1

Single Selection: (5 Questions, 2 Points Each, 10 Points Total)

1. The real cost of government goods and services is: (

A. money.
B. taxes.
C. the private goods and services foregone.
D. inflation.
2. Positive economics: (

A. makes recommendations designed to achieve certain goals.

B. establishes cause-and-effect relationships between economic variables.
C. is based on value judgments.
D. can never be used to make predictions.
3. Which of the following do you consider pure public goods? (

A. Wilderness areas
B. Satellite television
C. Medical school education
D. Public television programs
4. A lump-sum tax: (

A. distorts market prices so that they do not simultaneously equal MSB and MSC.
B. can result in price changes but does not prevent prices from simultaneously being equal
to MSB and MSC.
C. results in substitution effects that change prices.
D. results in both substitution effects and income effects that change prices.

5. A tax on interest income: (

A. causes the gross interest rate paid by investors to exceed the net interest rate received by
savers.
B. will always reduce saving.
C. will always increase saving.
D. is equivalent to a lump-sum tax.

Multiple Choice: (5 Questions, 4 Points Each, 20 Points Total)

1. The total social benefit of automobiles equals the total social cost at current annual output.
Then it follows that: (

A. the annual output of automobiles is efficient.

B. the annual output of automobiles exceeds the efficient amount.
C. less than the efficient annual output of automobiles is produced.
D. it is not possible to make buyers of automobiles better off without harming sellers.
2. The efficient output of a pure public good is achieved at the point at which: (

A. the marginal benefit obtained by each consumer equals the marginal social cost of
producing the good.
B. the sum of the marginal benefits of all consumers equals the marginal social cost of
producing the good.
C. the marginal benefit of each consumer equals zero.
D. the marginal social cost of producing the good is zero.
3. If a negative externality prevails in a competitive market for air travel, then: (

A. more than the efficient amount of annual air travel will be consumed in equilibrium.
B. less than the efficient amount of annual air travel will be consumed in equilibrium.
C. the marginal social cost of air travel will exceed its marginal social benefit in
equilibrium.
D. the marginal social cost of air travel will not exceed its marginal social benefit in
equilibrium.

4. If all voters have single-peaked preferences, then under majority rule: (

A. cycling of political outcomes can occur.

B. a political equilibrium exists.
C. the political equilibrium is the median most-preferred outcome.
D. a political equilibrium does not exist.
5. The elasticity of supply of land is zero. A tax on land results only in an income effect to
landlords. Then it follows that a 10-percent tax on land rents will: (

A. have a positive excess burden.

B. be shifted forward to tenants.
C. be paid entirely by landlords.
D. have zero excess burden.

Concept: (5 Questions, 2 Points Each, 10 Points Total)

1. Organic View of Government
2. Experimental study
3. Pareto efficient
4. Excess burden
5. Ramsey rule

True/False: (5 Questions, 2 Points Each, 10 Points Total)

1. If everyone has the same marginal rate of substitution, then the allocation of resources is
Pareto efficient. (

2. Efficient provision of a public good occurs at the level at which each member of society
places the same value on the last unit. (

3. Coase Theorem is applicable for the situation that a farmer who grows organic corn is at
risk of having his crop contaminated by genetically modified corn grown by his neighbors. (
)
4. A political equilibrium for a pure public good is generally independent of the collective
choice rule used. (

5. A lump-sum tax results in both income and substitution effects. (

Short Answer: (5 Questions, 5 Points Each, 25 Points Total)

1. Your airplane crashes in the Pacific Ocean. You land on desert island with one other
passenger. A box containing 100 little bags of peanuts also washes up on the island. The
peanuts are the only thing to eat. In this economy with two people, one commodity, and no
production, represent the possible allocation in a diagram, and explain why every allocation
is Pareto efficient. Is every allocation fair?
2. The aircraft company Airbus receives much of its funding from European governments.
Airbus recently decided to build a new 550-seat mega-jetliner, with duty-free shopping courts
and restaurants on board. The project has experienced production delays as well as cost
overruns, and it now appears that there will be very few buyers. An industry expert says the
idea from the start was nonsense [Aboulafia, 2006]. Is public sector production of aircrafts
ever justified? Explain why it could lead to the apparently ill-advised decision to build the
mega-jetliner.
3. In India, a drug used to treat sick cows is leading to the death of many vultures that feed
off of dead cattle. Before the decrease in the number of vultures, they sometimes used to
smash into engines of jets taking off from New Delhis airports, posing a serious threat to air
travelers. However, the decline of the vulture population has led to a sharp has led to a sharp
increase in the populations of rats and feral dogs, which are now the main scavengers of
rotting meat [Gentleman, 2006, p. A4]. There have been calls for a ban on the drug used to
treat the cows.

Identify the externalities that are present in this situation. Comment on the efficiency of
banning the drug. How would you design an incentive-based regulation to attain an efficient
outcome?
4. In 2005, Kuwaiti women won the right to vote in parliamentary elections. Indeed, women
voters now outnumber men voters in Kuwait because women are automatically registered
while men have to register on their own. One woman noted, The Ministers of Parliament
used to vote against us; now they are wooing us to vote for them [Fattah, 2006]. What does
this tell us about the validity of the predictions of the median voter theorem?
5. In 2004, the city of Cologne, Germany, instituted a pleasure tax. Among other things, the
tax applied to massage parlors, table-dancing clubs, and brothels. Many sex workers
complained that the tax was unjust because it was levied on them rather than on the men who
patronize their services. One sex worker said, I cant increase what I charge to make up for
the tax increase. Implicit in the sex workers assertion is an assumption about the elasticity of
demand for her services. What is that assumption, and do you think it is realistic? What
would be the economic implications for sex workers if the tax was instead levied on their
patrons?

