Economics of the Public Sector
Mock Exam
Course Introduction
Economics of the Public Sector explores the role of government in the economy, analyzing how public policies affect resource allocation, income distribution, and economic efficiency. The course covers topics such as public goods and externalities, taxation and government spending, social insurance programs, and the design and impact of fiscal policies. Students will examine the rationale behind government intervention, evaluate policy effectiveness, and consider practical challenges in implementation, all while applying microeconomic and macroeconomic principles to real-world issues faced by the public sector.
Recommended Textbook
Public Finance and Public Policy 5th Edition by Jonathan Gruber
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Page 2
Chapter 1: Why Study Public Finance
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Sample Questions
Q1) National defense is a classic example of what economists call:
A) a public good.
B) entitlement spending.
C) social insurance.
D) a private service.
Answer: A
Q2) If government revenues exceed government spending,the difference is called the:
A) cash flow deficit.
B) cash flow surplus.
C) debt.
D) budget.
Answer: B
Q3) Which of the following might be an indirect unintended effect of providing income support to those without jobs?
A) Those without jobs are made better off.
B) Those without jobs are made worse off.
C) People without jobs now search for and acquire jobs.
D) People without jobs no longer search for and acquire jobs.
Answer: D
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Page 3
Chapter 2: Theoretical Tools of Public Finance
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Q1) _____ tools refer to the set of tools designed to understand the mechanics behind economic decision making.
A) Efficiency
B) Empirical
C) Theoretical
D) Data
Answer: C
Q2) Consumer surplus is highest when the demand curve is __________; producer surplus is greatest when the supply curve is _________.
A) elastic; elastic
B) inelastic; inelastic
C) perfectly elastic; perfectly inelastic
D) inelastic; elastic
Answer: B
Q3) Producer surplus can be defined as the difference between:
A) the demand curve and the price of the good.
B) the supply curve and the price of the good.
C) the supply curve and the demand curve.
D) the price charged by sellers and the price paid by buyers.
Answer: B
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Chapter 3: Empirical Tools of Public Finance
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Sample Questions
Q1) Suppose that a state were to cut the welfare guarantee from $6,000 to $3,000 between 2012 and 2014.Furthermore,suppose that hours of work per year among single mothers rose from 900 to 1,200 hours/year.Using the time series approach,what is the effect of the reduction for the average single mother?
A) -300 hours/year
B) 300 hours/year
C) 900 hours/year
D) 1,200 hours/year
Answer: B
Q2) What is the fundamental difference between correlation and causality? Why is it important to distinguish between them?
Answer: Two economic variables are correlated if they move together.But this relationship is causal only if one of the variables is causing the movement in the other.If,instead,there is a third factor that causes both to move together,the correlation is not causal.It is important to distinguish them because knowing that two factors are correlated provides no predictive power; prediction requires understanding the causal links between the factors.
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Page 5
Chapter 4: Budget Analysis and Deficit Financing
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Sample Questions
Q1) Using the generational accounting method as a measure of the long-run budget,which of the following statements is TRUE of people living in 1998 regarding net benefits from the government over their lifetime?
A) Both old and young males are projected to experience a net benefit.
B) Neither old nor young males are projected to experience a net benefit.
C) Old males are projected to experience a net benefit while young males are not.
D) Young males are projected to experience a net benefit while old males are not.
Q2) Which of the following is TRUE?
A) Cash accounting is easier to implement in practice than is capital accounting.
B) Capital accounting is easier to implement in practice than is cash accounting.
C) Spending $1 billion on highways would change the capital account balance but not the cash account balance.
D) Spending $1 billion on unemployment benefits would change the capital account balance but not the cash account balance.
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Chapter 5: Externalities- Problems and Solutions
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Sample Questions
Q1) Your neighbor Gabriella plays loud music that irritates you and the rest of her neighbors.She agrees to turn down the music by 5 decibels for every $25 she receives from her neighbors,and even though you and your neighbors collectively value reductions of 5 decibels at more than $25 per person,no one pays.This is an example of:
A) the holdout problem.
