Consider a tax charged per-unit in a specific market; e.g., 10 cents per avocado

Save this PDF as:
 WORD  PNG  TXT  JPG

Size: px
Start display at page:

Download "Consider a tax charged per-unit in a specific market; e.g., 10 cents per avocado"

Transcription

1 Efficiency and Market Imperfection Notes, page 1, 2001; Bruce Brown I. Important Expressions Regarding Tax. raise revenue = government collect tax money from taxpayers levies a tax = government starts to collect tax (passes a law requiring payment of tax, or institutes a tax) bears the burden = to really pay the tax, to by hurt by the tax (compare post-tax price paid by buyer or received by seller with what they would have paid or received without a tax) impact of the = the effect of the tax (on price paid by buyers, received by sellers; and quantity bought and sold or transacted ) a tax wedge = separates the price buyers pay from the price sellers receive (after tax) II. Crucial Points Regarding a Per-Unit Tax Consider a tax charged per-unit in a specific market; e.g., 10 cents per avocado 1) an excise tax legally on sellers will shift upward the supply curve 2) a sales tax legally on buyers will shift down the demand curve 3) to see who really pays the tax, (i.e., to determine the economic incidence of the tax), one should compare the prices after the tax is imposed, to those which would exist without the tax. 4) Economic incidence does not depend on legal incidence. That is, in theory the effect charging buyers 10 cents per avocado bought (shown by parallel downward shift in demand) is exactly the same as charging sellers 10 cents per avocado sold (shown by parallel upward shift in supply). The only difference is whether the posted price (on the sign or on the price tag) includes the tax or not. For example, the previous two situations are economically identical. The only difference is whether the sticker price includes the tax (e.g., as with gasoline tax) or not (e.g., as with the ordinary sales tax). Suppose the price of an avocado is $1, and that a 10-cent-per-avocado sales tax exists. In this example the tax is legally on the buyers. The sticker price reflects what the seller actually receives ($1.00 per avocado), and the actual price buyers pay, after tax, is $1.10 per avocado. A 10 cent wedge exists between the price the buyer pays and that which the seller receives. Realize, that in order to find the economic incidence of the tax (find who really pays the tax) we must consider what the price would be if there were no tax. Theory suggests that in a world without a tax, the market equilibrium price of avocados would have been between $1.10 and $1.00 per avocado. Suppose it would have been $1.07. Realize without a tax, the posted price would reflect both the amount paid by buyers, and received by sellers. Then the economic incidence of the 10 per avocado tax is: 3 cents per avocado on the buyers ( ), and 7 cents per avocado on the sellers ( ). In this example we can visualize the tax as shifting down demand by 10 cents. If the tax were officially collected from the sellers (an excise tax, where the sticker price includes the tax) this could be visualized by shifting up the supply curve by 10 cents. Perhaps the most straightforward general way to depict that effect of a tax on a good is to simply use the original pre-tax supply and demand curves and show the tax as driving a wedge between the height of the demand and supply curves (prices which buyers pay and sellers receive). III. In theory, a free market with no government implies ALLOCATIVE EFFICIENCY (Allocative Efficiency means the efficient quantity of the good is produced) Assume: a) buyers and sellers have full (perfect) information b) there are many buyers and sellers who behave competitively c) there are no external benefits or costs d) the good is a pure private good that is has no characteristics of a public good e) property rights are clearly defined and enforced

2 Efficiency and Market Imperfection Notes, page 2, 2001; Bruce Brown Then: -- Height of demand curve = marginal social benefit (MSB) = marginal private benefit (MPB) to the consumer consuming the good. -- Height of supply curve = marginal social cost (MSC) = marginal private cost (MPC) to the firm producing the good. Allocative Efficiency in a market can be seen one of two ways: 1) the MSB = MSC for the last unit produced (for all units produced MSB is greater than or equal to MSC) -or- 2) the sum, consumer surplus plus producer surplus, is maximized Price Supply Curve s Height = Marginal Social Cost MSC, which also equals Marginal Private Cost MPC experienced by the firm Demand Curve s Height = Marginal Social Benefit MSB, which also equals Marginal Private Benefit MPB experienced by the consumer Q * efficient Quantity If for some reason, Q * is not transacted (bought and sold) in this market, inefficiency is implied. Government may be able to increase efficiency by causing a quantity closer to Q * to be transacted. IV. Five Efficiency-based Reasons for Government Intervention in Markets: 1. Imperfect Competition, Monopoly Power If there are a small number of producers, they may collude to restrict the quantity sold in the market (below Q * ) so as to raise the price charged customers. This may increase Producer Surplus, but reduce Consumer Surplus by a greater amount. That is, the monetary value of the gain to producers will be smaller than the monetary loss to consumers, thus implying inefficiency. Government may use anti-trust policy to prevent this reduction in the quantity sold in the market (e.g., make it illegal for firms to collude to restrict quantity). Real world application of antitrust policy may be more complicated. In a very important current case, U.S. federal (and some state) governments have filed law suits against Microsoft, the maker of MS Windows, MS Word, MS Excel, etc. Microsoft is accused of activities that will make it more difficult for other computer firms to sell their computer software. The basic idea is that with reduced competition, Microsoft will be able to charge a higher price in the future (a complication is that Microsoft may force other computer software companies out of the market by giving away their software for free now; AND if consumers may get free software now, they may benefit now; BUT with fewer competitors in the future Microsoft will be able to raise prices and hurt consumers in the future -- our model has no time, and so has difficulty describing this)

