Deck 11: Market Failure and Externalities

Question 1

According to the Coase theorem, an externality always requires government intervention in order to internalise the externality.

Answer 1

False

Question 2

For any given demand curve for pollution, a regulator can achieve the same level of pollution with either a Pigovian tax or by allocating tradable pollution permits.

Answer 2

True

Question 3

A negative externality generates

A) a social cost curve that is above the supply curve (private cost curve) for a good.
B) a value to a consumer that is less than the total consumer surplus.
C) a social cost curve that is below the supply curve (private cost curve) for a good.
D) a social value curve that is above the demand curve (private value curve) for a good.

Answer 3

a social cost curve that is above the supply curve (private cost curve) for a good.

Question 4

If a market generates a positive externality, the social value curve is above the demand curve (private value curve).

Question 5

To internalise a negative externality, an appropriate public policy response would be to

A) have the government take over the production of the good causing the externality.
B) ban the production of all goods creating negative externalities.
C) tax the good.
D) subsidise the good.

Question 6

An externality is

A) the benefit that accrues to the buyer in a market.
B) the cost that accrues to the seller in a market.
C) the unanticipated effect on a business of a decision that it makes.
D) the compensation paid to a firm's external consultants.
E) the uncompensated impact of one person's actions on the well-being of a bystander.

Question 7

A positive externality generates

A) a social cost curve that is above the supply curve (private cost curve) for a good.
B) a benefit to suppliers that is greater than the value of producer surplus.
C) a social value curve that is above the demand curve (private value curve) for a good.
D) a social value curve that is below the demand curve (private value curve) for a good.

Question 8

Which of the following is an example of a positive externality?

A) Air pollution.
B) A person dropping litter in a public park.
C) A nice garden in front of your neighbour's house.
D) The pollution of a stream.

Question 9

The social cost of a good is

A) its benefit to the people who buy and consume it.
B) its total benefit to everyone in society.
C) its cost to everyone in the society that occurs in addition to the private costs.
D) the cost paid by the firm that produces and sells it.

Question 10

If a market generates a negative externality, a Pigovian tax will move the market toward a more efficient outcome.

Question 11

If a market generates a negative externality, the social cost curve is above the supply curve (private cost curve).

Question 12

The private benefit of consuming a good is

A) its benefit to the people who buy and consume it.
B) its total benefit to everyone in the society.
C) its cost to everyone in the society.
D) the cost paid by the firm that produces and sells it.

Question 13

A market that generates a negative externality that has not been internalised generates an equilibrium quantity that is less than the optimal quantity.

Question 14

A negative externality (that has not been internalised) causes the

A) optimal quantity to exceed the equilibrium quantity.
B) equilibrium quantity to be either above or below the optimal quantity.
C) equilibrium quantity to equal the optimal quantity.
D) equilibrium quantity to exceed the optimal quantity.

Question 15

Market failure in the form of externalities arises when

A) production costs are included in the prices of goods.
B) there are costs and/or benefits that result from a transaction and affect someone other than the parties involved in the transaction.
C) the benefits exceed the costs of consuming goods.
D) the market fails to achieve equilibrium.

Question 16

When a group of neighbours ask a householder to tidy his front garden because they keep their own gardens tidy and attractive, they are attempting to use moral codes and social sanctions to internalise the externality associated with an untidy garden in a residential area.

Question 17

A Pigovian tax sets the price of pollution while tradable pollution permits set the quantity of pollution.

Question 18

A positive externality is an external benefit that accrues to the buyers in a market while a negative externality is an external cost that accrues to the sellers in a market.

Question 19

If transaction costs exceed the potential gains from an agreement between affected parties to an externality, there will be no private solution to the externality.

Question 20

A positive externality (that has not been internalised) causes the

A) equilibrium quantity to exceed the optimal quantity.
B) equilibrium quantity to equal the optimal quantity.
C) optimal quantity to exceed the equilibrium quantity.
D) equilibrium quantity to be either above or below the optimal quantity.

Question 21

A positive externality will cause a market to produce

A) more than is socially desirable.
B) less than is socially desirable.
C) the socially optimal equilibrium amount.
D) more than the same market would produce in the presence of a negative externality.

Question 22

Which of the following is not considered a transaction cost incurred by parties in the process of contracting to eliminate a pollution externality?

A) Costs incurred due to lawyers' fees.
B) Costs incurred to reduce the pollution.
C) Costs incurred to enforce the agreement.
D) Costs incurred due to a large number of parties affected by the externality.
E) All of these answers are considered transaction costs.

Question 23

Flu injections are associated with a positive externality. (Those who come in contact with people who are inoculated are helped as well.) Given perfect competition with no government intervention in the vaccination market, which of the following holds?

