e. In Section 21B.3.4, we went through a numerical exercise to illustrate how the establishment of property rights in the presence of externalities will resolve the “market failure” in a simple exchange economy. Review the example in the text prior to proceeding. Note that in the text we assigned the property rights in the new market to person 2, the victim of the externality.

But we could have assigned property rights in many other ways (as suggested in our music example). Define x3 once again as the impression of person 1’s consumption of x1 on person 2;

that is, x3 5 x11 2

. We can establish a market for the good x3 by endowing individual 1 with e3 units of x3

. This means that individual 1 can produce up to e3 units of x3

, which is the same as saying that individual 1 can consume up to e3 units of x1 without having to pay the market price p3

. But if he wants to produce any more x3

, he must pay individual 2 the price p3 for each additional unit above e3

. Similarly, under the endowment of e3 for individual 1, individual 2 must pay p3 per unit to individual 1 for any amount of x3 that falls below e3 and receives p3 for any amount of x3 above e3

. In the numerical example of the text, what did we implicitly set e3 to?