Public Economics Exam
Economics 1410: Public Economics – Designing Government Policy
Final Examination
I
SHORT QUESTIONS (10 points each, explain your answers)
1. True / False / Uncertain: It is always better to use monetary policy for output stabilization than to use fiscal policy.
False. Monetary policy becomes ineffective once real interest rates come close to zero. Also: different lag lengths.
2. True / False / Uncertain: Requiring employers to make accommodations for disabled workers and to pay disabled and non-disabled workers the same wages will raise the unemployment of the disabled.
Uncertain. The demand for their labor will be reduced, as they are now effectively more expensive to firm. (5) That said, their labor supply will increase if they value the accommodations more than they cost, or if their was a market failure of some kind in the provision of accommodations before. (5) Empirically, this appears to be true (Acemoglu &
Angrist, JPE 2001). (5)
3. True / False / Uncertain: Demand-side health insurance that deals optimally with the tradeoff between moral hazard and protection does not lead to overconsumption of health care,
i.e., the social cost of the marginal unit of health care consumed will not exceed the social benefit of that unit.
False. Insurance always creates some level of overconsumption; and asymmetric information may lead to oversupply (5 for this second point).
4. Suppose Jim has an 80% chance of being employed, and a 20% chance of being unemployed. When employed, Jim’s income is $10,000, and when unemployed, Jim’s income is $100. Jim’s utility function is given by U = √Y. In dollar terms, how much more would it be worth to Jim if he made his expected income with certainty, than if he faced the uncertain income stream just described?
$1,296 (5) – His expected income equals $8,020 (2), while the certainty equivalent of his risky income is $6,724 (3).
5. True / False / Uncertain: The invention of a new local public good makes it
Final Examination
I
SHORT QUESTIONS (10 points each, explain your answers)
1. True / False / Uncertain: It is always better to use monetary policy for output stabilization than to use fiscal policy.
False. Monetary policy becomes ineffective once real interest rates come close to zero. Also: different lag lengths.
2. True / False / Uncertain: Requiring employers to make accommodations for disabled workers and to pay disabled and non-disabled workers the same wages will raise the unemployment of the disabled.
Uncertain. The demand for their labor will be reduced, as they are now effectively more expensive to firm. (5) That said, their labor supply will increase if they value the accommodations more than they cost, or if their was a market failure of some kind in the provision of accommodations before. (5) Empirically, this appears to be true (Acemoglu &
Angrist, JPE 2001). (5)
3. True / False / Uncertain: Demand-side health insurance that deals optimally with the tradeoff between moral hazard and protection does not lead to overconsumption of health care,
i.e., the social cost of the marginal unit of health care consumed will not exceed the social benefit of that unit.
False. Insurance always creates some level of overconsumption; and asymmetric information may lead to oversupply (5 for this second point).
4. Suppose Jim has an 80% chance of being employed, and a 20% chance of being unemployed. When employed, Jim’s income is $10,000, and when unemployed, Jim’s income is $100. Jim’s utility function is given by U = √Y. In dollar terms, how much more would it be worth to Jim if he made his expected income with certainty, than if he faced the uncertain income stream just described?
$1,296 (5) – His expected income equals $8,020 (2), while the certainty equivalent of his risky income is $6,724 (3).
5. True / False / Uncertain: The invention of a new local public good makes it