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GEORGE MASON UNIVERSITY Philip E. Auerswald SCHOOL OF PUBLIC POLICY Fall 2020

PUBP720 Managerial Economics

FINAL EXAM INSTRUCTIONS

1. There are four sets of questions on this exam.

You are required to answer both question set #1 (multiple choice) and #2. You also are required to answer either question 3 or question 4. In all you are required to answer three (3) sets of questions.

Question set #1 counts for 40% of the final exam grade; question sets #2-4 each count for 30%. Question set 1 consists of a set of statements. For each statement, please a) identify the statement as either TRUE, FALSE, or INDETERMINATE, and b) provide 1-2 sentences [not more!] explaining why.

Question sets 2 and 4 are problems for you to solve. In answering question sets 2 and 4, please show ALL work that you do in order to obtain partial credit for answers that may be incomplete or only partially correct. Note that sub-questions build upon one another. In answering each sub-question, you need only consider information given to that point. 2. Please make sure that you have five pages to your examination, not counting this cover page.

3. Please provide your NAME and your GMU ID number below: NAME: _______________________________________________________

GMU ID: _________________________________________________

4. Write ONLY your GMU ID NUMBER on your EXAMINATION BOOKLETS. This will allow me to grade your exams anonymously.

6. This exam is open book, open notes. You may also use a calculator and a dictionary. 7. You will have 2 hours and 30 minutes.

Good luck!!

PUBP720 (Fall 2020): FINAL EXAM December 7, 2020

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1. True/False/Uncertain. [40 POINTS] [ALL STUDENTS ANSWER THIS QUESTION] For each statement below, please a) identify the statement as either

TRUE, FALSE, or INDETERMINATE (i.e. insufficient information; could be either true or false), and

b) provide 1-2 sentences [not more!] explaining why the statement is either TRUE, FALSE, or INDETERMINATE. [Note: Please read the statement carefully and evaluate the truth or falsity of every statement evaluated as a whole (not piece by piece). This should not require deep reflection or research. I strongly advise you not spend more than 45 mins. total on this section.]

A. [5 points] The following game does not have a dominant strategy equilibrium, but it does have a Nash equilibrium:

Player 2

Player 1 Cooperate Defect

Cooperate 2.5M, 2.5M 1M, 2.4M

Defect

2.4M, 1M 0.5M, 0.5M

B. [5 points] The existence in an industry of one firm (or a few firms) earning substantial economic profits indicates that the industry is non-competitive and Federal anti-trust action is warranted.

C. [5 points] The socially optimal solution in a non-cooperative game is known as the Nash equilibrium.

D. [5 points] Economic theory predicts that, compared with a firm in a perfectly competitive market, a monopolist will produce less output and charge higher prices.

E. [5 points] In his Nobel lecture, Amartya Sen argues that the result of Arrow’s impossibility theorem can be reversed through “informational broadening”; social choice is possible as soon as one we allow the possibility that human well-being in extreme states of deprivation or want can be measured objectively.

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F. [5 points] The monopolist selling Unique Toy™, which cost $10/each to produce, faces the following demand curve:

Q = 40 – 2P

The monopolist will charge $15/toy and will sell 10 Unique Toys™. (For either T or F, please show how you got your answer.)

G. [5 points] Increased antibiotic resistance occurs primarily as a consequence of monopoly power, when pharmaceutical companies with patents sell fewer antibiotics at higher prices than would be the case in a competitive market.

H. [5 points] A “black swan” event is an event that is characterized by three attributes: rarity, extreme impact, and retrospective (but not prospective) predictability.

2. Selfish to fish? [30 POINTS]

Washington-area residents who like to fish have two options: they can fish either in the Atlantic Ocean or in the Chesapeake Bay. The ocean is very large and sparsely populated with fish. The Bay is smaller, with many fish, but is ecologically very fragile. As more people fish in the Bay, the water becomes polluted and kills some of the fish before they can be caught.

On any given weekend (the only time sport fishing occurs), if x people fish in the Atlantic Ocean, each catches 10 fish (regardless of the value of x), while if y people fish in the Bay, each catches

20 - 2y.

Each fish caught yields $1 of “benefit” to the sport-fisherman/woman. There are exactly 10 such sport fishermen in the region.

A. [6 points] Suppose that individuals are allowed to fish without having licenses and can choose where to fish without any regulation. How many would choose to fish in the Atlantic Ocean and how many would choose to fish in the Chesapeake Bay? In what sense is the predicted outcome an economic equilibrium?

B. [6 points] Individuals are not required to have fishing licenses in order to fish, but such a requirement could be imposed. If it were imposed, then what is the maximum amount that an individual would be willing to pay for a fishing license when all ten residents are fishing?