A) At the current output level, the marginal social benefit exceeds the marginal private benefit.
B) The current output level is inefficiently low.
C) A subsidy on each injection could turn an inefficient situation into an efficient one.
D) All of the above are correct.

Question 24

When a person drives a car that pollutes the air the

A) private cost of consuming the car's services exceeds the social cost.
B) private benefit of consuming the car's services exceeds the social benefit.
C) social cost of consuming the car's services exceeds the private cost.
D) social benefit of consuming the car's services exceeds the private benefits.

Question 25

Refer to the figure above. This diagram represents the tobacco industry. Which of the following would be included in the supply (private cost) curve?

A) The cost of labour.
B) The cost to the government of the hospital expenses of smokers with cancer.
C) The increased risk of cancer to the non-smoking passengers in the smoker's car pool.
D) All of the above.

Question 26

If a perfectly competitive industry is not forced to take account of a negative externality it creates, it will produce where

A) the marginal cost of production equals the marginal private benefit.
B) the marginal cost of production equals the marginal social benefit.
C) the marginal social cost of production equals the marginal social benefit.
D) price equals marginal social benefit.

Question 27

A benefit of taxes over regulation to internalise externalities is

A) it is easier to choose the optimal amount of taxes than the optimal amount of regulation.
B) regulations are more difficult to impose than taxes.
C) taxes equate the social costs with the social benefits.
D) taxes provide incentives to adopt new methods to reduce the externality.

Question 28

Refer to the figure above. This diagram represents the tobacco industry. The industry creates

A) positive externalities.
B) negative externalities.
C) no externalities.
D) no equilibrium in the market.

Question 29

The government engages in a technology policy

A) by allocating tradable technology permits to high technology industry.
B) to internalise the positive externality associated with technology-enhancing industries.
C) to help stimulate private solutions to the technology externality.
D) to internalise the negative externality associated with industrial pollution.

Question 30

Because there are positive externalities from higher education,

A) private markets would provide too little of it.
B) private markets would provide too much of it.
C) the government should impose a tax on university students.
D) the government should impose a tax on students' families.

Question 31

The most efficient pollution control system would ensure that

A) the regulators decide how much each polluter should reduce its pollution.
B) no pollution of the environment is tolerated.
C) each polluter reduces its pollution an equal amount.
D) the polluters with the lowest cost of reducing pollution reduce their pollution the greatest amount.

Question 32

Erick and Sandile live in a university hall of residence. Erick values playing loud music at R100. Sandile values peace and quiet at R150. Which of the following statements is true about an efficient solution to this externality problem if Erick has the right to play loud music and if there are no transaction costs?

A) Sandile will pay Erick between R100 and R150 and Erick will continue to play loud music.
B) Erick will pay Sandile R150 and Erick will continue to play loud music.
C) Sandile will pay Erick between R100 and R150 and Erick will stop playing loud music.
D) Erick will pay Sandile R100 and Erick will stop playing loud music.

Question 33

Refer to the figure above. Assume the production of the product imposes a cost on society of R70.00 per unit. If the free market equilibrium output is 50 units, the government should

A) impose a tax of R25.00 per unit.
B) reduce the output of the firm by approximately 39 units.
C) impose a lump-sum tax of R3 500 per period.
D) impose a tax of R70.00 per unit.

Question 34

When an individual buys a car in a congested urban area, it generates

A) a positive externality.
B) a positive technology spill-over.
C) an efficient market outcome.
D) a negative externality.

Question 35

According to the Coase theorem, private parties can solve the problem of externalities if

A) there are no transaction costs.
B) each affected party has equal power in the negotiations.
C) the party affected by the externality has the initial property right to be left alone.
D) there are a large number of affected parties.
E) the government requires them to negotiate with each other.

Question 36

Erick and Sandile live in a university hall of residence. Erick values playing loud music at R100. Sandile values peace and quiet at R150. Which of the following statements is true?

A) It is efficient for Erick to stop playing loud music regardless of who has the property right to the level of sound.
B) It is efficient for Erick to continue to play loud music.
C) It is efficient for Erick to stop playing loud music only if Sandile has the property right to peace and quiet.
D) It is efficient for Erick to stop playing loud music only if Erick has the property right to play loud music.

Question 37

To internalise a positive externality, an appropriate public policy response would be to

A) ban the good creating the externality.
B) tax the good.
C) subsidise the good.
D) have the government produce the good until the value of an additional unit is zero.

Question 38

Refer to the figure above. This diagram represents the tobacco industry. The socially optimal price and quantity exchanged are

A) R19.00 and 38 units.
B) R18.00 and 35 units.
C) R16.00 and 42 units.
D) R13.50 and 58 units.

Question 39

Internalising an externality means

A) the good becomes a public good.
B) government regulations or taxes are sufficient to eliminate the externality completely.
C) government imposes regulations that eliminate the externality completely.
D) incentives are altered so that people take account of the external effects of their actions.

