Chapter 10/11

Question 1

Negative externality

Answer 1

a situation when a person’s actions have a negative impact on a bystander

Question 2

Positive externality

Answer 2

a situation when a person’s actions have a beneficial impact on a bystander

Question 3

corrective tax

Answer 3

A tax designed to induce private desicion maker to take into account the social costs that arise from a negative externality

Question 4

externality

Answer 4

the uncompensated impact of the actions of one person on a bystander

Question 5

social cost

Answer 5

the sum of private and external costs

Question 6

internalizing an externality

Answer 6

altering incentives so that people take into account the external effects of their actions

Question 7

give an example of a negative externality and an example of a positive externality

Answer 7

The exhaust from automobiles is a negative externality because it creates smog that other people have to breathe. As a result of this externality, drivers tend to pollute too much. The federal government attempts to solve this problem by setting emission standards for cars. It also taxes gasoline to reduce the amount that people drive.

Restored historic buildings convey a positive externality because people who walk or ride by them can enjoy the beauty and the sense of history
that these buildings provide. Building owners do not get the full benefit of restoration and, therefore, tend to discard older buildings too quickly. Many local governments respond to this problem by regulating the destruction of historic buildings and by providing tax breaks to owners who restore them.

Question 8

Coase theorem

Answer 8

the proposition that if private parties can bargain without cost over the allocation of resources, they can solve the problem of externalities on their own

Question 9

transaction costs

Answer 9

the costs that parties incur in the process of agreeing and following through on a bargain

Question 10

3. In what way does the patent system help society
   solve an externality problem?

Answer 10

The patent laws protect the rights of inventors by giving them exclusive use of their inventions
for a period of time. When a firm makes a technological breakthrough, it can patent the idea and capture much of the economic benefit for itself. The patent internalizes the externality by giving the firm a property right over its invention. If other firms want to use the new technology, they have to obtain permission from the inventing firm and pay it a royalty. Thus, the patent system gives firms a greater incentive to engage in research and other activities that advance technology.

Question 11

5. List some of the ways that the problems
   caused by externalities can be solved without
   government intervention.

Answer 11

• Moral codes and social sanctions
• Charities
• The interested parties to enter into a contract
• Relying on the self-interest of the relevant parties

Question 12

4. What are corrective taxes? Why do economists
   prefer them to regulations as a way to protect
   the environment from pollution?

Answer 12

Instead of regulating behavior in response to an externality, the government can use market-based policies to align private incentives with social efficiency. For instance, as we saw earlier, the government can internalize the externality by taxing activities that have negative externalities and subsidizing activities that have positive externalities. Taxes enacted to deal with the effects of negative externalities are called corrective taxes. They are also called Pigovian taxes after economist Arthur Pigou (1877–1959), an early advocate of their use. An ideal corrective tax would equal the external cost from an activity with negative externalities, and an ideal corrective subsidy would equal the external benefit from an activity with
positive externalities.

Question 12

6. Imagine that you are a nonsmoker sharing a
   room with a smoker. According to the Coase
   theorem, what determines whether your
   roommate smokes in the room? Is this outcome
   efficient? How do you and your roommate
   reach this solution?

Answer 12

the Coase theorem after economist Ronald Coase, suggests that it can be very effective in some circumstances. According to the Coase theorem, if private parties can bargain over the allocation of resources at no cost, then the private market
will always solve the problem of externalities and allocate resources efficiently.

Question 13

Explain what is meant by a good being
“excludable.” Explain what is meant by a good
being “rival in consumption.” Is a slice of pizza
excludable? Is it rival in consumption?

Answer 13

excludability: the property of a good whereby a person can be prevented from using it

rivalry in consumption: the property of a good whereby one person’s use diminishes other people’s use

A slice of pizza could be both

Question 14

2. Define and give an example of a public good.
   Can the private market provide this good on its
   own? Explain.

Answer 14

public goods: goods that are neither excludable nor rival in consumption - For example, a tornado siren in a small town is a public good A private market can’t provide is not excludable, people have an incentive to be free riders. A free rider is a person who receives the benefit of a good but does not pay for it. Because people would have an incentive to be free riders rather than ticket buyers, the market would fail to provide an efficient outcome.

Question 15

3. What is the cost-benefit analysis of public goods?
   Why is it important? Why is it hard?

Answer 15

cost-benefit analysis: a study that compares the costs and benefits to society by providing a public good
They do not have any price signals to observe when evaluating whether the government should provide a public good and how much to provide. Their findings on the costs and benefits of public projects are rough approximations at best.

