Question 1

Suppose that Bill wants to dine at a fancy restaurant,but the only available table is in the smoking section.Bill dislikes the smell of cigarette smoke.He notices that only one person,Peter,is smoking in the smoking section.Bill values the absence of smoke at $15.Peter values the ability to smoke in the restaurant at $5.Which of the following represents an efficient solution in the absence of transaction costs?
A) Peter continues to smoke because he has a right to smoke in the smoking section.
B) Bill offers Peter between $5 and $15 not to smoke.Peter accepts,and both parties are better off.
C) Bill offers Peter between $5 and $15 not to smoke.Peter declines because he has a right to smoke in the smoking section.
D) Only a government policy banning smoking in restaurants will solve this problem.

Accepted Answer

In this scenario, the efficient solution would be for Bill to offer Peter an amount between $5 and $15 not to smoke. This is because if Peter values smoking at $5 but Bill values the absence of smoke at $15, both parties can benefit if Peter is compensated to not smoke. This solution does not violate Peter's right to smoke in the smoking section and does not require any government intervention. Thus, option B is the best choice.

Question 2

Suppose that Bill wants to dine at a fancy restaurant,but the only available table is in the smoking section.Bill dislikes the smell of cigarette smoke.He notices that only one person,Peter,is smoking in the smoking section.Bill values the absence of smoke at $15.Peter values the ability to smoke in the restaurant at $10.In order for Bill to pay Peter not to smoke,he will need to tip the waiter $10 to facilitate the transaction.Which of the following represents an efficient solution?
A) Peter continues to smoke because the cost to Bill to pay him not to smoke is between $20 and $25,which exceeds the benefit to him of no smoking ($15).
B) Bill offers Peter between $10 and $15 not to smoke,and he pays the waiter $10.Peter accepts,and both parties are better off.
C) Bill offers Peter between $10 and $15 not to smoke,and he pays the waiter $10.Peter declines because he has a right to smoke in the smoking section.
D) Bill offers Peter $5 not to smoke,and he pays the waiter $10.Peter accepts,and both parties are better off.

Accepted Answer

The answer of Suppose that Bill wants to dine at...

Question 3

Suppose that Company A's railroad cars pass through Farmer B's corn fields.The railroad causes an externality to the farmer because the railroad cars emit sparks that cause $1,500 in damage to the farmer's crops.There is a special soy-based grease that the railroad could purchase that would eliminate the damaging sparks.The grease costs $1,200.Suppose that the railroad is not liable for any damage caused to the crops.Assume that there are no transaction costs.Which of the following characterizes the efficient outcome?
A) The railroad will continue to operate but will pay the farmer $1,500 in damages.
B) The railroad will purchase the grease for $1,200 and pay the farmer nothing because no crop damage will occur.
C) The farmer will incur $1,500 in damages to his crops.
D) The farmer will pay the railroad $1,200 to purchase the grease so that no crop damage will occur.

Accepted Answer

The answer of Suppose that Company A's railroad cars pass...

Question 4

John lives in an apartment building and gets a $700 benefit from playing his stereo.Mary,who lives next door to John and often loses sleep due to the music coming from John's stereo,bears a $1,000 cost from the noise.At which of the following offers from Mary could both Mary and John benefit from the silencing of John's stereo?
A) $200
B) $600
C) $900
D) $1,100

Accepted Answer

Mary's cost from the noise is $1,000, which is greater than John's benefit of $700. Therefore, any offer from Mary that is less than $1,000 can potentially benefit both Mary and John.

If Mary offers $200, John's benefit is reduced to $500, but Mary's cost remains at $1,000. Therefore, this offer does not benefit both parties.

If Mary offers $600, John's benefit is reduced to $100, but Mary's cost is also reduced to $400. This offer benefits both parties, but Mary still bears a higher cost than John's benefit.

If Mary offers $900, John's benefit is reduced to $0, but Mary's cost is also reduced to $100. This offer benefits both parties equally, with neither party bearing a greater cost than the benefit received.

