California is facing a serious drought, but policy-makers in the state are unwilling to alter the prices at which water is sold for fear that it will unduly harm the poorest citizens. Some have suggested that the price be raised and the revenues returned to each citizen in the form of a tax rebate. You will use the economic methods you have learned to evaluate such a policy. The Model Let’s imagine there are only three people living in California, but that each of them have preferences described by the following utility function: ????(????1, ????2 ) = ????1 1/10 ????2 9/10 In that function, ????1 is the quantity of water consumed, and ????2 is the quantity of the composite good consumed (where the ‘composite good’ represents ‘all other goods’). The State of California will impose a quantity tax on water (????) but will rebate the revenue to each consumer as a lump-sum. The total revenue generated by the tax (????) will be: ???? = ???? 1 ???? Where ???? 1 is the total market demand for water, and ???? is the quantity tax on water. This revenue will be split between the three consumers equally, so that the rebate (????) will be: ???? = 1 3 ???? 1 ???? The Details The three people in our model all have the same preferences, but each has a different income. One of them has an income of $100, another an income of $1,000, and the third has an income of $10,000. The price of water1 is $1 and the price of the composite good is $1. The State of California must reduce the total consumption of water to 300 units.

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Status NEW Posted 05 Jun 2017 07:06 AM My Price 7.00

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