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Chapter 5: Q 1 (page 119)

Many people who do not smoke cigars are bothered by the odor of cigar smoke. If private contracting is impossible and in the absence of any government involvement in the market for cigars, will too many or too few cigars be produced and consumed? From society鈥檚 point of view, will the market price of cigars be too high or too low?

Short Answer

Expert verified

The production of cigars will increase and from society's point of view, the market price for cigars will be lower due to a decrease in the social cost of externality.

Step by step solution

01

Step 1. Define Externality.

An externality is a consequence of an economic activity that affects the third party. For example, pollution is an externality.

02

Step 2. Production and consumption of cigars.

Without government intervention prohibiting smoking will be difficult. There will be a negative externality as the smokers will smoke in public areas as well as open areas. The consumption of cigars will increase as the smokers will not look into the negative externality of smoking.

03

Step 3. Society's point of view.

The social cost of externality is ignored as the social cost curve shifts leftward than the market supply curve and the market price decreases due to a subsequent increase in the demand for cigars.

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Most popular questions from this chapter

Many economists suggest that our nation's legal system is an example of a public good. Does the legal system satisfy the key properties of public good? Explain your reasoning.

Suppose that the U.S. government determines that cigarette smoking creates social costs not reflected in the current market price and equilibrium quantity of cigarettes. A study has recommended that the government can correct the externality effect of cigarette consumption by paying farmers not to plant tobacco used to manufacture cigarettes. It also recommends raising the funds to make these payments by increasing taxes on cigarettes. Assuming that the government is correct that cigarette smoking creates external costs, evaluate whether the study鈥檚 recommended policies might help correct this negative externality.

Suppose that, as part of an expansion of its State Care health system, a state government decides to offer a \(50 subsidy to all people who, according to their physicians, should have their own blood pressure monitoring devices. Prior to this governmental decision, the market-clearing price of blood pressure monitors in this state was \)50, and the equilibrium quantity purchased was 20,000 per year.

(a) After the government expands its State Care plan, people in this state desire to purchase 40,000 devices each year. Manufacturers of blood pressure monitors are willing to provide 40,000 devices at a price of $60 per device. What out-of-pocket price does each consumer pay for a blood pressure monitor?

(b) What is the dollar amount of the increase in total expenditures on blood pressure monitors in this state following the expansion of the State Care program?

(c) Following the expansion of the State Care program, what percentage of total expenditures on blood pressure monitors are paid by the government? What percentage of total expenditures is paid by consumers of these devices?

The French government recently allocated the equivalent of more than $120 million in public funds to Quaero (Latin for 鈥淚 search鈥�), an Internet search engine analogous to Google or Yahoo. Does an Internet search engine satisfy the key characteristics of public good? Why or why not? Based on your answer, is a publicly funded Internet search engine a public good or a government-sponsored good?

Scans of internal organs using magnetic resonance imaging (MRI) devices are often covered by subsidized health insurance programs such as Medicare. Consider the following table illustrating hypothetical quantities of individual MRI testing procedures demanded and supplied at various prices, and then answer the questions that follow.

PriceQuantity DemandedQuantity Supplied
\(100100,00040,000
\)300
90,00060,000
\(50080,00080,000
\)70070,000100,000
\(90060,000120,000

(a) In the absence of a government-subsidized health plan, what is the equilibrium price of MRI tests? What is the amount of society鈥檚 total spending on MRI tests?

(b) Suppose that the government establishes a health plan guaranteeing that all qualified participants can purchase MRI tests at an effective price (that is, out-of-pocket cost) to the individual of \)100 per test. How many MRI tests will people consume?

(c) What is the per-unit price that induces producers to provide the amount of MRI tests demanded at the government-guaranteed price of $100? What is society鈥檚 total spending on MRI tests?

(d) Under the government鈥檚 coverage of MRI tests, what is the per-unit subsidy it provides? What is the total subsidy that the government pays to support MRI testing at its guaranteed price?
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