Residential Choice and Air Pollution: A General Equilibrium Model
Pigou's parable of the belching factory imposing an externality on the neighboring laundry has elicited more controversy than one could have expected from such a simple situation. Ronald Coase claimed that the Pigouvian solution of taxes and subsidies was demonstrably inefficient while William Baumol recently defended Pigou by presenting a situation in which a tax placed upon the factory (without taxation or compensation to the laundry) optimizes resource allocation under pure competition. What if the externality affects the factory itself? Suppose the reduces the work efficiency of employees and causes ill health. It might be conjectured that nothing new is gained by adding the wrinkle of poisonous air which sickens factory workers, since the factory both generates the and is affected by it. By analogy, a city where everyone works in factories generating air pollution (which affects only the city) might be deemed consistent with Pareto optimality, presuming the factories compensate individuals for the air pollution with higher wages. 1 Similarly, recent policy discussions have advocated exporting air pollution by importing pollution-producing goods. Little concern has been given to the welfare implications since the republic of smoke would be experiencing the profit as well as the pollution from production. There are even proponents of the view that some regions of the United States ought to be kept quite clean, while others are allowed to become highlv polluted. Their reasoning is that
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