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Economics 320F – An Economic Analysis of Law
Midterm Exam
Suggested Answers
Fall 2003
University of Toronto
Joanne Roberts
Please answer all parts of the exam in the exam booklet provided.
Calculators are permitted.
This test will be marked out of 50.
The marks for each question are noted throughout the exam.
Part 1: [20 marks -- 10 each]
Comment on two of the following:
1. A non-voluntary transaction never increases utility. True or False.
A FALSE. See discussion on page 453 of text: “In general goods that are
acquired through voluntary exchange, because such exchange guarantees that
goods move to those who value them the most and, in doing so, makes both
parties better off. Goods that exchange hands without the consent of both
parties – as by theft – do not carry this same guarantee.” However, this does
not imply that it is not possible for a non-voluntary transaction to increase
utility. For example, the MB to the person(s) taking a good may be very high
and the MC to the person from whom it was taken may be very small. Such a
transaction would clearly increase total utility (i.e., would be efficient) even
though the transaction was non-voluntary. Examples of such non-voluntary
transactions which may (but not necessarily) increase utility include (but are
certainly not limited to) instances of necessity or situations in which a
government takes property for a public purpose.
2. The Coase theorem implies that from an economics standpoint society will be
indifferent between a rule that prohibits the theft of assets and a rule that permits theft
because under either rule the asset in question will wind up in the hands of the party who
values it the most. True or False.
A FALSE: Theft involves non-voluntary transactions. The Coase theorem
applies to situations in which, whatever the legal rule, voluntary exchanges
will ensure that the efficient allocation is arrived at. With theft (involuntary

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exchanges) the market mechanism does not operate and therefore, we cannot
be sure that the asset winds up in the hands of the party who values it the
3. What economic argument can you offer for the fact that police services are provided
by the government, not by private enterprise, and are paid for by compulsory
contributions (taxes) rather than by voluntary payments to private police forces?
A Public provision of police services have a social benefit because they reduce
criminals’ expected (average) profitability of committing a crime and hence
serves to deter crime. This benefit is a public good because it is non-excludable
(everyone benefits) and non-rivalrous (one person’s consumption of the good
does not exclude others from also consuming it). As with all public goods, if
these services were provided by private enterprise and funded by voluntary
payments there would be under-provision of the good because people would
tend to free-ride (i.e., not pay their share). Public provision with compulsory
payments, therefore, allows for a level of police services much closer to the
social optimum than is possible with private provision. Also, public provision
(potentially) avoids the problem of redistribution of crime that is likely to
occur with private crime prevention.
Part 2: [30 marks -- 15 each]
Answer both of the following questions.
1. Sean, a professional robber of 7-11’s is trying to decide how many 7-11’s to rob this
week. In order to limit the number of 7-11’s that Sean will rob, the government is
establishing the punishment levels for this crime. They consider two alternatives, fines
and imprisonment; they also consider whether to put resources into the police force
(which increases the certainty that Sean will be caught) or into punishment administration
(i.e. the administration of fines or imprisonment, which increases the severity of the
a) First assume that 7-11’s are flush with cash, so that robbing them is a very lucrative
profession. If the government uses only severity measures, i.e. fines or imprisonment,
will the government use more fines or more imprisonment to deter Sean from committing
a certain number of crimes? Explain the government’s choice, using a diagram.
A Presumably fines are the cheaper method of punishment (collect money
instead of spending it on prisons), so the optimal deterrence mechanism is to
use fines to the greatest extent possible and only then use imprisonment (the
more expensive deterrence mechanism) if needed to achieve the desired level of
deterrence. In this case, since robbing 7-11’s is particularly lucrative, it would
seem that a fairly high level of fines (and correspondingly low level of
imprisonment) can be used to deter Sean from robbing 7-11’s. In the diagram,
Sean’s solvency constraint is above the optimal fine of y* because the 7-11’s
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