Cleantown and Grimyville are identical except for the inferior air quality in Grimyville. All potential residents have identical tastes. Apartments in Cleantown rent for $300 per month. The cost of breathing Grimyville air is $100 per month.
The quantity of apartments in each town is fixed.
a. Explain why the demand curve for Grimyville apartments is flat at a price of $200 per month. Draw the supply and demand curves for Grimyville apartments and show the consumers' and producers' surpluses.
b. Suppose that the air in Grimyville is brought up to Cleantown standards.
Show the effects of this change on your graph. Show the increase in social gain. Who benefits from the clean air?