Use LEFT and RIGHT arrow keys to navigate between flashcards;
Use UP and DOWN arrow keys to flip the card;
H to show hint;
A reads text to speech;
82 Cards in this Set
- Front
- Back
|
The goal of public finance |
understand the proper role of the government in the economy. |
|
|
4 questions of public finance |
1. rationale for govt intervention 2. how govt may intervene 3. what is the effect of the intervention (on econ outcomes and indi behavior) 4. why have govts chosen to intervene in the ways they have? |
|
|
2 reasons govt may intervene |
1. market failure 2. redistribution 3. regulatory: FDA, OSHA, FCC, EPA |
|
|
Define Market Failure + example |
A problem that causes the market economy to deliver an outcome that doesn't maximize efficiency
government intervention in measles vaccination. measles outbreak resulted from low immunization rates, govt intervention reduced negative externality. |
|
|
Define Redistribution + example |
The shifting of resources from some groups in society to others (rationale behind the pareto efficiency criteria) |
|
|
4 Methods of Government Intervention |
1. Tax/Subsidize: these tools can change the price of the good so as the reflect the true cost associated with the failures in the pvt. market Tax: raise price for pvt sales or overproduced. Subsidy: lower price for pvt sales or underproduced.
2. Restrict or mandate Pvt sale/purchase:
3. public provision: govt provides good directly
4. public financing: govt can influence level of consumption without getting involved in provision
3. Public Provision: To attain socially optimal level of consumption govt can directly provide good
4. Public Financing
|
|
|
Differences between direct and indirect effects of intervention |
direct: remove tx, what happens? indirect: these effects are only manifested with tx.
|
|
|
who provides economic and budgetary aiding analyses/ play a critical role as "scorekeeper" for govt policy debates? |
CBO: congressional budgeting office
|
|
|
Explain the financing of social security |
today's young workers pay the retirement benefits of today's old |
|
|
Economists model inidividual choices using ______ |
Economists model individual choices using the concepts of utility function maximization subject to budget constraint |
|
|
More is better assumption affects indifference curves in two ways |
1. Consumers prefer higher indifference curves 2. Indifference curves are always downward sloping |
|
|
marginal utility of good 1 |
du/dXi (keep X2 constant) |
|
|
diminishing marginal utility |
the consumption of each additional unit of a good gives less extra utility than the con- sumption of the previous unit |
|
|
Marginal rate of substitution (MRS) |
- slope of indifference curve -mu1/mu2=> du/dx1 // du/dx2 |
|
|
budget constraint |
A mathematical representation of all the combinations of goods an individual can afford to buy if she spends her entire income.
y= pi(xi)+p2(x2) |
|
|
slope of budget constraint |
-pi/p2 |
|
|
Utility maximization implies this for MRS: |
MRS=p1/p2 |
|
|
normal goods
what would it mean if leisure was a normal good?
what about price effects on normal goods? |
Goods for which demand increases as income Y rises: X1(p, Y ) increases with Y (most goods are normal)
if leisure is a normal good, you work less (i.e. get more leisure) if you are given a stipend
For normal goods, an increase in p1 reduces X1(p1, p2, Y ) through both substitution and income effects |
|
|
inferior goods |
Goods for which demand falls as income Y rises: X1(p, Y ) decreases with Y (example: you use public transportation less when you are rich enough to buy a car) |
|
|
Substitution Effect |
Holding utility constant, a relative rise in the price of a good will always cause an individual to choose less of that good |
|
|
Income Effect (price effect) |
A rise in the price of a good will typically cause an individual to choose less of all goods because her income can purchase less than before |
|
|
What is elasticity of demand good for?
technically?
units? |
elasticity of demand with respect to price measures the sensitivity of demand with respect to price
technically it is the the % change in demand caused by a 1% change in the price of that good
NO UNITS! |
|
|
2 properties of elasticity of demand |
1. typically negative (quantity demanded falls as price rises) 2. Typically not constant along demand curve |
|
|
shape of curve of perfectly inelastic demand curve |
like and I (vertical) |
|
|
shape of curve of perfectly elastic demand curve |
horizontal |
|
|
cross price elasticity
range of values it tends to assume |
effect of one good's prices on teh demand for the other good
typically not zero! |
|
|
Marginal Cost |
cost to a firm for producing one more unit of a good
|
|
|
First Fundamental Theorem of Welfare Economics |
The competitive equilibrium where supply equals demand maximizes social efficiency |
|
|
Requirements of 1st welfare theorem
what is the outcome of these requirements met? |
1. no externalities 2. Perfect competition 3. perfect information 4.agents are rational
PARETO EFFICIENCY!!! |
|
|
Deadweight loss + how to identify them |
the reduction in social efficiency from denying . The costs to society created by market inefficiency. When quantity differs from the socially efficient quantity.