3 Efficiency and Market Imperfection Notes, page 3, 2001; Bruce Brown 2. Macroeconomic Instability - Government policy may be able to stop a recession (or depression) An economy in a recession has an inefficiently large amount of unemployed resources, (e.g., many workers are involuntary unemployed). In theory, government may stimulate an economy by lowering interest rates; increasing the money supply; encouraging banks and other financial firms to increase lending; reducing taxes and increasing government spending (increasing its fiscal budget deficit); and improving business and consumer confidence so as to increase investment and consumption spending. Note that if the macroeconomy is out of equilibrium, so may be markets for individual goods. That is the amount transacted may be below Q * in many markets. If government can increase (stimulate) spending, the quantities being bought and sold in these markets may move toward Q * - increasing efficiency. 3. Externalities spill-over costs & benefits experienced by third-parties (neither buyers or sellers) If the consumption of a good benefits people other than the buyer/direct consumer; then there is a positive externality. Then MSB > MPB in consumption - that is the MSB curve is above the demand curve. The free market quantity is below the efficient amount Q market < Q eff. Government could increase efficiency by increasing the amount bought and sold in this market. This could be done by subsidizing consumption (paying part, or all, of the consumer s cost), or by forcing consumers to spend more of their own money on this good. Examples include: i) immunizations (the use of medicines to prevent infectious diseases that can be spread from one person to another), ii) driver training classes iii) general education (which would benefit not only the student, but other individuals as well). If the production of a good generates a cost, experienced by people other than the producer/firm (or the consumer/buyer), then there is a negative externality. Then MSC > MPC in production. The MSC curve is therefore above the supply curve. The free market quantity produced and sold is larger than the efficient amount Q market > Q eff. Government could increase efficiency by reducing the amount bought and sold in this market. This could be done by taxing production (charging firms a tax which increases with output of the good), or by forcing firms to produce less (by regulation and/or legal restrictions). Examples include: i) pollution, ii) unpleasant noise. Price Positive Externality Supply = MPC = MPC MSB Demand = MPB Price Q * eff Q mkt Q Negative Externality MSC Supply = MPC Q * eff Q mkt Demand = MPB = MSB Q

4 Efficiency and Market Imperfection Notes, page 4, 2001; Bruce Brown In the previous graphs, we assume for convenience that the external cost or benefit is a constant amount for each unit produced or consumed. The Mankiw text, Ch 10, shows four possibilities: i) negative externality in production (Figure 10-2); ii) positive externalities in production (Figure 10-3); negative externality in consumption (Figure 10-4a); and positive externality in consumption (Figure 10-4b). The text s terminology is somewhat shorter and less descriptive than that used in class and in these notes: MPC = private cost ; MPB = private value ; MSC = social cost ; MSB = social value.} Realize that if a new store opens in a town, the owner of an old store may be hurt. This is NOT a negative externality in the sense discussed above. Standard economic analysis presented here does NOT provide a rational for preventing the new store from opening based on the fact that the owner of the old store will be hurt. Simple standard analysis often holds the amount of pollution cost per unit of good produced constant. With this assumption, taxing output provides identical results as taxing the actual pollution. For example, if each ton of steel produced created a constant 10 pounds of pollution, then a tax of $10 per ton of steel produced would be the same as a tax of $1 per pound of pollution. The text calls such a taxes to reduce pollution Pigouvian Taxes (after the economist A.C. Pigou). If a firm can reduce the amount of pollution per unit of output, then taxation of pollution is different than taxation of output. Realize that the real world practices of: i) charging a firm a fee based on the amount of pollution, or ii) fining a firm which creates more than an allowed amount of pollution, are somewhat different than the standard theoretical exercise of taxing output which we explicitly consider in this class. 4. Public Goods A pure public good has two characteristics: i) non-rival in consumption (it can be consumed by more than one person), and ii) it is impossible to exclude people from consuming it. The second characteristic implies that it would be difficult or impossible to sell this good in a market. A free rider problem implies people would not buy the good if they could wait for others to buy it and then consume it without paying. An (impure) public good is partially non-rival in consumption (up to a certain point, at least), and the buyer may be able to exclude the consumption by others, but it is usually costly to do so. A pure private good is rival in consumption. Only one person, the buyer, may consume it. Generally, an inefficiently small amount of goods with public good characteristics would be produced and consumed in a competitive market without government intervention. Thus an efficiency based argument exists for the government to provide items like parks, national defense, lighthouses to warn ships that the coastline is dangerous, etc. Nearly all goods are neither pure public or pure private goods; but one can approximately order goods in terms of their similarity with one, versus the other. For Example: PURE National Defense PUBLIC Lighthouse GOODS Large National Uncrowded Parks Small Crowded City Parks Police and Fire Protection Roads Publicly Broadcast Television Cable or Satellite Television (easier to exclude viewers who don t pay) Movies shown in a theater PURE Housing PRIVATE Clothing GOODS Food Note that government may provide private goods; and some public goods may be provided by markets. Whether a good is basically public or private depends on its characteristics, NOT by whether it is provided by government or private markets.

5 Efficiency and Market Imperfection Notes, page 5, 2001; Bruce Brown The notion of Public Goods may overlap that of Externalities in some cases and often there is also a connection with the provision of information. For example if a bank has a clock on its roof which people who pass by can see, one may view this as the private sector providing a public good (many people can consume the clock at the same time), or the bank s desire to bring attention to itself for advertising purposes as causing a positive externality. Note that the good in this case is information (about the current time). If there was truly perfect information, people would already know the time without looking at the clock, and would know about the existence of the bank (and the quality of its service, etc.) With perfect information, people would have no reason to look at the clock, and the bank would have no reason to place the clock on the roof, or more generally, to advertise at all. 5. Imperfect Information i. Direct Provision of Information In a number of circumstances, government can increase efficiency increasing the amount and quality of information. For example government may: i) collect and provide information about skills required by employers in the future so people can invest in the skills that will help them find jobs. ii) help match unemployed workers with job vacancies. iii) require firms to provide financial information, audited by independent CPA firms. iv) facilitate the collection of credit histories of individual consumers, making the extension of credit to buyers less risky and thus less expensive. v) create grades or quality categories of goods for which consumers have difficulty determining quality (e.g., USDA Choice, or Premium grade beef... etc.) vi) require Microsoft, the maker of the operating system MS Windows, to disclose details about how it is made (the computer codes ) so that makers of applications software (e.g., for word-processing, data manipulation, internet communication, etc.) can make compatible software. vii) require firms to be able to prove specific claims made in their advertisements. Nearly all of the seven examples above can be considered special cases of the previous four reasons for government intervention. Information may be considered a public good, under-provided without government action; or as a good which when consumed by one person, gives off positive externalities; or as related to the restriction of competition (as in the Microsoft example); or as related to prevention of recessions (during recessions, individual errors sometimes based on incorrect information, can be thought of as an important factor which prevents the economy from moving to a full-employment equilibrium). In general, there is a good deal of overlap between these five categories. They are not mutually exclusive. ii. Asymmetric Information Asymmetric information exists when buyer and seller have different information about product characteristics. This asymmetry may prevent efficiency increasing trades from taking place. Good examples include: i) An individual selling his/her used car is likely to have more information about the car s quality and how it was maintained, etc., than will the buyer (who may obtain his/her information only by inspecting the car). ii) A buyer of health insurance is likely to have better information about their health and medical history than the insurance company who will sell the policy. iii) A borrower has better information about the chance that they will not repay a loan than does the lender. Consider automobile insurance. Insurance companies would like to charge risky drivers higher premiums (the price of buying insurance) because the chance of them filing a claim (e.g., having an accident which requires the insurance company to pay money to fix the car), is higher. The firm s problem can be partially resolved by basing the premiums charged to individuals on a number of observable factors. This problem can be divided into two categories:

6 Moral Hazard (MH) - (behavior is changed after the insurance contract is made) Efficiency and Market Imperfection Notes, page 6, 2001; Bruce Brown Once a driver gets insurance, they have an incentive to drive less cautiously. If a driver has insurance which covers his/her car being broken into, then they will be more likely to park in a dangerous place. Adverse Selection (AS) - (those who are more risky have a greater incentive to buy insurance) Those who know they typically park in dangerous areas (either with or without insurance) will have an incentive to purchase comprehensive insurance which covers a car broken into while parked. Various practices of auto insurance companies may be thought of as a response to either MH or AS. For example if premiums are: i) higher for drivers with a history of accidents. MH is reduced since if you drive dangerously and get into an accident, you will pay higher premiums in the future. AS is reduced since naturally bad drivers are more likely to have had accidents in the past. ii) higher for young males who are not married. AS is reduced since young unmarried males tend to have more accidents. iii) lower for people who have a higher deductible (amount of money which the driver must pay to repair their car -- e.g., if there is a $500 deductible, then a driver whose car was damaged must pay the first $500 of the repair cost, with the insurance company paying the rest). MH is reduced - drivers will behave more cautiously with a higher deductible, since a smaller portion of repair costs will be covered by insurance if an accident occurs AS is reduced - drivers who know they are naturally safe drivers will accept insurance policies with higher deductibles and lower premiums. In certain circumstances with asymmetric information, efficiency may be increased if government forces a group of firms to sell (or provide insurance, or lend...), or a group of consumers to buy. For example, consider health insurance for people within a particular group. Suppose individuals have much better information about their health than insurance companies (in the real world, companies reduce this problem by requiring customers to pass a physical examination, by not covering pre-existing conditions, etc.). Suppose people are in one of three categories: i) sickly, ii) average, or iii) very healthy. Suppose individuals know which of these categories they are in, but insurance companies do not; and so they charge the same premium to individuals in different groups. If very healthy people choose not to buy insurance, the premium required for the insurance company to earn a normal profit (constrained by competition, assumed to exist in the insurance market) will be higher. This higher premium could cause people with average health not to buy insurance. If only sickly people buy insurance, the premium will have to be very high. If instead, government forced everyone to buy insurance, the required premium would be much lower. In fact, it may be so low that average people would buy it voluntarily. That is, government may cause transactions which benefit society to occur, where they would not have occurred unless government required everyone to buy insurance (wealth will also be transferred from very healthy to sickly people, and this may be desirable, but this is NOT the reason for government intervention in this example which focuses on efficiency).

COMM 220: Ch 17 and 18 Multiple Choice Questions Figure 18.1

COMM 220: Ch 17 and 18 Multiple Choice Questions Figure 18.1 COMM 220: Ch 17 and 18 Multiple Choice Questions 1) When sellers have more information about products than buyers do, we would expect A) sellers to get higher prices for their goods than they could otherwise.

More information

Quantity of trips supplied (millions)

Quantity of trips supplied (millions) Taxes chapter: 7 1. The United tates imposes an excise tax on the sale of domestic airline tickets. Let s assume that in 2010 the total excise tax was $6.10 per airline ticket (consisting of the $3.60

More information

The Free Market Approach. The Health Care Market. Sellers of Health Care. The Free Market Approach. Real Income

The Free Market Approach. The Health Care Market. Sellers of Health Care. The Free Market Approach. Real Income The Health Care Market Who are the buyers and sellers? Everyone is a potential buyer (consumer) of health care At any moment a buyer would be anybody who is ill or wanted preventive treatment such as a

More information

Unit 9: Utility, Externalities, and Factor Markets Lesson 4: Externalities

Unit 9: Utility, Externalities, and Factor Markets Lesson 4: Externalities Unit 9: Utility, Externalities, and Factor Markets Lesson 4: Externalities Objectives: - Define externality - Draw negative and positive externality graphs. - Explain the remedies for positive and negative

More information

Asymmetric Information

Asymmetric Information Chapter 12 Asymmetric Information CHAPTER SUMMARY In situations of asymmetric information, the allocation of resources will not be economically efficient. The asymmetry can be resolved directly through

More information

Notes - Gruber, Public Finance Chapter 20.3 A calculation that finds the optimal income tax in a simple model: Gruber and Saez (2002).

Notes - Gruber, Public Finance Chapter 20.3 A calculation that finds the optimal income tax in a simple model: Gruber and Saez (2002). Notes - Gruber, Public Finance Chapter 20.3 A calculation that finds the optimal income tax in a simple model: Gruber and Saez (2002). Description of the model. This is a special case of a Mirrlees model.

