Public Goods, Externalities, and Information Asymmetries: Multiple Choice Questions

Chapter 16 - Public Goods, Externalities, and Information Asymmetries
Chapter 16
Public Goods, Externalities, and Information Asymmetries
Multiple Choice Questions

1. Private goods differ from public goods in two ways. What are the two characteristics that
differentiate public goods from private goods?
A. Rivalry and excludability
B. Negative externality and positive externality
C. Marginal cost and marginal benefit
D. A moral hazard and adverse selection problem
AACSB: Analytic
Bloom's: Knowledge
Learning Objective: 16-1
Level: Moderate
Topic: Public goods

2. Public goods differ from private goods in two ways. What are the two characteristics that
differentiate public goods from private goods?
A. Asymmetric information and moral hazard
B. The Coase theorem and adverse selection
C. Negative externality and positive externality
D. Nonrivalry and nonexcludability
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Public goods

16-1
3. Private firms cannot profitably produce a public good because of:

A. Liability rules and lawsuits
B. Inflation and unemployment
C. Nonrivalry and nonexcludability
D. Moral hazard and adverse selection
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Public goods

4. An organization that provides a public good is:

A. The United Parcel Service
B. Federal Express
C. DHL Overnight
D. The U.S. Post Office
AACSB: Analytic
Bloom's: Knowledge
Level: Easy
Topic: Public goods

5. Once a government has provided a public good, everyone:

A. Pays the cost
B. Can obtain the benefit
C. Experiences a moral hazard
D. Experiences adverse selection
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Public goods

16-2
6. Because of free riders, the demand for a public good:

A. Does get expressed in the market, but the good does not get produced
B. Does not get expressed in the market, but the good does get produced
C. Does not get expressed in the market, and the good does not get produced
D. Does get expressed in the market, and the good does get produced
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Public goods

7. A public good:

A. Generally results in substantial negative externalities
B. Can never be provided by a nongovernmental organization
C. Can't be provided to one person without making it available to others as well
D. Costs essentially nothing to produce and thus is provided by the government at a zero price
AACSB: Analytic
Bloom's: Knowledge
Level: Easy
Topic: Public goods

8. Assume there is no way to prevent someone from using an interstate highway, regardless of
whether or not he or she helps pay for it. This characteristic is associated with:
A. Rival goods
B. Complementary goods
C. Public goods
D. Capital goods
AACSB: Analytic
Bloom's: Application
Level: Easy
Topic: Public goods

16-3
9. Which of the following statements concerning a pure public good is false?

A. It is impossible to exclude nontaxpayers from the receipt of the public good
B. All benefits associated with the production and use of a public good are received by the
government
C. The availability of a public good to one person simultaneously makes it available to all
members of society
D. The private sector does not have an economic incentive to produce a socially optimal
amount of a public good
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult
Topic: Public goods

10. The market demand curve for a public good:

A. Is derived in the same manner as demand curves for private goods
B. Is derived by horizontally summing all individual demand curves
C. Shows the total value that all individuals place on each unit of the good
D. Shows the total number of units that would be produced by the private sector at each
possible price
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult
Topic: Public goods

16-4

11. Refer to the above supply and demand graph for a public good. Point c on the graph shows
where the:
A. Total benefit equals the total cost of the public good
B. Marginal benefit equals the marginal cost of the public good
C. Average benefit equals the average cost of the public good
D. Total benefit equals the marginal cost of the public good
AACSB: Analytic
Level: Difficult
Topic: Cost-benefit analysis

12. Refer to the above supply and demand graph for a public good. Line segment ad
represents the amount at Q1by which the:
A. Marginal benefit of this public good is less than the marginal cost
B. Total benefit of this public good is less than the total cost
C. Marginal benefit of this public good is greater than the marginal cost
D. Total benefit of this public good is greater than the total cost
AACSB: Analytic
Level: Difficult

16-5
16-6
13. Refer to the above supply and demand graph for a public good. Which one of the
following statements is correct?
A. The supply curve reflects the marginal cost and the demand curve reflects the marginal
benefit of this public good
B. The demand curve reflects the marginal cost and the supply curve reflects the marginal
benefit of this public good
C. There will be an overallocation of resources at output level Q1
D. There will be an underallocation of resources at output level Q3
AACSB: Analytic
Level: Moderate

14. Refer to the above supply and demand graph for a public good. Which line segment would
indicate the amount by which the marginal benefit of this public good is greater than the
marginal cost?
A. de
B. da
C. ef
D. ab
AACSB: Analytic
Level: Moderate

Answer the next question(s) on the basis of the following information is for public good. Pa
and Pb represent the prices that citizens (a) and (b), the only two people in this nation, are
willing to pay for additional units of a quantity (Qc) of the public good. Qs represents the
quantity of the public good supplied by government at each of the collective prices.

