Deck 11: Regulation, Public Goods, and Benefit-Cost Analysis

Question 1

Which of the following is the best example of a pure public good?

A) Government-sponsored medical care
B) Textbooks
C) Used clothing
D) Municipal mosquito abatement programs
E) Social security benefits

Answer 1

D

Question 2

Which of the following is true of a monopoly market versus a perfectly competitive one?

A) Prices are lower than in a perfectly competitive market.
B) Total output produced is smaller but the price is the same as in a perfectly competitive market.
C) The total consumer surplus is smaller than in a perfectly competitive market.
D) The deadweight loss is smaller than in a perfectly competitive market.
E) Output is produced using a greater number of facilities than in a perfectly competitive market.

Answer 2

C

Question 3

Figure 11-1 shows the marginal internal cost [C₁], the marginal total cost [C₂], and the demand curve [D], associated with a particular good.

Refer to Figure 11-1. If the external cost of producing the good is not taken into account, what is the deadweight loss in the market?

A) $2
B) $4
C) $5
D) $10
E) $15

Answer 3

C

Question 4

A pure public good:

A) is provided by private firms for the benefit of the public.
B) exhibits diminishing individual benefits the greater the number of users.
C) is nonrival and nonexclusive.
D) provides the same level of welfare to each user.
E) is financed by tax revenues rather than individual user fees.

Question 5

Predatory pricing:

A) occurs when a large company sets price below cost to drive smaller firms out of business.
B) is the practice of selling the same good at different prices to different consumers.
C) means setting a very high price for a product to signal high product quality.
D) occurs when firms in a market collude to set a high price for the product.
E) occurs when a firm extracts price reductions from its suppliers.

Question 6

In the absence of regulation, which of the following is true of a good or service that generates a positive externality?

A) The supply of the good will be less than the socially optimal level of output.
B) The firm captures the benefit from the positive externality in the form of increased profits.
C) The market price of the good will be equal to its marginal external cost.
D) The market price of the good will be less than the socially optimal price.
E) The firm will produce an output such that marginal total cost equals price.

Question 7

Figure 11-1 shows the marginal internal cost [C₁], the marginal total cost [C₂], and the demand curve [D], associated with a particular good.

Refer to Figure 11-1. In the presence of externalities, what is the efficient price and quantity combination in the market?

A) $5 and 10 units
B) $7 and 10 units
C) $7 and 15 units
D) $5 and 15 units
E) $8 and 8 units

Question 8

Which of the following will eliminate the inefficiency problems associated with negative externalities?

A) A subsidy to consumers in order to decrease the effective price and increase output.
B) A tax levied on consumers so as to increase the effective price.
C) A tax levied on producers so as to internalize the marginal cost of the externality.
D) A subsidy to producers in order to reduce their cost of production.
E) A government mandate using quantity standards to reduce the externality.

Question 9

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

A) Due to heavy rains, the coffee crop in Brazil was damaged.
B) Ruth could not sleep because her neighbors were bursting firecrackers on the 4^th of July.
C) Meg had to miss a movie with her friends because she had to study for an exam.
D) Jim was late to work because the train ran late.
E) Sara can't afford a planned trip because airline fares spiked before she booked her flights.

Question 10

Which of the following is a source of market failure?

A) Unexpected shifts in demand and supply
B) Monopoly power
C) Diseconomies of scale
D) Destructive price wars between firms
E) Perfect information in markets

Question 11

Market efficiency is typically achieved by:

A) a small number of dominant firms whose large size ensures low cost.
B) large firms that practice corporate social responsibility.
C) competitive firms that maximize benefits for consumers.
D) command-and-control type regulation of the market.
E) firms that make positive economic profits.

Question 12

When consumers possess imperfect information or misinformation:

A) there is a role for the government to intervene and mandate better outcomes.
B) firms have an incentive to reduce the information asymmetry in the market.
C) industry associations that have better information should regulate the market.
D) competitive efficiency is achieved as long as the market is unregulated.
E) less-efficient products will be driven out of the market.

Question 13

Which of the following correctly states the Coase theorem?

A) The outcome of a negotiation to resolve an externality will depend on the initial assignment of property rights.
B) Parties that are affected by an externality will bargain to reach an efficient outcome, even in the presence of positive transaction costs.
C) When two parties are affected by an externality, the party that caused the externality will pay the affected party the entire cost of the externality.
D) In the absence of property rights assigned to the affected parties, the efficient outcome will need to be negotiated by the government.
E) Bargaining between the affected parties will result in an efficient outcome, regardless of the property-rights assignment.