Question 16

4. Define and give an example of a common
   resource. Without government intervention,
   will people use this good too much or too little?
   Why?

Answer 16

Common resources are rival in consumption but not excludable. For example, fish in the ocean are rival in consumption: When one person catches fish, there are fewer fish for the next person to catch. Yet these fish
are not an excludable good because, given the vast size of an ocean, it is difficult to stop fishermen from taking fish out of it.

People would use this good too much

Question 17

Tragedy of the
Commons

Answer 17

a parable that illustrates why common resources are used more than is desirable from the the standpoint of society as a whole

Question 18

private good

Answer 18

both excludable and rival in consumption

Question 19

public good

Answer 19

neither excludable nor rival in consumption

Question 20

common good

Answer 20

goods that are nonexcludable but rival in consumption

Question 21

club good

Answer 21

excludable goods but nonrival in consumption

Question 22

free rider

Answer 22

a person who receives
the benefit of a good but
avoids paying for it

Question 23

3: Suppose that a commercial apple orchard uses pesticides in the production of apples. In the process, dangerous fumes drift across a nearby neighborhood. 1. Is this an example of a positive or a negative externality? Explain.

2. If this externality is not internalized, does the market overproduce or underproduce apples? What does it mean to overproduce or underproduce a product?
3. To internalize this externality, should the government tax or subsidize apples? Why or why not?

Answer 23

Short-Answer Questions Negative externality, because the social cost of producing apples exceeds the private cost of producing apples

Overproduce: To overproduce is to produce units Where the true cost exceeds the true value To underproduce t to fai, to produce unite where the true value exceeds the true cost.

Tax apples because to Internalize the externality, & requires that the supply curve for apples be Shifted upward until it equals the true social cost.

Question 24

6. Why are tradable pollution permits considered superior to corrective taxes at reducing pollution

Answer 24

6. The regulator doesn’t need to know anything about the demand to pollute in order to arrive at the targeted amount of pollution.

Question 25

5. Does a corrective tax reduce or increase efficiency? Why!

Answer 25

It increases efficiency by shifting the supply or demand curve toward the true social cost or value curve, thereby making the market solution equal to the optimal or efficient solution.

Question 26

Suppose an Individual enjoys lawn care and gardening a great deal. He uses pes- Alcides to control insects and the harmful residue drifts from the neighborhood. He values the use of pesticides at $10,000 and the neighborhood values clean air at $15,000. What does the Conse therm suggest will take place?

In question 7 above, how large would the transaction costs need to be in order to ensure that a private solution to the problem can be found?

Answer 26

No pesticides will be used and the air will be clean, regardless of whether the individual owns the right to use pesticides or the neighborhood residents own the right to clean air.

Either the individual will fail to buy the right to pollute or the neighborhood residents will pay the individual not to pollute: There are $15,000 - $10,000 = 5,000 of potential benefits.

Question 27

9. What are the sources of transaction costs when affected parties try to eliminate an externality?

Answer 27

If transaction costs exceed this amount there will be no private solution. Lawyers fees, costs of enforcement, a breakdown in bargaining when there is a range of prices that would create efficiency, and a large number of interested parties.

Question 28

10. What are some types of private solutions to externalities?

Answer 28

10. Moral codes and social sanctions, charities, mergers between affected firms, contracts between affected firms

Question 29

1. What are the two types of public policies toward externalities? Describe them. Which one do economists prefer? Why

Answer 29

Command and-control policies and regulations that prohibit certain behaviors Market-based policies align private incentives with social efficiency, Economists prefer market-based policies because they are more efficient and they provide incentives for even further reduction in, say, pollution through advances in technology.

Question 30

What is meant by the statement that “government actions are not costless?”

Answer 30

Government actions are not costless, which means that they have side effects on everything they do, this is market failure. Governments can screw up things terribly, intentionally or unintentionally, just the way things are set up.
Governments are not costless because:
There might be market failures, but if the cost of corrective action exceeds the cost of market failure, you shouldn’t correct
Government programs require spending on bureaucrats to run them - not always cheap
Also- the government can get things wrong.
Many cases of the EPA abusing power

Question 31

Define “Public Choice Theory.” What is the basic idea behind this area of study?

Answer 31

The analysis of the government’s resource allocation decision-making process is a component of public choice theory. The fundamental thing is that politicians aim to maximize their personal wealth. This is characterized as prioritizing their chances of reelection over furthering societal welfare. It may therefore experience setbacks, just like the private sector. The basic idea behind this study is that people behave rationally in politics by acting in their own best interests and taking advantage of incentives. The theory looks at how decisions are made, highlighting rent-seeking activity and possible shortcomings in government.

