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ECON 340 / Zenginobuz Name-------------------------------------------
Koç University
FINAL EXAM
January 7, 2014
(120 minutes)
Multiple Choice – circle the best response (3 points each):
1. Suppose that a particular allocation is not Pareto optimal. If this is so and the allocation is changed to make
someone people better off, then:
a. everyone else will be worse off.
b. no one else can be worse off.
c. everyone else will be better off also.
d. no one else need be worse off.
2. If each family’s tax liability is determined by the formula Tax!Liability =0.25!×!Income −$4,000, hen:
a. the marginal tax rate increases as income increases, so the tax is progressive.
b. a family with income equal to $16,000 pays no income tax.
c. a family with income equal to $20,000 pays no income tax.
d. none of the above are correct.
3. The market distortion or inefficiency of a commodity tax is greatest when:
a. supply is perfectly inelastic.
b. supply and demand are both elastic.
c. demand is perfectly inelastic.
d. supply and demand are both inelastic.
4. Three projects are under consideration: a new concert hall, a new football stadium, and a new library. Sarah
believes the concert hall will provide a large net benefit, Jesse wants the new football stadium, and Emma
supports the proposed library. If all three projects are rejected in majority voting (where each voter is asked to
vote yes or no), we can conclude that:
a. it is efficient to spend tax dollars on all three of these, demonstrating that it is impossible for society to
make efficient choices using majority voting.
b. all three projects could be approved if we allowed “vote-trading”, but this doesn’t
guarantee that they are all efficient ways to use public funds.
c. none of the projects can be efficient in the sense that social benefits exceed social costs.
d. only those projects that are efficient (with social benefits in excess of social costs) could be approved if
we allowed “vote-trading”.
5. In order to derive a market demand curve for a public good, individual demand curves are ________ summed;
in order to derive a market demand curve for a private good, individual demand curves are ________ summed.
a. horizontally; horizontally
b. horizontally, vertically
c. vertically; horizontally
d. vertically; vertically
Indicate whether each statement is (T)rue or (F)alse (3 points each):
_____ 1. The statutory incidence of a tax indicates which party really pays the tax.
_____ 2. The first fundamental theorem of welfare economics demonstrates that a laissez-
faire policy always results in an efficient and socially desirable allocation.
_____ 3. Majority voting always leads to inconsistent decisions regarding public goods when
at least one voter’s preferences are double-peaked.
_____ 4. Consumers are indifferent between paying a $100 lump-sum tax and paying a $1
per unit tax on the purchase of 100 bottles of wine.
_____ 5. In the Lindahl pricing model, equilibrium is achieved when all voters choose the
same quantity of a public good, but all voters do not necessarily pay the same price.
Problems
1. (20 points) The supply of newspapers is perfectly elastic at a price of $0.75. Sketch the supply and demand
graph below and calculate the equilibrium number of newspapers demanded by consumers in this market
assuming the quantity demanded is given by the function:
QD = 864,000 – 512,000P
Suppose that a 20 percent tax is imposed on newspapers, causing the after-tax price to increase to $0.9. Show
the effect of this tax in your graph (label the new supply line S’) and calculate the excess burden resulting from
the tax. Calculate the price elasticity of demand coefficient at the initial equilibrium point using the formula
eD = |(dQD/dP)(P/QD)| and use this value to verify that the excess burden can also be calculated using the
formula EB = ½eD(PQ)t2, where t is the tax rate (i.e. t = 0.2)
2. (20 points) Suppose the annual number of doctor visits per year (QD) is related to the price per doctor visit (P)
by the relation QD = 5 – 0.025P. When the price is $80 per visit, how many visits are there per year? Illustrate
your answer in a graph. How much are expenditures on doctor visits? Suppose an individual obtains insurance.
There is no deductible, and the patient’s co-payment is $40 per visit. How many visits to the doctor occur now?
Show this in your graph. Calculate the individual’s annual out-of-pocket costs, the amount paid by the
insurance company, and total expenditures on doctor visits when there is insurance.
3. (30 points) Leyla loves Mecnun and Mecnun loves Leyla. Besides love, they consume only one good, namely
börek. Leyla likes börek, but she also likes Mecnun to be happy and she knows that börek makes Mecnun
happy. Mecnun likes börek, but he also likes Leyla to be happy and he knows that börek makes her happy.
Leyla's utility function is and Mecnun's utility function is , where
BL and BM are the amount of börek for Leyla and the amount of börek for Mecnun, respectively. There is a total
of 12 units of börek to be divided between Leyla and Mecnun (assume the böreks are infinitely divisible).
a) (3 pts) If Leyla got to allocate the 12 units of börek exactly as she wanted to, how much would she give
ULBL,BM
( )
=BL
2BM
UMBM,BL
( )
=BM
2BL