Question 14

Which of the following will increase the competitive efficiency of a market?

A) Setting prices below cost such that smaller firms are driven out of the market
B) Selling goods in complementary bundles
C) Selling the same product at different prices to different consumers
D) Mergers between firms that reduce costs but allow the new firm to set higher prices
E) Removing barriers to entry in the market

Question 15

Which of the following statements is true regarding the efficiency of using pollution fees versus quantity standards to regulate pollution?

A) Quantity standards are more efficient fees because they can be used even in the presence of incomplete information.
B) Pollution fees are more efficient because they ensure that all firms pay a uniform penalty for continuing to pollute.
C) Quantity standards are more efficient because they allow for more flexibility and adjustment.
D) Pollution fees are more efficient provided the fee is less than the marginal externality cost.
E) Pollution fees are more efficient because they induce greater total pollution reduction.

Question 16

When a chemical firm is required to internalize the external cost of pollution:

A) the price of the chemical produced will increase.
B) both the quantity produced and price will fall.
C) the quantity produced will increase.
D) both the price and the producer's profit will increase.
E) the quantity will remain the same but the price will increase.

Question 17

Figure 11-1 shows the marginal internal cost [C₁], the marginal total cost [C₂], and the demand curve [D], associated with a particular good.

Refer to Figure 11-1. The external cost associated with producing the good is:

A) $5.
B) $7.
C) $8.
D) $12.
E) $2.

Question 18

Rent-seeking is:

A) the loss in consumer surplus due to monopoly power in a market.
B) the collusive practices undertaken by dominant firms in an oligopoly.
C) comprises the excess profits that are associated with a monopoly.
D) comprises the activities that are directed towards securing a monopoly position.
E) is the economic rent secured by monopoly firms.

Question 19

Figure 11-1 shows the marginal internal cost [C₁], the marginal total cost [C₂], and the demand curve [D], associated with a particular good.

Refer to Figure 11-1. In the absence of externalities, the quantity produced of the good is:

A) 17 units.
B) 15 units.
C) 8 units.
D) 0 units.
E) 10 units.

Question 20

The production of a good with positive externalities will increase when:

A) the government provides a subsidy for the good.
B) the marginal internal cost of the good is higher than the marginal total cost.
C) there is a price ceiling of zero in the market.
D) the producer sells the good for a very high price markup.
E) there are a large number of buyers and sellers in the market.

Question 21

How would national security be valued in benefit-cost analysis?

A) Public goods like national security are excluded from benefit-cost analysis because valuation of benefits from such goods is not possible.
B) Goods like national security are valued at $0 since national security is not provided through private markets so there is no market price as a reference.
C) Goods like national security are valued using surveys and indirect proxies based on market prices.
D) The value of a public good like national security is the difference between the taxes paid to the government and the salaries paid to army personnel.
E) The value of national security is equal to the difference between revenues and expenses in the government's defense budget.

Question 22

What is meant by rent-seeking by a monopoly firm?

Question 23

Brown City Pet Food Co. produces a complete line of dry pet foods. During the past year they have been test marketing a meat-based dog food. The firm's plant is located in an industrial park adjacent to the Brown River. The city's water system as well as much of its tourism industry is tied to the river. Recent tests show that a higher-than-normal bacteria count in the river stems from the effluent dumped into the river by the company. Experts are certain that the bacteria are generated from production of the new meat-based dog food. The firm's long-run cost of production is: LAC = LMC = $10 per case, where LAC is long-run average cost and LMC is long-run marginal cost.
(a) The company faces a number of competitors but still has some degree of market power. In particular, the firm's long-run price elasticity is E_P = -3. Determine its optimal price and resulting profit margin.

Question 24

A port authority is in the process of deciding the optimal depth (in feet) of a harbor dredging project. Both commercial shippers and pleasure boaters use the harbor. The total cost of dredging the harbor (in hundreds of thousand dollars) is C = 2F + .25F2, where F is harbor depth in feet. The total benefits to commercial shippers and pleasure boaters are: BCS = 18F - .5F2 and BPB = 8F - .25F2, respectively.
(a) Determine the optimal harbor depth.