B) the assignment problem.
C) the free rider problem.
D) the problem of internalizing an externality.
Q2) Government subsidizes producers of education in part because education is believed to produce a positive externality.The subsidy:
A) shifts the private demand curve to the left.
B) shifts the private demand curve to the right.
C) shifts the private supply curve to the right.
D) shifts the private supply curve to the left.
Q3) The success of the Coase theorem depends crucially on:
A) one party internalizing the externality.
B) the ability of at least one party to make a credible threat.
C) negotiation between the parties.
D) one party internalizing the externality,and negotiation between the parties.
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Page 7
Chapter 6: Externalities in Action- Environmental and Health Externalities
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Q1) The Obama administration's Clean Power Plan calls for:
A) reductions in carbon dioxide emissions from newly constructed power plants only.
B) reductions in carbon dioxide emissions from existing power plants.
C) uniform reductions in every state,regardless of differences across states.
D) closing all coal-fired power plants by the year 2030.
Q2) The fact that 80% of smokers wish to quit but fewer than the 80% quit is potentially evidence of a:
A) compensating differential.
B) commitment device.
C) financial externality.
D) self-control problem.
Q3) The Clean Air Act of 1970 was intended to reduce the emissions that cause acid rain by:
A) setting standards for new coal-fired power plants.
B) setting standards for existing coal-fired power plants.
C) imposing a tax on energy produced by coal-fired power plants.
D) requiring that existing coal-fired power plants install scrubbers.
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Page 8
Chapter 7: Public Goods
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Sample Questions
Q1) What are the options available to government when deciding whether to rely on the private sector or the public sector to provide public goods? Use the example of prisons to illustrate.
Q2) Suppose a city manager finds that residents lied about the value to them of a proposed city project.This illustrates the problem of:
A) preference revelation.
B) altruism.
C) preference knowledge.
D) warm-glow effect.
Q3) Government may not be able to determine the optimal amount of a public good because:
A) it is easier to determine the costs and benefits associated with public goods than those associated with private goods.
B) it is easier to determine the costs and benefits associated with private goods than those associated with public goods.
C) the quantity of public goods provided by private parties is zero.
D) there is no optimal mix of public and private goods.
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9
Chapter 8: Cost-Benefit Analysis
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Sample Questions
Q1) The county supervisor will determine which company should construct the new public swimming pool by collecting bids from various contractors.This is an example of:
A) contingent valuation.
B) revealed preference valuation.
C) cost-benefit analysis.
D) cost-effectiveness analysis.
Q2) The method preferred by economists for valuing life is to use:
A) contingent valuation.
B) revealed preference.
C) government preference.
D) the present value of lifetime earnings.
Q3) Which of the following is the approach taken to determine how individuals value an option by looking at their actions?
A) contingent valuation
B) revealed preference
C) cost-benefit analysis
D) social discounting
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10
Chapter 9: Political Economy
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Q1) Suppose Dexter and Amy are the only members of a community that is trying to determine how much of the public good should be produced.Dexter's (inverse)demand curve is given by P = 50 - 5Q,while Amy's (inverse)demand curve is given by P = 15015Q,where P is price or marginal benefit and Q is the quantity of the good.The marginal cost of producing the public good is constant at $80.Dexter will vote for the efficient quantity of the public good if the price to him is:
A) $20.
B) $40.
C) $60.
D) $80.
Q2) Majority voting is:
A) always consistent.
B) sometimes inconsistent.
C) a preference disaggregation mechanism.
D) rarely used in political decision making.
Q3) How can a voting model avoid the result of Arrow's Impossibility Theorem?
A) impose restrictions on preferences
B) remove the irrational voters
C) prohibit a dictatorship
D) allow individuals to vote according to their personal preferences
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Chapter 10: State and Local Government Expenditures
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Q1) Which of the following never has a substitution effect?
A) matching grants
B) block grants
C) conditional block grants
D) neither matching grants nor block grants have a substitution effect
Q2) A state is currently spending $40 million on highway improvements.If the federal government promises to pay the state $1 for every $1 spent by the state on highway improvements,it is offering a __________ grant that _________ increase total state spending on highway improvements.