16-7
16-8
15. Refer to the above information. The collective willingness of this nation to pay for the
fourth unit of the public good is:
A. $7
B. $6
C. $5
D. $3
AACSB: Analytic
Level: Easy

16. Refer to the above information. If the collective willingness to pay for an additional unit
of this public good is $6, then the collective quantity demanded will be:
A. 1 unit and the socially optimal quantity supplied will be 5 units
B. 2 units and the socially optimal quantity supplied will be 4 units
C. 3 units and the socially optimal quantity supplied will be 3 units
D. 4 units and the socially optimal quantity supplied will be 2 units
AACSB: Analytic
Level: Moderate

17. Refer to the above information. If only 1 unit of this public good is produced, then the
marginal benefit is:
A. $3 and the marginal cost is $9
B. $4 and the marginal cost is $7
C. $6 and the marginal cost is $3
D. $9 and the marginal cost is $3
AACSB: Analytic
Level: Moderate

16-9
18. Refer to the above information. In equilibrium, the marginal benefit and cost of the public
good will be:
A. $7
B. $6
C. $5
D. $3
AACSB: Analytic
Level: Difficult

Answer the next question(s) based on the following information. Waybelow Normal
University has found it necessary to institute a crime-control program on its campus to deal
with the high costs of theft and vandalism. The university is now considering several
alternative levels of crime control. This table shows the expected annual costs and benefits of
these alternatives.

19. Refer to the above information. The marginal costs of additional levels of crime control
are:
A. $60,000 for Level Two
B. $20,000 for Level Three
C. $5,000 for Level Five
D. $10,000 for Levels Two, Three, Four, and Five
AACSB: Analytic
Level: Easy

16-10
16-11
20. Refer to the above information. The marginal benefits of crime control for Level Two are:
A. $20,000
B. $40,000
C. $60,000
D. $140,000
AACSB: Analytic
Level: Moderate

21. Refer to the above information. If Waybelow undertakes Level Three:

A. Total benefits will be less than total costs
B. Marginal costs will exceed marginal benefits
C. There would be an underallocation of resources to crime control
D. There would be an overallocation of resources to crime control
AACSB: Analytic
Level: Moderate

22. Refer to the above information. Based on cost-benefit analysis, Waybelow should

undertake Level:
A. Two
B. Three
C. Four
D. Five
AACSB: Analytic
Level: Difficult

16-12
Assume that a government is considering a new social program and may choose to include in
this program any number of four progressively larger projects. The marginal cost and the
marginal benefits of each of the four projects are given in the table.

23. Refer to the above table and information. What project should the government select to
achieve the maximum net benefit?
A. A
B. B
C. C
D. D
AACSB: Analytic
Level: Moderate

24. Refer to the above table and information. What is the total cost and total benefit of doing
projects A, B, and C?
A. Total cost is $5 billion and total benefit is $7 billion
B. Total cost is $4 billion and total benefit is $7 billion
C. Total cost is $9 billion and total benefit is $12 billion
D. Total cost is $16 billion and total benefit is $20 billion
AACSB: Analytic
Level: Moderate

16-13
25. Refer to the above table and information. What is the net benefit of project D?
A. $2 billion
B. $3 billion
C. $4 billion
D. $5 billion
AACSB: Analytic
Level: Moderate

A government is considering undertaking one or more construction projects. The estimated

marginal costs and benefits of each project are given in the table.

26. Refer to the above table and information. What is the total amount that the government
should spend on construction projects?
A. $8 million
B. $14 million
C. $19 million
D. $37 million
AACSB: Analytic
Level: Moderate

16-14
27. Refer to the above table and information. What is the total cost and total benefit of
projects 1, 2, and 3?
A. Total cost is $18 million and total benefit is $19 million
B. Total cost is $24 million and total benefit is $27 million
C. Total cost is $37 million and total benefit is $41 million
D. Total cost is $65 million and total benefit is $66 million
AACSB: Analytic
Level: Moderate

28. Refer to the above table and information. What is the net benefit of project 2?
A. $1 million
B. $3 million
C. $4 million
D. $5 million
AACSB: Analytic
Level: Moderate

29. From the economist's perspective, "market failures" basically arise when:

A. The quantity demanded for a good or service is greater than the quantity supplied of the
good or service
B. The quantity supplied of a good or service is greater than the quantity demanded for a good
or service
C. Demand and supply do not accurately reflect all the benefits and all the costs of production
D. The market system is unable to adapt to or to accommodate change
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult
Topic: Externalities and government intervention

16-15
30. Which is an example of a market failure?