Question 40

Refer to the figure above. This diagram represents the tobacco industry. The market creates an equilibrium price and quantity exchanged of

A) R19.00 and 38 units.
B) R18.00 and 35 units.
C) R16.00 and 42 units.
D) R13.50 and 58 units.

Question 41

When wealthy alumni provide charitable contributions to their universities to reduce the tuition payments of current students, it is an example of

A) an attempt to internalise a positive externality.
B) an attempt to internalise a negative externality.
C) a Pigovian tax.
D) a command-and-control policy.

Question 42

Why do economists prefer Pigovian taxes over regulations as a way to protect the environment?

Question 43

Use a graph to illustrate the quantity of pollution that would be emitted (a) after a corrective tax has been imposed and (b) after tradable pollution permits have been imposed. Could these two quantities ever be equivalent?

Question 44

Tradable pollution permits

A) reduce the incentive for technological innovations to further reduce pollution.
B) set the price of pollution.
C) determine the demand for pollution rights.
D) set the quantity of pollution.

Question 45

Rent seeking best describes where

A) individuals or groups take actions to redirect resources to generate income for themselves or the group.
B) there is rational ignorance.
C) politicians will reflect the interests of the local communities because they want to be re-elected.
D) all of the above.

Question 46

The Coase theorem suggests that efficient solutions to externalities can be determined through bargaining. Under what circumstances will private bargaining fail to produce a solution?

Question 47

Which of the following is true regarding tradable pollution permits and Pigovian taxes?

A) Pigovian taxes shift the demand curve for the pollution to the left and so lead to a more efficient market solution.
B) Pigovian taxes and tradable pollution permits create an efficient market for pollution.
C) Tradable pollution permits efficiently reduce pollution only if they are initially distributed to the firms that can reduce pollution at the lowest cost.
D) To set the quantity of pollution with tradable pollution permits, the regulator must know everything about the demand for pollution rights.
E) Pigovian taxes are more likely to reduce pollution to a targeted amount than tradable pollution permits.

Question 48

Tax avoidance is

A) illegal, finding loopholes in the system.
B) legal, finding loopholes in the system.
C) legal and includes the informal economy.
D) illegal and includes the informal economy.

Question 49

Using a supply and demand diagram, demonstrate how a positive externality leads to market inefficiency. How might the government help to eliminate this inefficiency?

Question 50

Suppose an industry emits a negative externality such as pollution and the possible methods to internalise the externality are command-and-control policies, Pigovian taxes, and tradable pollution permits. If economists were to rank these methods for internalising a negative externality based on efficiency, ease of implementation, and the incentive for the industry to further reduce pollution in the future, they would probably rank them in the following order (from most favoured to least favoured):

A) Pigovian taxes, command-and-control policies, tradable pollution permits.
B) Tradable pollution permits, Pigovian taxes, command-and-control policies.
C) Tradable pollution permits, command-and-control policies, Pigovian taxes.
D) Command-and-control policies, tradable pollution permits, Pigovian taxes.
E) They would all rank equally high because the same result can be obtained from any one of the policies.

Question 51

To produce honey, beekeepers place hives of bees in the fields of farmers. As bees gather nectar, they pollinate the crops in the fields, which increase the yields of these fields at no additional cost to the farmer. What might be a reasonable private solution to this externality, and how might the solution be reached?

Question 52

Using a supply and demand diagram, demonstrate how a negative externality leads to market inefficiency. How might the government help to eliminate this inefficiency?

Question 53

Is it right to say that monetary values can be placed on pollution?

Question 54

Tax evasion is

A) illegal, finding loopholes in the system.
B) legal, finding loopholes in the system.
C) legal and includes the informal economy.
D) illegal and includes the informal economy.

Question 55

Why might government decision-making be flawed by listening to lobbying?

Question 56

Why are Pigovian taxes preferred to regulatory policies as methods to remedy negative externalities?

Question 57

A Pigovian tax on pollution

A) sets the quantity of pollution.
B) reduces the incentive for technological innovations to further reduce pollution.
C) sets the price of pollution.
D) determines the demand for pollution rights.

Question 58

Which best describes making political decisions to return favours:

A) Short-termism.
B) Cronyism.
C) Special interest effect.
D) Rent seeking.

Question 59

A tax that is placed on new vehicles that are very fuel inefficient is an example of

A) a tradable pollution permit.
B) an attempt to internalise a positive externality.
C) an application of the Coase theorem.
D) an attempt to internalise a negative externality.

Question 60

Which of the following is an example of potential flawed government behaviour?

A) Voter incentives.
B) Bureaucrat Incentives.
C) The special-interest effect.
D) All of the above.

Question 61

Why might an inefficient tax system negate the effects of accounting for externalities?