Question text

Part Two - Let's put a negative externality into practice by assuming that if we produce soda, we are in turn polluting our environment. Use the chart to help answer the five remaining questions:

The many identical residents of Mount Airy love drinking soda. Each resident has the following willingness to pay for the tasty refreshment:

Number of Bottles

Price

First Bottle

$5

Second Bottle

$4

Third Bottle

$3

Fourth Bottle

$2

Fifth Bottle

$1

In the essay box below, answer the following six questions. Show your work. Also, please make sure to number your answers.

6. The cost of producing soda is $1.50, and the competitive suppliers sell it at this price. (The supply curve is horizontal.) How many bottles will each resident of Mount Airy consume? Based on the number of bottles determined, explain why that number? What is each person's consumer surplus?

7. Producing soda creates pollution. Each bottle has an external cost of $1. Taking this additional cost into account, what is total surplus per person in the allocation you described in part (a)?

8. Cindy, one of the residents of Mount Airy, decides on her own to reduce her consumption of soda by one bottle. What happens to Cindy's welfare (her consumer surplus minus the cost of pollution she experiences)? How does Cindy's decision affect total surplus in Mount Airy?

9. The Mayor imposes a $1 tax on soda. What is consumption per person now? Calculate consumer surplus, the external cost, government revenue, and total surplus per person.

10. Based on your calculations, would you support the mayor's policy? Why or why not?