Summary 779
b.Some argue that open-source software serves an unsatisfied
market demand that proprietary software ignores. Draw a
typical diagram that illustrates how proprietary software
may be underproduced. Put the price and marginal cost of
software on the vertical axis and the quantity of software on
the horizontal axis. Draw a typical demand curve and a
marginal cost curve (MC) that is always equal to zero. As-
sume that the software company charges a positive price, P,
for the software. Label the equilibrium point and the effi-
cient point.18.In developing a vaccine for the H1N1 virus, a pharmaceutical
company incurs a very high fixed cost. The marginal cost of
delivering the vaccine to patients, however, is negligible (con-
sider it to be equal to zero). The pharmaceutical company
holds the exclusive patent to the vaccine. You are a regulator
who must decide what price the pharmaceutical company is
allowed to charge.
a.Draw a diagram that shows the price for the vaccine that
would arise if the company is unregulated, and label it PM.
What is the efficient price for the vaccine? Show the dead-
weight loss that arises from the price PM.
b.On another diagram, show the lowest price that the regula-
tor can enforce that would still induce the pharmaceutical
company to develop the vaccine. Label it P*. Show the dead-
weight loss that arises from this price. How does it compare
to the deadweight loss that arises from the price PM?
c.Suppose you have accurate information about the phar-
maceutical company’s fixed cost. How could you use
price regulation of the pharmaceutical company, com-
bined with a subsidy to the company, to have the efficient
quantity of the vaccine provided at the lowest cost to
the government?
19.According to a report from the U.S. Census Bureau, “the aver-
age [lifetime] earnings of a full-time, year-round worker with a
high school education are about $1.2 million compared with
$2.1 million for a college graduate.” This indicates that there is
a considerable benefit to a graduate from investing in his or
her own education. Tuition at most state universities covers
only about two-thirds to three-quarters of the cost, so the state
applies a Pigouvian subsidy to college education. If a Pigou-
vian subsidy is appropriate, is the externality created by a col-
lege education a positive or a negative externality? What does
this imply about the differences between the costs and benefits
to students compared to social costs and benefits? What are
some reasons for the differences?
20.Fishing for sablefish has been so intensive that sablefish were
threatened with extinction. After several years of banning such
fishing, the government is now proposing to introduce trad-
able vouchers, each of which entitles its holder to a catch of a
certain size. Explain how fishing generates a negative external-
ity and how the voucher scheme may overcome the inefficiency
created by this externality.
21.The two dry-cleaning companies in Collegetown, College
Cleaners and Big Green Cleaners, are a major source of
air pollution. Together they currently produce 350 units
of air pollution, which the town wants to reduce to 200
units. The accompanying table shows the current pollution
level produced by each company and each company’s
marginal cost of reducing its pollution. The marginal cost
is constant.Section 14 SummaryMarginal cost of
Initial pollution reducing pollution
Companies level (units) (per unit)
College Cleaners 230 $5
Big Green Cleaners 120 2a.Suppose that Collegetown passes an environmental
standards law that limits each company to 100 units
of pollution. What would be the total cost to the two
companies of each reducing its pollution emissions to
100 units?
Suppose instead that Collegetown issues 100 pollution vouch-
ers to each company, each entitling the company to one unit of
pollution, and that these vouchers can be traded.
b.How much is each pollution voucher worth to College
Cleaners? to Big Green Cleaners? (That is, how much would
each company, at most, be willing to pay for one more
voucher?)
c.Who will sell vouchers and who will buy them? How many
vouchers will be traded?
d.What is the total cost to the two companies of the pollution
controls under this voucher system?
22.Ronald owns a cattle farm at the source of a long river. His cat-
tle’s waste flows into the river and down many miles to where
Carla lives. Carla gets her drinking water from the river. By al-
lowing his cattle’s waste to flow into the river, Ronald imposes
a negative externality on Carla. In each of the two following
cases, do you think that through negotiation, Ronald and
Carla can find an efficient solution? What might this solution
look like?
a.There are no telephones, and for Carla to talk to Ronald,
she has to travel for two days on a rocky road.
b.Carla and Ronald both have e-mail access, making it cost-
less for them to communicate.- a.EAuction and EMarketplace are two competing Internet
auction sites, where buyers and sellers transact goods. Each
auction site earns money by charging sellers for listing their
goods. EAuction has decided to eliminate fees for the first
transaction for sellers that are new to their site. Explain why
this is likely to be a good strategy for EAuction in its compe-
tition with EMarketplace.
b.EMarketplace complained to the Justice Department that
EAuction’s practice of eliminating fees for new sellers was
anticompetitive and would lead to monopolization of the
Internet auction industry. Is EMarketplace correct? How
should the Justice Department respond?