C. [6 points] Six of the town's residents who like to fish move to Alaska. With only four fisher people left in town, how many will fish in the Atlantic Ocean and how many will fish in the Chesapeake Bay? What is the maximum amount that an individual would be willing to pay for a fishing license when all four residents are fishing?

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An economic expansion draws people to the region and restores the region’s fishing population to 10 people. A proposal before the Maryland State gaming commission would require individuals to purchase weekend fishing licenses in order to fish. A consulting firm explains that the State would have to spend $10 to issue, record, and administer each fishing license, so the proposal sets the price of a license at $10.

D. [6 points] If passed, what effect would the proposal have on the number of people who fish, and their allocation between the Atlantic Ocean and the Chesapeake Bay? What would be the total surplus generated in the fishing market after enactment of the proposal? (Note: Total surplus equals fish catcher's surplus plus government surplus, in which government surplus equals the difference between license revenue and the cost of government operations.)

The State Gaming commission rejects the licensing requirement. Instead, by virtue of a court proceeding, a group of representing property owners and communities surrounding of the area around Chesapeake Bay wins the rights to all of the harvest of the fish in the Bay. The problem is that only one person in the surrounding communities likes to fish. The group considers leasing its right to a sport fishing tour operator. The cost to the tour operator of leading a weekend fishing excursion in the Bay is $10/trip. The boat accommodates 5 sport-fishermen.

E. [6 points] What is the maximum that the tour operator will be willing to pay to lease the citizen’s group’s fishing right for a weekend? What other option does the group have? If the considerations specified are the only ones that matter to the citizen’s group, what will it do?

3. Agricultural Resistance [30 points]

[ANSWER THIS QUESTION OR QUESTION 4, NOT BOTH] Consider this quote from a recent article in the New York Times:

Just as the heavy use of antibiotics contributed to the rise of drug-resistant supergerms, American farmers’ near-ubiquitous use of the weedkiller Roundup has led to the rapid growth of tenacious new superweeds.

To fight them, Mr. Anderson and farmers throughout the East, Midwest and South are being forced to spray fields with more toxic herbicides, pull weeds by hand and return to more labor-intensive methods like regular plowing.

“We’re back to where we were 20 years ago,” said Mr. Anderson, who will plow about one-third of his 3,000 acres of soybean fields this spring, more than he has in years. “We’re trying to find out what works.”

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Farm experts say that such efforts could lead to higher food prices, lower crop yields, rising farm costs and more pollution of land and water.

a) Does this paragraph describe a situation of market failure or perfect competition? If market failure, specify the exact category of market failure. [10 points]

b) What policy options might have been worth considering by relevant government agencies in the past had they anticipated the outcomes described here by the New York Times. Provide both the economic rationale for the policy and the manner in which the policy might have been administered. [10 points]

c) The product described in the article, Roundup, was patented and sold by only one company (Monsanto) until 2000, when the company’s patent expired. Since then Monsanto’s Roundup has competed with generic versions of the same product. Would this specific problem be made better or worse if the government was (exceptionally!) to renew Monsanto’s right to sell Roundup monopolistically? Explain. [10 points]

4. Pollution Control [30 POINTS]

[ANSWER THIS QUESTION OR QUESTION 3, NOT BOTH]

Two firms are located along the same river. Each discharges 10 thousand pounds of waste per day at present. It is estimated that the waste causes damage downstream is known with certainty to be $100 per every thousand pounds of discharge. Thus, total damages for the two firms currently total two thousand dollars ($2,000) per day. Unfortunately, cleanup is not cheap. The cost of cleaning up each plant is also known with certainty to be

CA = 0.05XA + 0.005XA2 CB = 0.02XB+ 0.005XB2

where Xi (i = A, B) is the amount of cleanup for plant i, measured in thousands of pounds, and Ci (i = A, B) is the cost, measured in thousands of dollars. A. [6 points] The marginal costs of cleanup for firm A is

MCA = 0.05+ 0.01XA What is the marginal cost of cleanup for firm B?

B. [8 points] An environmental group proposes a complete ban on discharges from the two firms (i.e. XA=XB=X = 10 thousand pounds). It notes that the cost would only be $1.7K per day, while the benefits would be $2K. Is the group correct? Even if they are, is this the optimal solution to this externality problem? Why or why not?

C. [8 points] If separate abatement standards could be set for each firm, what should they be to maximize net benefits to society as a whole (taking the firms’ costs into account)?

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How much would adhering to such standards cost each firm? What level of pollution would result?

C. [8 points] What if a separate tax could be set for each firm, how should the tax be set to maximize net benefits to society as a whole (taking the firms’ costs into account)? What level of pollution would result? How does this differ from the case of abatement standards?