University and PA = PF = 1.

University of British Columbia Econ 451 Assignment 1 Instructor: Alfred Kong Due date: 29th September 2011 The assignment is due at the beginning of the class. Late assignment will not be accepted. You may work in a group of up to 5 people. Question 1 A new health minister proposes to distribute an apple a day for free to every citizen. To be effective the legislation states that the free apples may not be traded or sold. Explain why this “no trade” policy would be inefficient. Question 2 Consider a simple economy with two individuals, John and Marsha. The economy is endowed with 30 kilograms of cheese and 30 loaves of bread each month.

John and Marsha’s preferences for bread and cheese are given by their marginal rate of substitution of bread for cheese: Marsha: John: [pic][pic] Where [pic] is the quantity of bread consumed by Marsha and [pic] is the quantity of bread consumed by John. a) If each individual only had one loaf of bread, how much cheese would each individual be willing to give up in order to have another loaf of bread? b) In the initial allocation, each individual has 15 kilograms of cheese and 15 loaves of bread. Draw the Edgeworth Box diagram for this economy and explain whether the initial allocation of cheese and bread is Pareto efficient. ) Draw the contract curve for this economy. Question 3 For each of the following situations, is the Coase Theorem applicable? Why or why not? a) A group of university students in a residence share a communal kitchen. Some of the users of the kitchen never clean up the messes they make when cooking. b) The pollution from a copper smelter drifts out over a surrounding residential area. c) Loud gasoline-powered leaf blowers are used by some homeowners for driving leaves and other debris into piles, but also driving leaves and dust into the yards of neighbours. Question 4

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The government of British Columbia has suggested a “cash-for-clunkers” program. Under this program, the government would buy up “clunkers” (older cars that emit a lot of pollutants and do not meet current pollution standards). Is this a sensible policy? Explain. Question 5 Suppose that Alfred can spend his income on food or tobacco, and that his tobacco consumption imposes a negative externality on Kevin, who consumes only food. The preferences of the two people can be represented by the utility functions below: Alfred: U(FA,TA) = FA*TA Kevin: U(FK,TA) = 10FK – (TA)2

Where FA, TA are the quantity of food and tobacco consumed by Alfred and FK is the quantity of food consumed by Kevin. Assume they both have $20 income and PA = PF = 1. a) What would be the allocation (FA, FK, TA) if each person ignored the other person, and made consumption decisions based only on their own well-being? b) Find an allocation (FA, FK, TA) which both people would prefer to the allocation described in your answer to part a). c) Assuming the government put equal weight on the utility of both persons and Kevin’s consumption is fixed at 20 units of food. Suggest a Pigouvian tax on tobacco that would lead to the efficient level.

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