Problem Set 6 Economics 101 Due October 17, 2012 by 12:30 PM Questions 1 and 2 are based on readings on candidate

economic plans which should be viewed before 10/17. The links are available on the class web page. 1. Which of the following are components of Barack Obamas Economic Plan? a) b) c) d) Reduce deficit by $2 trillion in next decade; Reduce deficit by $2 trillion in next decade; Reduce deficit by $4 trillion in next decade; Reduce deficit by $6 trillion in next decade; push for middle class tax cuts push for across the board tax cuts push for middle class tax cuts push for corporate tax cuts

2. Which of the following are components of Mitt Romneys Program for Economic Recovery, Growth, and Jobs? a) b) c) d) Reduce government spending to 25 percent of GDP; Reduce tax rates by 10 percent. Reduce government spending to 10 percent of GDP; Reduce tax rates by 25 percent. Reduce government spending to 20 percent of GDP; Reduce tax rates by 20 percent. Reduce government spending to 5 percent of GDP; Reduce tax rates by 15 percent.

For Questions 3 to 9 consider the following information for a polluting firm that produces shoes: Supply Curve Quantity Supplied 1 2 3 4 5 6 7 8 Demand Curve Quantity Demanded 1 2 3 4 5 6 7 8 Price that firm offers product to break even 4 5 6 7 8 9 10 11 Price paid by consumers 10 9 8 7 6 5 4 3

Because of the pollution, the firm causes $2 of damage per unit produced. Even though we are looking at one firm, assume that the price is set as in a competitive market. [Hint: Draw the demand curves and the supply curves] 3. If the firm uses private cost to set the price at which it offers its shoes, what is the equilibrium quantity in the market for shoes? a) 2 b) 3 c) 4 d) 5 4. If the firm uses private cost to set the price at which it offers its shoes, what is the equilibrium price in the market for shoes? a) 7 b) 6 c) 5 d) 4 5. Is the quantity you find in question 3 the socially optimal level of output? a) b) c) d) Yes, because of the externality Yes, because shoes are a public good Sometimes, depending on whether shoes are a public good No, because of the externality

6. According to the Coase Theorem, which of the following would be a way to privately resolve any differences between the polluter and those affected by the pollution? a) The government should make the polluter internalize the externality b) The government should allocate rights to pollute. c) If the benefits that the polluter gets (in increased profits) are greater than the cost to society of pollution, the polluter could pay those impacted an amount greater than the damage. d) The polluter should always be forced to stop polluting. 7. If the government wanted to implement a policy to make the polluter internalize the damage done to others, it should: a) b) c) d) Force the polluter to stop polluting Impose a tax of $2 on the polluter Sell rights to pollute to the firm Impose a subsidy of $2 on the polluter

8. If the government were to adopt the appropriate policy to make the polluter internalize the damage done to others, the new equilibrium quantity would be: a) 2 b) 3 c) 4 d) 5 9. Is the quantity you find in question 8 the socially optimal level of output? a) Yes b) No c) Usually d) Uncertain For Questions 10 through 14 use the following information about firm willingness to pay to pollute: Current Level of Pollution Firm 1 Firm 2 Firm 3 2 2 2 Cost to the firm to reduce pollution by 1 unit of pollution (for each unit of reduction) 10 9 8

The current total level of pollution is 6 units. The government would like to reduce pollution by 3 units. The government decides to issue permits. With permits, a firm cannot have pollution for which it does not have a permit. Note that the willingness to pay is equal to the reduction in benefits to the firm from a one unit reduction in pollution (because of cost of equipment to reduce pollution, reorganization of production, etc.). 10. If the government decides that each firm must reduce pollution by 1 unit, how much is the combined cost of reducing the pollution to all firms? a) b) c) d) 12 24 27 30

11. If the government gives each firm a permit for the right to pollute one unit, how many total units of pollution will the three firms produce? a) 3 b) 6 c) 9 d) 12 12. If the government gives each firm a permit for the right to pollute one unit and those rights can be bought and sold, which firms will buy the right to pollute and which firms will sell their rights to pollute? [Hint: Draw the demand for permits] a) b) c) d) Firm 1 will buy rights to pollute, Firm 2 will sell Firm 1 will buy rights to pollute, Firm 3 will sell Firm 2 will buy rights to pollute, Firm 1 will sell Firm 3 will buy rights to pollute, Firm 1 will sell

13. Which firms pollute and which firms do not pollute with the permits? \ a) Firm 1 pollutes, Firms 2 and 3 do not pollute b) Firms 1 and 2 pollute, Firm 3 does not pollute c) Firms 2 and 3 pollute, Firm 1 does not pollute d) Firm 3 pollutes, Firms 2 and 3 do not pollute 14. Which of the following prices would lead to demand equal supply in the market for permits for the right to pollute? a) 7 b) 8 c) 9 d) 10 15. What is the total cost to the firms that pollute after the sale of the permits to reduce their pollution by the three units? a) b) c) d) 19 23 25 27

16. Why is the use of the permits more efficient than the regulation requiring each firm to reduce pollution by one unit? a) Because the firms that are most efficient at reducing pollution are the ones that do so with the permits b) Because the government sets the price for the permits c) Because the polluters internalize the cost of the externality d) Because pollution imposes a social cost 17. A common good is: a) b) c) d) Excludable and rival Excludable but not rival Not excludable but rival Not excludable and not rival

18. When there is common ownership, the government might intervene because of: a) b) c) d) The externality effects The tragedy of the commons The excludability factor The free-rider problem

19. A public good is: a) b) c) d) Excludable and rival Excludable but not rival Not excludable but rival Not excludable and not rival

20. With a public good, the government might intervene because of: a) b) c) d) The externality effects The tragedy of the commons The excludability factor The free-rider problem