A. There are not enough tickets available to concerts of extremely popular performers
B. The price of medical care has risen dramatically as a result of the introduction of
sophisticated equipment and techniques
C. Polio shots and chest x-rays provide widespread benefits to the community as a whole as
well as to the individuals who get them
D. Extensive decreases in the prices of electronic equipment resulted in large numbers of
bankruptcies in the computer industry
AACSB: Reflective
Level: Difficult

31. When the production of a product creates external costs greater than external benefits, a
market economy will:
A. Not produce the product without government intervention
B. Produce a socially optimal allocation of resources
C. Allocate too few resources to production of the product
D. Allocate too many resources to production of the product
AACSB: Analytic
Level: Moderate

32. Which is an example of a negative externality?

A. An increase in the value of land you own when a nearby development is completed
B. The costs paid by a company to build an automated factory
C. Decreased property values in a neighborhood where several houses are burglarized
D. The higher price you pay when you buy a heavily advertised product
AACSB: Reflective
Level: Moderate

16-16
33. In a free-market economy, a product which entails a positive externality will be:
A. Overproduced
B. Underproduced
C. Produced at the optimal level
D. Associated only with goods and services provided by the government
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

34. If some activity creates external benefits as well as private benefits, then economic theory
suggests that the activity ought to be:
A. Taxed
B. Prohibited
C. Subsidized
D. Left alone
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

35. If a good that generates negative externalities were priced to take into account these
negative externalities, then its:
A. Price would decrease and its output would increase
B. Output would increase but its price would remain constant
C. Price would increase and its output would decrease
D. Price would increase but its output would remain constant
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

16-17
36. In a market where negative externalities are associated with consumption and production,
the equilibrium will not be efficient because:
A. Price will be greater than MC
B. Firms will shut down until costs are reduced
C. Costs of production will, on average, be too high
D. Too many resources will be allocated to production of the good
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

37. If there are positive externalities associated with consumption and production of a
product, it can be said that the:
A. Government should consider placing a special tax on producers
B. Government should consider prohibiting the production of the commodity
C. Supply curve for the product lies too far to the right to provide an efficient allocation of
resources
D. Demand curve understates the total benefit from the product and resources are
underallocated to its production
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

38. If there are external benefits associated with the consumption of a good or service:
A. The private demand curve will overestimate the true demand curve
B. The private demand curve will underestimate the true demand curve
C. Consumers will be willing to pay for all these benefits in private markets
D. The market demand curve will be the vertical summation of the individual demand costs
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

16-18
39. If the production of a product or service involves external benefits, then the government
can improve efficiency in the market by:
A. Providing a subsidy to correct for an overallocation of resources
B. Providing a subsidy to correct for an underallocation of resources
C. Imposing a corrective tax to correct for an overallocation of resources
D. Imposing a corrective tax to correct for an underallocation of resources
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

40. When producing a good generates external costs, the private market for that good tends to
produce too:
A. Much of the product at too low a price
B. Much of the product at too high a price
C. Little of the product at too low a price
D. Little of the product at too high a price
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

41. When external benefits occur in the production of a particular product, the private market
tends to provide:
A. None of the product
B. Too much of the product
C. Too little of the product
D. The socially optimal amount of the product
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

16-19
42. Which produces market failure problems in private markets?

A. The maximization of consumer satisfaction
B. Positive and negative externalities
C. Allocative efficiency
D. Productive efficiency
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

43. Most economists believe that:

A. All external costs should be eliminated
B. The control of externalities is costless
C. External costs do not cause a misallocation of resources
D. External costs should be considered in determining optimal output
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

44. Suppose that the ABC industry produces a product which results in significant external
costs to society. Such production suggests that:
A. Resources are underallocated to the industry
B. Resources are overallocated to the industry
C. The firms in this industry aren't maximizing profits
D. At the market price, quantity demanded is less than quantity supplied
AACSB: Analytic
Level: Easy

16-20
45. If an activity results in an external benefit, then in a pure market economy the:
A. Quantity produced is too low
B. Quantity produced is too high
C. Market supply is too low
D. Market supply is too high
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

It is the custom for paper mills located alongside the Layzee River to discharge waste
products into the river. Operators of hydroelectric generating plants on the river find that they
must clean up the river's water before it flows through their equipment.
46. The above situation is an example of:

A. An external economy
B. An external cost
C. The exclusion principle
D. An external benefit
AACSB: Analytic
Level: Easy

16-21
47. Refer to the above information. Which of the following policies would be most
appropriate for dealing with this problem?
A. Levy a tax on the consumers of paper products and use the tax revenues to conduct
research on new energy sources
B. Levy a tax on the consumers of electricity and use the tax revenues to subsidize the
consumers of paper products
C. Levy a tax on the producers of electricity and use the tax revenues to clean up the river
D. Levy a tax on the producers of paper products and use the tax revenues to clean up the
river
AACSB: Analytic
Level: Moderate

