Question

A chemical factory and a fishing club share a lake. Producing chemicals creates water pollution that harms the fish. Initially the lake is owned by no one. Keeping in mind the Coase theorem, suppose transactions costs are low and the chemical factory is given ownership of the lake. Compared to the situation with no property rights, the quantity of chemicals produced

A) decreases.
B) stays the same.
C) increases.
D) changes but the direction of the change is unknown.
E) decreases only if the marginal external benefit decreases.

Answer 1

According to the Coase theorem, if the chemical factory is given ownership of the lake and transaction costs are low, the quantity of chemicals produced will increase.

Step-by-step explanation:

According to the Coase theorem, if the chemical factory is given ownership of the lake and transaction costs are low, the quantity of chemicals produced will increase.

When property rights are well-defined and ownership is clear, the chemical factory can internalize the costs of water pollution. By owning the lake, the factory will face the consequences of their actions and bear the costs of harming the fish. This will incentivize them to reduce pollution and mitigate its negative effects.

Therefore, compared to the situation with no property rights, giving ownership of the lake to the chemical factory will result in increased production of chemicals.