Part II. Green subsidies: In lecture I asserted that green subsidies were less efficient than Pigouvian taxes because, even though they can shift market shares between rela- tively clean and relatively dirty goods, they will get the average price of the goods wrong. If a good (like an electric car) has a negative externality, we cannot mimic a Pigouvian tax by subsidizing it (except in special extreme cases). There are two goods, E for efficient and I for inefficient. They are substitutes for each other, and the demand curves are as follows: DE 100 2PE + PI Dj = 100 2P1 + PE Both are produced by perfectly competitive suppliers that have constant marginal costs. The marginal costs are MCE = 10 and MC1 = 20. The externality asso- ciated with each good is a constant marginal externality: MEE = 5 and ME1 = 10. 11. If there are no policies, what are the quantities sold of E and I? (2 points) 12. If there are optimal Pigouvian taxes (just use the Pigouvian prescription) imposed on both products, what are the quantities sold of E and I? (2 points) 13. Now suppose that there is no tax on I, but there is a green subsidy applied to E equal to the difference in externalities, which is 5. This might be an intuitive policy because it gives a subsidy to E for the reduction in emissions compared to each unit of I. What are the quantities sold of E and I? (2 points) 14. You should have found that the green subsidy leads to a different set of quantities than the Pigouvian tax. But, maybe you can add a tax (or subsidy) to the ineffi- cient good in order to get back to the first best. True or False: You could obtain the optimal quantities using the green subsidy of $5 for E and a tax (or subsidy) to I. (1 point) Part II. Green subsidies: In lecture I asserted that green subsidies were less efficient than Pigouvian taxes because, even though they can shift market shares between rela- tively clean and relatively dirty goods, they will get the average price of the goods wrong. If a good (like an electric car) has a negative externality, we cannot mimic a Pigouvian tax by subsidizing it (except in special extreme cases). There are two goods, E for efficient and I for inefficient. They are substitutes for each other, and the demand curves are as follows: DE 100 2PE + PI Dj = 100 2P1 + PE Both are produced by perfectly competitive suppliers that have constant marginal costs. The marginal costs are MCE = 10 and MC1 = 20. The externality asso- ciated with each good is a constant marginal externality: MEE = 5 and ME1 = 10. 11. If there are no policies, what are the quantities sold of E and I? (2 points) 12. If there are optimal Pigouvian taxes (just use the Pigouvian prescription) imposed on both products, what are the quantities sold of E and I? (2 points) 13. Now suppose that there is no tax on I, but there is a green subsidy applied to E equal to the difference in externalities, which is 5. This might be an intuitive policy because it gives a subsidy to E for the reduction in emissions compared to each unit of I. What are the quantities sold of E and I? (2 points) 14. You should have found that the green subsidy leads to a different set of quantities than the Pigouvian tax. But, maybe you can add a tax (or subsidy) to the ineffi- cient good in order to get back to the first best. True or False: You could obtain the optimal quantities using the green subsidy of $5 for E and a tax (or subsidy) to I. (1 point)
