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Chapter 4

chapter 4.pdf


Department
Economics
Course Code
ECON 260
Professor
Chris Bidner
Chapter
4

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Chapter
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Chapter
Chapter 4
4
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Analytical Questions
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1. A question to give students practice in finding aggregate demand curves for public
goods. The horizontal axis measures increasing air quality to the right, i.e.,
diminishing SO
2
in the air. In this case the aggregate demand curve, found by
summing vertically the individual marginal willingness-to-pay is:
ug/m
3
Aggregate MWTP
1200 130
1100 100
1000 70
900 40
800 20
700 10
600 0
The aggregate demand curve is not well defined at ug/m
3
levels higher than 1200
because that's as far as B's demand curve goes. Efficiency is reached at 900 ug/m
3
.
2. There are two ways that students can prove that the socially efficient level of air
quality maximizes net social value. Using method 1, for air quality levels above 900,
MWTP (marginal social benefits) to reduce SO2 exceeds marginal social cost of
abatement. Hence, if air quality is improved, damage reduction must exceed costs so
there must be a net social gain. Conversely if air quality is below 900, MWTP is less
than the MAC. By decreasing air quality by one unit, abatement costs saved will be
greater than damages reduced for a net gain. Social surplus cannot be increased here
if MAC = MD. A second method is to graph the MWTP and MAC and use areas
under curves to calculate the net social value. Supposing that the air quality index is
initially 1200, the gain in net value due to cleaning up to the following levels is
illustrated below.
Air
Quality
Index
Total WTP Total Costs Net Social
Value
7500 11500 4000 7500
1000 20000 8000 12000
900 25500 12000 13500 (MAX)
800 27500 16000 11500
700 29000 20000 9000
600 29500 24000 5500
500 29500 28000 1500
400 29500 32000 -2500
300 29500 36000 -6500
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