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Slide 1 Copyright © 2004 McGraw-Hill Ryerson Limited
Chapter 17
Externalities, Property
Rights, and the Coase Theorem
Slide 2 Copyright © 2004 McGraw-Hill Ryerson Limited
TABLE 17-1Outcome and Payoff Summary for Example 17-1The gain to the confectioner from operating is 40. The loss to the doctor from the noise is 60. The efficient outcome is for the confectioner to shut down, and this happens under both legal regimes.
Net benefit
Legal regime Outcome Doctor Confectioner Total
Liable Confectioner shuts downto avoid liability payment
60 0 60
Not liable Doctor pays confectionerP to shut down,40 < P < 60
60 – P P 60
Slide 3 Copyright © 2004 McGraw-Hill Ryerson Limited
TABLE 17-2 Outcome and Payoff Summary for Example 17-2The gain to the confectioner from operating is 60. The loss to the doctor from the confectioner’s noise is 40. The efficient outcome is for the confec-tioner to continue operating, and this happens under both legal regimes.
Net benefit
Legal regime Outcome Doctor Confectioner Total
Liable Confectioner stays openand pays doctor 40
40 20 60
Not liable Confectioner stays open;doctor shuts down
0 60 60
Slide 4 Copyright © 2004 McGraw-Hill Ryerson Limited
TABLE 17-3 Outcome and Payoff Summary for Example 17-3The gain to the confectioner from operating without soundproofing is 40. Soundproofing costs 20. The loss to the doctor from the confectioner’s noise is 60. The efficient outcome is for the confectioner to install soundproofing and to continue operating, and this happens under both legal regimes.
Net benefit
Legal regime Outcome Doctor Confectioner Total
Liable Confectioner installssoundproofing at ownexpense
60 20 80
Not liable Doctor pays confectionerP to install soundproofing,20 < P < 60
60 – P 20 +P 80
Slide 5 Copyright © 2004 McGraw-Hill Ryerson Limited
TABLE 17-4 Outcome and Payoff Summary for Example 17-4The gain to the confectioner from operating without soundproofing is 40. Soundproofing costs 20. The loss to the doctor from the confectioner’s noise is 60. The doctor can rearrange his office to eliminate the noise problem at a cost of 18. The efficient outcome is for the doctor to rearrange his office, and this happens under both legal regimes.
Net benefit
Legal regime Outcome Doctor Confectioner Total
Liable Confectioner pays doctorP to rearrange his office18 < P < 20
42 + P 40 – P 82
Not liable Doctor rearranges hisoffice at his own expense
42 40 82
Slide 6 Copyright © 2004 McGraw-Hill Ryerson Limited
TABLE 17-5 Outcome and Payoff Summary for Example 17-5The gain to the confectioner from operating without soundproofing is 60. Soundproofing costs 20. The loss to the doctor from the confectioner’s noise is 40. The cost of negotiating a private agreement is 25. The efficient outcome is for the confectioner to install soundproofing, but this happens only when he is made liable for noise damage.
Net benefit
Legal regime Outcome Doctor Confectioner Total
Liable Confectioner installssoundproofing at hisown expense
40 40 80
Not liable Confectioner does notinstall soundproofing;doctor shuts down
0 60 60
Slide 7 Copyright © 2004 McGraw-Hill Ryerson Limited
TABLE 17-6 Outcome and Payoff Summary for Example 17-6The gain to the confectioner from operating is 60. The loss to the doctor from the confectioner’s noise is 40. The doctor can escape the noise by rearranging his office at a cost of 18. The cost of negotiating a private agreement is 25. The efficient outcome is for the doctor to rearrange his office, but this happens only when the confectioner is not liable for noise damage.
Net benefit
Legal regime Outcome Doctor Confectioner Total
Liable Confectioner operatesand pays doctor 40 fornoise damage
40 20 60
Not liable Doctor rearranges hisoffice at his own expense
22 60 82
Slide 8 Copyright © 2004 McGraw-Hill Ryerson Limited
TABLE 17-7 Steer Prices as a Function of Grazing DensityAs more steers graze on the commons, each steer gains less weight, resulting in a lower price per steer.
Slide 9 Copyright © 2004 McGraw-Hill Ryerson Limited
FIGURE 17-1 The Tragedy of the CommonsWhen a resource, such as a fishery or a pasture, is owned in common, each user gets to keep the average product of his own productive inputs he applies to the resource. Privately owned inputs will be applied to the resource until X’, the point at which their average product equals their opportunity cost, W, resulting in an economic surplus of zero. The socially optimal allocation is X*, the level of input for which W is equal to the marginal product of privately owned inputs, and results in an economic surplus of S*.