Deadweight loss triangles point to the social optimum, and grow outward from there |
|
|
Pareto Efficeint
is it strong/weake requirement and why? |
Impossible to find a technologically feasible allocation that improves everybody’s welfare
Pareto efficiency is desirable but a very weak requirement (a single person owning everything is Pareto efficient)
|
|
|
Second Welfare Theorem
does it work? |
out of all possible Pareto-efficient outcomes, one can achieve any particular one by enacting a lump-sum wealth redistribution and then letting the market take over.
This appears to make the case that intervention has a legitimate place in policy – redistributions can allow us to select from all efficient outcomes for one that has other desired features, such as distributional equity.
In reality it doesn't work because redistribution of initial endowments is not feasible (initial endowments can't be observed by govt) |
|
|
Equity-efficiency trade-off: |
The choice society must make between the total size of the economic pie and its distribution among individuals. |
|
|
Social welfare function (SWF) |
A function that combines the utility functions of all individuals into an overall social utility function. |
|
|
Utilitarian
which direction in the rich poor scenario does utilitarianism value in terms of redistribution? |
maximize the sum of individual utilites (social welfare fucntion). all utilities are given equal weight
If marginal utility of money decreases with income (satiation), utilitarian criterion values redistribution from rich to poor |
|
|
Rawlsian |
maximize well being of its worst off member |
|
|
pitfall of standard welfarist approach |
fails to capture elements of actual debates on redistribution and fairness as it is based on individual utilites |
|
|
commodity egalitarianism |
The principle that society should ensure that individuals meet a set of basic needs (seen as rights), but that beyond that point income distribution is irrelevant
⇒ Rich countries today consider free K-12 education, universal health care, decent retirement/disability benefits as rights |
|
|
Equality of opportunity |
The principle that society should ensure that all individuals have equal opportunities for success
⇒ Individuals should be compensated for inequalities they are not responsible for (e.g., family background, inheritance, intrinsic ability) but not for inequalities they are responsible for (being hard working vs. loving leisure) |
|
|
Empirical public finance |
The use of data and statistical methods to measure the impact of government policy on indi- viduals and markets (example: how an increase of taxes affects work behavior) |
|
|
Difference between causation and corellation |
Correlation: Two economic variables are correlated if they move together (example: height and weight across individuals)
Causality: Two economic variables are causally related if the movement of one causes movement of the other (example: good nutrition as an infant increases adult height) |
|
|
identification problem |
given that two series are correlated, how do you identify whether one series is causing another? |
|
|
3 possible explanations for a corellation |
1) A is causing B 2) B is causing A |
|
|
Randomized trial |
The ideal type of experiment designed to test causality, whereby a group of individuals is randomly divided into a treatment group, which receives the treatment of interest, and a control group, which does not. |
|
|
Bias
one way to combat bias? |
Any source of difference between treatment and control groups that is correlated with the treatment but is not due to the treatment. (omitted variable bias)
|
|
|
5 potential issues with the gold standard aka RCTs |
1. External validity 2. attrition: non random leaving can lead to bias 3. Hawthorne effect: an effect due to being observed 4. IRB-limitations/ethical issues 5. EXPENSES $$$ |
|
|
Observational data |
Data generated by individual behavior observed in the real world, not in the context of deliberately designed experiments. |
|
|
Time series analysis |
Analysis of the co-movement of two or more series over time. |
|
|
Cross-sectional regression analysis |
Statistical analysis of the relationship between two or more variables exhibited by many individuals at one point in time. |
|
|
Regression line |
The line that measures the best linear approximation to the relationship between any two variables. |
|
|
difference between cross-sectional regression analysis and time series analysis |
its all in what the data point measures. individuals at one time (cross sectional) or everyone at a time, then another and another (time series) |
|
|
quasi/natural experiments |
Changes in the economic environment that create nearly iden- tical treatment and control groups for studying the effect of that environmental change, |
|
|
issues with quasi experiments |
-eliminating bias -common trends assumption |
|
|
market failure |
A problem that violates one of the assump- tions of the 1st welfare theorem and causes the market econ- omy to deliver an outcome that does not maximize efficiency |
|
|
externality |
Externalities arise whenever the actions of one economic agent directly affect another economic agent out- side the market mechanism. Or: when direct cost/benefit from mkt. trans. incurred by indiv. not party to that trans.
Not an externality example: a steel plant uses more electricity and bids up the price of electricity for other electricity cus- tomers |
|
|
relationship between externality and market failur |
externalities are cases of market failures
|
|
|
Negative production externality |
When a firm’s production reduces the well-being of others who are not compensated by the firm. |
|
|
Negative consumption externality |
When an individual’s consumption reduces the well-being of others who are not compensated by the individual. |
|
|
Positive production externality |
When a firm’s production increases the well-being of others but the firm is not compen- sated by those others.
beehives of honey producers help in pollination of my garden! |
|
|
Positive consumption externality |
When an individual’s con- sumption increases the well-being of others but the individual is not compensated by those others.
