1 How does the efficient quantity compare to the equilibrium quantity when there is a negative externality? Postitive externality? Why? 2 Suppose that these are the quations that describe what is happening in society... SMB=PMB: P=-Q+100 SMC: P=Q+25 PMC: P=Q+15 Now suppose that for each Q that is supplied the government gives $5. (a) Which curve moves as a result of this subsidy (i.e. SMB, PMB, SMC, PMC)? What is the new equation for this curve? (b) In a single graph, plot SMB and SMC, plot PMB and PMC before the subsidy, and plot PMB and PMC after. (c) What is the efficient price and quantity? (d) What is the pre-subsidy equilibrium price and quantity? (e) What is the post-subsidy equilibrium price and quantity? (f) What is the pre-subsidy DWL? (g) What is the post subsidy DWL? 3 Suppose that two individuals, John and David, form a community and would like to construct a communal fort that would protect them from attacks. They consume both good Y, a private good, and the protection from the fort (a public good), X. One unit of Y costs $1, but one unit of X costs $2. Both John and David have an income of 100 and a utility function of the form: U = log(YJ ) + log(XJ + XD ) (1) Their budget constraints are: John : 100 = 1YJ + 2XJ (2) David : 100 = 1YD + 2XD (3) 1 (a) Using the budget constraint write each person’s maximization problem in terms of each other’s contribution only (i.e. XJ , XD ). (b) Show that as John increases his contribution the less of a contribution we get from David? Why does this occur? (c) Given that John and David will act in their own interest (i.e. maximize their own utility) what is the level of contribution for each? What is the total level of contribution? (d) What is the socially optimal level of provision? (e) How does the private provision compares to the socially optimal amount? Why do they differ? 4 What is endogeneity? Name the 3 types we discussed in class. How can we address this problem. 5 Argue why you would be for or against privatizing social security 6 In Apple Valley each family’s utility is a function of its personal consumption (C) and the quality of education its (one) child receives (E): Ui = Ci Ei (4) The public school system in Apple Valley provides 500 units of education (E). After paying property taxes, the Clintons have $10,000 to allocate between private schooling and personal consumption (C), the Davis family $13,000, the Edwards $16,000, the Franklins $19,000, and the grants $22,000. Each unit of personal consumption cost a dollar. 1. Each unit of private school costs $4 dollars. Private schools provide 600 units of education (E). What is the tuition for private school? Explain. 2. Which family (families) will choose to send its (their) child to private school. Show conclusively that this is a good decision for the family. 2 7 Other than the baby boomer problem list two other concerns that we generally have about sustainably funding social security, and why they are of concern? 3