Question 25

The following table gives the estimated costs and benefits of a proposed public convention center.
Table 11-1
$\begin{array} { | l | l | } \hline \text { Annual net revenues } & \$ 100,000 \\\hline \text { Additional city taxes } & \\\text { and other financial } & \\\text { benefits } & \$ 50,000 \\\hline \text { Additional after-tax } & \\\text { business profits } & \$ 120,000 \\\hline \text { Consumer surphs } & \$ 80,000 \\\hline \begin{array} { l } \text { Street mairtenance } \\\text { and repair }\end{array} & \$ 60,000 \\\hline \begin{array} { l } \text { Cost of traffic } \\\text { congestion }\end{array} & \$ 70,000 \\\hline\end{array}$

-Refer to Table 11-1. What is the annual net benefit from building the convention center?

A) $140,000
B) $220,000
C) $240,000
D) $290,000
E) $350,000

Question 26

Suppose the government plans to build a dam at one of several locations in the country. The government should build the dam in the location where:

A) it can get the highest revenue from levying taxes on the water generated.
B) the cost of building the dam is the lowest.
C) the marginal external cost of building the dam is the lowest.
D) the net benefit of building the dam is the greatest.
E) the marginal benefit from the dam just covers the marginal internal cost.

Question 27

Which of the following is true of benefit-cost analysis?

A) It eliminates projects whose costs and benefits stretch into the distant future.
B) Its main focus is to equalize the distribution of costs and benefits across society.
C) Because it excludes the use of market prices, it is necessarily is inefficient.
D) Its methodology is designed to help the government to maximize its profit from public projects.
E) It identifies and values a project's many impacts on all affected members of society.

Question 28

The criticism that benefit-cost analysis does not reflect distributional or equity considerations:

A) implies that the analysis is of little value when benefits are inequitably distributed.
B) is not valid because benefit-cost analysis focuses on equity, not efficiency.
C) is addressed by using the tax and redistribution systems to address economic inequities.
D) holds that equity is more important than efficiency in a market economy.
E) implies that benefit-cost analysis should be guardedly used to analyze public programs.

Question 29

Suppose the yearly interest rate is given by r and the annual benefit flow B from a project is expected to continue indefinitely. Its present value is:

A) B/r.
B) B/(1+r).
C) (1+r)/B.
D) rB.
E) B/(1+r)²

Question 30

What is the economic reasoning behind granting a patent to a pharmaceutical firm?

Question 31

Two mutually exclusive projects, expected to last indefinitely, are being compared. Program A has annual profits and consumer surplus of $10 million and a one-time capital expenditure of $50 million. Program B has consumer surplus of $15 million and a one-time capital expenditure of $100 million. Using net present value as a criterion, which alternative should be selected?

A) If the discount rate is 12%, Program B should be selected.
B) If the discount rate is less than 10%, Program B should be selected.
C) If the discount rate is 22%, neither program should be selected.
D) The programs have the same net present value regardless of the discount rate used.
E) Answers if the discount rate is less than 10%, Program B should be selected and if the discount rate is 22%, neither program should be selected are both correct.

Question 32

Suppose that a public project (for example, a golf course) is funded out of general tax revenues. The proportion of the population benefiting from the project is split into a high-income group and a low-income group, and 75% of the benefits go to the high-income group. How does this information affect a benefit-cost analysis?

Question 33

How can the prices of nonmarketed goods and services be calculated?

Question 34

Explain why a private golf club might charge (1) an initiation fee, (2) an annual membership fee, (3) rental fees for carts on the golf course, and (4) dining fees for eating a required number of meals in the club's restaurant. (Hint: Use the concepts of an individual's downward-sloping demand curve and consumer surplus)

Question 35

Use economic reasoning to comment on the following statement: "In a market where products appear to be similar but significant quality and performance differences exist, lack of information about product quality by some proportion of customers justifies government intervention."

Question 36

How does decision making under profit-maximization compare with benefit-cost analysis?

A) Benefit-cost analysis is more comprehensive than profit-maximization since it includes the value of consumer surplus.
B) Even in the presence of externalities, profit-maximization leads to efficient outcomes, while benefit-cost analysis does not.
C) Profit maximization internalizes the cost of externalities unlike benefit-cost analysis.
D) A public program should be implemented on the basis of profit-maximization principles and not benefit-cost analysis.
E) Under profit-maximization, the benefits and costs from a program are usually overstated.