Case Analysis: (2 Questions, 12 Points for Question1, 13 Points for Question2, 25

Points Total)
1. Suppose Bart operates a factory that dumps its garbage into a river nobody owns. Lisa
makes her living by fishing from the river. Barts activities make Lisa worse off. Please use
the method of graphical analysis to analyze the mechanisms of Pigouvian Tax to settle the
problem of such externalities.

2. Suppose that the central government imposes a tax on champagne of u per wine gallon.
Please analyze the incidence of such tax with the tools of graphic analysis.


1
__________ _________ __________ _______

10

20

10

10

25

25

Question
Number
Answer

Single Selection: (5 Questions, 2 Points Each, 10 Points Total)

100

Multiple Choice: (5 Questions, 4 Points Each, 20 Points Total)

Question
Number

Answer

Concept: (5 Questions, 2 Points Each, 10 Points Total)

Question
Number

True/False: (5 Questions, 2 Points Each, 10 Points Total)

Answer

S
1

hort Answer: (5 Questions, 5 Points Each, 25 Points Total)

Case Analysis: (2 Questions, 12 Points for Question1, 13 Points for

Question2, 25 Points Total)

Single Selection: (5 Questions, 2 Points Each, 10 Points Total)

Question
Number

Answer

Multiple Choice: (5 Questions, 4 Points Each, 20 Points Total)

Question
Number

Answer

AD

CD

AC

BC

CD

Concept: (5 Questions, 2 Points Each, 10 Points Total)

1. Organic View of Government: Society is conceived of as a natural organism. (1) Each
individual is a part of this organism, and the government can be thought of as its heart. (1)
2. Experimental study: An empirical study in which individuals are randomly (1) assigned to
the treatment and control groups. (1)

3. Pareto efficient: An allocation of resources such that no person can be made better off (1)
without making another person worse off. (1)
4. Excess burden: A loss of welfare above and beyond taxes collected. (1) Also called
welfare cost or dead-weight loss. (1)
5. Ramsey rule: To minimize total excess burden, (1) tax rates should be set so that the taxinduced percentage reduction in the quantity demanded of each commodity is the same. (1)

True/False: (5 Questions, 2 Points Each, 10 Points Total)

Question
Number

Answer

Short Answer: (5 Questions, 5 Points Each, 25 Points Total)

1. Answer: In this case, the Edgeworth box is actually a line because there is only one
good on the island.(1) The set of possible allocations is a straight line, 100 units long. Every
allocation is Pareto efficient, because the only way to make one person better off is to make
another person worse off. (2) There is no theory in the text to help us decide whether an
allocation is fair. Although splitting the peanuts even between the people may be fair, it may
not be fair if the calorie needs of the people are different. With a social welfare function,
we can make assessments on whether redistribution for society as a whole is a good thing.
(2)
2. Answer: Aircrafts are both rival and excludable goods, so public sector production of
aircrafts is not justified on the basis of public goods. (2) If policymakers assume that the
benefits of the mega-jetliner are public, then they would find the efficient level of production
by vertically summing demand curves rather than horizontally summing demand curves. (2)
This causes the benefits to be significantly overstated and could be used to justify such high

costs. (1)
3. Answer: The use of the drug to treat sick cows leads to a positive externality (the benefit
enjoyed by air travelers) as well as a negative externality (the costs created by a larger
number of rats and feral dogs). (2) Banning the drug might raise or lower efficiency,
depending on whether the positive externality is larger or whether the negative externality is
larger. (1)
There are many ways to design incentive-based regulations. Policymakers could determine
the efficient level of drug usage and then either allocate or sell the right to use the drug for
sick cows. (2)
4. Answer: Assuming that the preferences of Kuwaiti women differ from the preferences of
Kuwaiti men, stronger voter turnout by women could invalidate the median voter theorem.
(2) That is, the results of majority voting would not reflect the preferences of the median
voter. (3)
5. Answer: The workers assertion is correct if the demand for her services is perfectly
elastic. (1) This assumption is not realistic. The demand for these services would be
perfectly elastic if there were perfect substitutes available and no differentiation, which is
unlikely. (2)
The statutory incidence of a tax does not determine its economic incidence. Levying the
tax on patrons would not make a difference. (2)

Case Analysis: (2 Questions, 12 Points for Question1, 13 Points for Question2, 25

Points Total)
1. Answer: A Pegouvian tax is a tax levied on each unit of a polluters output in an amount
just equal to the marginal damage it inflicts at the efficient level of output. (2) Bart produces
inefficiently because the prices he faces for inputs incorrectly signal social costs.
Specifically, because his input prices are too low, the price of his output is too low. (2) After
the tax, profit maximization requires that Bart produce where marginal benefit equals his
marginal cost. (2)This occurs at the intersection of MB and MSC. The tax forces Bart to take

into account the costs of externality that he generates and induce him to produce efficiently.
(2)

(4)
2. Answer: Before the tax imposing, the equilibrium is at the intersection of Sc and Dc. (2)
The unit tax on champagne will move the demand curve downward by u. (2) In the new
equilibrium, the price paid by consumers increase from P0 to Pg, thus the consumers shoulder
part of the burden which equals to kfgm. (2) Meanwhile, the price received by the producers
decreases from P0 to Pn, thus the producers also shoulder part of the burden which equals to
mghn. (2)

(5)