HW#4: Positive Externalities Due Wednesday, July 7Th (There Are No University Classes

WesterholdName:______

Econ 432

HW#4: Positive Externalities due Wednesday, July 7th (There are no university classes on Monday, July 5th in observance of Independence Day).

1. Suppose the private demand for education is P=50 – 2Qd and the supply of education is given by P=15 + 7.5Qs. Education creates an external benefit equal to MEB=10-0.5Q where Q is the number of classes taught.

1. Create a graph showing each of the curves above (including their y-intercept values).

1. In the absence of government intervention what quantity of education will be supplied and at what per unit price? Show your work and show on your graph.

1. With a government subsidy what quantity of education will be supplied (Q*) and at what per unit price (P*)? Show your work and show on your graph (You will need to create the marginal social benefit curve).

1. How much is the subsidy per unit? What is the total cost of the subsidy to the government? Show your work.

1. Given this subsidy amount, what is the net price paid by consumers (the actual out of pocket expense to consumers)? Show your work and show this on your graph.

1. Briefly explain the source of market failure with positive externalities. How does the government solution of subsidizing the good result in the proper allocation of resources?

1. Education Budget Lines, Crowding Out, and School Vouchers

1. Suppose there are two different households in the market: The first household has income of $20,000 and the second household has an income of $100,000. Assuming the price per hour of tutoring is $60 show each household’s budget line for education (assuming all other goods or a composite good priced at $1 per unit is on the vertical axis).You should have two separate graphs here (I would draw them side by side for comparison)

1. Assume household one purchases 50 units of private education; and household two purchases 300 units of education. Show this on each graph as point A using an indifference curve and determining the amount of other goods the household could purchase.

1. If free public school becomes available in the amount of 100 units of education show the impact on each household’s budget line (BL 2). Will there be crowding out of private education? Briefly explain.

1. Suppose the government decides to provide school vouchers to families with income levels below $25,000. Calculate the voucher amount per student if the government provides the average per pupil cost of attending public school. Show your work.

1. Proponents of vouchers suggest that vouchers improve educational quality and access to education (greater education quantity) while increasing the social welfare (utility) of the family. Create a new graph here showing the original budget line (BL1) and point A; and the new budget line (BL3) for household one receiving the voucher. Show a situation which represents this argument in favor of vouchers (show new utility maximization point).

1. Opponents of vouchers argue that a voucher system in which all families receive vouchers equal to the per pupil (public) spending results in the government subsidizing rich families. Critics suggest that this results in a greater inequity between the amount of education received by the “rich” and the “poor” exacerbating income inequality. Replicate your graph for household two in its initial situation (BL 1) and then show the new budget line (BL 3) when the household receives a voucher payment as done in part E. Will this household increase the amount of education?

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