ESM 204 Midterm
Instructions
You may not discuss anything about this exam with any person except
Professor Costello or Mr. Conte until after it is due (2/22/07 at 11:00 in hard
copy).
Answer any 5 out of 6
Be clear about your assumptions
Be concise
Each question is worth 20 points, for a total of 100 points. Subparts are
allocated accordingly.
1. A local industry consists of 5 firms who each produce pollution. Each firm uses a
different production technology and therefore faces a different abatement cost
function. This question concerns the economically efficient amount of abatement
by each firm. The marginal abatement cost function for firm i is MCi(Xi) = ai +
biXi, where ai and bi are firm-specific parameters and Xi is the amount of
abatement that firm undertakes. The parameter values are given as follows:
Firm (i)ai bi
1 2 1
2 0 3
3 6 0
4 3 2
5 5 0.5
a. Draw the marginal abatement cost function for each firm. Explain to a
non-economist what this curve represents, e.g. for Firm 1.
b. If the target level of abatement is .00001 unit, who should undertake the
abatement? Why?
c. If the target level of abatement is 50 units, who should undertake
abatement, and how much? 100 units? Why?
d. Draw the total abatement cost curve and the marginal abatement cost
curve for this industry.
2. This question concerns the current response to climate change. The facts of actual
climate change policy have been stylized to make this problem tractable. You are
a policy-maker charged with determining whether to control carbon emissions or
whether to continue with business as usual emissions. Controlling emissions
comes at a cost to the economy (relative to business as usual economic activity),
but owing to anticipated technological improvements, the annual cost declines
over time. For the first decade, the cost is $10B per year. For the second decade,
the cost is $8B per year. For the third decade, the cost is $6B per year, and so
forth, until there is no cost at all. The benefit of controlling is the avoided future
damage from climate change. The damages from business as usual emissions
(relative to controlling) occur far into the future. The damages are $100B per
year every year forever, starting in 100 years.
a. Based on basic cost benefit analysis, should we control or not? On what
assumptions does your analysis hinge?
