Tragedy of the Commons; Environment; Safety

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Tragedy of the Commons Environment Safety

• Today Three applications of market failure
  without government intervention

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For the rest of the quarter

• We will cover various topics
• Each topic will be its own mini-lecture
• Today Three mini-lectures
• Tragedy of the Commons/Property rights
• Environmental regulation
• Safety regulation

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Tragedy of the Commons/ Property rights

• Property rights are important in order for a
  person or firm to efficiently use its resources
• Classic example
• Lack of property rights in a grassy field
• Total benefit of the grassy field is zero without
  property rights

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Our example today

• Two investment options
• A safe stock that always sells for 20 in
  equilibrium
• Pays 1 per year every year forever
• Buy a 1-year-old calf today for 100
• Able to sell at two years old
• The more calves on the grassy field, the less
  each will be worth at two years old

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What is the return on the safe stock?

• Recall from earlier in the quarter
• The present value of a permanent annual payment
• PV M / r
• PV 20
• M 1
• This implies that r 0.05, or 5

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Income from calves
of calves on the commons Price per 2-year-old cow sold () Income per cow ( per year)
1 130 30
2 120 20
3 114 14
4 111 11
5 108 8
6 105 5
7 102 2
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What will happen w/o property rights?

• People will buy calves as long as the return on
  the commons is at least 5
• 5 return for the 100 investment

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Income from calves w/o property rights Rate of
return of 5
of calves on the commons Price per 2-year-old cow sold () Income per cow ( per year)
1 130 30
2 120 20
3 114 14
4 111 11
5 108 8
6 105 5
7 102 2
Equilibrium w/o property rights
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What will happen w/o property rights?

• People will buy calves as long as the return on
  the commons is at least 5
• 5 return for the 100 investment
• This is not efficient, however
• No gain versus the safe stock investment
• Similar to the no-toll situation on congestible
  routes

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What is efficient?

• We need marginal analysis
• Find marginal income of each calf
• If marginal income is at least 5 ? invest in
  another calf
• If marginal income is less than 5 ? stop
  investing

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Income from calves with property rights
of calves on the commons Price per 2-year-old cow sold () Income per cow ( per year) Total calf income ( per year) Marginal income ( per year)
30
1 130 30 30  
        10
2 120 20 40  
        2
3 114 14 42
        2
4 111 11 44  
Invest as long as marginal income is at least 5
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Income from calves with property rights
of calves on the commons Price per 2-year-old cow sold () Income per cow ( per year) Total calf income ( per year) Marginal income ( per year)
30
1 130 30 30  
        10
2 120 20 40  
        2
3 114 14 42
        2
4 111 11 44  
gt5 ? INVEST
gt5 ? INVEST
lt5 ? STOP!
Invest as long as marginal income is at least 5
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What is the commons worth as a private good?

• An optimal investor (with property rights) will
  invest to maximize the value of commons
• Suppose that someone has 1000 to invest
• What is each persons willingness to pay for the
  commons?
• How much will be invested in
• Stocks?
• Calves?

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Investment analysis

• A person that owns the commons will buy 2 calves
• 200 invested
• 40 return
• Could get 10 return on the safe stock instead
• 30 extra in return
• Willing to pay 600 to purchase the commons
• Note that the commons can be used every year

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Investment decision for the commons owner

• Investment decision of the person buying the
  commons
• 600 to buy commons
• 200 to buy two calves
• 200 in safe stocks

• Total returns 50
• Commons
• 40 for two calves
• Stock returns
• 10 in payments
• This is equilibrium, since any person will be
  indifferent between investing in the commons and
  in stocks

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Summary Tragedy of the Commons

• Without private ownership, use of commons leads
  to no gain to society, relative to safe
  investments
• With private ownership, the land has a positive
  value

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Environmental regulation

• Environmental quality is a good that people want
• Problems with providing environmental quality
• Goods without markets (air quality, global
  temperature, rivers)
• Goods that governments own (parks)

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Environmental regulation and externalities

• Recall externalities chapter
• With negative externalities, too much of some
  goods are produced, relative to efficient
  outcomes possible
• Three ways of reducing pollution
• Taxes
• Pollution permits
• Arbitrary controls (also known as command and
  control methods)

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Environmental regulation and efficiency

• Assume we are trying to find efficiency in an
  air-polluted city
• To reach the efficient level of pollution, we
  need to find firms with the lowest cost to abate
  pollution

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Environmental regulation and efficiency

• Example with 3 firms
• Efficient level of pollution, as determined by
  the government 5 tons of smoke per day
• One of the two approaches (taxes or permits) is
  needed to solve for the optimal distribution of
  pollution
• We do not spend much time on command and
  control methods since it is often sub-optimal

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Example

• Three firms produce light bulbs
• With no abatement technology, each firm produces
  4 tons of smoke per day
• 12 tons of smoke with no regulation
• To reach efficient level of 5 tons, 7 tons need
  to be abated
• Some firms can more easily abate pollution than
  others
• If firms with low abatement costs abate the most,
  we can get an efficient result

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Example
Tons of smoke emitted per day 4 3 2 1 0
Total abatement cost, firm A 0 14 30 50 75
Total abatement cost, firm B 0 20 45 80 120
Total abatement cost, firm C 0 25 60 100 150

• Notice that marginal abatement costs increase as
  more is abated
• Firm A 14 MC to abate 1st unit 16 for the
  2nd unit 20 for the 3rd unit 25 for the 4th
  unit

