UT ECO 321 - Problem Set 1_Solutions_Fall 2017 (7 pages)

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Problem Set 1_Solutions_Fall 2017



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Problem Set 1_Solutions_Fall 2017

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Pages:
7
School:
University of Texas at Austin
Course:
Eco 321 - Public Economics
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Economics 321 Public Economics Prof Marika Cabral TA Katherine Keisler Fall 2017 UT Austin Problem Set 1 Due Monday Sept 18th 1 Ch1 Consider the four basic questions of public finance listed in the chapter Which of these questions are positive questions that can be proved or disproved and which are normative questions of opinion Explain your answer The four basic questions of public finance 1 When should the government intervene in the economy The word should suggests that this is a question about which opinion will vary so it is normative 2 How might the government intervene This question is positive It asks How does the government actually intervene now and how might it intervene in the future One can check whether a government might intervene in a particular way directly by examining the behavior of existing and future governments 3 What is the effect of those interventions on economic outcomes Economic effects can be measured and thus are not a matter of opinion so this question is positive 4 Why do governments choose to intervene in the way they do This is a factual positive question It may be difficult to directly observe the answer but one can potentially learn about the motivations behind a government s interventions by looking at patterns of behavior over time 2 Ch1 In order to make college more affordable for students from families with fewer resources a government has proposed allowing the student of any family with less than 50 000in savings to attend public universities for free Discuss the direct and possible indirect effects of such a policy This policy would make college cheaper for students from families with less than 50 000 in savings There would be two direct effects of this policy First it would make the families of students who already intended to attend college better off if the families that were saving had less than 50 000 in savings Second it would probably encourage additional students from low savings families to attend college A potential indirect effect of this policy would be to reduce the savings of other families families that were saving money for a college education but would stop doing so when they could anticipate getting a free ride if they don t save 3 Ch1 Proper hygiene such as regular hand washing can greatly limit the spread of many diseases How might this suggest a role for public interventions What kinds of public interventions might be possible Suggest three distinct types of possible interventions Individuals tend to ignore the external costs they impose on others by failing to wash their hands frequently enough or by failing to employ other sorts of hygienic practices This suggests that they tend to wash their hands less than optimally and that there may there fore be a role for public interventions One possible intervention would be a requirement that individuals wash their hands after using restrooms Such regulations are imposed for employees at businesses for example A second possible intervention is public provision of hand washing facilities This would reduce the cost of hand washing thereby encouraging individuals to engage in that activity more frequently A third possibility would be an advertising campaign to encourage hand washing 4 Ch2 You have 100 to spend on food and clothing The price of food is 5 and the price of clothing is 10 a Graph your budget constraint The food intercept y in the accompanying figure is 20 units If you spend the entire 100 on food at 5 per unit you can afford to purchase 100 5 20 units Similarly the clothing intercept x is 100 10 10 The slope when food is graphed on the vertical axis will be 2 b Suppose that the government subsidizes clothing such that each unit of clothing is half price up to the first 5 units of clothing Graph your budget constraint in this circumstance This budget constraint will have two different slopes At quantities of clothing less than or equal to 5 the slope will be 1 because 1 unit of food costs the same as 1 unit of clothing 5 At quantities of clothing greater than 5 the slope will be 2 if graphed with food on the y axis parallel to the budget constraint in a The point where the line kinks 5 15 is now feasible The new x intercept clothing intercept is 12 5 if you purchase 5 units at 5 per unit you are left with 75 to spend If you spend it all on clothing at 10 per unit you can purchase 7 5 units for a total of 12 5 units New budget constraint bold and original dashed 5 Ch2 Consider an income guarantee program with an income guarantee of 6 000 and a benefit reduction rate of 50 A person can work up to 2 000 hours per year at 8 per hour a Draw the person s budget constraint with the income guarantee A person will no longer be eligible for benefits when he or she works 1 500 hours and earns 12 000 guarantee of 6 000 50 b Suppose that the income guarantee rises to 9 000 but with a 75 reduction rate Draw the new budget constraint Benefits will end under these conditions when earned income is 9 000 75 12 000 just as shown in a The difference is that the all leisure income is higher but the slope of the line segment from 500 hours of leisure to 2 000 hours of leisure is flatter c Which of these two income guarantee programs is more likely to discourage work Explain A higher income guarantee with a higher reduction rate is more likely to discourage work for two reasons First not working at all yields a higher income Second a person who works less than 1 500 hours will be allowed to keep much less of his or her earned income when the effective tax rate is 75 With a 75 benefit reduction rate the effective hourly wage is only 2 per hour 25 of 8 6 Ch2 Governments offer both cash assistance and in kind benefits such as payments that must be spent on food or housing Will recipients be indifferent between receiving cash versus in kind benefits with the same monetary values Using indifference curves show the circumstances in which individuals would be indifferent and situations in which the form of the benefits would make a difference to them Generally recipients can attain a higher level of utility they can choose a consumption bundle on a higher indifference curve when they are given cash rather than a specific good People who would purchase the same amount of food or housing as the in kind grant pro vides would be indifferent between in kind and cash benefits because they would use the cash to purchase the same items However people whose preferences would lead them to purchase less


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