Exercise 2 Monopoly and externality Consider a monopoly operating on a market where demand is given by D(p) = 10 - 4p. The cost function of the monopolist is C(q) = 4q. 1. What is the quantity produced by the monopolist? What is the associated profit? 2. In what follows, we assume that the activity of the monopolist is polluting. Specifically, it creates a nuisance to society measured by a function m(q) = q2. (a) What is the socially optimal level of production once one takes into account this externality? (b) Comment. Suppose that the government wants to impose a unit tax on the monopolist to increase social welfare. (c) What is the optimal level of the tax? (d) What is the optimal level of the tax if the cost of pollution is instead m(q) = 6