Firm A: initial pollution level = 120, cost to reducepollution 1 unit = $75
Firm B: initial pollution level = 150, cost to reducepollution 1 unit = $100
a. Assume that the government decides to cut pollution by 1/3,telling firms that “Starting next year, you will only be permittedto emit 2/3 as much pollution as you currently do.†What is thecost for each firm under this policy?
b. Suppose instead that the government issued permits to eachcompany, entitling them to emit up to 2/3 of their currentpollution output. Firms may buy and sell these permits. What is thepossible range of prices for which both firms would be willing tobuy/sell?
c. Assume that the firms agree to a price in the range you foundin part b. What firm buys permits and which sells? How many permitsare exchanged?
d. What is the total cost of pollution reduction now? Hint: youranswer should make sense when you compare it to part a
