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An industry is comprised of two rms, each of whom emit 20 tons of...

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An industry is comprised of two rms, each of whom emit 20 tons of CO2. However, the marginal
abatement (or control) costs of the rms di er as described by the following equations:
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MAC1 = 4A1
MAC2 = 2.4A2
where MAC is in $/ton and A is in tons CO2 abated/year. The government is considering instituting
an allowance (permit) system to achieve an overall abatement goal of 24 tons of CO2 (or
equivalently, a reduction in overall emissions of 24 tons). The government is considering
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grandfathering the permits to the rms (i.e., allocating permits to the rms for free based on their
historical emissions) or auctioning the permits to the rms and generating revenue for the
government, the latter of which is not politically favored by the industry. Each permit is equivalent to
one ton of CO2.
Related answered questions
a. Consider the grandfathering option, where trading between rms is not permitted. Based on
Q (Permit Trading and Initial historical emissions and the desired emissions goal, how many total permits will be allocated by the
Allocation Rules): An industry is government? How many permits will be allocated to each rm? How many units of CO2 will each rm
comprised of two rms, each of abate? What is the cost of achieving these reductions for each rm and for the industry as a whole?
whom emit 20 tons of CO2. Is this economically e cient? Why or why not? (In an example where we're only working with 2 rms,
it is sometimes useful to construct consider this graphically)
Answered over 90d ago
b. Consider the grandfathering option, where trading between rms is allowed. That is, after the
permits are grandfathered to each of the rms, they are allowed to trade them on the CO2 market.
What is the price of permits in the market? How many units of CO2 will each rm abate? What will be
Q 4. (Permit Trading and Initial
the abatement costs to each rm? Which rm is selling, which is buying, and how many permits are
Allocation Rules): An industry is
transferred? After these market transfers are made between the rms, what are the net costs of
comprised of two rms, each of
abatement for each rm and for the industry as a whole? Is this economically e cient? Why or why
whom emit 20 tons of CO
not?

Answered over 90d ago BUSINESS ECONOMICS ENVIRONMENTAL ECONOMICS

Q An industry is comprised of
two rms, each of whom emit 20
tons of CO2. However, the
marginal abatement (or control)… Answer & Explanation Solved by veri ed expert Rated Helpful

Answered by kritika.gupta
Answered over 90d ago
We are given that there are two rms in the economy, with abatement costs : MAC1 = 4A1 and
MAC2 = 2.4A2.
They are each emitting 20 tons of pollution each.
Q 3. (Pigouvian Tax and
The government imposes a permit system to get overall abatement of 24 tonnes per year.
Abatement): Two producers in a
(a) Under a grandfathering system (with no trading of permits) :
market producing widgets have
if one permit allows one 1 tonne of emission, then the government distributes 24 permits.
di erent marginal abatement…
So, total permits = 24
Answered over 90d ago
If the government uses historical data, then government notes that both rms emit 20 ton of
pollution (equal), so the government will distribute the permits equally as well.
100%
So, permits allocated to each rm = 12
Each rm will abate 12 tons of pollution.
Q Suppose United States and
Total marginal Cost of achieving reduction for rm 1 = MAC1 = 4*A1 = 4*12 = 48 dollars
Canada decide to sign the Kyoto
Total marginal Cost of achieving reduction for rm 2 = MAC2 = 2.4*A2 = 2.4*12 = 28.8 dollars
2
Protocol, by which they commit
TAC1 (total abatement cost for rm 1) = 2(A1 ) = 288
2
to reduce their greenhouse gas
TAC2 (total abatement cost for rm 2) = 1.2(A2 ) = 172.8
Also, the total cost of achieving reduction = $288 + $172.8 = $460.8
The economically e cient distribution of permits is said to take place when the permits are allocated
Answered over 90d ago
based on the marginal abatement costs of the rms. The rm with a lower MAC should be abating
more while the rm with higher MAC should abate less, or a greater amount of permits should be
given to the rm with higher MAC which is economically e cient. Under economically e cient
Q 3. (Pigouvian Tax and allocation, the marginal abatement costs are equalized across the rms.
Abatement): Two producers in a No, this situation is not economically e cient
market producing widgets have As the rm 1 clearly has a higher MAC, so it should abate less or given less permits while the rm 2
di erent marginal abatement… (with lower MAC) must abate more or given more permits.

Answered over 90d ago (b) Under a grandfathering system (with trading allowed) :
Under an e cient allocation, the marginal costs of the two rms are equal.
So, MAC1 = MAC2 or 4*A1 = 2.4*A2
1 of 3 Also, total abatement should be equal to 24 tons or A1 + A2 = 24.
So, 4*(24 - A2) = 2.4*A2
or A2 = 15 tonnes and A1 = 9 tonnes
The price of the permits will be determined as :
MAC1 = P or 4*A1 = P or 4*9 = P = $36
MAC2 = P or 2.4*A2 = P or 2.4*15 = P = $36.
Thus, the price of the permit in this case, to achieve e cient allocation will e $36.
Firm 1 will abate 9 tonnes while rm 2 will abate 15 tonnes.
The abatement cost to rm 1 is 4*A1 = 4*9 = 36 dollars
The abatement cost to rm 2 is 2.4*A2 = 2.4*15 = 36 dollars.
Firm 1 is selling the permits, Firm 2 is buying the permits and the number of permits bought are
3.
After the trading of permits is done, the net costs to each rm are as such :
2
Total Abatement cost to rm 1 = TAC1 - revenue of permits sold = 2(A1 ) - 3*36 = 2*81 - 108 = 162 -
108 = $54.
2
Total Abatement cost to rm 2 = TAC2 + cost of permits bought = 1.2(A2 ) + 3*36 = 1.2*225 + 108
= 270 + 108 = $378
The net cost of abatement for the industry as a whole = $54 + $378 = $432.
This is economically e cient as the rm which has a lower marginal abatement cost is abating more
( rm 2) while the rm 1 (with higher MAC) is abating less, and the total cost of abatement for the
industry is lower than in case of no trading allowed.
Yes, this is economically e cient.

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