Exam #2 Study Guide: 6 of these questions will be randomly chosen for the exam. You must answer 5 of these 6.

 

Note: while the structure of the questions will be similar, the numbers are subject to change.

  1. Imagine that the current price of waste disposal is $0.03/lb and the average waste disposal is 720 lb/person/year.  When the price was previously $0.01/lb, the average waste disposal was 750 lb/person/year. (a)    Fit a linear demand curve to the two observed points and graphically illustrate the demand. (b)    Assume that the marginal social cost of waste disposal is $0.06/lb, that marginal social costs are constant with respect to quantity, and that the town has a population of 100,000. Calculate the annual net benefits of raising the price of waste disposal from $0.03/lb to $0.05/lb. (c)    Describe any errors in your estimate that might arise due to the linear functional form of the demand curve.

  2. Explain why future benefits and costs should be discounted considering (a) the time value of money and (b) irregular benefit and cost schedules. Describe the market forces that differentiates (c) real and nominal interest rates, (d) rates with different default risks and (e) the term structure of interest rates. (f) Considering your answers to (c), (d) and (f), what sort of market interest rate should be used in benefit-cost analysis.
  3. The Congressional Budget Office recommends a lower discount rate (2%) be used than the Office of Management and Budget (7%). (a) Explain the theoretical justifications for these different discount rates. (b) Suppose a project generates $1 million in costs today (t=0) and $10 million in benefits in 25 years (t=25), what is the net present value for the same project using the alternative discount rates? (c) Would a zero percent discount rate ever be justified? Why or why not.

  4. Imagine a wilderness area of 200 square miles in the southern Appalachian mountains. How would you expect each of the following factors to affect people's total willingness-to-pay for its preservation? Use a graph with marginal willingness to pay on the vertical axis and wilderness acres on the horizontal axis to illustrate your answers. (a)   The size of the total wilderness area still remaining in the southern Appalachian mountains. (b)    The discovery of an endangered plant species in this particular area. (c)    A decrease in the level of national income. (d) Describe a valuation method that can be used to estimate the benefits of the wilderness area, paying close attention to the issue of lack of recreation associated with endangered plant species.

  5. A worker, who is typical in all respects, works for a wage of $30,000 per year in a perfectly safe occupation.  Another typical worker does a job requiring exactly the same skills as the first worker, but in a risky occupation with a known death probability of 1 in 10,000 per year, and receives a wage of $30,600 per year. (a)    Illustrate these outcomes using supply and demand curves in a labor market. (b)    What dollar value of a human life for workers with these characteristics should a cost-benefit analyst use? (c)      Explain the logic behind your answer to (b).

  6. Happy Valley is the only available camping area in Rural County.  It is owned by the county, which allows free access to campers. Rural County is considering leasing Happy Valley for logging, which would require that it be closed to campers. Before approving the lease, the county executive would like to know the magnitude of annual benefits that campers would forgo if Happy Valley were to be closed to the public. An analyst for the county has collected data for a travel cost study to estimate the benefits of Happy Valley camping. The analyst has asked you to help him use this information to estimate the annual benefits accruing to Happy Valley campers. (a)  Descrbe the travel cost method. (b) The analyst regressed visitation rate (VR) on travel cost (TC) and a constant and found: VR = 100 - .25*TC. You know that with the current free admission average travel costs of $20. Estimate the area under the demand curve and above the average travel costs ($20) as the annual benefits to campers. There are 6000 campers in the market. (c) What are the nonmarket benefits if Rural County imposes a $20 camping fee? (d) What is the revenue that Rural County generates with the camping fee? (e) Suppose Happy Valley could generate $2 million annually in profits from logging. Should Rural County lease Happy Value for logging?

  7. Find the consumer surplus of a market good given the following information: (a) P = $4, Q = 15,000 and price elasticity = 0.80. Assume a linear demand curve. (b) Suppose price rises to $4.50, what is the new consumer surplus? (c) what are the costs of a policy that leads to the price increase? (d) Suppose that one-year from now, demand becomes more elasticity in response to the price change. If price elasticity = 0.80 and the discount rate is i = .10, how does your answer to (c) change?

  8. Suppose you are reviewing two meta-analyses of the VSL for use in a benefit-cost anlaysis: Mrozek and Taylor (2001) use the hedonic (labor market) pricing method and find VSL = $2.6 million across 52 studies while Blomquist (2003) uses the averting behavior method and finds that VSL = $4.3 million across 34 studies. (a) Suppose you need to convert 2001 and 2003 dollar values to 2008 values. Using an income elasticity of 0.50, e = (%ΔVSL)/(%ΔY), and income increases of 12% since 2001 and 8% since 2003, adjust the values to 2008 dollars. (b) Using the number of studies as weights, find the weighted average VSL. (c) Your boss brings you a brand new study that estimates the VSL = $6.5 million using the contingent valuation method in another state. Should you use your answer to (b) or $6.5 million as the VSL in a benefit-cost analysis. Explain your answer by considering the economics of benefit transfer.

  9. Suppose your county of residence is considering a bid for a mountain sports mega-event. You have just received the results from an economic impact study which concludes that the impact would be a 5% increase in your county's aggregate income in the year of the event and a 2% permanent increase in aggregate income due primarily to an increase in tourism from in-state residents. (a) Discuss these results including a differentiation of economic impact and benefit-cost analysis. (b) Should the state subsidize your mega-event bid? Why or why not?