If Mary offers $1,100, John's benefit becomes a cost of $400, but Mary's cost also becomes a benefit of $100. Therefore, this offer does not benefit both parties.

Thus, the best choice(s) is C, where both Mary and John would benefit equally from the silencing of John's stereo.

Question 5

John lives in an apartment building and gets a benefit from playing his stereo.Mary,who lives next door to John and often loses sleep due to the loud music coming from John's stereo,bears a cost from the noise.Mary is threatening to call the police to force John to turn down his stereo.Under which of the following conditions would John be able to offer Mary some amount of money to keep her from calling the police and to allow him to continue to play his stereo loudly?
A) The cost of the noise to Mary must exceed the benefit of the music to John.
B) The benefit of the music to John must exceed the cost of the noise to Mary.
C) The Coase Theorem guarantees that Mary and John will always be able to come to an agreement that keeps Mary from calling the police regardless of the individual benefits and costs.
D) The cost of the noise to Mary must exceed the benefit of the music to John by an amount greater than the transaction costs associated with the agreement.

Accepted Answer

John would be able to offer Mary some amount of money to keep her from calling the police if the benefit of the music to him exceeds the cost of the noise to Mary, making it worthwhile for him to compensate her.

Question 6

According to the Coase theorem,in the presence of externalities
A) private parties can bargain to reach an efficient outcome.
B) government assistance is necessary to reach an efficient outcome.
C) the assignment of legal rights can prevent externalities.
D) the initial distribution of property rights will determine the efficient outcome.

Accepted Answer

The Coase theorem states that private parties can bargain and reach an efficient outcome without the need for government intervention. This outcome can only be achieved as long as transaction costs are low, and the parties have the necessary information and incentives to negotiate. Therefore, option A is the correct choice.

Question 7

Assume that your roommate is very messy.Suppose she gets a $50 benefit from being messy but imposes a $100 cost on you.The Coase theorem would suggest that an efficient solution would be for you to
A) pay your roommate at least $50 but no more than $100 to clean up after herself.
B) pay your roommate at least $101 to clean up after herself.
C) charge your roommate at least $50 to have you clean up after her.
D) charge your roommate at least $100 but no more than $200 to keep you from complaining about the mess.

Accepted Answer

The Coase theorem suggests that if property rights are well-defined and transaction costs are low, then parties can negotiate an efficient outcome regardless of how property rights are initially assigned. In this case, the roommate has the property right to be messy, which is giving her a benefit of $50. However, her mess is imposing a cost of $100 on the other roommate. If the other roommate values a clean living space more than $50, then it would make sense for her to pay the messy roommate to clean up after herself. Since the cost to the other roommate is $100, the payment to the messy roommate should be at least $50 but no more than $100 to ensure an efficient outcome. Therefore, option A is the best choice.

Question 8

Suppose that Company A's railroad cars pass through Farmer B's corn fields.The railroad causes an externality to the farmer because the railroad cars emit sparks that cause $1,500 in damage to the farmer's crops.There is a special soy-based grease that the railroad could purchase that would eliminate the damaging sparks.The grease costs $1,200.Suppose that the farmer has the right to compensation for any damage that his crops suffer.Assume that there are no transaction costs.Which of the following characterizes the efficient outcome?
A) The railroad will continue to operate but will pay the farmer $1,500 in damages.
B) The railroad will purchase the grease for $1,200 and pay the farmer nothing because no crop damage will occur.
C) The farmer will incur $1,500 in damages to his crops.
D) The farmer will pay the railroad $1,200 to purchase the grease so that no crop damage will occur.

Accepted Answer

The efficient outcome is for the railroad to purchase the grease for $1,200 and eliminate the damaging sparks, preventing any crop damage from occurring. This is the most cost-effective solution for both the farmer and the railroad. The farmer does not need to be compensated for any damages and the railroad does not need to pay for damages. By purchasing the grease, the railroad internalizes the cost of the externality and eliminates the need for compensation.

