Economics 378
Public Finance
Robert J. Gitter
Spring 2006
Department of Economics
Ohio Wesleyan University
Delaware, Ohio
FIRST MID-TERM
You have 2 hours to complete this exam. No outside books, notes or tables are permitted.
Please do all your work carefully and check your answers before handing the exam in.
You are advised to show as much of your work as possible to facilitate the awarding of
partial credit. Good Luck!
This exam counts for 25% of your final grade.
PLEASE NOTE:
Choice
1-6 Do five @ 12 pts. each
7
25 True & False @ 1 point each
Total
60 points
15 points
25 points
100 points
No Choice
1-6 10 points each
7
25 True & False @ 1 point each
Total
60 points
15 points
25 points
100 points
1. Suppose there are three people in Quahog; Peter, Brian and Stewie. The only
good that their society has is clams. Suppose their utility functions are given
below and depend on Xc the quantity of clams they consume:
Peter: Utility = U = 5Xc .5 , i.e., square root of quantity of clams
Brian: Utility = U = 2 Xc
a. Suppose there are four clams to divide up. Fill in the table below showing the
level of utility they each would have with 0,1,2,3, and 4 clams.
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Peter's Utility
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b. Let us suppose that we agree that everyone will get at least one clam. Who
would a utilitarian argue should get
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c. Once again, let us suppose that we
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the fourth clam? Show
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d. Let us suppose that
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a. In the assigned reading as well as class lecture Stiglitz noted that there are six types
of market failures. List them.
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b. Stiglitz also stated that there are two other reasons for government intervention
beyond market failure, per se. List them.
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c. The State of Ohio requires barbers and beauticians to have licenses. Give the
rational for this in terms of one of the reasons listed in a or b. Explain.
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d. In his State of the Union address, President Bush advocated increased government Sc.,t'nt+ CJ,
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spending on science education. Give the rational for this in terms of one of the
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reasons listed in a or b. Explain. (Note: there may be more than one correct
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e. Current law requires that automobiles be equipped with air-bags. Give the rational
for this in terms of one of the reasons listed in a or b. Explain.
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3. Suppose that Annie and Betty are the only two people that live in rural area. They
each have a separate home and the homes are close to one another. There is one
road leading into the area, but there are no streetlights.
a. Are street lights a public good? Explain why or why not.
Suppose the Demand for streetlights by Annie and Betty's is given below with Qst
representing the quantity of streetlights and Pst the price.
Annie: Qst = 20 - 5Pst
Betty: Qst = 8 - Pst
b. If the Pst = 4, how many street lights will Annie purchase?
c. If the Pst = 4, how many street lights will
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d. What is the total number of streetlights that will be purchased by Annie and
Betty together?
e. What is the socially optimal level of streetlights? (Hint: you can solve thi\ 4 - , 2 & . 6 7 1 " P
graphically or algebraically.)
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4. a. In your own words, explain what the Coase Theorem states.
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b. Suppose I like to barbecue salmon on my grill outside during the summer.
(Uhrnmmmrn, salmon!) My next neighbor does not like the smell of salmon
being grilled. Is this an example of a negative externality? Explain.
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c. What is meant by the term Pareto Improvement?
d. Give an example of how a Pareto Improvement might be made in this situation.
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e. Does your answer in (d) support or contradict the Coase heo or em? Explain.
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5. a. Is education a public good? Explain.
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b. In question 2 you noted the reasons for the government to provide a good.
Should the government be involved in the provision of education? Discuss in
terms of the reasons in question 2.
c. Chapter 4 of Rosen notes several instances where the private sector provides a
good more cheaply than the government. Cite one example.
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d. What are vouchers, as referred to in terms of education.
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e. Would vouchers be better way for the government to intervene in the market
system? Explain.
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6. The demand for cell phone minutes by
Yenta is given in the graph to the right.
Unfortunately, when she drives on US-23,
she chats on her cell phone and drives 10
miles an hour in the left lane. She causes a
negative externality of 10 cents for every
minute she is on the phone.
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a. Suppose under her plan cell phone minutes cost three cents per minute. How
many minutes will she buy?
b. What is the socially optimal number of minutes she should use? Show it on your
diagram.
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c. In recent years we have made great strides in terns of road technology. Suppose
we could detect when she was on US 23 and add ten cents for each minute she
talks on her cell phone while on that road. What is the name for such a "tax?"
d. Her cell phone usage may be viewed as a negative externality. In class we
discussed four ways to deal with negative externalities. Which one is our ten
cents a minute an example of?
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e. Cite one of the other three ways of dealing with externalities and explain how we
could use it to limit the use of cell phones on US 23 by people driving ten miles
under the speed limit in the left lane.
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The good "defense" differs from many other goods. Aside from the fact it has the
characteristics of a public good, cite three additional differences from class and explain in
detail. Discuss how the government deals with these differences in providing defense.
Tme/False. One point each.
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T F 8. The view that government is created to serve the wishes of its citizens is known
as a mechanistic view of government.
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@ 10. United States Government Expenditures are a higher share of GDP than most
The United States Federal Government spends an amount equal to about 70 %
ofGDP.
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other European nations
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@ 11. Welfare, i.e., income security, is the largest share of spending by the United
States Federal Government.
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F 12. The slope of a production possibility frontier is the Marginal Rate of
Transformation, i.e., MRT.
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13. When no more Pareto Improvements can be made, we are az:reto
Optimum.
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14. When indifference curves are tangent in an Edgeworth Box, we have a Pareto
Optimum.
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16. Positive externalities impact the Marginal Social Benefit.
@ 17. If the Coase Theorem is not applicable, th n positive externalities result in a
Pareto Optimum.
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8. According to Rosen, economists generally cannot perform controlled
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T 0 1 9 . The First Fundamental Theorem says that when property rights are assigned
and transaction costs are low, the government is not needed to reach a Pareto
Optimal solution.
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The Sherman Act is the primary act used to regulate pollution levels in the air.
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Bribes and subsidies cannot be used to arrive at a Pareto Optimum when
externalities exist.
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T m 2 . Marginal Damage Functions are usually horizontal.
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23. Sulfur Dioxide emissions are regulated through a market process in the United
States.
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the authors found that Economics Incentives were more efficient
than command and control.
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T 0 2 5 . Ordering a book through Amazon.com is an example of a good having value
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due to a network effect.
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26. Milton Friedman would advocate the government selling off the National
Parks.
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The economist associated with the idea that government sector production is
too low due to a lack of advertising was Richard Musgrave.
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T w28. Three ways of dealing with natural monopolies were presented in class;
command and control, market solutions and legal solutions.
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A candy bar is an example of a quasi-public good.
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T F 0. Natural monopolies have constant Average Cost Curves.
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T F 3 1. Letting natural monopolies charge a profit-maximizing price results in a Pareto
Optimum.
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F 32. Government run firms tend to offer services to all customers whereas
unregulated natural monopolies don't.
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