Firms A and B each produce 100 units of pollution. Firm A has a marginal cost of pollution reduction of MCA= 10+2QA. Firm B has a marginal cost of pollution reduction of MCB=3QB. The marginal benefit of pollution reduction is $150 per unit.
a. What is the socially optimal level of pollution reduction for each firm?
b. How much total pollution is there in the social optimum?
c. Explain why it would be inefficient to divide this optimal level of pollution by two and give each firm an equal number of pollution permits if they are not allowed to trade them.
d. How can the social optimum be achieved if firms are given equal numbers of pollution permits but are allowed to trade them?
e. A social optimum can also be achieved using a tax on pollution. What level of tax should the government choose?