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4:55 7 OI LTE X READ ONLY - This is an older file format. To make changes, m... more Upgrade a copy 2. The government has decided to take action to reduce the pollution caused by the chemical industry. This industry is composed of profit-maximizing, perfectly competitive firms. (a) Identify one policy that the government could implement to reduce pollution. (b) Explain the effect the policy you identified in part (a) would have on each of the following for the firms in the chemical industry. (i) Marginal cost (ii) Output (iii) Price (c) Explain the effect of the policy you identified in part (a) on the efficiency of the allocation of society's resources. FRQ 2 PRICE (S) Marginal Social Cost Marginal Private Cost Demand = Marginal Social Benefit Q1 Q2 Q QUANTITY OF GOOD X Marginal Revenue 1. The production of good X creates an externality. The following questions are based on the graph above, which shows the marginal revenue, marginal social benefit, marginal private cost, and marginal social cost associated with the production of good X. (a) Is the externality positive or negative? Explain. b) Using labeling from the graph above, identify the socially optimum output. Explain how you determined your answer. (c) Suppose that good X is produced by a profit-maximizing monopoly. Answer each of the following. (i) Using labeling from the graph above, identify the unregulated firm's output. Explain how you determined your answer. (ii) To produce the socially optimum output, indicate whether the government should tax or subsidize the firm. (iii) Calculate the dollar value of the needed per-unit tax or subsidy. FRQ 34:54 7 OI LTE X READ ONLY - This is an older file format. To make changes, m... more Upgrade a copy AD Q . . . /10 4. /15 2. /20 5. 125 3. /10 Name: Team: inn Unit 6: Market Failures and the Role of the Government Problem Set #6 1. Public Goods a. Identify and explain the two characteristics of public goods. Give and explain examples. ( /5) b. Explain why the public sector and not the private sector provides public goods. ( /5) 2. Externalities a. C /10) Assume excessively large SUVs include spillover costs that are not borne by the initial consumer but rather society as a whole. i. Explain two negative externalities associated with SUVs. Who pays the external costs? ii. Use a supply and demand graph to illustrate a negative externality. Identify the current price and output and the socially optimal price and output. iii. Use MSB and MSC to explain if SUVs are being overproduced or underproduced by the free market. Explain why the free market failed? iv. Explain what the government must do to fix this negative externality. Draw on a new graph. b. ( _/10) Assume the creation of city parks has spillover benefits that improve society as a whole. i. Explain two positive externalities associated with making more parks. Who receives the external benefits? ii. Use a supply and demand graph to illustrate a positive externality. Identify the current price and output and the socially optimal price and output. iii. Use MSB and MSC to explain if parks are being overproduced or underproduced by the free market. Explain why the free market failed? iv. Explain what the government must do to fix the positive externality. Draw on a new graph. 3. Antitrust Laws a. Explain the purpose of antitrust policies. In your response, explain why monopolies are inefficient compared to perfect competition. Draw a monopoly and explain the difference between regulating at the socially optimal price and regulating at the fair return price ( /5) b. Explain if the government should tax or subsidize a monopoly to get them to produce the socially optimal quantity. Make sure your answer clearly explains why. ( /5) 4. Redistribution of Income a. Define and give examples of each type of tax: Progressive, Proportional, and Regressive. C 15) b. The average family income in America in 2001 was $66,863. Identify why this is misleading and explain why the Lorenz Curve is an effective way to measure income distribution. Draw the curve to illustrate your point. ( /10) 5. ( /25) Practice FRQs: Complete the following on the day they are assigned. 2. The graph below shows the price (Po) and quantity (Qo) at which there is an efficient allocation of resources. Marginal Social PRICE Cost Po Marginal Social Benefit Qo QUANTITY However, in some cases the market fails to allocate resources efficiently. (a) Assume the chemical industry is polluting the air. (i) Using marginal benefit and marginal cost analysis, explain how the chemical industry is misallocating resources. (ii) Identify one policy or action the government could take to correct this market failure. (b) Assume it is difficult to exclude nonpayers from enjoying the benefits of national defense. (i) Using marginal benefit and marginal cost analysis, explain how the private market will fail to produce the efficient level of national defense. (ii) Identify one policy or action the government could take to correct this market failure. FRQ 1