48. Refer to the above information. If nothing is done to correct this situation:

A. There will be an overallocation of resources to the production of electricity
B. There will be an underallocation of resources to the production of paper products
C. There will be an overallocation of resources to the production of paper products
D. The price of electricity will be lower than it should be
AACSB: Analytic
Level: Easy

16-22

49. Refer to the above supply and demand graph. In the graph, point A is the current
equilibrium level of output of this product and point B is the optimal level of output from
society's perspective. S is the supply curve without a tax and St is the supply curve with a tax.
This figure indicates that there is (are):
A. External benefits to the production of this product
B. External costs from the production of this product
C. An underallocation of resources to product production
D. Positive externalities from product production
AACSB: Analytic
Level: Moderate

16-23
The external cost to society from the production of this product is measured by:
A. DE
B. EF
C. FG
D. AB
AACSB: Analytic
Level: Difficult

One solution to this externality problem is to:
A. Give consumers a subsidy of the amount FG
B. Give producers a subsidy of the amount AB
C. Tax producers by the amount DE
D. Tax consumers by the amount EF
AACSB: Analytic
Level: Difficult

16-24
If government corrects this externality problem with a tax so that all the costs are included in
the cost of production, then the product price will be set at point:
A. G
B. F
C. E
D. D
AACSB: Analytic
Level: Difficult

16-25
53. Refer to the above supply and demand graph. Point A represents the current equilibrium
level of output of this product and point B represents the optimal level of output from society's
perspective. This supply and demand graph indicates that there is (are):
A. External benefits to the production of this product
B. External costs to the production of this product
C. An overallocation of resources to the production of this product
D. A negative externality from the production of this product
AACSB: Analytic
Level: Easy

perspective. If government decides to correct this externality with a subsidy to consumers,
then the:
A. Demand curve will shift from D2 to D1
B. Supply curve will shift from S1 to S2
C. Demand curve will shift from D1 to D2
D. Supply curve will shift from S2 to S1
AACSB: Analytic
Level: Moderate

16-26
perspective. If government decides to correct this externality by subsidizing producers, then
the:
A. Demand curve will shift from D1 to D2
B. Supply curve will shift from S1 to S2
C. Supply curve will shift from S2 to S1
D. Demand curve will shift from D2 to D1
AACSB: Analytic
Level: Moderate

perspective. The amount of the subsidy to be given to producers to correct this externality
problem would be:
A. AB
B. GH
C. EF
D. IJ
AACSB: Analytic
Level: Difficult

16-27
perspective. The amount of the subsidy to be given to consumers to correct this externality
problem would be measured by:
A. AB
B. GH
C. EF
D. IJ
AACSB: Analytic
Level: Difficult

16-28
58. Refer to the above supply and demand graph of Product X. What would happen if the
government taxed the consumers of this product because it has negative externalities?
A. Demand would increase
B. Demand would decrease
C. Supply would increase
D. Price would increase
AACSB: Analytic
Level: Moderate

government taxed the producers of this product because it has negative externalities?
A. Supply would increase
B. Demand would decrease
C. Supply would decrease
AACSB: Analytic
Level: Moderate

government subsidized the buyers of Product X?
A. Demand would decrease
B. Demand would increase
C. Supply would decrease
D. Price would decrease
AACSB: Analytic
Level: Easy

16-29
government subsidized the sellers of Product X?
A. Demand would decrease
B. Supply would decrease
C. Supply would increase
AACSB: Analytic
Level: Easy

62. One condition for individual bargaining to occur according to the Coase theorem is that
there must be:
A. Clearly defined property rights
B. Many people affected and involved
C. Government intervention to establish bargaining
D. Government creation of a market for externalities
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Coase theorem

63. Which is not one of the conditions for the Coase theorem to hold?
A. The ownership of property is clearly defined
B. The number of people involved is small
C. The amount of money disputed is minor
D. The costs of bargaining are negligible
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult

16-30
64. Near an ocean beach, a high-rise building is being constructed that will block the scenic
view of the ocean by the residents of a low-rise building. The Coase theorem suggests that
this type of dispute between the owners of high-rise and low-rise buildings would best be
resolved by:
A. The owners themselves
B. City government officials
C. A zoning ordinance restricting high-rise buildings
D. A government fine for the builder of the high-rise
AACSB: Reflective
Level: Easy

