A homeowner plants a large flower garden that people walking by enjoy for free. What does this garden create for the passersby?
Positive externality
✓
Negative externality
Private cost
Price floor
Correct Answer
Positive externality
A positive externality is a benefit that falls on people outside a transaction who did not pay for it, like walkers enjoying a neighbor's garden. A negative externality would impose a cost on them instead. A private cost is a cost borne by the person who makes the decision. A price floor is a legal minimum price and has nothing to do with the garden.
Category: Externalities
Question 2
According to the demand and supply model, what happens in a market when the external cost of a good's pollution is added to producers' private costs?
Supply shifts down, lowering price and raising quantity
Supply shifts up, raising price and lowering quantity
✓
Demand shifts right, raising price and quantity
Demand shifts left, lowering price and quantity
Correct Answer
Supply shifts up, raising price and lowering quantity
Counting the external cost makes each unit more costly to produce, so the supply curve shifts up, and the new equilibrium has a higher price and a lower quantity. Supply shifts down, lowering price and raising quantity, is the result of a fall in costs, not a rise. Demand shifts right, raising price and quantity, and Demand shifts left, lowering price and quantity, are wrong because pollution costs change what producers pay, not what buyers want.
Category: Pollution and Market Failure
Question 3
Producing one unit of a good costs a factory $40 in labor and materials, and the pollution released by that unit causes $15 of harm to nearby residents. What is the full cost to society of producing that unit?
$40
$25
$55
✓
$15
Correct Answer
$55
The cost to society equals the private cost plus the external cost: $40 + $15 = $55. The answer $40 counts only the factory's private cost. The answer $25 subtracts the external cost instead of adding it. The answer $15 counts only the harm to residents.
Category: Pollution and Market Failure
Question 4
In a market where producers release pollution and the government takes no action, how does the market quantity compare with the socially efficient quantity?
Less than the efficient quantity
Equal to the efficient quantity
Zero units of output
Greater than the efficient quantity
✓
Correct Answer
Greater than the efficient quantity
Because firms ignore the external cost, the market supply curve sits too low and the market produces more than the efficient amount, which is a market failure. Less than the efficient quantity is what happens with a positive externality, not a negative one. Equal to the efficient quantity would happen only if all costs were counted. Zero units of output is wrong because the market still produces the good, just too much of it.
Category: Pollution and Market Failure
Question 5
A law sets the maximum amount of a pollutant each factory may emit and requires every factory to install a specific type of filter. What kind of environmental policy is this?
Command-and-control regulation
✓
Pollution charge
Marketable permit system
Property rights assignment
Correct Answer
Command-and-control regulation
Command-and-control regulation sets fixed limits on emissions and sometimes requires particular equipment, with penalties for firms that break the rules. A pollution charge is a tax on each unit of pollution emitted. A marketable permit system lets firms buy and sell rights to pollute. A property rights assignment gives one party legal ownership so the parties can settle the conflict themselves.
Category: Command-and-Control Rules
Question 6
Once a factory meets the emissions limit set by a command-and-control rule, what incentive does the rule give it to cut pollution further?
A tax refund for each extra unit cut
Essentially none
✓
Permits it can sell for each unit cut
A higher allowed price for its output
Correct Answer
Essentially none
A command-and-control rule only requires firms to reach the standard, so a firm that meets it gains nothing by cutting more, even if further cuts would be cheap. A tax refund for each extra unit cut is not part of such rules. Permits it can sell for each unit cut describes a marketable permit system. A higher allowed price for its output is a feature of price regulation, not pollution rules.
Category: Command-and-Control Rules
Question 7
A firm emits 50 pounds of soot a year. Cutting each successive 10-pound block costs $200, $400, $700, $1,200 and $2,000. If the government charges $800 for every 10 pounds emitted, by how many pounds will a cost-minimizing firm cut its emissions?
20 pounds
40 pounds
30 pounds
✓
50 pounds
Correct Answer
30 pounds
The firm cuts a block whenever cutting it costs less than the $800 charge. The first three blocks cost $200, $400 and $700, so it cuts 30 pounds, while the fourth block would cost $1,200, so it pays the charge on the last 20 pounds. The answer 20 pounds stops too soon, since the $700 block is cheaper than the charge. The answer 40 pounds includes a block that costs more than the charge. The answer 50 pounds would mean eliminating all emissions, which costs far more than paying the charge.
