Question 1

Left to itself,a natural monopoly will produce

Accepted Answer

A natural monopoly will produce the quantity at which marginal cost equals marginal revenue to maximize its profit, as this is the point where its additional cost of producing one more unit equals the additional revenue gained from selling that unit.

Question 2

Pollution is a form of market failure called a negative externality.

Accepted Answer

Pollution creates negative effects for individuals and society as a whole, but the polluter does not bear the full cost of these effects. This is an example of a negative externality, where the cost is not internalized in the market and leads to market failure.

Question 3

Suppose that Pat has the legal right to fly an extremely noisy airplane over Chris's apartment and that he values that right at $1,000 per year.Chris would be willing to pay $1,200 per year to avoid the noise.In that case

Accepted Answer

Both Pat and Chris have economic incentives to reach an agreement that benefits both of them. Pat values the right to fly over Chris's apartment at $1,000 per year, while Chris values the elimination of the noise at $1,200 per year. Therefore, they can come to an agreement where Chris pays Pat anything less than $1,200, and both parties will benefit. This type of agreement is known as a Coase Theorem. There is no need for any external intervention by a governmental agency or for Chris to move to a new apartment.

Question 4

A natural monopoly,left to itself,

Accepted Answer

A natural monopoly, left to itself, will produce an inefficient level of output because it will restrict output to maximize profits, leading to higher prices and lower quantities than would be socially optimal.

Question 5

Suppose that Pat has the legal right to fly an extremely noisy airplane over Chris's apartment and that he values that right at $1,000 per year.Chris would be willing to pay $800 per year to avoid the noise.In this case,

Accepted Answer

Since Pat values the right to fly the noisy airplane at $1,000 and Chris is only willing to pay $800 to avoid the noise, there is no financial incentive for Pat to agree to eliminate the overflight. Therefore, there is no basis for an agreement between Pat and Chris.

Question 6

One way that natural monopolies are typically regulated is

Accepted Answer

Natural monopolies are regulated by setting a price that gives owners a "fair rate of return". This is because natural monopolies have very high fixed costs and can result in a situation where competition is not feasible. Therefore, these firms are regulated to ensure that they do not exploit the market power they possess and instead, provide services to consumers at a reasonable price. The regulation through setting a "fair rate of return" ensures that the firm earns a return that is enough to cover their costs and incentivizes them to continue providing the service, while also ensuring that consumers are not charged excessive prices.

Question 7

A market failure in the form of an externality arises when

Accepted Answer

A market failure occurs when the price of a good does not reflect all the costs and benefits associated with its production and consumption. This is known as an externality. For example, if a factory pollutes the air and water around it, the cost of the pollution is not included in the price of the goods it produces, but is instead borne by society. Likewise, if a person receives a flu shot, the benefits of that shot (e.g. reduced risk of getting sick) are not fully captured in the price of the shot. In both cases, there is an externality and a market failure.

Question 8

An externality is defined as

Accepted Answer

An externality is a byproduct of a good or activity that affects someone not immediately involved in the transaction. It can be a positive or negative impact on a third party that is not reflected in the price of the good or service being exchanged. For example, pollution from a factory affects people living nearby but is not reflected in the cost of the product being produced.

Answer: C 
 An externality can also refer to an additional cost of consumption that is borne by a third party. For example, smoking not only damages the health of the smoker but also those exposed to second-hand smoke. The cost of treating illnesses from smoking is often borne by society as a whole, not just the smoker. This is an example of a negative externality.

Question 9

Using average cost pricing,regulators of a natural monopoly

Accepted Answer

The purpose of average cost pricing is to regulate the natural monopoly's price so that it is equal to the cost where the long-run average total cost curve intersects the demand curve. This will allow the natural monopoly to earn a normal rate of return but not generate any economic profit. Therefore, choice D is the correct answer.

Question 10

The noise inflicted on bystanders by users of chain saws,lawn mowers,and motorcycles is an example of

Accepted Answer

The noise from these activities is a negative externality, where the marginal private benefit to the user exceeds the marginal social benefit due to the noise imposed on others.

Question 11

If consumption of a good by one person imposes costs on a party other than the producer,

Accepted Answer

This situation describes a negative externality, where the consumption of the good by one person creates costs or harms on a third party. Examples include pollution from driving a car, second-hand smoke from smoking, or noise pollution from loud music. Negative externalities lead to overproduction and consumption of the good from society's point of view, and the market will not correct the problem on its own.

Question 12

If an externality is created by a single person or firm,and affects only a single person or firm,then

Accepted Answer

If an externality affects only a single person or firm, then that person or firm can negotiate directly with the individual or firm creating the externality to resolve the issue. This direct negotiation can lead to a resolution that is efficient for both parties, and therefore, Pareto efficiency can be reached. However, if negotiations do not occur, the inefficiency caused by the externality may persist.

Question 13

A natural monopoly

Accepted Answer

A natural monopoly is a situation where a single firm can produce and sell a good or service at a lower cost than any potential competitor. This is often due to economies of scale, which means that the firm can achieve lower average costs as it increases production. As a result, it can supply the entire market at a lower price than two or more firms could. This situation can lead to market power and potential issues with consumer welfare, which is why natural monopolies are often regulated by governments.

Question 14

One reason why it is difficult to regulate a natural monopoly is

Accepted Answer

The information problem arising due to the monopoly's managers having an incentive to overstate costs makes it difficult to regulate a natural monopoly. It can be challenging to determine the actual costs incurred, which may affect the determination of the appropriate pricing strategy. Therefore, regulatory bodies face difficulty in regulating the monopoly to provide optimal benefits to consumers.

Question 15

When regulating a natural monopoly,government officials

Accepted Answer

Setting an efficient price equal to marginal cost (MC) would lead to a loss for the firm because natural monopolies have declining average costs, meaning MC is below average total cost (ATC).

Question 16

One problem with average cost pricing for a natural monopoly is that

Accepted Answer

Average cost pricing allows the firm to cover its costs, but since it does not allow for profit maximization, it provides no incentive for the firm to reduce costs or economize on capital.

Question 17

Suppose that production of a good creates a negative externality.An excise tax equivalent to the difference between the marginal social cost and the marginal private cost of production can correct the inefficiency.

Accepted Answer

By levying an excise tax equivalent to the difference between the marginal social cost and marginal private cost, production of the good becomes relatively more expensive for the producer. This encourages them to produce less and internalize the negative externality, leading to a more efficient allocation of resources. Therefore, an excise tax can correct the inefficiency caused by negative externalities.

Question 18

When breaking up a natural monopoly is not advisable

Accepted Answer

The answer of When breaking up a natural monopoly is...

Question 19

Talking loudly in a library creates

Accepted Answer

Talking loudly in a library creates a negative externality because it imposes a cost on those who are trying to study or read quietly. This cost is not reflected in the behavior of the loud talkers, and is therefore an example of an externality.

Question 20

Pollution is a form of market failure called a public externality.

Accepted Answer

The answer of Pollution is a form of market failure...

Quiz 16: Governments Role in Economic Efficiency