A pre-unit tax on pollution produced by a firm will affect the firm's output and pollution levels in which of the following ways?

• A. Output = Decrease; Pollution = Decrease
• B. Output = Increase; Pollution = Decrease
• C. Output = Decrease; Pollution = Increase
• D. Output = Increase; Pollution = Increase

Answer: (A)

A per-unit tax on pollution raises the private cost of producing pollution, so the firm faces higher marginal costs. To maximize profits, it cuts back on production and also has an incentive to reduce pollution per unit through abatement. The combination of producing less and emitting less leads to a lower total level of pollution. In most standard setups, this also means output falls because the higher costs discourage production. Therefore, both output and pollution decrease. (Note: if abatement is possible without reducing output, pollution could fall while output stays the same, but the overall impact described aligns with the typical outcome of a pollution tax.)