More information

Chapter 13 Controlling Market Power: Antitrust and Regulation

Chapter 13 Controlling Market Power: Antitrust and Regulation Page 1 Chapter 13 Controlling Market Power: Antitrust and Regulation 1)Which of the following is an example of natural monopoly? A) a market for cable TV services B) a market for breakfast cereals C) a

More information

Chapter 17. The Economics of Pollution Control

Chapter 17. The Economics of Pollution Control Chapter 17 The Economics of Pollution Control Economic Rationale for Regulating Pollution Pollution as an Externality -pollution problems are classic cases of a negative externality -the MSC of production

More information

THE UNIVERSITY OF AUCKLAND

THE UNIVERSITY OF AUCKLAND THE UNIVERSITY OF AUCKLAND FIRST SEMESTER, 2013 Campus: City ECONOMICS Business Economics (Time Allowed: THREE hours) NOTE: Answer ALL questions Total marks = 100 PRACTICE PAPER ONLY This is a practice

More information

Figure 1. D S (private) S' (social) Quantity (tons of medicine)

Figure 1. D S (private) S' (social) Quantity (tons of medicine) Price per ton Practice Homework Pollution & Environment Economics 101 The Economic Way of Thinking 1. Suppose that the production of pharmaceuticals generates pollution of the Columbia River, which is

More information

Chapter 11. International Economics II: International Finance

Chapter 11. International Economics II: International Finance Chapter 11 International Economics II: International Finance The other major branch of international economics is international monetary economics, also known as international finance. Issues in international

More information

6. Optimal Corrective Taxes

6. Optimal Corrective Taxes 6. Optimal Corrective Taxes 6.1 Introduction The source of inefficiency associated with any externality is the absence of pricing. The external effect is external precisely because the source agent does

More information

Social Insurance Arises, In Part, Because of Asymmetric Information

Social Insurance Arises, In Part, Because of Asymmetric Information Social Arises, In Part, Because of Asymmetric Information Assume there are 2 groups, each with 100 people. The first group has 5% chance of getting injured, and the second group has a 0.5% chance. The

More information

Bailouts and Stimulus Plans. Eugene F. Fama

Bailouts and Stimulus Plans. Eugene F. Fama Bailouts and Stimulus Plans Eugene F. Fama Robert R. McCormick Distinguished Service Professor of Finance Booth School of Business University of Chicago There is an identity in macroeconomics. It says

More information

Pay for performance. Intrinsic (interested in the job as such) Extrinsic motivation. Pay Work environment, non-pay characteristics, benefits

Pay for performance. Intrinsic (interested in the job as such) Extrinsic motivation. Pay Work environment, non-pay characteristics, benefits Pay for performance Motivation Intrinsic (interested in the job as such) Extrinsic motivation Pay Work environment, non-pay characteristics, benefits Inefficient to rely on intrinsic motivation only Workers

More information

Wealth Protection. 1.How do you define wealth? 1. Wealth Protection: Why. Wealth Protection. 1.How do you define wealth? 06/07/57

Wealth Protection. 1.How do you define wealth? 1. Wealth Protection: Why. Wealth Protection. 1.How do you define wealth? 06/07/57 Wealth protection (1) Planning 1) : Why 2) : What 3) : How 2 1. : Why Basic principles to maintain sustainable wealth Technical analysis of risk impacts to wealth Risk management method How do you handle

More information

Funding Your Buy-Sell Agreement with Disability Insurance

Funding Your Buy-Sell Agreement with Disability Insurance Platinum Advisory Group, LLC Michael Foley, CLTC, LUTCF Managing Partner 373 Collins Road NE Suite #214 Cedar Rapids, IA 52402 Office: 319-832-2200 Direct: 319-431-7520 mdfoley@mdfoley.com www.platinumadvisorygroupllc.com

More information

7 AGGREGATE SUPPLY AND AGGREGATE DEMAND* Chapter. Key Concepts

7 AGGREGATE SUPPLY AND AGGREGATE DEMAND* Chapter. Key Concepts Chapter 7 AGGREGATE SUPPLY AND AGGREGATE DEMAND* Key Concepts Aggregate Supply The aggregate production function shows that the quantity of real GDP (Y ) supplied depends on the quantity of labor (L ),

More information

Econ 202 Section 4 Final Exam

Econ 202 Section 4 Final Exam Douglas, Fall 2009 December 15, 2009 A: Special Code 00004 PLEDGE: I have neither given nor received unauthorized help on this exam. SIGNED: PRINT NAME: Econ 202 Section 4 Final Exam 1. Oceania buys $40

More information

Monopolistic Competition

Monopolistic Competition Monopolistic Chapter 17 Copyright 2001 by Harcourt, Inc. All rights reserved. Requests for permission to make copies of any part of the work should be mailed to: Permissions Department, Harcourt College

More information

Market Structure: Oligopoly (Imperfect Competition)

Market Structure: Oligopoly (Imperfect Competition) Market Structure: Oligopoly (Imperfect Competition) I. Characteristics of Imperfectly Competitive Industries A. Monopolistic Competition large number of potential buyers and sellers differentiated product

More information

Lecture 2. Output, interest rates and exchange rates: the Mundell Fleming model.

Lecture 2. Output, interest rates and exchange rates: the Mundell Fleming model. Lecture 2. Output, interest rates and exchange rates: the Mundell Fleming model. Carlos Llano (P) & Nuria Gallego (TA) References: these slides have been developed based on the ones provided by Beatriz

More information

chapter: Solution Externalities

chapter: Solution Externalities Externalities chapter: 16 1. What type of externality (positive or negative) is present in each of the following examples? Is the marginal social benefit of the activity greater than or equal to the marginal

More information

Economic Systems. 1. MARKET ECONOMY in comparison to 2. PLANNED ECONOMY

Economic Systems. 1. MARKET ECONOMY in comparison to 2. PLANNED ECONOMY Economic Systems The way a country s resources are owned and the way that country takes decisions as to what to produce, how much to produce and how to distribute what has been produced determine the type

More information

Sample lesson from I Think: Economics What is Economics? Correlates to Common Core Standards!!

Sample lesson from I Think: Economics What is Economics? Correlates to Common Core Standards!! Getting in the Game Sample lesson from I Think: Economics What is Economics? Correlates to Common Core Standards!! Objective: The student will be able to describe the various degrees of competition that

More information

EXAM TWO REVIEW: A. Explicit Cost vs. Implicit Cost and Accounting Costs vs. Economic Costs:

EXAM TWO REVIEW: A. Explicit Cost vs. Implicit Cost and Accounting Costs vs. Economic Costs: EXAM TWO REVIEW: A. Explicit Cost vs. Implicit Cost and Accounting Costs vs. Economic Costs: Economic Cost: the monetary value of all inputs used in a particular activity or enterprise over a given period.