my beautiful garden...of course |
|
|
what levels of consumption and production do our four cases lead to? |
Negative production externalities lead to over production
Positive production externalities lead to under production
Negative consumption externalities lead to over consumption
Positive consumption externalities lead to under consumption |
|
|
who challenged the view that the market mechanism/private market must always lead to inneficient outcomes in cases of externalities? |
ronald coase! |
|
|
Coase theorem is about____
define |
coase theorem is about internalizing the externality through private negitionations driving the price to fully reflect the external costs/benefits
well defined property rights + costless bargaining--> negotiations between party creating externality and those affected to bring about intersection of smc=pmb or smb=pmc |
|
|
according to coase theorem (part II of the theorem) who needs to get the property rights? the externality producer or the affected?
and then how is it resolved |
neither, just someone
someone pays someone the marginal damage to bring about efficient consumption/production |
|
|
4 problems with coasian solution |
1.assignment problem: may affect many people and assigning property rights is hard (global warming) 2. holdout problem: shared ownership of property rights gives each owner power over all others 3. free rider: personal cost and common benefit, individuals will underinvest --> the private market under- supplies public goods 4. transaction costs/negotiation problems: a little too idealistic |
|
|
2 govt interventions for negative externalities |
1. price policy (corrective tax/subsidy=MD) --> pigouvian taxation 2. quanitity regulation |
|
|
Why taxing is better than uniform quantity regulation |
high cost firm would be happy to pay low cost firm to reduce his pollution and increase its own pollution. Low cost firm has a lower cost of reducing pollution and is happier and society has same level of pollution. |
|
|
when multiple plants have heterogenous reduction costs, what are your three courses of action and their level of efficiency (eff/not) |
Policy Option 1: Quantity Regulation (not efficient unless quantity can be based on actual reduction cost for each firm)
Policy Option 2: Price Regulation Through a Corrective Tax (efficient)
Policy Option 3: Quantity Regulation with Tradeable Permits (efficient) |
|
|
2 conditions of being a public good (+defs) |
Non-rival in consumption: One individual’s consumption of a good does not affect another’s opportunity to consume the good. (indirect denial)
Non-excludable: Individuals cannot deny each other the opportunity to consume a good. (active denial) |
|
|
Samuelson Rule
|
When finding the socially efficient maximizing condition for a public good you add the marginal rate of substitutions of each person and equate it to the marginal cost instead of equating each MRS to MC.
In Private: horizontal summation |
|
|
Nash equilibrium definition |
Each agent maximizes his objective taking as given the actions of the other agents |
|
|
Give three instances where free rider problem does not doom the private provision of public goods |
1. some individuals care more than others 2. altruism: consider benefits/costs to others 3. warm glow: take into account given in utility |
|
|
How do you calculate optimum in monopoly? |
Have MR=MC |
|
|
advantageous selection |
risky individuals tend to be involved in risky situations, this greater willingess to accept risk may reduce the purchase price of insurance. a higher fraction of total losses for the whole population being covered by insurance than if there were no adverse selection. |
|
|
shape of curve for level of riskiness and willingness to buy insurance |
concave: risk averse would rather buy insurance than take the gamble convex: risk seeking, would rather just take the risk of getting sick linear: risk neutral, wouldn't rather do either (they are indifferent). |
|
|
What profits do firms in insurance markets always earn and why |
zero profits/perfectly competitive market |
|
|
adverse selection |
insurer enrolls people whose risk level is much higher than the risk level on which their premium is based. because a person with high riskiness will attempt to conceal that information so the insurrer will not know of the higer risk. |
|
|
Patient vs. Myopic |
Myopia - choosing a small reward today over a larger one later
Patient - holding out for the larger reward |
|
|
Laffer Curve |
representation of the relationship between possible rates of taxation and the resulting levels of government revenue. It illustrates the concept of taxable income elasticity—i.e., taxable income will change in response to changes in the rate of taxation. It postulates that no tax revenue will be raised at the extreme tax rates of 0% and 100% and that there must be at least one rate where tax revenue would be a non-zero maximum. |
|
|
When an industry's cost of pollution reduction are unknown, it is always preferable (i.e. dead- weight loss minimizing) to correct for the negative externality using cap-and-trade quantity regulations rather than Pigouvian taxation. |
FALSE. When there is uncertainty about the cost of pollution reduction tradable permits are preferable to Pigouvian taxation when the Marginal Damage curve is steep, and vice versa when the Marginal Damage curve is at. |
|
|
Hari is a utopian who likes idealized forms of government. He wants to see government totally involved in society or totally absent, and has no use for a government that is only moderately involved. As result, he is just as happy with a tax rate approaching 100 percent and total sharing of all earnings as he is with a tax rate of 0 and absolute laissez faire, but he does not like tax rates in the middle. His preferences over tax rates can be described as single-peaked.
|
FALSE. His utility is maximized at both no taxation and 100 percent taxation |
|
|
If the government has full information about an industry and has (correctly) concluded that the marginal damage of an industry's production is 10 dollars, then, if using corrective (Pigouvian) taxation as the policy tool the government should make the tax 10 dollars per unit.
|
TRUE |
