Final Exam
K. Klein Final Exam
Public Finance
1. The following statement is frequently made concerning government funding of education. "Education should be subsidized because a highly educated population benefits all of society, not just the people going to school." Using the concept of externalities discuss the validity of the above statement. Your answer should include a complete discussion and graphs, whenever appropriate, on the following areas.
a. Does a positive or negative externality exist?
b. List and explain what condition would be necessary for economic efficiency to occur in the education market?
c. If the education system were completely private would output be too high, too low?
d. What actions could the government take to achieve efficiency in the market?
e. Show graphically the improvement in net social benefit possible from the government action and explain how this area is found.
2. Government quite often provides goods and services to the public. Some of these goods are referred to by economist as pure public goods.
a. Explain the characteristics necessary for a good to be considered a pure public good.
b. What is the necessary efficiency condition for efficient allocation of resources for a pure public good and why does this differ from the efficiency condition for a pure private good?
c. Explain the free rider problem and why this would result in an inefficient production of pure public goods.
3. When President Clinton was in office, he presented an economic package on Capital Hill that included a provision for increasing the rate charged ranchers for grazing federal lands and charging a royalty to mining companies for mining minerals on federal land has been defeated. President Clinton's spokesperson indicated the President simply wanted to charge a price reflecting the market value of the resources being used by private companies. The ranchers and mine owners argue that these rates have been subsidized for 120 years and should continue to be subsidized to help ensure productive use of federal lands. Explain why this policy is inefficient. Discuss the concepts of excess burden and moral hazard associated with this policy.
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4a. A ten percent tax is levied on the sale of soft drinks. This tax is collected from sellers of the drinks. A critic of the tax argues that sellers will shift the entire tax to buyers and therefore be no worse off. Evaluate this argument by showing and explaining the market conditions that would have to prevail for the prediction to be correct.
b. Discuss the concept of tax incidence in the above example.
5a. Show how a gasoline tax of $0.10 per gallon collected from sellers affects the market equilibrium for gasoline. Assume that the demand curve for gasoline is downward sloping and that the supply curve is upward sloping.
b. Show the excess burden of the tax on your diagram.
c. What is the incidence of the tax between buyers and sellers?
d. How would your answer be affected if the tax were collected from buyers instead of sellers?
e. How would your answer be affected if the price elasticity of demand were perfectly inelastic?