65. In a market economy with well-defined property rights, the potential threat of a lawsuit or
a liability judgment against a firm will give firms an incentive to:
A. Decrease negative externalities from production
B. Increase negative externalities from production
C. Increase positive externalities from production
D. Turn to the government to provide public goods
AACSB: Analytic
Level: Moderate

66. The tragedy of the commons is the tendency of:

A. Consumers to overconsume scare resources that are in limited supply
B. Government to overregulate common property resources
C. Private companies to use bribes and corruption of government officials to pollute the
environment
D. Society to overuse common property resources to which no one holds property rights
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Market for externality rights

16-31
67. The tendency of society to overuse and abuse common property resources to which no one
holds property rights is referred to as:
A. An asymmetric information problem
B. The law of conservation of matter
C. The tragedy of the commons
D. The trading of pollution rights
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

68. The overgrazing of cattle on public range lands would be an example of:

A. A moral hazard problem
B. An adverse selection problem
C. The tragedy of the commons
D. The market for pollution
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

69. The primary rationale for establishing a public market for pollution rights is that:
A. Private industry has not done an effective job in marketing pollution rights
B. Public agencies could make a great deal of money by selling such rights
C. The rights to use rivers, lakes, and other public lands are often held "in common."
D. No discharge of pollutants should be allowed so that the quality of the environment can be
maintained
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult

16-32
70. Which antipollution policy would be least likely to make use of cost-benefit analysis?
A. Creating a market for pollution rights
B. Charging polluters an emission fee
C. Enacting legislation that bans pollution
D. Using private bargaining when the property rights are clearly defined, the number of
people involved is small, and negotiation costs are negligible
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

71. To internalize the external costs of pollution is to:

A. Levy taxes on manufacturing firms located in crowded urban areas
B. Auction off pollution rights to those willing to pay the most for them
C. Make the polluter pay all of the costs associated with the polluting activity
D. Require that private citizens rather than taxpayers pay for the harmful effects of pollution
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult

72. An emission charge is a:

A. Special reduced tax rate for owners of property in deteriorating central cities
B. Charge placed on the producers of throwaway aluminum or plastic containers
C. Special tax or fee on those who discharge pollutants into the air or water
D. User charge on those who want to drive on congested highways
AACSB: Analytic
Level: Easy

16-33
73. An emission fee levied against polluters will tend to:

A. Internalize the internal cost of pollution
B. Externalize the internal cost of pollution
C. Internalize the external cost of pollution
D. Externalize the external cost of pollution
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

74. The graph above shows the market for a product where S1 is the original supply curve and
S2 is the new supply curve following a tax on producers to reduce pollution. The tax per unit
of output is:
A. AB
B. AC
C. BG
D. AJ
AACSB: Analytic
Level: Moderate

16-34
75. It has been proposed that a government agency be charged with the responsibility for
determining the amount of pollution which the atmosphere or a body of water can safely
recycle, and sell these limited rights to polluters. What would be the advantage of such a
market for pollution rights?
A. Government agencies can make a great deal of money
B. Pollution would be eliminated because nobody would want to pay for such a right
C. The quality of water or air can be maintained at some acceptable standard through
economic incentives
D. The social consciousness of people would be raised as they obtain more appreciation for
the importance of conservation
AACSB: Reflective
Level: Easy

76. If there were a market for pollution rights established by a public agency which
determined the amount of pollution that the atmosphere or a body of water can safely
assimilate, and the agency sold these rights to polluters, we could expect that:
A. The price of these pollution rights would increase over time
B. There would be a surplus of pollution rights
C. There would be a shortage of pollution rights
D. There would be a black market for pollution rights
AACSB: Reflective
Level: Moderate

16-35

77. Refer to the above diagram illustrating a market for pollution rights in which government
has fixed the supply of rights at 1,000 tons. If there were no market for pollution rights in this
case, the volume of pollutants discharged would be:
A. Zero
B. 1,000 tons
C. 1,500 tons
D. 2,000 tons
AACSB: Analytic
Level: Easy

16-36
78. Refer to the above diagram illustrating a market for pollution rights in which government
has fixed the supply of rights at 1,000 tons. If the demand for pollution rights were to increase
as a result of economic growth, the:
A. Volume of pollutants discharged would increase
B. Price of pollution rights would increase
C. Supply curve would shift to the right
D. Demand curve would shift to the left
AACSB: Analytic
Level: Easy

79. A market for pollution rights can be expected to:

A. Eliminate all pollution
B. Produce a shortage of pollution
C. Encourage potential polluters to increase emissions
D. Provide potential polluters with a monetary incentive to reduce emissions
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

80. By requiring car producers to install emission control devices on cars, the government
forces these producers to internalize some of the external costs of auto pollution. This will
lead to the equilibrium price of cars:
A. Decreasing and the quantity increasing
B. Decreasing and the quantity decreasing
C. Increasing and the quantity increasing
D. Increasing and the quantity decreasing
AACSB: Analytic
Level: Moderate