A) conditional; will
B) conditional; will not
C) matching; will
D) matching; will not
Q3) To the extent that federal block grants do not replace state spending but increase overall spending,there is:
A) a flypaper effect.
B) no income effect.
C) no substitution effect.
D) crowding out
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Page 12
Chapter 11: Education
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Sample Questions
Q1) Loans made to students by the federal Department of Education are referred to as:
A) direct student loans.
B) deferred student loans.
C) subsidized student loans.
D) guaranteed student loans.
Q2) If education serves to separate high-ability workers from low-ability workers,it _____ play a valuable social role,and the educational institutions that do this best should be _______.
A) does not; taxed
B) does not; subsidized
C) does; taxed
D) does; subsidized
Q3) Small,independent public schools not subject to many of the regulations imposed on traditional public schools,including restrictions on teacher qualifications,are called:
A) magnet schools.
B) charter schools.
C) parochial schools.
D) private schools.
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13
Chapter 12: Social Insurance- the New Function of Government
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Q1) Optimal social insurance systems should partially but not completely insure individuals against adverse events.Explain.
Q2) Which of the following provides insurance against earnings loss due to retirement?
A) disability insurance
B) Social Security
C) workers' compensation
D) Medicare
Q3) Suppose you foresee two possibilities for your health: You will either get a brain tumor or will have nothing more than a bout with the flu.These two possibilities are called:
A) moral hazards.
B) self-insurance.
C) consumption.
D) states of the world.
Q4) Which of the following provides insurance against on-the-job accidents?
A) disability insurance
B) workers' compensation
C) Medicare
D) unemployment insurance
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Chapter 13: Social Security
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Q1) The retirement hazard rate refers to the:
A) percentage of working people who retire at a certain age.
B) percentage of retirees who are injured at a certain age.
C) percentage of retirees who die at a certain age.
D) percentage of working people who die at a certain age.
Q2) If your average preretirement earnings were $30,000 per year,your highest preretirement earnings were $90,000 per year,and you receive $20,000 per year in retirement benefits,what is the replacement rate?
A) 16.67%
B) 22.22%
C) 33.33%
D) 66.67%
Q3) If the ratio of people receiving Social Security benefits to the number of people paying Social Security taxes increases,then:
A) average benefits divided by average earnings must fall.
B) the payroll tax rate must be increased.
C) maximum taxable earnings could be increased to avoid either an increase in the payroll tax rate or a decrease in benefits.
D) there is no way to preserve benefits at their present levels.
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Page 15
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Q1) Which of the following is TRUE?
A) The moral hazard associated with giving disability benefits to blind people is greater than that associated with giving disability benefits for back sprains.
B) Higher benefits should be paid out to people with easily verifiable disabilities than to those with disabilities that are not easily verifiable,since the moral hazard costs are lower for the former group.
C) The consumption-smoothing benefits of unemployment insurance are greater for those who regularly experience temporary unemployment than for those who do not.
D) The consumption-smoothing benefits of unemployment insurance cannot be achieved privately because workers cannot anticipate periods of unemployment.
Q2) In general,which of the following is TRUE about unemployment benefits?
A) Benefits received are based on the average earnings in the recipient's state.
B) Benefits received are based on the previous earnings of each recipient.
C) The replacement rate is lower for low-income workers than for high-income workers.
D) Benefits are reduced for workers who file multiple claims.
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Page 16
Chapter 15: Health Insurance I- Health Economics and
Private Health Insurance
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Sample Questions
Q1) Suppose that you have private health insurance.Last year you were injured once,which represented the only time you had a medical expense.At the time,you paid $25 to see the doctor,who referred you to a specialist.The total bill for the specialist was $1,100.You paid the first $500,then 10% of the additional $600 (equal to $60). Which of the following is the copayment?