Category: Market-Oriented Tools
Question 8
When the same pollution tax per unit is charged to every firm in an industry, which firms does the model predict will cut their emissions the most?
Firms with the highest costs of cutting pollution
Firms built most recently
Firms with the most political influence
Firms that can cut pollution most cheaply
✓
Correct Answer
Firms that can cut pollution most cheaply
Each firm cuts pollution as long as cutting a unit costs less than the tax, so firms with cheap ways to reduce emissions cut the most, which keeps the total cost of the reduction low. Firms with the highest costs of cutting pollution tend to pay the tax instead. Firms built most recently face the same tax as older ones. Firms with the most political influence get no special treatment, since the same tax applies to every source.
Category: Market-Oriented Tools
Question 9
Pollution permits sell for $30 per ton. Firm A's cost of cutting one more ton is $50, and Firm B's cost of cutting one more ton is $10. What does the model predict?
Firm B cuts more and sells permits to Firm A
✓
Firm A cuts more and sells permits to Firm B
Both firms cut the same amount and do not trade
Neither firm cuts emissions and both buy permits
Correct Answer
Firm B cuts more and sells permits to Firm A
Firm B can cut a ton for $10 and sell the freed permit for $30, while Firm A saves money by paying $30 for a permit instead of spending $50 to cut a ton, so B cuts more and sells to A. Firm A cuts more and sells permits to Firm B reverses the cost advantage. Both firms cut the same amount and do not trade ignores the gains from trading. Neither firm cuts emissions and both buy permits ignores that Firm B saves money by cutting a ton for $10 instead of paying $30 for a permit.
Category: Market-Oriented Tools
Question 10
Which of these is an existing example of a pollution charge?
A limit on smokestack emissions
A tax on gasoline
✓
A required catalytic converter
A ban on a pesticide
Correct Answer
A tax on gasoline
A gasoline tax charges drivers for each gallon they burn, so it can be viewed as a charge on the pollution from car engines. A limit on smokestack emissions, a required catalytic converter and a ban on a pesticide are all command-and-control rules, since they set limits or require specific equipment rather than putting a price on each unit of pollution.
Category: Market-Oriented Tools
Question 11
How do regulators use estimates of the value of a statistical life?
To set the price of life insurance
To calculate pollution charges on cars
To decide whether a safety rule's benefits justify its costs
✓
To decide which firms may enter an industry
Correct Answer
To decide whether a safety rule's benefits justify its costs
Placing a dollar value on the risk of death lets regulators compare the lives a rule is expected to save with what the rule costs. To set the price of life insurance is a decision made by private insurers. To calculate pollution charges on cars is not how the estimate is used. To decide which firms may enter an industry concerns licensing, not health and safety benefits.
Category: Benefits and Costs
Question 12
Which benefit of a cleaner environment is hardest to measure in dollars?
Higher crop yields for farmers
Larger catches for commercial fishers
More hotel bookings in a tourist town
Enjoying clear skies over a distant park
✓
Correct Answer
Enjoying clear skies over a distant park
The pleasure of knowing a faraway place has clear skies is not bought or sold in any market, so economists need special methods to estimate its value. Higher crop yields for farmers, larger catches for commercial fishers and more hotel bookings in a tourist town all show up as sales in markets, so their dollar value is much easier to measure.
Category: Benefits and Costs
Question 13
The 1990 amendments to the Clean Air Act used tradable permits to cut which pollutant from electric power plants, a major cause of acid rain?
Sulfur dioxide
✓
Carbon monoxide
Lead
Ozone
Correct Answer
Sulfur dioxide
Sulfur dioxide from power plants, especially those burning coal, was a major cause of acid rain, and the 1990 amendments issued shrinking, tradable permits to reduce it. Carbon monoxide comes mainly from vehicle exhaust and does not cause acid rain. Lead was reduced mainly by phasing it out of gasoline, not by this power plant program. Ozone near the ground forms from other pollutants and is not the acid rain pollutant targeted by that program.
Category: Market-Oriented Tools
Question 14
Under the property rights approach associated with Ronald Coase, what happens once a railroad is clearly held responsible for fires its sparks start in a nearby farmer's field?