16-37
81. The air pollution policy of the United States has historically been one of:
A. Taxation of products that produce air pollution
B. Government subsidies to reduce emissions from factories
C. Direct controls in the form of uniform emission standards
D. The internal and external trading of pollution rights in a market
AACSB: Analytic
Level: Moderate

82. Which is a provision of the Clean Air Act of 1990?

A. High-pollution cars such as those built before 1970 can no longer be driven in the year
2000 (unless they are designated as antiques)
B. Manufacturers of toxic chemicals are taxed and these revenues are used to fund the
purchase of equipment to reduce air pollution
C. Factories and businesses must install "maximum achievable control technology" to reduce
emission of toxic chemicals by the year 2000
D. Creates a market for recycled products to reduce the manufacture of new products that
cause air pollution
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult

83. To reduce sulfur dioxide emissions, the Clean Air Act of 1990:
A. Subsidized companies that installed "maximum achievable control technologies" by the
year 2000
B. Limited the emissions of automobiles in major U.S. cities with air pollution problems
C. Set stricter limits on pollution contributing to ozone depletion
D. Created a market for pollution rights among firms in an area
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult

16-38
Use the following table to answer the next question(s). The data in the table show the
marginal costs and marginal benefits to a city for five different levels of pollution abatement

84. Refer to the above table. If the city seeks an optimal reduction of the externality, then it
will select how many tons of pollution abatement?
A. 500
B. 600
C. 700
D. 800
AACSB: Analytic
Level: Easy
Topic: Optimal pollution abatement

85. Refer to the above table. If the marginal benefit of pollution abatement increased by
$150,000 at each level because of the community's new desire to attract more profitable and
cleaner industry, then the optimal level of pollution abatement in tons would be:
A. 600
B. 700
C. 800
D. 900
AACSB: Analytic
Level: Difficult

16-39
86. Refer to the above table. What would cause the optimal level of pollution abatement to be
600 tons?
A. An increase in marginal costs by $150,000 at each level
B. An increase in marginal benefits by $200,000 at each level
C. A decrease in marginal costs by $150,000 at each level
D. A decrease in marginal benefits by $100,000 at each level
AACSB: Analytic
Level: Moderate

87. The optimal level of pollution in society occurs whenever:

A. There is no pollution
B. The marginal benefit of pollution control equals the marginal cost
C. The total benefit of pollution control equals the total cost of pollution
D. The average cost of cleaning up the pollution is greater than the marginal cost of cleanup
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

88. By how much in degrees Fahrenheit has the earth's surface warmed over the last century?
A. 0 degrees
B. 1 degree
C. 2 degrees
D. 3 degrees
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

16-40
89. Because of the greenhouse effect, average Fahrenheit temperatures are predicted to rise
over the next 50 years by:
A. Only 0.5 of a degree
B. 1 to 4.5 degrees
C. 4.5 to 5.5 degrees
D. 6.0 to 7.0 degrees
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

90. From an economist's perspective, an important consideration for policies to address global

warming is:
A. The market for recyclable inputs
B. The supply and demand for recycled products
C. The marginal cost and marginal benefit of the policies
D. A lawsuit that can arise from the enactment of the policies
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

91. If Congress decreases the amount of government insurance on bank deposits, then this
action would:
A. Create a moral hazard problem
B. Reduce a moral hazard problem
C. Create an adverse selection problem
D. Reduce an adverse selection problem
AACSB: Analytic
Level: Easy
Topic: Asymmetric information

16-41
92. Which would be an example of where the government has intervened to correct a market
failure caused by inadequate information about sellers?
A. Providing unemployment compensation insurance
B. Sponsoring legislation to reduce pollution
C. Licensing of medical doctors and surgeons
D. Requiring car drivers to buy auto insurance
AACSB: Analytic
Level: Difficult

93. A good example of a government action that creates a moral hazard problem would be
the:
A. Clean Air Act of 1990
B. Superfund law of 1980
C. Provision of unemployment compensation insurance
D. Establishment of standards for weights and measures
AACSB: Analytic
Level: Easy

16-42
94. Suppose consumers do not know the safety risks associated with a particular good, and
that the free-market equilibrium is at E as shown in the diagram above. If an agency now
provides information about the harmful characteristics of the product, then:
A. The supply curve will shift to the left
B. The supply curve will shift to the right
C. Both the new equilibrium price and quantity will be lower
D. The new equilibrium price will be higher but the equilibrium quantity will be either higher
or lower
AACSB: Analytic
Level: Moderate

95. If a person drives with less care after purchasing auto insurance, this situation would be an
example of a(n):
A. Coase theorem problem
B. Negative externality problem
C. Adverse selection problem
D. Moral hazard problem
AACSB: Reflective
Level: Difficult

96. Which would be an example of an adverse selection problem?

A. A person in ill health who purchases disability insurance
B. A person who buys a product that contributes to pollution
C. A person who purchases home insurance and then is less careful
D. A person who lobbies for government intervention to settle a property rights dispute
AACSB: Reflective
Level: Difficult

16-43
97. Which would be an example of a moral hazard problem?

