Economic Analysis of Public Policy Problem Set
1. Tax
A country which does not tax cigarettes is considering the introduction of a $0.40 per pack tax. The economic advisors to the country estimate the supply and demand curves for cigarettes as:
QD = 140,000 - 25,000P QS = 20,000 + 75,000P,
where Q = daily sales in packs of cigarettes, and P = price per pack. The country has hired you to provide the following information regarding the cigarette market and the proposed tax. Explain in words and graphically.
a. What are the equilibrium values in the current environment with no tax?
b. What price and quantity would prevail after the imposition of the tax? What portion of the tax would be borne by buyers and sellers respectively?
c. Calculate the deadweight loss from the tax. Could the tax be justified despite the deadweight loss? What tax revenue will be generated?
2. Public Policy
One of the provisions of the 2010 Patient Protection and Affordable Care Act, popularly known as Obamacare, was a mandate that required large employers to pay for employee health insurance or face a penalty. Given what you have learned about taxes, who in reality is paying the taxes? Start your analysis with justifiable assumptions on elasticities of Supply and Demand. Discuss whether the law is a good or bad idea. Explain in words and graphically.
In addition, Obamacare requires people to buy health insurance regardless of their health status under the penalty of fines for failing to do so. What is the justification for requiring this based on economics? What concerns based on economic principles have been raised against this requirement?
3. Optimal Choice
Assume Carolyn is given a bundle on her budget constraint where her MRSFC = 2. Also assume the price of a unit of food equals $3 and the price of a unit of clothes equals $6. Should Carolyn buy more food or more clothes to maximize her utility? Why? Explain in detail.
4. Effect of Government Programs
Assume that the budget constraint shown is for $600 of income with a price of food equal to $2 and a price of clothes equal to $4. With an indifference curve and budget constraint as shown, will a TANF grant of $200 have the same effect on food consumption as $200 in food stamps? Why? Explain in words and graphically. Note that you must use the scale provided in the picture.