Question 9

Ed is a writer who works from his home.Ed lives nextdoor to Ricky,the drummer for a local band.Ricky needs lots of practice to earn his share of the bands profits,$250.Ed gets distracted by Ricky's drumming but needs to get his writing done to earn $500 for his current article.If Ed needs to hire a lawyer to help him reach an agreement with Ricky,what price is Ed willing to pay the lawyer?
A) less than $250
B) less than $450
C) less than $500
D) less than $750

Accepted Answer

Ed needs to earn $500 for his current article, so he cannot afford to pay more than that for a lawyer. Additionally, since he is only dealing with a neighbor and not a complex legal issue, he likely does not need to pay more than the amount he stands to lose from Ricky's drumming. Therefore, he is willing to pay less than $500 for the lawyer. Options A and B are too low, as Ed may still need to pay a significant amount for legal services, but option D is too high as it suggests a complex legal issue that Ed's situation does not warrant.

Question 10

Assume that your roommate is very messy.According to campus policy,you have a right to live in an uncluttered apartment.Suppose she gets a $200 benefit from being messy but imposes a $100 cost on you.The Coase theorem would suggest that an efficient solution would be for your roommate to
A) stop her messy habits or else move out.
B) pay you at least $100 but less than $200 to live with the clutter.
C) continue to be messy and force you to move out.
D) demand payment of at least $100 but no more than $200 to clean up after herself.

Accepted Answer

According to the Coase theorem, as long as property rights are clearly assigned and transaction costs are low, the efficient solution will be achieved through bargaining and negotiation between the two parties. In this situation, the property right to an uncluttered apartment belongs to both parties equally. Since the messy roommate gets a benefit of $200 from being messy, she should compensate the other roommate at least $100 (the cost imposed on them) but less than $200 (the benefit gained by her) to live with the clutter. This way, both parties will be better off and an efficient solution will be achieved through bargaining.

Question 11

Ed is a writer who works from his home.Ed lives nextdoor to Ricky,the drummer for a local band.Ricky needs lots of practice to earn his share of the bands profits,$250.Ed gets distracted by Ricky's drumming but needs to get his writing done to earn $500 for his current article.Which of the following is an efficient solution?
A) Ricky offers Ed $499 to allow Ricky to continue drumming.Ed accepts and both are better off.
B) Ricky offers Ed $249 to allow Ricky to continue drumming.Ed accepts and both are better off.
C) Ed offers Ricky $251 to stop practicing his drumming.Ricky agrees and both are better off.
D) Ed offers Ricky $501 to stop practicing his drumming.Ricky agrees and both are better off.

Accepted Answer

The answer of Ed is a writer who works from...

Question 12

John lives in an apartment building and gets a $500 benefit from playing his stereo.Mary,who lives next door to John and often loses sleep due to the loud music coming from John's stereo,bears a $700 cost from the noise.Mary would like to offer John some money to turn down the volume on his stereo.If Mary had to hire a lawyer to draw up the contract,what is the maximum amount she could pay to the lawyer to ensure that both John and Mary would benefit from the agreement?
A) An amount less than $200.
B) An amount between $200 and $500.
C) An amount between $500 and $700.
D) Any amount could result in both parties benefitting from the agreement.

Accepted Answer

The maximum amount Mary could pay to the lawyer is $200. This is because the total benefit from the agreement is $200 ($500 benefit to John - $700 cost to Mary). If Mary pays more than $200 to the lawyer, then she will not benefit from the agreement.

Quiz 10: Externalities

According to the Coase theorem,in the presence of externalities

Assume that your roommate is very messy.Suppose she gets a $50 benefit from being messy but imposes a $100 cost on you.The Coase theorem would suggest that an efficient solution would be for you to

Assume that your roommate is very messy.According to campus policy,you have a right to live in an uncluttered apartment.Suppose she gets a $200 benefit from being messy but imposes a $100 cost on you.The Coase theorem would suggest that an efficient solution would be for your roommate to