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Question 1. Polly owns an electric power plant in the city of Newtown. The market price of electricity in Newtown is $1.00 per kilowatt hour (kwh). Polly's marginal costs of electricity production are MC=.5+0.025Q, where Q is the number of kwh generated. Jack owns a laundry service that operates next door to Polly's power plant. Jack's specialty in town is the \"spring fresh" scent he achieves by airdrying laundry outside. In producing electricity, Polly also produces smoke. Unfortunately, Polly's smoke dirties Jack's laundry, creating costs for Jack of $0.25 for each kwh Polly produces. Please suggest at least possible solutions to the market failure in this situation (No calculation is needed, but policy suggestions must be aligned with this specific case). Question 2. Assume that there are two electric power plants (firm 1 and rm 2) that burn coal to generate electricity, emitting sulfur dioxide, an air pollutant, in the process. They can reduce emissions at the following marginal costs, where q: is tons of emissions abatement by firm 1, and qz is tons of abatement by firm 2: M'C1 =12q1 M'C2 = 49'2 Assume that unregulated emissions are 40 tons for each firm, for a total of 80 tons. 2.1 An environmental regulator must reduce total emissions of sulfur dioxide by 20 tons. To achieve the costeffective allocation of control responsibility,- which firm would choose to achieve more emission abatement and why? (Calculation is not required.) 2.2 Do you think the regulator could achieve the same 20-ton reduction objective using an emissions tax, why and why not? Question 3. Explain how each of the following relates to the information asymmetry categories that we discussed in class: a. Motorcycle owners buy a lot of accident insurance. b. Your professor announces that she will not give any grade below an A in your introductory microeconomics course. c. New cars lose much of their resale value shortly after they are purchased. d. The federal government offers subsidized loans and other reconstruction assistance when hurricane-related flooding destroys homes in coastal areas. e. Insurance companies write policies with deductibles. Question 4. Explain how each of the following demonstrates one or more principles of behavioral economics. a. You are shopping and find a great pair of running shoes, but the price ($120) is more than you are willing to pay. One week later, you find the same pair ofshoes on sale for $80, and you buy them. When you tell your roommate about this great deal, he offers to buy the shoes (his favorite model, and just his size) from you for $120. You refuse the deal. During the recent housing market crisis, home sales were sluggish in part due to significant and persistent differences between sellers' asking prices and buyers' offers. This effect was demonstrated empirically by economists for an earlier housing market dip a cyclical low point in condominium prices in Boston - in which sellers whose condos' expected selling price fell below their original purchase price set an asking price well above the average asking prices of other sellers {controlling for condo characteristics). Dialogue from The Simpsons, Feb. 21, 1999 (cited in Thaler and Sunstein, Nudge, p. 134). Homer Simpson is negotiating a lease on a fictitious sport utility vehicle, a Canyonero, at his local car dealership. Canyonero Salesman: 0K, here's how your lease breaks down. This is your down payment, then here's your monthly, annnnnd. there's your weekly. Homer: And that's it, right? Salesman: Yup....oh. then after your final monthly payment there's the routine CBP, or Crippling Balloon Payment. Homer: But that's not for a while, right? Salesman: Right! Homer: Sweet! Part II. Single-Choice Questions 1) In an unregulated, competitive market, consumer surplus exists because some: A) sellers are willing to take a lower price than the equilibrium price. B) consumers are willing to pay more than the equilibrium price. C) sellers will only sell at prices above equilibrium price (or actual price). D) consumers are willing to make purchases only if the price is below the actual price. Answer: 2) In an unregulated, competitive market producer surplus exists because some: A) consumers are willing to pay more than the equilibrium price. B) producers are willing to take more than the equilibrium price. C) producers are willing to sell at less than the equilibrium price. D) consumers are willing to purchase, but only at prices below equilibrium price. Answer: 3) Based on the figure below, what is the monopoly price and quantity? A) price = A; quantity = X B) price = B,- quantity = Y C) price = B; quantity = X D) price = C; quantity = X Answer: PM MC 4) Answer the question based on figure below. Suppose this market is served by a duopoly in which each firm faces the marginal cost curve shown in the diagram. The marginal revenue curve that a monopolist would face in this market is also shown. Which of the following statements is true? A) The total output in this market will likely be 2 units when the market is served by a duopoly. B) The price in this market will likely be 55 when the market is served by a duopoly. C) The total revenue to each rm will likely be more than $16 when the market is served by a duopoly. D) The total output in this market will likely be less than 4 units when the market is served by a duopoly. Answer: P 10 _ 9 I 'l' MC 6 5 4 3 1 I Demand 123456759IDIIQ 5) Eliminating price supports for all U.S. agricultural producers will hurt the farmers who cultivate products that have: A} a high own price elasticity of demand and a high price elasticity of market supply. B) a high own price elasticity of demand and a low price elasticity of market supply. C) a low own price elasticity of demand and a high price elasticity of market supply. D) a low own price elasticity of demand and a low price elasticity of market supply. Answer: 6) A government can impose an import quota or an equivalent tariff that achieves the same impact on trade. What is the key difference in the welfare outcomes ofthese two policy options? A) The domestic quantity supplied is larger under the tariff policy. B) The domestic price is higher under the tariff policy. C) The domestic price is lower under the tariff policy. D) The government captures some of the profits from foreign suppliers through the tariff revenue. Answer: 7) What is the welfare impact of a subsidy policy? A) Producer surplus increases, consumer surplus declines, and total welfare declines. B) Producer and consumer surplus increase, and these gains are larger than the government cost. C) Producer and consumer surplus increase, and these gains are smaller than government cost. D) Producer surplus increases, consumer surplus declines, and total welfare increases due to the subsidy program. Answer: 8) Dry cleaning of clothing produces air pollutants. Therefore, in the market for dry cleaning services, the equilibrium price: A) and output are too low to be optimal. B) and output are too high to be optimal. C) is too low to be optimal, and equilibrium quantity is too high. D) is too high to be optimal, and equilibrium quantity is too low. E) is optimal, but there is an excess supply. Answer: 9) Because of the kind of externalities that tend to be generated from general R&D resources bought by firms, the equilibrium price of R&D: A) is above the optimal level, and quantity is below the optimal level. B) is below the optimal level, and quantity is above the optimal level. C) and quantity of R&D are both above the optimal level. D) and quantity of R&D are both below the optimal level. E) must fall ln_o_r_de_r_f9_rthe market to reach equilibrium. Answer: 10) Under a transferable emissions permit system (Cap and Trade), A) the firms with the lowest marginal abatement cost curves will reduce emissions most. B) the firms with the highest marginal abatement cost curves will reduce emissions most. C) the firms with the lowest marginal social cost curves will reduce emissions most. D) the firms with the highest marginal social cost curves will reduce emissions most. E) all rms will reduce emissions equally. Answer: 11) After learning about behavioral economics, it is clear that: A) we should dispense with the traditional economic theory. B) traditional theory does not explain all consumer decisions, but it sheds light on many of them. C) traditional theory would stay but take a second place behind behavioral economics. D) including behavioral economics in an economic model would add unnecessary complexity