Question 37

When deciding among mutually exclusive projects, a public manager should choose:

A) all projects that have benefit-cost ratios greater than one.
B) all the projects that have positive net benefits.
C) the project with the greatest benefit-cost ratio.
D) the project with the greatest positive net benefit.
E) the project with the lowest total cost.

Question 38

The city council of Anderson is evaluating several projects. A consensus has been reached to appropriate funds for the two projects with the highest net present value. The discount rate is 8% and the benefits from the projects are expected to continue indefinitely. Based on the information given in the table, which projects should be funded?

Question 39

The Federal Communications Commission (FCC) is trying to decide how to allocate an unused part of the radio spectrum for personal communication services (PCS) which are advanced cellular communication services. The monthly demand for the service in a major city is given by Q = 1000 - 10P where Q is the number of subscribers (in thousands) and P is the monthly service price (in $). A typical firm can provide PCS service at the cost: MC = AC = $20 per subscriber per month.
(a) The FCC is considering licensing the exclusive right to use the spectrum to a single firm. What price should the firm set, and what is the resulting total number of subscribers? Suppose the FCC charges the firm to license the spectrum. What is the maximum monetary amount that the FCC could expect to receive for exclusive spectrum rights?

Question 40

Janet's Silk Printing company is located in a small university town. The major portion of their business is custom printed sweatshirts for university bookstores. As a sideline they also retail printed sweatshirts locally. The local demand for sweatshirts is: Q = 200 - 5P. The average and marginal cost per printed sweatshirt is $8.
(a) Calculate output, price, and profit under the monopoly conditions they enjoy locally.

Question 41

Define a public good. How are private and public goods different?

Question 42

What is an externality? List the various types of externalities. Discuss why externalities justify government intervention.

Question 43

Outline the major steps required to construct a benefit-cost analysis for a government project.

Question 44

A city is deliberating whether to undertake a major infrastructure investment to provide free, high-speed WIFI internet access within its city limits. Alternatively, the city could rely on the private sector to provide access. The city estimates internet demand to be P = 20 - 5Q, where Q denotes number of users (in millions) and P is price per month in dollars. The emerging private market for internet access is considered to be highly competitive, and the typical provider exhibits LAC = LMC = $5 per subscriber per month, where LAC is long-run average cost and LMC is long-run marginal cost. According to the city's estimates, the initial cost for constructing the high-speed network is $600 million and network maintenance costs are $80 million per year. Prepare a benefit-cost analysis to guide the city's decision. Assume that the public and private alternatives will last indefinitely, and that each will be held to a 5% discount rate.

Question 45

Fisherburg is a growing industrial and tourism community with a population of 50,000 and a regional labor force pool of 40,000. A multinational corporation operates an aging paper producing plant in the community. The plant employs almost 1,500 workers and there is some concern that the current recession will force the plant to cut back production. There is even some risk that the plant will close permanently.
During the past year a group of resort owners, riverfront homeowners, and outdoor sports enthusiasts have formed a committee to address river pollution. Their petition for placing a 'clean river' amendment on the ballot in the upcoming local election will soon be considered by the city council. The council president is concerned about the impact of such a ballot issue, and has requested you, an economic consultant, to prepare an objective economic evaluation of potential problems the community faces.

Question 46

How does benefit-cost analysis handle the problem of valuing 'priceless' human life?

Question 47

The following (incomplete) payoff table depicts the net benefits to the United States and the European Union (EU) of reducing carbon emissions. Carbon quantities are in billions of tons and monetary amounts are in billions of dollars. For the United States, the marginal benefit, MB, is $40 for each ton reduced; for the EU, MB = $50 per ton. Each side benefits regardless of who reduces the emissions. For instance, if the EU reduces emissions by 0.6 billion tons and the U.S. does nothing, the US enjoys a benefit of (40)(0.6) = $24 billion, as indicated in the table. For the U.S., the marginal cost (MC) of reducing emissions is $60 per ton; for the EU, MC = $70 per ton.
(a) Complete the missing entries in the table by computing each side's net benefit. (Net benefit is simply total benefit minus total cost and can be positive or negative).

Question 48

What are the possible actions that the government can take to reduce the concentration of market power in the hands of a few firms in the market?

Question 49

What are some of the major problems of benefit-cost analysis? How can they be minimized?