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Example
Tons of smoke emitted per day 4 3 2 1 0
Total abatement cost, firm A 0 14 30 50 75
Total abatement cost, firm B 0 20 45 80 120
Total abatement cost, firm C 0 25 60 100 150

• We need to find the 7 tons with the lowest
  abatement MC
• Lets start by adding arrows to abatement MC of
  20 per ton or less
• Not enough Only 4 tons abated

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Example
Tons of smoke emitted per day 4 3 2 1 0
Total abatement cost, firm A 0 14 30 50 75
Total abatement cost, firm B 0 20 45 80 120
Total abatement cost, firm C 0 25 60 100 150

• Lets try 30 abatement MC or less
• 7 green arrows
• We now have reached the efficient level of 5 tons
  of emissions

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Our two methods to reach an efficient result

• Pollution tax
• Find a tax such that exactly 7 tons of pollution
  will be abated
• Sell pollution permits
• Find a price such that exactly 5 tons of
  pollution permits are demanded

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Pollution tax
Tons of smoke emitted per day 4 3 2 1 0
Total abatement cost, firm A 0 14 30 50 75
Total abatement cost, firm B 0 20 45 80 120
Total abatement cost, firm C 0 25 60 100 150

• Lets try a 30 tax
• Firm A will abate all 4 tons of smoke, since
  abatement cost is lower for each ton of smoke
  removed
• Firm B will abate 2 tons and pollute 2 tons
• Firm C will abate 1 ton and pollute 3 tons

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Pollution tax
Tons of smoke emitted per day 4 3 2 1 0
Total abatement cost, firm A 0 14 30 50 75
Total abatement cost, firm B 0 20 45 80 120
Total abatement cost, firm C 0 25 60 100 150

• 7 tons abated
• 5 tons polluted
• We have found a tax that leads to the efficient
  pollution level

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Pollution permits
Tons of smoke emitted per day 4 3 2 1 0
Total abatement cost, firm A 0 14 30 50 75
Total abatement cost, firm B 0 20 45 80 120
Total abatement cost, firm C 0 25 60 100 150

• What if you need a permit to pollute?
• What if we sell permits for 30 each?
• Firm A will demand no permits (and abate 4 tons)
• Firm B will demand 2 permits (and abate 2 tons)
• Firm C will demand 3 permits (and abate 1 ton)

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Pollution permits
Tons of smoke emitted per day 4 3 2 1 0
Total abatement cost, firm A 0 14 30 50 75
Total abatement cost, firm B 0 20 45 80 120
Total abatement cost, firm C 0 25 60 100 150

• 7 tons abated
• 5 tons polluted
• We have found a price for permits that leads to
  the efficient pollution level

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Alternative to taxes and permits
Command-and-control methods

• An alternate method to control pollution is for
  the government to dictate that each firm reduce
  its pollution by a given percentage
• Example Each firm must reduce emissions by 25
• Problem Usually not efficient

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Alternative to taxes and permits
Command-and-control methods
Tons of smoke emitted per day 4 3 2 1 0
Total abatement cost, firm A 0 14 30 50 75
Total abatement cost, firm B 0 20 45 80 120
Total abatement cost, firm C 0 25 60 100 150

• Example Each firm must abate 1 ton
• Total cost 59 (see red arrows)
• Total cost if firm A abates 2 tons and firm B
  abates 1 ton 50 (see green ovals)

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Summary Environmental regulation

• Markets with externalities usually require
  government intervention to have optimal outcomes
  to occur
• Taxes Efficient (with the right tax)
• Permits Efficient (if permit price leads to an
  efficient amount of pollution)
• Command and control methods Almost never
  efficient

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Workplace safety

• In a perfectly competitive labor market
• Firms will provide the optimal amount of safety
• Workers will be hired by a firm
• Threat to leave firm will prevent the firm from
  lowering safety standards

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The real world

• Many countries have laws dictating a minimum
  level of safety to workers
• Why?
• Although most labor markets are competitive in
  the long run, there are frictions in the short
  run that prevent immediate job movement

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What else is going on?

• Todays work affects the company today, but the
  worker for a lifetime ? Workers value safety
• Example Lose an arm ? Firm lays you off lower
  worker productivity for a lifetime
• Firm does not care about future earnings of the
  worker
• In many countries Government support needed if
  the worker is unable to find a job

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Unions and workplace safety

• Note that unions not only fight for high wages,
  but also working conditions
• Unions can be beneficial in determining the
  optimal amount of worker safety

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Other methods to increase safety

• Offer financial incentives
• Higher safety ? Bonuses (money, gift
  certificates, tickets for prize giveaways)
• Increased training
• Shorter work days
• Tired people are more likely to be clumsy and
  inattentive
• Workers compensation
• Insurance system for those injured while working

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Safety outside of the workplace

• Many safety laws exist that are not related to
  workplaces
• These laws often affect children, who are unable
  to fend for themselves
• Child seats in cars
• Crib safety
• Reduced speeds near schools
• Some speed limits near schools are now 15 miles
  per hour

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Summary Workplace safety

• Workplace safety laws try to establish an
  efficient amount of worker safety
• Other attempts to increase workplace safety
  Unions, financial incentives, increased training,
  shorter work days, and workers compensation
  programs

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Monday

• Health care
• Information topics
• Reading
• Pages 295-305

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Enjoy life,take a deep breath