A) the $25 paid for the doctor visit
B) the $60 paid toward the cost of seeing the specialist
C) the $1,100 that the specialist received
D) the $500 you paid toward the cost of the specialist
Q2) According to the notion that flat-of-the-curve medicine is practiced in the United States,which of the following best describes the marginal health benefit from the next dollar of medical spending?
A) It decreases as more is spent on health care.
B) It increases as more is spent on health care.
C) It first increases and then decreases as more is spent on health care.
D) It first decreases and then increases as more is spent on health care.
Q3) What are the five fundamental reasons that government may care about the number of uninsured? Discuss.
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Chapter 16: Health Insurance Ii- Medicare, medicaid, and Health Care Reform
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Q1) Medicaid is administered by the ___________ and is financed by
A) states; general state and federal revenues
B) states; a payroll tax levied on employees and employers
C) federal government; general state and federal revenues
D) federal government; a payroll tax levied on employers
Q2) Which of the following is a likely consequence of the current system of financing long-term care?
A) Individuals are more likely to opt for long-term care
B) Individuals have an incentive to hide their wealth
C) Individuals have less incentive to donate to charity
D) The current system does not affect individual incentives
Q3) The Children's Health Insurance Program introduced in 1997:
A) expanded Medicaid's medical coverage of children to include prescription drugs.
B) expanded eligibility of children for public health insurance.
C) mandated that the states ensure that every child is covered by health insurance.
D) replaced Medicaid with private insurance for all eligible individuals.
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Page 18
Chapter 17: Income Distribution and Welfare Programs
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Q1) Suppose that the government were to allow the definition of poverty to change with the cost of living in different areas to fully offset a difference in cost of living.Discuss the potential moral hazards caused by this change.
Q2) In Sandtown-Winchester,a low-income neighborhood in Baltimore,the average life expectancy is _____ years; only 3 miles away in the wealthy Baltimore neighborhood of Roland Park,life expectancy averages _____ years.
A) 48; 67
B) 67; 84
C) 75; 84
D) 83; 87
Q3) Which welfare term best describes welfare programs that provide recipients with a monthly check?
A) in-kind welfare
B) cash welfare
C) means-tested welfare
D) nonhedonic welfare
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Chapter 18: Taxation- How It Works and What It Means
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Q1) The American Taxpayer Relief Act of 2012:
A) made all of the 2001 tax cuts permanent.
B) increased the top tax rate from 35% to 39.6%.
C) allowed all of the 2001 tax cuts to expire.
D) reduced the top tax rate from 39.6% to 35%.
Q2) Which fixed amount can a taxpayer subtract from adjusted gross income for each dependent member of the household,as well as for the taxpayer and his or her spouse?
A) an itemized deduction
B) a standard deduction
C) a tax credit
D) an exemption
Q3) Which of the following is equal to government revenue losses attributable to tax law provisions that allow special exclusions,exemptions,or deductions from gross income or that provide a special credit,preferential tax rate,or deferral of liability?
A) tax deductions
B) tax expenditures
C) tax credits
D) withholding
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Chapter 19: The Equity Implications of Taxation- Tax
Incidence
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Q1) Suppose the pre-tax price of gasoline is $1/gallon.An imposed tax of $0.50/gallon is paid by producers to the government,increasing the price of gasoline to $1.30/gallon.The gross price after the tax is _____; the after-tax price is _____.
A) $1.30; $0.80
B) $1.30; $1.80
C) $1.80; $1.30
D) $1.80; $0.80
Q2) What does the Congressional Budget Office assume with respect to the tax incidence of excise taxes?
A) Producers bear the entire tax burden.
B) Consumers bear the entire tax burden.
C) Producers and consumers each bear part of the tax burden.
D) The owners of the capital used to produce the taxed goods bear all of the tax burden.
Q3) A tax levied on producers is fully shifted to producers when:
A) demand is perfectly inelastic.
B) supply is perfectly elastic.
C) supply is perfectly inelastic.
D) supply and demand have the same elasticity coefficients.
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Chapter 21: Taxes on Labor Supply
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Q1) Suppose that a tax is levied on wages and a woman responds by working less.Which of the following statements is TRUE?