More information

Second Hour Exam Public Finance - 180.365 Fall, 2007. Answers

Second Hour Exam Public Finance - 180.365 Fall, 2007. Answers Second Hour Exam Public Finance - 180.365 Fall, 2007 Answers HourExam2-Fall07, November 20, 2007 1 Multiple Choice (4 pts each) Correct answer indicated by 1. The portion of income received by the middle

More information

MARKET FAILURE AND GOVERNMENT INTERVENTION

MARKET FAILURE AND GOVERNMENT INTERVENTION MARKET FAILURE AND GOVERNMENT INTERVENTION ECONOMY AND MARKET Objective of an economy is to generate wealth and welfare for the society, using the available resources. These resources are scarce and there

More information

Extreme cases. In between cases

Extreme cases. In between cases CHAPTER 16 OLIGOPOLY FOUR TYPES OF MARKET STRUCTURE Extreme cases PERFECTLY COMPETITION Many firms No barriers to entry Identical products MONOPOLY One firm Huge barriers to entry Unique product In between

More information

1. Firms react to unplanned inventory investment by increasing output.

1. Firms react to unplanned inventory investment by increasing output. Macro Exam 2 Self Test -- T/F questions Dr. McGahagan Fill in your answer (T/F) in the blank in front of the question. If false, provide a brief explanation of why it is false, and state what is true.

More information

Long run v.s. short run. Introduction. Aggregate Demand and Aggregate Supply. In this chapter, look for the answers to these questions:

Long run v.s. short run. Introduction. Aggregate Demand and Aggregate Supply. In this chapter, look for the answers to these questions: 33 Aggregate Demand and Aggregate Supply R I N C I L E S O F ECONOMICS FOURTH EDITION N. GREGOR MANKIW Long run v.s. short run Long run growth: what determines long-run output (and the related employment

More information

Notes - Gruber, Public Finance Section 12.1 Social Insurance What is insurance? Individuals pay money to an insurer (private firm or gov).

Notes - Gruber, Public Finance Section 12.1 Social Insurance What is insurance? Individuals pay money to an insurer (private firm or gov). Notes - Gruber, Public Finance Section 12.1 Social Insurance What is insurance? Individuals pay money to an insurer (private firm or gov). These payments are called premiums. Insurer promises to make a

More information

Imperfect information Up to now, consider only firms and consumers who are perfectly informed about market conditions: 1. prices, range of products

Imperfect information Up to now, consider only firms and consumers who are perfectly informed about market conditions: 1. prices, range of products Imperfect information Up to now, consider only firms and consumers who are perfectly informed about market conditions: 1. prices, range of products available 2. characteristics or relative qualities of

More information

It Is In Your Interest

It Is In Your Interest STUDENT MODULE 7.2 BORROWING MONEY PAGE 1 Standard 7: The student will identify the procedures and analyze the responsibilities of borrowing money. It Is In Your Interest Jason did not understand how it

More information

Econ 101: Principles of Microeconomics

Econ 101: Principles of Microeconomics Econ 101: Principles of Microeconomics Chapter 7: Taxes Fall 2010 Herriges (ISU) Ch. 7: Taxes Fall 2010 1 / 25 Outline 1 The Excise Tax 2 The Benefits and Costs of Taxation 3 Tax Fairness versus Tax Efficiency

More information

Web Supplement to Chapter 2

Web Supplement to Chapter 2 Web upplement to Chapter 2 UPPLY AN EMAN: TAXE 21 Taxes upply and demand analysis is a very useful tool for analyzing the effects of various taxes In this Web supplement, we consider a constant tax per

More information

Chapter 18. Asymmetric Information. The buyer needs a hundred eyes, the seller not one. George Herbert (1651)

Chapter 18. Asymmetric Information. The buyer needs a hundred eyes, the seller not one. George Herbert (1651) Chapter 18 Asymmetric Information The buyer needs a hundred eyes, the seller not one. George Herbert (1651) Chapter 18 Outline 18.1 Problems Due to Asymmetric Information 18.2 Responses to Adverse Selection

More information

Inquiry into Access of Small Business to Finance

Inquiry into Access of Small Business to Finance Inquiry into Access of Small Business to Finance Reference http://www.aph.gov.au/senate/committee/economics_ctte/small_business_10/ index.htm The current structure of the financial system means that large

More information

Applied Economics For Managers Recitation 5 Tuesday July 6th 2004

Applied Economics For Managers Recitation 5 Tuesday July 6th 2004 Applied Economics For Managers Recitation 5 Tuesday July 6th 2004 Outline 1 Uncertainty and asset prices 2 Informational efficiency - rational expectations, random walks 3 Asymmetric information - lemons,

More information

Lecture 28 Economics 181 International Trade

Lecture 28 Economics 181 International Trade Lecture 28 Economics 181 International Trade I. Introduction to Strategic Trade Policy If much of world trade is in differentiated products (ie manufactures) characterized by increasing returns to scale,

More information

Section B. Some Basic Economic Concepts

Section B. Some Basic Economic Concepts This work is licensed under a Creative Commons Attribution-NonCommercial-ShareAlike License. Your use of this material constitutes acceptance of that license and the conditions of use of materials on this

More information

Refer to Figure 17-1

Refer to Figure 17-1 Chapter 17 1. Inflation can be measured by the a. change in the consumer price index. b. percentage change in the consumer price index. c. percentage change in the price of a specific commodity. d. change

More information

Public Information Center Federal Reserve Bank of Chicago P.O. Box 834 Chicago, IL 60690-0834 Tel. (312) 322-5111 www.frbchi.org

Public Information Center Federal Reserve Bank of Chicago P.O. Box 834 Chicago, IL 60690-0834 Tel. (312) 322-5111 www.frbchi.org Points of Interest is one of a series of essays adapted from articles in On Reserve, a newsletter for economic educators published by the Federal Reserve Bank of Chicago. The original article was written

More information

The Supply of Medical Care, The Market for Health Insurance and Market Competition. Lecture 25. Economics 157 Health Economics Summer 2003

The Supply of Medical Care, The Market for Health Insurance and Market Competition. Lecture 25. Economics 157 Health Economics Summer 2003 The Supply of Medical Care, The Market for Health Insurance and Market Competition Lecture 25 Economics 157 Health Economics Summer 2003 Lectures 25; Graphic 25 No. 1 Announcements (1) Tuesday 080503:

