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EC302: Microeconomic Analysis

Tutorial 5 (Week 6)
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Question 1
Two families (A and B) live on a street without lights. The local council will provide street lights
if the families are willing to pay for the running costs, which are $30 per month per street light.
The demand for the two families for street light is estimated to be 𝑃𝐴 = 40 − 2𝑄𝐴 and 𝑃𝐵 = 30 −
2𝑄𝐵 , where P is the price the family is willing to pay for a street light per month.

a) Express the total demand function for street lights.

b) How many street lights should be provided?
c) What would be the share of tax burden for each of them under Lindahl pricing?

Question 2
Assume that there are two sources of pollution into a lake. The local water authority can clean up
the discharges and reduce pollution levels from these sources but there are, of course, costs
involved. The damage effects of each pollution source are measured on a ‘pollution scale’. The
lower the pollution level the greater the cost of achieving it, as is shown by the cost schedules for
cleaning up the two pollution sources:

𝑍1 = 478 − 2𝐶10.5 𝑍2 = 600 − 3𝐶20.5

where Z1 and Z2 are pollution levels and C1 and C2 are expenditure on reducing pollution. To
secure an acceptable level of water purity in the later, the water authority’s objective is to reduce
pollution to 1000 by the cheapest method. How can it do this ? Solve using Lagrangian method.

Question 3
Consider two public goods (x1 and x2). Choose (x1 and x2) to maximise y = x1x2 subject to the
constraint 4x1 + x2 = 4. Use the Lagrange multiplier and substitution method to solve for the
optimal values of two goods.