Slide 10 Copyright © 2004 McGraw-Hill Ryerson Limited
TABLE 17-8 Payoff Summary for Example 17-8The cost to Smith of not smoking is $250 per month. The cost to Jones of living with a smoker is $150 per month. The total savings in rent from living together is $600 per month – $420 per month = $180 per month, which is $30 per month more than the least costly compromise required by shared living quarters, which is the $150 per month it costs Jones to live with a smoker.
Net rental payment ($ per month) Net gain ($ per month)
Jones Smith Jones Smith Total
Live separately 300 300 — — —
Live together;Smith pays JonesX to compensatefor smoke.60 < X < 90
210 – X 210 + X X – 60 90 – X 30
Slide 11 Copyright © 2004 McGraw-Hill Ryerson Limited
TABLE 17-9 Outcome and Payoff Summary for Example 17-9The gain to the confectioner from operating is 40. The lossto the doctor from the confectioner’s noise is 60. The doctor can rearrange his office to eliminate the noise problem at a cost of 18. The efficient outcome is for the doctor to rearrange his office, and this happens only when there is no tax on the confectioner.
Net benefit
Legal regime Outcome Doctor Confectioner Total
Tax of 60 onconfectioner
Confectioner shuts down 60 0 60
No tax orliability
Doctor rearranges hisoffice at his own expense
42 40 82
Slide 12 Copyright © 2004 McGraw-Hill Ryerson Limited
TABLE 17-10 Cost and Emissions for Five Production ProcessesEach firm has access to five alternative production processes, A–E, which vary both in cost and in the amount of pollution they produce.
A B C D EProcess (4 tonnes (3 tonnes (2 tonnes (1 tonne (0 tonne(smoke) per day) per day) per day) per day) per day)
Cost tofirm X
100 190 600 1200 2000
Cost tofirm Y
50 80 140 230 325
Slide 13 Copyright © 2004 McGraw-Hill Ryerson Limited
FIGURE 17-2 The Tax Approach to Pollution Reduction MCX and MCY represent the marginal cost of smoke reduction for firms X and Y, respectively. When pollution is taxed at a fixed rate, each firm reduces its emissions up to the point where the marginal cost of further reduction is exactly equal to the tax. The result is the least costly way of achieving the corresponding aggregate pollution reduction.
Slide 14 Copyright © 2004 McGraw-Hill Ryerson Limited
PROBLEM 1
Slide 15 Copyright © 2004 McGraw-Hill Ryerson Limited
PROBLEM 2 With filter Without filter
Gains to Smith $200 per week $245 per week
Damage to Jones $35 per week $85 per week
Slide 16 Copyright © 2004 McGraw-Hill Ryerson Limited
PROBLEM 3 Withoutsoundproofing
Withsoundproofing
Gains to Smith $150 per week $34 per week
Damage to Jones $125 per week $6 per week
Slide 17 Copyright © 2004 McGraw-Hill Ryerson Limited
PROBLEM 6
Slide 18 Copyright © 2004 McGraw-Hill Ryerson Limited
PROBLEM 7
Slide 19 Copyright © 2004 McGraw-Hill Ryerson Limited
PROBLEM 8
Slide 20 Copyright © 2004 McGraw-Hill Ryerson Limited
PROBLEM 9 Process A B C D E(smoke) (4 tonnes/day) (3 tonnes/day) (2 tonnes/day) (1 tonne/day) (0 tonne/day)
Cost tofirm X
100 120 140 170 220
Cost tofirm Y
60 100 150 255 375
Slide 21 Copyright © 2004 McGraw-Hill Ryerson Limited
PROBLEM 15
Slide 22 Copyright © 2004 McGraw-Hill Ryerson Limited
PROBLEM 16
Slide 23 Copyright © 2004 McGraw-Hill Ryerson Limited
PROBLEM 17
Slide 24 Copyright © 2004 McGraw-Hill Ryerson Limited
PROBLEM 18
Slide 25 Copyright © 2004 McGraw-Hill Ryerson Limited
ANSWER 17-1 Net benefit
Legal regime Outcome Doctor Confectioner Total
Liable Confectioner operatesand pays doctor 18 <P < 20 to rearrange hisoffice
22 + P 40 – P 62
Not liable Doctor rearranges hisoffice at his own expense
22 60 82
Slide 26 Copyright © 2004 McGraw-Hill Ryerson Limited
ANSWER 17-3 Net rental payment ($ per month) Net gain ($ per month)
Jones Smith Jones Smith Total
Live separately 300 300 — — —
Live together; andinstall smokeexhaust system,–30 < X < 90
210 + X 270 – X 90 – X 30 + X 120