocationEliminatedReductionFirm(Units of pollution)Action(Units of pollution )(Dollars)Firm XFirm YFirm zRegulation Versus Tradable PermitsDetermine the total cost of eliminating six units of pallution using both methods, and enter the amounts in the folowing tabie. (Hint: You might needto get information from previous tasks to complete ths table.)Total Cost of Eliminating Six Units of PollutionProposed Method(Dollars)RegulationTradable PermitsIn this case, you can conclude that eliminating polution iscostly to society when the government distributes tradable permits than when itregulates each firm to eliminate a certain amount of polution.

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Externalities refer to the part when the effect of manufacturing or consumption of products and…