More information

Economics of Insurance

Economics of Insurance Economics of Insurance In this last lecture, we cover most topics of Economics of Information within a single application. Through this, you will see how the differential informational assumptions allow

More information

Cooleconomics.com Monopolistic Competition and Oligopoly. Contents:

Cooleconomics.com Monopolistic Competition and Oligopoly. Contents: Cooleconomics.com Monopolistic Competition and Oligopoly Contents: Monopolistic Competition Attributes Short Run performance Long run performance Excess capacity Importance of Advertising Socialist Critique

More information

Financial Evolution and Stability The Case of Hedge Funds

Financial Evolution and Stability The Case of Hedge Funds Financial Evolution and Stability The Case of Hedge Funds KENT JANÉR MD of Nektar Asset Management, a market-neutral hedge fund that works with a large element of macroeconomic assessment. Hedge funds

More information

PUBLIC HEALTH OPTOMETRY ECONOMICS. Kevin D. Frick, PhD

PUBLIC HEALTH OPTOMETRY ECONOMICS. Kevin D. Frick, PhD Chapter Overview PUBLIC HEALTH OPTOMETRY ECONOMICS Kevin D. Frick, PhD This chapter on public health optometry economics describes the positive and normative uses of economic science. The terms positive

More information

Oligopoly and Strategic Pricing

Oligopoly and Strategic Pricing R.E.Marks 1998 Oligopoly 1 R.E.Marks 1998 Oligopoly Oligopoly and Strategic Pricing In this section we consider how firms compete when there are few sellers an oligopolistic market (from the Greek). Small

More information

A Proposal to Standardize the Use of Net Operating Profit Among Life Insurance Companies

A Proposal to Standardize the Use of Net Operating Profit Among Life Insurance Companies A Proposal to Standardize the Use of Net Operating Profit Among Life Insurance Companies by Akira Komatsubara and Kunio Ogihara Insurance Research Group 1. Introduction For commercial companies, the accepted

More information

EQUITY MARKET RISK PREMIUMS IN THE U.S. AND CANADA

EQUITY MARKET RISK PREMIUMS IN THE U.S. AND CANADA CANADA U.S. BY LAURENCE BOOTH EQUITY MARKET RISK PREMIUMS IN THE U.S. AND CANADA The bond market has recently been almost as risky as the equity markets. In the Spring 1995 issue of Canadian Investment

More information

Chapter 23: Asymmetric Information

Chapter 23: Asymmetric Information Chapter 23: Asymmetric Information Asymmetric Information Adverse Selection Moral Hazard Lemons Market Second-Best Mechanism Designs Principal Agent Market Failure Signaling Screening Insurance Employer/

More information

MODULE 64: INTRODUCTION TO OLIGOPOLY Schmidty School of Economics. Wednesday, December 4, 2013 9:20:15 PM Central Standard Time

MODULE 64: INTRODUCTION TO OLIGOPOLY Schmidty School of Economics. Wednesday, December 4, 2013 9:20:15 PM Central Standard Time MODULE 64: INTRODUCTION TO OLIGOPOLY Schmidty School of Economics Learning Targets I Can Understand why oligopolists have an incentive to act in ways that reduce their combined profit. Explain why oligopolies

More information

Life insurance with great cash values at affordable prices.

Life insurance with great cash values at affordable prices. Kansas Cit y Life Insurance Company Life insurance with great cash values at affordable prices. Life insurance is usually purchased for the protection provided to loved ones. However, permanent life insurance

More information

380.760: Corporate Finance. Financial Decision Making

380.760: Corporate Finance. Financial Decision Making 380.760: Corporate Finance Lecture 2: Time Value of Money and Net Present Value Gordon Bodnar, 2009 Professor Gordon Bodnar 2009 Financial Decision Making Finance decision making is about evaluating costs

More information

All these models were characterized by constant returns to scale technologies and perfectly competitive markets.

All these models were characterized by constant returns to scale technologies and perfectly competitive markets. Economies of scale and international trade In the models discussed so far, differences in prices across countries (the source of gains from trade) were attributed to differences in resources/technology.

More information

Figure 1. Quantity (tons of medicine) b. What is represented by the vertical distance between the two supply curves?

Figure 1. Quantity (tons of medicine) b. What is represented by the vertical distance between the two supply curves? Price per ton Practice Homework Pollution & Environment Economics 101 The Economic Way of Thinking 1. Suppose that the production of pharmaceuticals generates pollution of the Columbia River, which is

More information

Health and Healthcare Systems

Health and Healthcare Systems Health and Healthcare Systems Lectures 9 and 10 Le Grand, Propper and Smith (2008): Chp 2 Bochel, Bochel, Page and Sykes (2009): Chp 15 Stiglitz (2000): Chp 12 Outline Healthcare, efficiency and equity

More information

Chapter 11: Price-Searcher Markets with High Entry Barriers

Chapter 11: Price-Searcher Markets with High Entry Barriers Chapter 11: Price-Searcher Markets with High Entry Barriers I. Why are entry barriers sometimes high? A. Economies of Scale in some markets average total costs fall over the full range of output. Therefore

More information

Asymmetric Information in Competitive Markets

Asymmetric Information in Competitive Markets Chapter 22 Asymmetric Information in Competitive Markets In our treatment of externalities in Chapter 21, we introduced into our model for the first time an economic force (other than government-induced

More information

Shares Mutual funds Structured bonds Bonds Cash money, deposits

Shares Mutual funds Structured bonds Bonds Cash money, deposits FINANCIAL INSTRUMENTS AND RELATED RISKS This description of investment risks is intended for you. The professionals of AB bank Finasta have strived to understandably introduce you the main financial instruments

More information

The rationale for public sector intervention in the economy. March 2006

The rationale for public sector intervention in the economy. March 2006 The rationale for public sector intervention in the economy March 2006 copyright Greater London Authority March 2006 Published by Greater London Authority City Hall The Queen s Walk London SE1 2AA www.london.gov.uk

More information

The FOS Approach Mortgagee sales

The FOS Approach Mortgagee sales 1 At a glance 2 1.1 Scope 2 1.2 Summary 2 2 In detail 3 2.1 Taking reasonable care 3 2.2 Valuing the property 4 2.3 Marketing the property 4 2.4 Maintaining or improving the property 6 2.5 Selling the

More information

Chapter 12: Economics of Information

Chapter 12: Economics of Information Chapter 11: probs #1, #3, and #4, p. 298 Problem set 4: due week of Feb 20-24 Chapter 12: probs #1 a-b-c-d, #2, #3, pp. 320-321 Future problem sets Chapter 13: probs #1, #2 a-b-c-d, #3, #5, pp. 347-348

More information

LONG TERM CARE INSURANCE IS NOT FOR THE ELDERLY!

