3. The effects of property rights on achieving efficiency Aa Aa Consider a city

Question

3. The effects of property rights on achieving efficiency Aa Aa Consider a city with a river. The city has a resort whose visitors use the river for recreation. The city also has a tannery that creates industrial waste, which it dumps into the river. This pollutes the river and makes it a less desirable vacation destination. That is, the tannery's effluent decreases the resort's profit. Throughout this problem, assume that negotiations are costless Suppose that the tannery could use an alternative production method involving water recycling. This would reduce the pollution in the river to levels safe for recreation, and the resort would no longer be affected. If the tannery uses the recycling method, then the tannery's profit is $20,000 per week, and the resort's profit is $19,000 per week. If the tannery does not use the recycling method, then the tannery's profit is $23,000 per week, and the resort's profit is $15,000 per week Total profit (the tannery's profit and the resort's profit combined) is highest when the recycling production method is not used used When the tannery uses the recycling method, the resort earns $19,000 $15,000$4,000 more per week than it does with no recycling. Therefore, the resort should be willing to pay up to $4,000 per week for the tannery to use water recycling. However, the recycling method decreases the tannery's profit by $23,000 - $20,000 $3,000 per week. Therefore, the tannery should be willing to use the recycling method if it is compensated with at least $3,000 per week Suppose the resort has the property rights to the river. That is, the resort has the right to a clean (unpolluted) river In this case, assuming the two firms can bargain at no cost, the tannery will will pay the resort the recycling method and per week Now suppose the tannery has the property rights to the river, including the right to pollute it. In this case, assuming the two firms can bargain at no cost, the tannery will tannery the recycling method, and the resort will pay the $%0 per week Which of the following statements are correct? Check all that apply The tannery will only use the recycling method if the resort has the property rights | | The resort will make the most profit when the tannery has the property rights to pollute the river, and the tannery will make the most profit when the resort has property rights to a clean river The tannery will use the recycling method regardless of who has the property rights

Explanation / Answer

Consider a city with a river. The city has tannery that creates industrial waste,which it dumps into river. This pollutes the river and make it less desirable for vacation destination.

Suppose the tannery could use an alternative method involving water recycling.This would reduce the oollution in river . If the tannery uses the recycling method , the tannery's profit = $20,000 per week. And resort's profit = $19,000.

If the tannery doesn't use the recycling method ,the tannery profit is $23,000 and resort profit = $15,000.

Total profit is highest when recycling method is used is $(20,000 +19,000)= $39,000 and wwhen doesn't use recycling method ,it is $(23,000+15,000) = $38,000.

When tannery uses the recycling method ,the resort earns $(19,000 - 15,000) = $4,000 more per week than it doesn't use. However, the recycling method decreases the tannery's profit =$(23,000- 20,000)=$3000 per week.

Suppose the resort has the legal rights to the river. That , is the resort has the right to a clean river .In this case , assuming the two firms can bargain at no cost, the tannery will use the recycling method and the resort will earn $4000 more and will pay the cost upto $3000 per week.

Now suppose the tannery has the property rights to river, including the right to pollute it.In this case assuming the two firms can bargain at no cost, the tannery will use the recycling method and the resort will pay the tannery $0 .per week . because if tannery is using recycling method then there is no need for resort to pay for the cost.

The tannery will use the recycling method regardless of who has the property rights. (this statement is correct).

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