A. A person in poor health who purchases life insurance
B. A person who is taxed on the purchase of a carton of cigarettes
C. A person who purchases auto insurance and then drives more recklessly
D. A person who receives a subsidy from the Federal government to insulate a home
AACSB: Reflective
Level: Difficult

98. Which would be considered an example of adverse selection?

A. Malpractice insurance may increase the amount of malpractice
B. Drivers may be less cautious because they have airbags installed in a car
C. Those individuals who most need insurance are the ones most likely to buy it
D. A work contract that gives a set number of sick days may encourage workers to claim they
are sick more often
AACSB: Reflective
Level: Moderate

99. The franchising of fast-food restaurants would be an example of how business:

A. Overcomes market information problems
B. Solves the moral hazard problem in insurance
C. Expands the limits of the Coase theorem
D. Corrects the tragedy of the commons
AACSB: Reflective
Level: Easy

16-44
100. The moral hazard problem arises primarily because of:

A. Individual bargaining
B. Negative externalities
C. Asymmetric information
D. Poorly defined property rights
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

101. Inadequate information about buyers can cause market failure in the form of:
A. An increase in the number of market sellers
B. An increase in the number of market buyers
C. An underallocation of resources to the provision of the product
D. An overallocation of resources to the provision of the product
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

102. There is an adverse selection problem in the market for used cars because:
A. Owners of poor-quality cars have a strong incentive to sell their cars, while owners of
high-quality used cars have more incentive to keep their cars
B. Owners of high-quality cars will have a strong incentive to sell their cars to obtain the
higher prices, while owners of poor-quality cars will have more incentive to keep theirs
C. Most people prefer new cars, but the high prices for new cars force most of them to buy
used cars
D. Government actions to pass "lemon" laws have reduced information on used cars
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult

16-45
103. Which action would counteract the tendency for poor-quality products to drive out high-
quality products in a market?
A. The increased use of the market to sell products
B. The availability of transferable warranties for products
C. Less information from the government
D. Less information from sellers
AACSB: Reflective
Level: Moderate

104. An artist creates an innovative sculpture that costs $2,000 to make. She arranges to have
the sculpture displayed in the public square of a town and it attracts large crowds. Will the
artist be likely to capture the individual benefits from enjoyment of it?
A. Yes, because most people will voluntarily pay for their enjoyment
B. Yes, because the large crowds will produce a private donor to pay for it
C. No, because individuals will not pay for it when most other people do not have to pay it
D. No, because the marginal cost of making the sculpture is greater than the marginal benefit
of it
AACSB: Analytic
Level: Moderate
Topic: Public goods

105. The average quality of a used car is:

A. Determined solely by the used car lot
B. Determined solely by the available demand
C. Higher than the same makes and models that are not for sale
D. Lower than the same makes and models that are not for sale
AACSB: Analytic
Level: Moderate

16-46
106. There is asymmetric information for private purchases in the used car market because:
A. New cars are better than used-cars in quality
B. Used-car buyers have better bargaining power than sellers
C. Used-car sellers have better information about the car condition than buyers
D. New car dealers want to increase the demand for new cars over used cars
AACSB: Analytic
Level: Moderate

107. What economic concepts can be used to explain the reason that a new car purchased by a
consumer and driven off a new car lot decrease in value almost immediately compared with
the value of the same make and model of a car still on the new car lot?
A. Positive and negative externalities
B. Liability rules and lawsuits
C. The Coase theorem and moral hazard
D. Asymmetric information and adverse selection
AACSB: Analytic
Level: Moderate

108. The Lojack is an example of a product that:

A. Produces a positive externality
B. Produces a negative externality
C. Contributes to global warming
D. Contributes to the tragedy of the commons
AACSB: Analytic
Level: Moderate

16-47
109. Private car alarm systems with red blinking lights would tend to:
A. Decrease the likelihood of car thefts to all car owners
B. Increase the likelihood of car thefts to all car owners
C. Redistribute the likelihood of a car theft from those car owners with such a device to those
car owners without such a device
D. Offer a positive externality to those car owners who did not pay for the device
AACSB: Analytic
Level: Moderate

110. According to a study by economists Ian Ayres and Steven Levitt, the division of the total
benefit of the Lojack to its owners and all other car owners is:
A. 100% to the car owner with a Lojack, 0% to other car owners
B. 75% to the car owner with a Lojack, 25% to other car owners
C. 50% to the car owner with a Lojack, 50% to other car owners
D. 10% to the car owner with a Lojack, 90% to other car owners
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

True / False Questions

111. Excludability means that buyers who are willing and able to pay the market price for the
product do not obtain its benefits, but those unable or unwilling to pay that price do obtain the
benefits
FALSE
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Public goods

16-48
112. The free-rider problem makes a good profitable to provide by a private firm.

