Economics 325: Public Finance Section A01 University of Victoria Midterm Examination #1 VERSION 1

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1 Economics 325: Public Finance Section A01 University of Victoria Midterm Examination #1 VERSION 1 Fall 2010 Instructor: Martin Farnham Name: Student ID Number: Signature: Please read the following instructions for the midterm: 1) DO NOT TURN THE PAGE UNTIL AN INVIGILATOR TELLS YOU TO DO SO. 2) All bags, notes, papers, and electronic devices other than non-programmable calculators must be put away. Please turn off any device that could make noise during the exam. 3) This exam contains 9 pages (including the cover sheet) numbered 1-9. The 9 th page is blank (for scratch work). When you are told to begin the exam, first check to make sure all pages are there. Immediately raise your hand if a page is missing. 4) Pace yourself. There are 50 minutes available for this exam. The exam is worth 50 points. Therefore, you should allocate 1 minute per point for each problem, on average. 5) If at any time you do not understand a question, please raise your hand to ask an invigilator for clarification. 6) POINTS WILL BE DEDUCTED FROM STUDENTS WHO DO NOT IMMEDIATELY STOP WRITING WHEN TIME IS CALLED. 7) Have your Student ID out on your desk for invigilators to inspect. 1

2 Midterm Exam #1 Page 1 Section 1: Multiple Choice (3 points each) Select the most appropriate answer, and circle the corresponding letter on your exam paper. Questions 1-8 refer to the diagram below. 1) What type of externality is illustrated by the above diagram? A) Positive consumption externality. B) Positive production externality. C) Negative consumption externality. D) Negative production externality. E) Negative consumption and production externality. 2

3 2) Which area represents deadweight loss at the equilibrium? A) H B) C+F C) F+H D) E E) F 3) Which area represents total consumer benefit at the equilibrium? A) A+B+D+E B) A+B+D+E+G+I C) A+B+C+D+E+F+G+H+I+J D) B+D+G+I E) A+B+C 4) Which area represents consumer surplus at the equilibrium? A) B+D B) A+B+D+E C) A+B+C D) B+D+G+I E) A+B+D+E+F 5) Which area represents the total external cost or total external benefit at the efficient quantity? A) A B) A+E C) A+C+E+F D) A+C+E+F+H E) C+F+H 6) How much does variable cost decrease as we move from Q2 to Q1? A) J B) H C) I D) H+I+J E) H+J 3

4 7) What would be an appropriate policy for correcting the market failure in this situation? A) a tax B) a subsidy C) a price floor D) a binding quota E) a nonbinding quota 8) Which of the following best describes the shape of the marginal externality curve (either marginal external benefit or marginal external cost) in the above diagram? A) It is upward sloping. B) It is downward sloping. C) It is flat. D) It slopes down and then up. E) It slopes up and then down. END SECTION 1. Answer each question as clearly and concisely as possible. Use of carefully labeled diagrams, where appropriate, is strongly encouraged. Section 2: True, False, or Uncertain (5 points each). Respond to each of the following statements by labeling the statement true, false, or uncertain. Then justify your claim. Answers that do not provide justification will receive zero points. 1) (5 points) Bluefin Tuna (which are generally hunted by fishing fleets in international waters) are threatened with extinction, due to overfishing. The reason there are too few Bluefin Tuna in the world is that Bluefin Tuna are a public good. 4

5 2) (5 points) Unless there is a pre-existing market failure, government policy interventions generally cause a reduction in social welfare. END SECTION 2 Section 3: Short Answers 1) (9 points total) Consider the market for boxes of paper. Assume that the market is otherwise competitive, but that a negative production externality (water pollution) is present. Demand and supply for paper are given in the diagram below (see next page). a) 2 points What is the equilibrium quantity of paper in the market? What is the efficient quantity of paper in the market? b) 3 points Clearly illustrate and label in the diagram the deadweight loss in equilibrium in this market. You don t need to provide a number. c) 4 points Clearly illustrate and label in the diagram the per unit tax which would bring about the efficient quantity of production. You don t need to provide a number. 5

6 Diagram for Question 1 (Market for Boxes of Paper) 6

7 Question 2 (public good) refers to the diagram below: 2. (7 points total) The diagram above gives two different individual demand curves for a public good. Assume there are only three consumers in this market. One has the individual demand curve D1, the other two each have the individual demand curve D2. a) 4 points Carefully draw the marginal social benefit curve for the public good on the diagram above. 7

8 b) 3 points If the marginal cost of providing the public good is $10 per unit, what is the efficient quantity of the good? You must show your work to receive credit. END SECTION 3. END OF EXAM. 8

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