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1. Which of the following occurs if firms are able to restrict output and raise price?
a. resources are misallocated
b. wealth is shifted from consumers to government
c. wealth is shifted from producers to consumers
d. P = MC

2. Production by a monopoly would result in the socially optimal allocation of resources if
a. price is set equal to marginal cost
b. marginal revenue is set equal to price
c. marginal revenue is set equal to marginal cost
d. price is set equal to average total cost

3. If firms accused of antitrust violations sign a consent decree, they have
a. admitted guilt and accept the lawful penalties
b. admitted guilt, but are relieved of any penalties by agreeing to cease the violations
c. agreed to cease the alleged wrongdoing, without admitting guilt
d. denied the accusation and requested a formal hearing or trial

4. Generally, people are more satisfied with private market outcomes than with public voting outcomes because
a. each consumer in the private market can choose the quantity he or she desires
b. most people are near the median
c. the prices are lower
d. markets are involuntary

5. Rationality implies that in order to get what they want, people will spend the most time and effort
a. making private market decisions
b. getting politically involved
c. investigating political candidates' platforms
d. debating social issues

6. Special-interest groups have little incentive to
a. earn profits
b. redistribute wealth
c. lobby Congress
d. make the economy more efficient

7. Property rights can be defined and enforced
a. only by the government
b. only through constant renegotiation
c. by government, by informal social actions, and by ethical norms
d. by the government and by ethical norms

8. At the market output and price for a good whose production causes pollution, (Points: 1)
a. pollution is eliminated
b. the marginal social cost of production exceeds the marginal social benefit of production
c. the private cost of production equals the private benefit of production
d. the marginal social benefit of production equals the marginal social cost of production

9. When a citizens' group opposes expansion of the prison located in town, the basis of the opposition is that the larger prison will produce
a. a negative externality for the community
b. a positive externality for the community
c. more jobs in the community
d. tax revenue for the community

10. If education creates positive externalities,
a. private markets provide less than the socially optimal quantity of education
b. private markets provide more than the socially optimal quantity of education
c. the marginal private benefit curve is higher than the marginal social benefit curve
d. the marginal private cost curve is higher than the marginal social cost curve

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Solution Preview

1. When firms are able to restrict output and raise prices it indicates towards the presence of a monopoly. This usually results in mis-allocation of resources. Hence, (a).

2. If the price is set at the level of marginal cost you get the outcome as in perfect competition and it maximizes welfare. ...

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The Role of the Government with Respect to Externalities

Introduction: It is observed that under perfect competition, an economy's scarce resources are optimally allocated and social welfare is maximized. This situation of perfect competition can prevail only if all the costs of production are accounted for in the price of the product. However, certain production costs are not included in the price of the product. This gives rise to externalities that result in market failure.

Task: Explain the reasons for under-allocation of the economy's scarce resources in case of benefit externalities, and their over-allocation in the case of cost externalities. Do you think that government intervention is necessary to eliminate the effects of externalities?

Arrange your answer as per the following guidelines:

Describe benefit and cost externalities.

List the reasons for lack of optimal allocation of resources in each case.

Explain the need for government intervention in case of market failure due to externalities.

Explain why government intervention may not be needed in certain cases with the
help of the 'Coase Theorem.'

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