LONG TERM CARE INSURANCE IS NOT FOR THE ELDERLY! LONG TERM CARE INSURANCE IS NOT FOR THE ELDERLY! What s that you say? Long Term Care insurance (LTCi) is NOT for the elderly?! Did you know that over 45% of all claims for Long Term Care are for people

More information

Oligopoly. Oligopoly is a market structure in which the number of sellers is small.

Oligopoly. Oligopoly is a market structure in which the number of sellers is small. Oligopoly Oligopoly is a market structure in which the number of sellers is small. Oligopoly requires strategic thinking, unlike perfect competition, monopoly, and monopolistic competition. Under perfect

More information

ECON 312: Oligopolisitic Competition 1. Industrial Organization Oligopolistic Competition

ECON 312: Oligopolisitic Competition 1. Industrial Organization Oligopolistic Competition ECON 312: Oligopolisitic Competition 1 Industrial Organization Oligopolistic Competition Both the monopoly and the perfectly competitive market structure has in common is that neither has to concern itself

More information

Competitive Screening in Credit Markets with Adverse Selection: A Cover Version of Bester s Model

Competitive Screening in Credit Markets with Adverse Selection: A Cover Version of Bester s Model Competitive Screening in Credit Markets with Adverse Selection: A Cover Version of Bester s Model Ran Spiegler April 18, 2013 Abstract This note presents a simple model of competitive screening in a credit

More information

Unfunded employer and social security pension schemes

Unfunded employer and social security pension schemes EUROPEAN COMMISSION Statistical Office of the European Communities DIRECTORATE GENERAL STATISTICS Unfunded employer and social security pension schemes The Committee on Monetary, Financial and Balance

More information

CENTRE FOR TAX POLICY AND ADMINISTRATION

CENTRE FOR TAX POLICY AND ADMINISTRATION ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT TRANSFER PRICING METHODS JULY 2010 Disclaimer: The attached paper was prepared by the OECD Secretariat. It bears no legal status and the views expressed

More information

Business Ethics Concepts & Cases

Business Ethics Concepts & Cases Business Ethics Concepts & Cases Manuel G. Velasquez Chapter Four Ethics in the Marketplace Definition of Market A forum in which people come together to exchange ownership of goods; a place where goods

More information

CHAPTER 18 MARKETS WITH MARKET POWER Principles of Economics in Context (Goodwin et al.)

CHAPTER 18 MARKETS WITH MARKET POWER Principles of Economics in Context (Goodwin et al.) CHAPTER 18 MARKETS WITH MARKET POWER Principles of Economics in Context (Goodwin et al.) Chapter Summary Now that you understand the model of a perfectly competitive market, this chapter complicates the

More information

Sarah Dickson Otago University Degree: Law and BA majoring in Economics

Sarah Dickson Otago University Degree: Law and BA majoring in Economics Sarah Dickson Otago University Degree: Law and BA majoring in Economics The health sector faces a dual problem. The first is essentially an economic question; the issue of how to keep public health spending

More information

Finance, Saving, and Investment

Finance, Saving, and Investment 23 Finance, Saving, and Investment Learning Objectives The flows of funds through financial markets and the financial institutions Borrowing and lending decisions in financial markets Effects of government

More information

Social Insurance (Chapter-12) Part-1

Social Insurance (Chapter-12) Part-1 (Chapter-12) Part-1 Background Dramatic change in the composition of government spending in the U.S. over time Background Social insurance programs: Government interventions in the provision of insurance

More information

Economics 100 Examination #1 Total Score

Economics 100 Examination #1 Total Score Economics 100 Examination #1 Name Total Score 1. Consider grocery stores in an area mainly populated by elderly people. People who live in this neighborhood shop there because they cannot afford to go

More information

A better way your parents can help you into your first home.

A better way your parents can help you into your first home. A better way your parents can help you into your first home. exclusively from You ll never need to ask your parents to guarantee your home loan. Almost half of first home owners get financial help from

More information

MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.

MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question. Practice for Perfect Competition Name MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question. 1) Which of the following is a defining characteristic of a

More information

Why is Insurance Good? An Example Jon Bakija, Williams College (Revised October 2013)

Why is Insurance Good? An Example Jon Bakija, Williams College (Revised October 2013) Why is Insurance Good? An Example Jon Bakija, Williams College (Revised October 2013) Introduction The United States government is, to a rough approximation, an insurance company with an army. 1 That is

More information

Control Debt Use Credit Wisely

Control Debt Use Credit Wisely Lesson 10 Control Debt Use Credit Wisely Lesson Description In this lesson, students, through a series of interactive and group activities, will explore the concept of credit and the impact of liabilities

More information

Economics 101 Final Exam. May 12, 2008. Instructions

Economics 101 Final Exam. May 12, 2008. Instructions Economics 101 Spring 2008 Professor Wallace Economics 101 Final Exam May 12, 2008 Instructions Do not open the exam until you are instructed to begin. You will need a #2 lead pencil. If you do not have

More information

Demand for Health Insurance

Demand for Health Insurance Demand for Health Insurance Demand for Health Insurance is principally derived from the uncertainty or randomness with which illnesses befall individuals. Consequently, the derived demand for health insurance

More information

Urban Community Energy Fund Getting your project investment ready

Urban Community Energy Fund Getting your project investment ready Urban Community Energy Fund Getting your project investment ready What is investment readiness, and why does it matter? Investment readiness is when your project is at the right stage to secure a bank

More information

CHAPTER 3 THE LOANABLE FUNDS MODEL

CHAPTER 3 THE LOANABLE FUNDS MODEL CHAPTER 3 THE LOANABLE FUNDS MODEL The next model in our series is called the Loanable Funds Model. This is a model of interest rate determination. It allows us to explore the causes of rising and falling

