(Q3) Suppose there are two aluminum smelters in Quebec, Canada, both generating

Question

(Q3) Suppose there are two aluminum smelters in Quebec, Canada, both generating greenhouse gas emissions (GHGs), and the Quebec provincial government is seeking to lower the emissions. The key difference between the two smelters is that one has an older technology than the other, its marginal GHG abatement cost curve (MACh) being higher than that for the other firm (MACl). Drawing on the equi-marginal principle, and assuming the objective of the policymaker is to reduce GHGs by a fixed amount, explain the economically efficient distribution of GHG abatement between the two smelters. Then show how either an appropriate tax on GHGs or a cap and trade system would generate the efficient abatement outcome. What would the benefit be of the Quebec government auctioning the emissions permits in a cap and trade scheme?

Explanation / Answer

Solution:

Suppose that Quebac aluminum smelter (QA)has older technology than Canada (CA) one. In that case, QA will have MACh and CA will have MACl. It implies that QA will have higher cost of per unit of abatement than CA.

Now, Quebec govt. aims at reducing the GHCs to a fixed amount. In order to achieve her goal she can tax or import new technology. If importing new technology is cheaper than taxing (in order to reduce GHCs to a fixed amount), then importing is better solution. But in the short run it will not be profitable.

case 1: Taxing policy:-

By taxing equivalently will results in increase in production cost. this will ultimately will increase the price of the aluminum( ofcourse, increse in price will depend upon the elasticity of demand and supply). Tax revenue collected can further be used by govt. to reduce GHCs to thier targeted goal.

case 2: cap and trade scheme:-

Cap and trade system will have two way effects. As putting cap on QA production to a level where MACh is not that high will help to produce efficiently and then left over demand can be fulfilled by improting from CA. In order to promote trade (import from CA) govt. of Quebec can reduce the excise/custom duty to such level that overall price of aluminum from CA is less than equal to that of QA (with cap on production).

Auctioning:-

Iff Quebec govt. auction the emission permit then both QA and CA will try to purchase that level of permit which is cost efficient for them. remember here that these permit will increase the cost which in turn will increase the price. Increase in price will be equal to the elasticity of demand). Since CA has new technology so CA can produce more quantity of aluminum than QA with same level of permit. So, QA need more permit than CA. Revenue generated from auctioning can be used to achieve the goal.

Now here, it does not matter that who has how much of permit level. By applying "Coase Theorm" with free market and no / less transaction cost ultimately total production of aluminum from both firm will be same. Example- Suppose QA has more unit of permits. Since CA has lower MAC than QA so CA can purchase some unit of permit from QA. QA will be happy to sell out some permits to CA, which will help QA to reduce some costs. hence, CA will produce higher amount of aluminum than QA as CA has lower MAC.

Similarly if CA has higher unit of permits than QA. In this scenario, QA can purchase some permit from CA to meet the guidelines of govt. CA will produce higher amount of aluminum than QA.

In both the scenario, total production will be equal to total demand.

Related Questions

Navigate

• Browse (All)
• Browse #
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.