The farmer must fence the field at their own cost
The railroad seeks the cheapest way to prevent the damage
✓
The government must ban trains near farms
The two sides argue without resolving the issue
Correct Answer
The railroad seeks the cheapest way to prevent the damage
When the responsibility is clearly defined, the responsible party has a reason to find the least costly solution, such as a spark-catching device or paying for a fence. The farmer must fence the field at their own cost would follow only if the farmer held the responsibility. The government must ban trains near farms is a command-and-control answer, not a property rights one. The two sides argue without resolving the issue describes what happens when no one has defined rights.
Category: Market-Oriented Tools
Question 15
If finding an endangered species on private land automatically triggers strict limits on how that land can be used, what incentive does this create for landowners?
To attract more endangered species
To report every sighting promptly
To keep endangered species off their land
✓
To charge tourists to view the species
Correct Answer
To keep endangered species off their land
Because a discovery can sharply cut what owners may do with their land, some have an incentive to manage it so the species never settles there, which works against protection. To attract more endangered species is the opposite of what such rules encourage. To report every sighting promptly would bring on the limits the owner wants to avoid. To charge tourists to view the species is unlikely when the land's use is restricted.
Category: Market-Oriented Tools
Question 16
As a society increases the amount of environmental protection, how does the marginal cost of further pollution reduction generally change?
It falls
It stays constant
It drops to zero
It rises
✓
Correct Answer
It rises
The cheapest and easiest reductions are made first, so each further reduction requires costlier methods and the marginal cost rises. It falls is wrong because the cheap options are used up early. It stays constant would require every reduction to cost the same. It drops to zero is wrong because removing more pollution always requires some resources.
Category: Benefits and Costs
Question 17
Economists say a society has the efficient amount of pollution reduction when which condition holds?
Marginal benefit equals marginal cost
✓
Pollution is reduced to zero
Total benefit equals total cost
Marginal benefit is at its highest point
Correct Answer
Marginal benefit equals marginal cost
Reduction should continue as long as the benefit of the next unit exceeds its cost, and stop where marginal benefit equals marginal cost. Pollution is reduced to zero would usually require the last units to cost far more than they are worth. Total benefit equals total cost would mean society gains nothing on net from the whole effort. Marginal benefit is at its highest point occurs with the very first reductions, long before the efficient amount.
Category: Benefits and Costs
Question 18
Why is global warming described as an international externality?
It is caused by only one country
Emissions in one country affect people in others
✓
It affects only the country that emits
It can be solved by any one nation alone
Correct Answer
Emissions in one country affect people in others
Greenhouse gases from any country spread through the whole atmosphere, so the costs fall on people around the world, and no single nation can solve the problem alone. It is caused by only one country is false, since many nations emit these gases. It affects only the country that emits would make it a domestic issue. It can be solved by any one nation alone is wrong for the same reason, because other countries' emissions would continue.
Category: Global Issues and Tradeoffs
Question 19
An economy sits at a point inside its production possibility frontier between economic output and environmental protection. What does this mean?
It has reached the best possible mix
It must give up output to gain protection
It could gain more of one without giving up the other
✓
It is producing beyond its resources
Correct Answer
It could gain more of one without giving up the other
A point inside the frontier is productively inefficient, so the economy could have more output with the same protection or more protection with the same output. It has reached the best possible mix is wrong because points on the frontier are better. It must give up output to gain protection is true only on the frontier itself. It is producing beyond its resources describes a point outside the frontier, which cannot be reached.
Category: Global Issues and Tradeoffs
Question 20
What advantage do economists see in market-oriented environmental tools compared with command-and-control rules?
They guarantee that pollution falls to zero
They need no government involvement at all
They let every firm pollute as much as it likes
They can reach a given pollution cut at lower cost
✓
Correct Answer
They can reach a given pollution cut at lower cost
Market-oriented tools let the firms that can cut pollution most cheaply do most of the cutting, so society reaches any chosen level of reduction at a lower total cost. They guarantee that pollution falls to zero is wrong because the tools aim at a chosen level, not zero. They need no government involvement at all is wrong because government sets the charge or the number of permits. They let every firm pollute as much as it likes is wrong because firms must pay for or hold permits for what they emit.
Category: Global Issues and Tradeoffs