More information

1 SHORT ANSWER QUESTIONS

1 SHORT ANSWER QUESTIONS Tort Law Suggested Answers 1 SHORT ANSWER QUESTIONS Comment on the Following: 1. [2002, Midterm #2a] Suppose that all doctors were held strictly liable for injuries they cause to their patients. What are

More information

ADDRESS BY BANK OF UGANDA GOVERNOR EMMANUEL TUMUSIIME MUTEBILE TO THE

ADDRESS BY BANK OF UGANDA GOVERNOR EMMANUEL TUMUSIIME MUTEBILE TO THE ADDRESS BY BANK OF UGANDA GOVERNOR EMMANUEL TUMUSIIME MUTEBILE TO THE AFRICA TRADE INSURANCE AGENCY (ATIA) HIGH LEVEL SEMINAR ON POLITICAL RISKS AND FINANCING TRADE TRANSACTIONS IN AFRICA 21 ST AUGUST

More information

Of Burning Houses and Exploding Coke Bottles

Of Burning Houses and Exploding Coke Bottles 6 Of Burning Houses and Exploding Coke Bottles WHEN SOMETHING goes wrong, legal rules help determine who pays for it. When, on a hot summer day, a Coke bottle does a plausible imitation of a hand grenade,

More information

Problem Set 1 Solutions

Problem Set 1 Solutions Health Economics Economics 156 Prof. Jay Bhattacharya Problem Set 1 Solutions A. Risk Aversion Consider a risk averse consumer with probability p of becoming sick. Let I s be the consumer s income if he

More information

All you need to know about the. Seniors Money Lifetime Loan. Information for you, your family and your advisers

All you need to know about the. Seniors Money Lifetime Loan. Information for you, your family and your advisers All you need to know about the Seniors Money Lifetime Loan Information for you, your family and your advisers 1 Contents This brochure from Ireland s only specialist Lifetime Mortgage provider highlights

More information

chapter: Solution Oligopoly 1. The accompanying table presents market share data for the U.S. breakfast cereal market

chapter: Solution Oligopoly 1. The accompanying table presents market share data for the U.S. breakfast cereal market S209-S220_Krugman2e_PS_Ch15.qxp 9/16/08 9:23 PM Page S-209 Oligopoly chapter: 15 1. The accompanying table presents market share data for the U.S. breakfast cereal market in 2006. Company a. Use the data

More information

AGGREGATE DEMAND AND AGGREGATE SUPPLY The Influence of Monetary and Fiscal Policy on Aggregate Demand

AGGREGATE DEMAND AND AGGREGATE SUPPLY The Influence of Monetary and Fiscal Policy on Aggregate Demand AGGREGATE DEMAND AND AGGREGATE SUPPLY The Influence of Monetary and Fiscal Policy on Aggregate Demand Suppose that the economy is undergoing a recession because of a fall in aggregate demand. a. Using

More information

Life Insurance Buyer's Guide

Life Insurance Buyer's Guide Life Insurance Buyer's Guide This guide can help you when you shop for life insurance. It discusses how to: Find a Policy That Meets Your Needs and Fits Your Budget Decide How Much Insurance You Need Make

More information

Test 1 10 October 2008. 1. Assume that tea and lemons are complements and that coffee and tea are substitutes.

Test 1 10 October 2008. 1. Assume that tea and lemons are complements and that coffee and tea are substitutes. Eco 301 Name Test 1 10 October 2008 100 points. Please write all answers in ink. Please use pencil and a straight edge to draw graphs. Allocate your time efficiently. 1. Assume that tea and lemons are

More information

University of Lethbridge Department of Economics ECON 1012 Introduction to Microeconomics Instructor: Michael G. Lanyi. Chapter 29 Fiscal Policy

University of Lethbridge Department of Economics ECON 1012 Introduction to Microeconomics Instructor: Michael G. Lanyi. Chapter 29 Fiscal Policy University of Lethbridge Department of Economics ECON 1012 Introduction to Microeconomics Instructor: Michael G. Lanyi Chapter 29 Fiscal Policy 1) If revenues exceed outlays, the government's budget balance

More information

APPENDIX. Interest Concepts of Future and Present Value. Concept of Interest TIME VALUE OF MONEY BASIC INTEREST CONCEPTS

APPENDIX. Interest Concepts of Future and Present Value. Concept of Interest TIME VALUE OF MONEY BASIC INTEREST CONCEPTS CHAPTER 8 Current Monetary Balances 395 APPENDIX Interest Concepts of Future and Present Value TIME VALUE OF MONEY In general business terms, interest is defined as the cost of using money over time. Economists

More information

Health Economics. University of Linz & Information, health insurance and compulsory coverage. Gerald J. Pruckner. Lecture Notes, Summer Term 2010

Health Economics. University of Linz & Information, health insurance and compulsory coverage. Gerald J. Pruckner. Lecture Notes, Summer Term 2010 Health Economics Information, health insurance and compulsory coverage University of Linz & Gerald J. Pruckner Lecture Notes, Summer Term 2010 Gerald J. Pruckner Information 1 / 19 Asymmetric information

More information

MARKETING AND POLICY BRIEFING PAPER

MARKETING AND POLICY BRIEFING PAPER MARKETING AND POLICY BRIEFING PAPER Department of Agricultural and Applied Economics, College of Agricultural and Life Sciences, University of Wisconsin-Madison Cooperative Extension, University of Wisconsin-Extension

More information

Week 7 - Game Theory and Industrial Organisation

Week 7 - Game Theory and Industrial Organisation Week 7 - Game Theory and Industrial Organisation The Cournot and Bertrand models are the two basic templates for models of oligopoly; industry structures with a small number of firms. There are a number

More information

Equilibrium in Competitive Insurance Markets: An Essay on the Economic of Imperfect Information

Equilibrium in Competitive Insurance Markets: An Essay on the Economic of Imperfect Information Equilibrium in Competitive Insurance Markets: An Essay on the Economic of Imperfect Information By: Michael Rothschild and Joseph Stiglitz Presented by Benjamin S. Barber IV, Xiaoshu Bei, Zhi Chen, Shaiobi

More information