Microeconomic Policy
1. Butchart Gardens is a very large garden in Victoria, BC, renowned for its beautiful plants. It is so large that it could hold many times more visitors than currently visit it. The garden charges an admission fee of $30 in summer. At this price, 1000 visitors visit the garden each day. If admission were free, 2000 visitors would visit the garden each day.
a) Are visits to Butchard Gardens in summer excludable or non-excludable? Are they rival in consumption or non-rival? What type of good is it?
b) In a diagram, illustrate the demand curve for visits to Butchard Gardens. Indicate the situation when Butchard Gardens charges an admission fee of $30. Also indicate the situation when Butchard Gardens charges no admission fee. Illustrate the deadweight loss from charging a $30 admission fee, and calculate its size. Explain why charging $30 admission fee is inefficient.
2. Governments are in the business of providing information to potential buyers. The first serious provision of information on the health consequences of tobacco use appeared in the United States Report of the Surgeon General in 1964.
(a) How would you represent this intervention in a supply and demand for tobacco diagram? Draw a graph to compare the outcomes before and after the intervention.
(b) Did this intervention correct a market failure? Briefly explain.
3. Suppose there are two types of people: Healthy and Unhealthy. It costs more to insure unhealthy people because they are likely to incur more medical bills. Suppose the marginal cost (MC) of providing an insurance policy is $1,000 for a healthy person and $4,000 for an unhealthy person. Assume healthy people are willing to pay $1,500 for health insurance, and unhealthy people are willing to pay $5,000. Suppose the insurance company charges P = MC so as to earn zero profit.
a) With complete information, will all people be insured? If no, explain why. If yes, what would be the price of insurance for each type of people?
b) Now suppose there is asymmetric information. People know whether they are healthy or unhealthy, but the insurance company can’t tell. However, it knows that 20% of the population is unhealthy. If people can choose whether to buy insurance or not, who will buy insurance? And what will be the price of insurance in equilibrium? Is this outcome efficient? Explain why or why not.
c) Suppose government provides a medical service plan (MSP), which is a universal compulsory medical insurance that everyone has to buy. How should MSP set the price to just break even? Is the outcome efficient? Briefly explain.
4. The monthly market demand function for taxi service in Vancouver is given by Qd = 7,000 – 500P, and the market supply function is Qs = 500P – 1,000, where the quantity is in terms of trips and the price is average fare per trip. Please show all steps of your calculation for following questions:
a) Calculate the equilibrium market price and quantity.
b) All drivers form a taxi driver association to lobby the city government. At their request Vancouver government implements a license system such that the maximum taxi service is restricted to 2,000 trips. Calculate the wealth transfer and deadweight loss caused by this policy.
c) Suppose the monthly interest rate is 1%. What is the value of all taxi licenses?
d) Who benefits from this lobbying? Who loses?
5. The market demand for a vaccine is given by P = 36−Q and the supply conditions
are P = 20. There is a positive externality associated with being vaccinated, and the real
societal value is known and given by P = 36−(1/2)Q. Calculate and draw a graph to answer the following questions:
(a) What is the market solution to this supply and demand problem?
(b) What is the socially optimal number of vaccinations?
(c) If we decide to give the supplier a given dollar amount per vaccination supplied in order to reduce price and therefore increase the number of vaccinations to the social optimum, what would be the dollar value of that per-unit subsidy?
(d) suppose that we give buyers the subsidy instead of giving it to the suppliers. By how much would the demand curve have to shift upward in order that the socially optimal quantity is realized?
6. There are two firms that emit pollutant SO2. Currently each emits 150 tons of SO2 per month. The local government wants the total pollution to be reduced to 200 tons per month. Assume the pollution abatement technology of the two firms can be represented by MC functions: MCA = 30 + 2QA, MCB = 50 + 4QB (MC is in terms of dollars and Q in terms of tons of SO2 abated).
Suppose the government knows the pollution abatement technology of the two firms, and an emission standard policy is in order. To minimize the total cost of pollution abatement, how should the government set the quantity of SO2 that Firm A is allowed to emit? How many tons should the government allow Firm B to emit? Draw a graph to illustrate your calculation answers.
