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Midterm

Econ 471 Midterm SOLUTIONS.pdf

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Department
Economics
Course
ECON 471
Professor
Ratna Shrestha
Semester
Summer

Description
UBC Department of Economics ECON 471 Solution to Midterm Ratna K. Shrestha October 29, 2012 Time: 50 minutes Full Marks: 50 Name: ________________ ________________ (Last) (First) Student ID #_________________________ _______________________________________________________________________ The first 4 questions carry 50 marks. If you answer Q.5, you may get up to 2 bonus marks. Marks Short-Answer Questions: 1. ____ 2. ____ 3. ____ 4. ____ 5. ____ (2 bonus marks) ____________________ Total Answer the following questions as shortly as possible (without missing important points). To receive the full marks, your answers must be well organized and must reflect the underlying concepts involved.(50 +2 points) 1. Suppose drinking (and driving) causes harm to the society (in terms of risk to other drivers and pedestrians) while it gives enjoyment to the driver (who drinks and drive). The harm and net benefits for three different levels of drinking are as given below: Harm to Society Net Benefit to the Drivers No Drinking $00 $00 Moderate Drinking $100 $ 180 Excessive Drinking $150 $ 210 The drivers care about only themselves and not the society. (a) If the drivers have right to drink and drive, what is the resulting market equilibrium outcome? Give reasons. (5 points) Market equilibrium outcome is Excessive Drinking as this outcome gives the highest benefits to the drivers equal to $210, (who only care about themselves). (b) What is the efficient outcome and why? How can Coasian bargaining achieve this efficient solution (assuming bilateral bargaining is possible without any transaction costs). (5 points) Moderate drinking is the efficient solution as that level of drinking gives the highest net benefits to the society as a whole including the drivers (180 - 100= $80). Note that ED gives net benefits of 210 - 150 = 60 < 80. When drivers switch to MD from ED, they lose 210 - 180 = $ 30 but society gains by 150 -100 = $ 50 (reduction in harm). So bargaining is possible. Society pays any amount between 30 and 50 to the driver to switch from ED to MD, which the drivers gladly accept with the realization of the efficient solution. 2. A farmer produces wheat in a fixed parcel of land according to the production technology given by Y = 2L 0.5where L is the amount of labor devoted to farming. The markets for both wheat and labor are competitive with the equilibrium price of wheat P = $ 100/ton and the wage rate W = $15/hours. (a) Write down the expression for farmer's profit maximization. Use this expression or condition to find if the farmer's current employment level of 25 hours is too high or too low. (8 points) VMP = L * dY/dL = 100/L = 100/L . 0.5 The condition for profit maximization is: dл/dL = 0 or VMP = L or, 100/L0.5= 15 At L = 25, VMP = L00/25 0.= 20 > W (= $15)  the current level of L = 25 is too high. (Note: I would like to see the answers the way question is being asked, not that you always answer in the same generic way, irrespective of how the question is formatted). (b) Now suppose that this land is open access (in the sense that new farmers can enter the farmland and can start farming). How many labor hours will the farmers employ altogether? (6 points) When the resource is open access, new firms enter to exploit the resource until profits are zero. That is:   py  wL 100*2L 0.15L  0 0.5 L  200/15 L = 177.77 units. Thus in the open access equilibrium, 177.77 labor units (which is higher than profit -maximizing level) will be employed. 3 (a) List 3 Daly's rule for the sustainable use of resources. (3 pts) 1) Renewable resources must be used no faster than the rate at which they regenerate ( or harvest rate < rate of replenishment). 2) Nonrenewable resourc
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