Frequent power outages trouble the residents of Storm City. Located in the center of the storm belt, the city experiences periodic windstorms that down trees and power lines. The tables below give some data about the likelihood of power outages and the consequences. (For example, the “more inspections” row of the table indicates that if the Power company chooses to do tree trimming and more inspections, the probability of an outage will be .2, and the marginal reduction in the probability of an outage due to “more inspections” is .1). As you can see there are actions that the power company can take to reduce the probability of an outage, and actions that households can take to reduce the costs of the outage.

Additional

Action taken              Actor                          probability     marginal cost of

                                                                        of outage         additional action

none                            power company                       0.4                   $0       

tree trimming               power company                       0.3                   $150   

more inspections         power company                       0.2                   $250

better transformers      power company                       0.1                   $350   

Additional

Action taken              Actor                          costs of           marginal cost of

                                                                        outage             additional action

none                            households                  $5,000             $0                               

candles, flashlights      households                  $4,000             $150

eliminate freezer         households                  $3,000             $200

replace electric heat    households                  $2,000             $300

back-up generators      households                  $0                    $1,000                                    

Society would like to minimize the total cost of this tort situation, where total cost = (cost of power company actions) + (cost of household actions) + probability of outage*costs of outage)

a. Suppose that the Power company has no liability for damages due to power outages. What actions will be taken by each party? Compute the total costs of this situation.

b. Suppose, on the other hand, that the power company is strictly liable for all outage-related damages. What actions will be taken by each party? Compute the total costs of this situation. Is this an improvement over the situation in part a?

c. Suppose that there is a simple negligence rule that assigns liability to the power company only for failure to trim trees. What actions will be taken by each party?

Compute the total costs of this situation. Is this an improvement over the situation in parts a and b?

d. Propose a negligence rule that will bring about the efficient set of actions, that is, the set of actions by the power company and the households that minimizes the total cost of this tort situation.