FALSE
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Public goods

113. Rivalry means that when one person buys and consumes a product, it is not available for
purchase and consumption by another person.
TRUE
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Public goods

114. Goods that are subject to excludability provide examples of private goods.

TRUE
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Public goods

115. The market demand curve for a pure public good shows the total value that all
individuals place on each unit of the good.
TRUE
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Public goods

16-49
116. The government receives all of the benefits associated with the production of a public
good.
FALSE
AACSB: Analytic
Bloom's: Knowledge
Level: Easy
Topic: Public goods

117. The types and quantities of public goods produced are determined through the political
process.
TRUE
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate
Topic: Public goods

118. Government should subsidize a product whose consumption results in external costs in

order to achieve the optimal level of output.
FALSE
AACSB: Analytic
Bloom's: Knowledge
Level: Easy

119. Whenever there are negative or positive externalities, the Coase theorem suggests that it
is economically efficient for the government to intervene to resolve the externality problem.
FALSE
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult

16-50
120. Emission charges are a method to internalize external costs to polluting firms.

TRUE
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

121. An effective antipollution policy from an economic perspective requires that all pollution
be banned.
FALSE
AACSB: Analytic
Level: Easy

122. Because in any period of time and in any region the quantity of pollutants that can be
absorbed by nature is fixed, the supply of pollutant rights will be perfectly elastic.
FALSE
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult

123. The Clean Air Act of 1990 sought to reduce acid rain by cutting emissions of sulfur
dioxide.
TRUE
AACSB: Analytic
Bloom's: Knowledge
Level: Difficult

16-51
124. A moral hazard problem occurs when people alter their behavior before they sign a
contract, imposing benefits on another party.
FALSE
AACSB: Analytic
Bloom's: Knowledge
Level: Moderate

125. An example of an adverse selection problem is in insurance, where the people most
likely to receive insurance payouts are the people who will seek to buy the most generous
policies.
TRUE
AACSB: Analytic
Level: Difficult

16-52

Public Goods, Externalities, and Information Asymmetries: Multiple Choice Questions

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Public Goods, Externalities, and Information Asymmetries: Multiple Choice Questions

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Chapter 16 - Public Goods, Externalities, and Information Asymmetries

Multiple Choice Questions

3. Private firms cannot profitably produce a public good because of:

4. An organization that provides a public good is:

5. Once a government has provided a public good, everyone:

6. Because of free riders, the demand for a public good:

7. A public good:

9. Which of the following statements concerning a pure public good is false?

10. The market demand curve for a public good:

21. Refer to the above information. If Waybelow undertakes Level Three:

22. Refer to the above information. Based on cost-benefit analysis, Waybelow should

A government is considering undertaking one or more construction projects. The estimated

29. From the economist's perspective, "market failures" basically arise when:

30. Which is an example of a market failure?

32. Which is an example of a negative externality?

42. Which produces market failure problems in private markets?

43. Most economists believe that:

46. The above situation is an example of:

48. Refer to the above information. If nothing is done to correct this situation:

66. The tragedy of the commons is the tendency of:

68. The overgrazing of cattle on public range lands would be an example of:

71. To internalize the external costs of pollution is to:

72. An emission charge is a:

73. An emission fee levied against polluters will tend to:

79. A market for pollution rights can be expected to:

82. Which is a provision of the Clean Air Act of 1990?

87. The optimal level of pollution in society occurs whenever:

90. From an economist's perspective, an important consideration for policies to address global

96. Which would be an example of an adverse selection problem?

97. Which would be an example of a moral hazard problem?

98. Which would be considered an example of adverse selection?

99. The franchising of fast-food restaurants would be an example of how business:

100. The moral hazard problem arises primarily because of:

105. The average quality of a used car is:

108. The Lojack is an example of a product that:

True / False Questions

112. The free-rider problem makes a good profitable to provide by a private firm.

114. Goods that are subject to excludability provide examples of private goods.

118. Government should subsidize a product whose consumption results in external costs in

120. Emission charges are a method to internalize external costs to polluting firms.

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