A) The income effect causes her to buy fewer of all goods except leisure.
B) The income effect exceeds the substitution effect.
C) The substitution effect exceeds the income effect.
D) There is no income effect.
Q2) Which statement best describes the current Earned Income Tax Credit (EITC)program?
A) As earnings increase from zero,the EITC increases at a decreasing rate until it reaches the maximum.
B) As earnings increase from zero,the EITC increases at a constant rate until it reaches the maximum.
C) As earnings increase from zero,the EITC increases and then decreases until it is zero.
D) As earnings increase from zero,the EITC decreases at a constant rate until it is zero.
Q3) Discuss the two major limitations of the basic theory of taxation's effect on labor supply.
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Chapter 22: Taxes on Savings
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Q1) Which of the following descriptions best defines the intertemporal budget constraint?
A) an amount equal to the person's total income
B) the measure of the person's preference for consumption in one period relative to his or her preference in other periods
C) the measure of the rate at which people can trade off consumption in one period for consumption in another period
D) the opportunity cost of first-period consumption
Q2) Suppose that the government proposes to eliminate unemployment insurance.Which model,the intertemporal choice model of saving or the precautionary saving model,would predict the larger change in savings in consequence? Explain your answer and be sure to note any empirical evidence that might be relevant.
Q3) Which of the following is NOT one of the four major tax incentives for retirement savings?
A) defined contribution pension plan
B) precautionary saving
C) simplified employee pension plan
D) 401(k)account
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23
Chapter 23: Taxes on Risk Taking and Wealth
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Q1) Which statement would be TRUE of a prospective capital gains tax reduction?
A) A prospective capital gains tax reduction would reduce government revenues more than would a similar reduction in the standard capital gains tax rate.
B) A prospective capital gains tax reduction would reward past risk taking without rewarding future risk taking.
C) A prospective capital gains tax reduction would have a larger marginal effect than would a similar reduction in the standard capital gains tax rate.
D) A prospective capital gains tax reduction would be much less expensive because it does not deliver a tax break to investments made in the past.
Q2) Suppose that there is a 75% chance that an investment of $1,000 will rise in value to $1,500,and a 25% chance that the investment will fall in value to $700.What is the expected return on the investment?
A) -$125
B) $25
C) $200
D) $300
Q3) Discuss the views of supporters and opponents of estate taxes.
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Page 24
Chapter 24: Taxation of Business Income
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Q1) Which of the following statements is TRUE?
A) There has traditionally been a tax advantage to paying dividends over capital gains.
B) Investors like to be paid in dividends despite the tax inefficiency because of the agency problem.
C) High-dividend taxes typically push firms to choose equity financing instead of debt financing.
D) There is no reason for corporations or investors to have a preference between paying dividends or reinvesting profits.
Q2) The separation of the ownership of the firm from the control of the firm leads to:
A) debt financing.
B) equity financing.
C) depreciation.
D) an agency problem.
Q3) Imagine a world in which there is no personal income tax,dividend tax,or capital gains tax.However,there is a significant corporate income tax.A firm wants to finance a new investment,and you'd like to be the investor.How would you like the corporation to finance the investment? Explain.
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Chapter 25: Fundamental Tax Reform and Consumption Tax
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Q1) Suppose the personal income tax rate is increased and the risk of getting caught for evading taxes increases.As a result,the marginal benefit of tax evasion _____ for any given level of unreported income and the level of tax evasion _____.
A) increases; is ambiguous
B) increases; is positive
C) decrease; is negative
D) is unchanged; is ambiguous
Q2) Assume that two people have the same income.Under the U.S.tax code,someone who chooses to save some income to consume more later is taxed _________ than someone who chooses to spend all of the income now,which is ________.
A) more; efficient
B) more; inefficient
C) more; vertically inequitable
D) less; inefficient
Q3) Tax ______ is legal; tax _______ is illegal.
A) avoidance; compliance
B) compliance; avoidance
C) evasion; avoidance
D) avoidance; evasion
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