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. Graph the marginal damages from emissions and the expected value (i.e., average over<br />
the two possible rs) of the marginal savings from emissions. Be as accurate as you can.<br />
MS(e) = - MC(e) = (5 + r)(16 – 2e)<br />
At r = 0: MS(e) = (5 + 0)(16 – 2e) = 80 – 10e<br />
At r = 3: MS(e) = (5 + 3)(16 – 2e) = 128 – 16e<br />
Each value of r, 0 or 3, occurs with equal probability (0.5, or 50% chance):<br />
E(MS(e)) = 0.5(80 - 10e) + 0.5(128 – 16e) = 104 – 13e<br />
c. What level of emission fee or emission permit should be chosen, not knowing what value<br />
r will take? Show your answer on the graph.<br />
Using the expected value for the MS = 104 – 13e and the MD = 9e, find an intersection at<br />
e = 4.74 and p = 42.57. So Q = 4.74 permits or a tax of T = $42.57/unit of emissions<br />
This translates to abatement of 8 – 4.74 = 3.26 units.<br />
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