Consider the market for electricity generated by coal. Suppose demand (in megawatt hours) is given by Q = 50P where P is the price per megawatt hour and Q is the quantity demanded. The marginal private cost of generating electricity from coal is $10 per megawatt hour. Suppose further that smoke is generated in the production of electricity in direct proportion to the amount of electricity generated. The health damage from the smoke is $15 per megawatt hour generated.

(a) Suppose the coal-fired electricity is produced by competitive producers. (Hint: in a competitive market, the price equals marginal private cost). What price will be charged and how much electricity will be produced?

(b) Draw a diagram showing the demand curve, the marginal private cost curve, the marginal damage, and the price and quantity in a competitive market.

(c) What is the consumer surplus from the electricity generation? What is the net surplus, taking into account the pollution damage?

(d) What quantity of coal-fired electricity generation would maximize net consumer surplus (that is net of pollution damage)?

(e) Draw a diagram showing the demand curve, the marginal private cost curve, the marginal damage, and the price and quantity when net consumer surplus (net of pollution damage) is maximized.