Question 32

What is meant by the “Majority rule problem?” Explain and give examples in your answer.

Answer 32

A majority rule problem is when a small majority gaining a small amount could pass laws that cost a minority large amounts. The problem is that dollars can measure the intensity of preferences but, “One person, One vote” cannot.
An example is any sort of vote on a public project, they could easily see this occurring, so there is a certain amount of taxes being collected, and those who gain view the value as being slightly more than the taxes which is 55%, and there’s another group which is would never use this at all, so there’s an entire other group who would never use this tax, just wasted money. Overall if you just added all the money to society, you are far worse off. Dollars measure the efficiency of markets and the value of products, one vote one person does not and leads to a number of inefficient outcomes.

Question 33

What is the “Special Interest Group effect?” How and why can this lead to undesirable outcomes for a majority of people in society? Give examples.

Answer 33

The Special Interest Group effect occurs when the government approves programs that benefit only a small group within society, but society as a whole pays the costs. This leads to major gains for beneficiaries and small costs per taxpayer. An example of this is farm bills, museums, “roads to nowhere”, festivals, and sports stadiums.

Question 34

What is meant by “Rational voter ignorance?” How does this imply that the democratic process sometimes will not work as intended, and how does it explain low voter turnout?

Answer 34

Rational voter ignorance is the idea that a voter could very rationally choose to remain uninformed because the marginal cost of obtaining information is much more than the marginal benefit of knowing it. So if there’s a local election coming up, and different candidates have different views on the issues. It would take some time to figure out who you’re going to vote for, so if this takes a couple of hours of research, then it is probably looking at the number, which makes it a bad idea to go vote. If you vote and you have no idea what is going to happen, then you can influence it very little, a tiny chance, which couldn’t change the election very much. This explains low voter turnout because people who choose not to vote have very rational reasons not to remain uninformed, or because votes aren’t divisible, so if you don’t know or don’t care, then it’s fine if you don’t vote.

Question 35

With regards to the last question, do you think that compulsory voting laws in places like Australia are a good idea, where everyone is required by law to vote under penalty of being fined? (Would you want people who know nothing about the issues, turning out to decide the outcome of an election or referendum?)

Answer 35

Australia’s mandatory voting laws have been shown to increase voter turnout and strengthen election legitimacy. They might, however, compel the ignorant to cast a ballot and don’t always address voter ignorance. This is because people who don’t even know anything about the election are being forced to vote, messing up the numbers with meaningless votes. So I don’t like this system because this is causing people who are ignorant of each party to vote, which would mess up the election in the end as it might just be the luck of the draw.

Question 36

Explain what is meant by “bureaucratic inefficiency.” Give some examples, and give some reason why this occurs.

Answer 36

Bureaucratic inefficiencies:
The bureaucracy is the body of non-elected officials and administrators who operate government agencies. Government bureaucracy tends to be inefficient because there is no motive for profit. This is because it is also very difficult to fire people after a couple of years and there are no adverse consequences for poor performance. Budgets will often increase when an agency performs poorly. Within government agencies, bureaucratic inefficiency is defined as slow, inefficient, or wasteful performance. Long approval procedures, unnecessary spending, a lack of departmental coordination, and change resistance are a few examples. The ineffective delivery of public services is hampered by a lack of accountability and incentives, political meddling, and resource limitations.

Question 37

What is the “short-sightedness effect?” Give examples.

Answer 37

The shortsightedness effect is that governments often will not catch the long-term costs of the program it passes. Shortsightedness implies that short-run benefits are more important than long-term costs. Some examples are budget deficits, welfare, and other government assistance. If there is a cost that might happen in 20 years, politicians don’t care about this because this won’t impact their chances of re-election.

Question 38

Summarize the Take-Home Message: “Government Failures are Costly.” You can use point form, like in the video.

Answer 38

The Take Home Message:
Government Failures are Costly While we know markets can fail - just identifying a market failure is not enough to justify action.
The costs of market failure must be overwhelming because of the many ways that governments fail.
When you treat political figures as reacting to incentives the same way that people react to incentives, you get a more realistic analysis.
Assuming governments will always function efficiently is silly.

Question 39

tradable pollution permits

Answer 39

Tradable pollution permits are where the government gives firms a permit that allows them to produce up to a set amount of carbon each year.