It is a homework which is simple case study in micro economic subject. Need to be completed within 36 hours top. make sure to comply with all instructions and requirement as in the file.
case_study_3__econ_101_.doc
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Case Study No. 3
Course: Microeconomics
(Econ-101)
Academic Year:1440-1441 H
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Semester: 1st
Student grade: / 20
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Instructions:

This Assignment must be submitted on Blackboard (WORD format only) via
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CASE STUDY 3 : SMOKING AT IKE’S BAR-B-Q PIT
By 2013, only 10 states in the U.S. had not issued statewide bans on smoking in any
nongovernment-owned spaces. Ike’s Bar-B-Q Pit is located in a state that allows smoking in
restaurants and bars. Some of Ike’s nonsmoking customers, including some who suffer from
asthma, have petitioned Ike to adopt a no-smoking rule for his restaurant. Upon hearing of the
petition, some of Ike’s other customers complained that they have smoked in Ike’s restaurant for
years and would not patronize the restaurant if the no-smoking rule were adopted. Ike is greatly
concerned because he does not wish to lose business from either his smoking or nonsmoking
customers.
Private Solutions to Externalities: The Coase Theorem
Learning Objective: Discuss the Coase theorem and explain how private bargaining can lead to
economic efficiency in a market with an externality.
Although government intervention may increase economic efficiency in markets where
externalities are present, it is possible for people to find private solutions to the problem of
externalities. Ronald Coase made this argument in a 1960 article. To understand Coase’s
argument, it is important to understand that completely eliminating an externality is usually
not economically efficient.
A. The Economically Efficient Level of Pollution Reduction
The optimal decision is to continue any activity up to the point where the marginal benefit
equals the marginal cost. This applies to reducing pollution just as much as other activities. As
pollution declines, society benefits, but the marginal benefit from eliminating another unit of
pollution declines as emissions are reduced. As pollution declines, the marginal cost of further
reductions rises. The net benefit to society from reducing pollution is equal to the difference
between the benefit of reducing pollution and the cost. To maximize the net benefit to society,
any type of pollution should be reduced to the point where the marginal benefit from another
ton of reduction is equal to the marginal cost.
B. The Basis for Private Solutions to Externalities
In arguing that private solutions to the problem of externalities were possible, Ronald Coase
emphasized that when more than the optimal level of pollution is occurring, the benefits from
reducing the pollution to the optimal level are greater than the costs.
C. Do Property Rights Matter?
Ronald Coase pointed out that the amount of pollution reduction will be the same whether
polluters or the victims of pollution are legally liable for damages. Bargaining between the
parties will result in the same reduction in pollution, where the marginal benefit of the last
unit of reduction is equal to the marginal cost.
D. The Problem of Transactions Costs
There are frequently practical difficulties in the way of a private solution to the problem of
externalities. For example, if many people suffer from the negative effects of pollution,
bringing all the victims together with all the producers of the pollution to negotiate an
agreement often fails due to high transactions costs. Transactions costs are the costs in time
and other resources that parties incur in the process of agreeing to and carrying out an
exchange of goods or services.
E. The Coase Theorem
The Coase theorem is the argument of economist Ronald Coase that if transactions costs are
low, private bargaining will result in an efficient solution to the problem of externalities.
Private bargaining is most likely to reach an efficient outcome when the number of bargaining
parties is small and all parties are willing to accept a reasonable agreement.
Because Ike’s restaurant is not in a state that regulates smoking in public places, Ike decides to
meet with his smoking and nonsmoking customers to accommodate both of their wishes
regarding his smoking policy.
1) Draw a graph illustrating the externality associated with smoking in Ike’s Bar-B-Q Pit
2) Explain how this externality causes a deviation from economic efficiency in this market.
3) Do you think the Coase Theorem applies to this case?
4) Suggest a solution that would be consistent with the Coase theorem, that is a solution that
would enhance the well-being of Ike’s customers and increase economic efficiency.
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