Monday, December 8, 2008

Free Disposal

I remarked the other day that I was worried about the role of free disposal in many important proofs in microeconomic theory, because it may well be that things like pollution or other 'noxious goods' may not be disposed of simply.

However, gentle reader, worry not. Simply include these nuisances as inputs to the problem! For example, if your factory produces carbon dioxide as part of the production process, include carbon dioxide permits as an input. Yes, the price may well be zero. In general it seems for any undesirable effect of production that needs to be disposed, one can include its disposal and price of disposal as an input - and the proofs go through. Rejoice.

POSTSCRIPT: A prayer service for the auto industry, courtesy of The Unbroken Window - the other Rochester-based econoblogger. I don't think he knows me, though, even though we work in the same building. To be fair, I don't know him, either.


Gabriel said...

Yes, but how are you going to decide the optimal quantity of emission permits?

Andrew said...

It's not a social planner's problem. The firms can pick them as they profit-maximize, just they as do other inputs to production. I was only worried about these things being incompatible with the framework and messing up proofs.

But the answer is always a Pigovian tax.

Michael said...

Ahh, but the answer is not always a Pigouvian tax. The Pigouvian solution is a special case of the generalized Coasean solution (which misses some important points too). Thus, a Pigouvian tax is only optimal when the following two conditions hold:

(1) The transactions costs among parties are sufficiently high so as to inhibit any possible negotiations (note that this is not as serious a problem for as many "externalities" as you might think) ...

... and more important ...

(2) The tax has the effect of being levied on the lowest cost mitigator of the pollution. Making the polluter pay is rarely optimal.

-The Guy in the Same Building! Stop by and say hi.