Historically Paris, France received its water from the river Seine. As the city developed, it had to find new sources. Today, majority of the water supply comes from reservoirs built outside the city. It takes a lot of energy to bring the water from these reservoirs to the city, thus creating an externality. The following is true about Parisian water:
MSB = 500 - 2Q
MSC = 40 + Q
MEB = 0
MEC = Q
where Q is the amount of water consumed, measured in thousands of gallons.
a. What is the competitive quantity (Qc) and competitive price (Pc) of water in Paris?
b. What is the efficient quantity (QE) and efficient price (PE) of water in Paris?
c. Can you explain the reasons behind the difference in equilibrium of (a) and (b) above, i.e. why do you get different answers for (a) and (b)?