Political Economy
Solved Exam Questions
Course Introduction
Political Economy explores the complex interplay between economics and politics, examining how institutions, policies, and economic systems influence and are influenced by political processes. The course investigates key theories and methodologies used to analyze the allocation of resources, the distribution of wealth and power, and the impact of public policy on economic outcomes. Students will engage with both classical and contemporary perspectives, analyzing case studies that highlight issues such as market regulation, government intervention, globalization, and development. Through critical analysis, the course encourages a deeper understanding of how economic interests and political forces shape societies at both national and global levels.
Recommended Textbook
Public Finance and Public Policy 5th Edition by Jonathan Gruber
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Chapter 1: Why Study Public Finance
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Q1) Suppose Juan values a slice of pizza at $1.50,but the pizza shop is unwilling to sell a slice of pizza for less than $2.00.These values imply that:
A) it is efficient for the shop to sell a slice of pizza to Juan for $1.50.
B) it is efficient for the shop to sell a slice of pizza Juan for $2.00.
C) the shop needs to produce more efficiently in order to lower the price.
D) it is not efficient for the shop to sell a slice of pizza to Juan.
Answer: D
Q2) Suppose Ali values a slice of pizza at $1.50,but the pizza shop is unwilling to sell a slice of pizza for less than $1.00.These values imply that it is efficient for the shop to sell a slice of pizza to Ali for any price:
A) greater than or equal to $1.50.
B) greater than or equal to $1.00 and less than or equal to $1.50.
C) less than or equal to $1.00.
D) less than or equal to $1.00 and greater than or equal to $1.50.
Answer: B
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Chapter 2: Theoretical Tools of Public Finance
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Sample Questions
Q1) If pasta is an inferior good and if the price of pasta increases,the income effect _________ the quantity demanded,and the substitution effect __________ the quantity demanded.
A) reduces; decreases B) increases; increases
C) reduces; increases
D) increases; decreases
Answer: D
Q2) The First Fundamental Theorem of Welfare Economics states that:
A) the competitive equilibrium,where supply equals demand,can always be achieved through government intervention.
B) social efficiency can be achieved if and only if government intervenes in the economy.
C) the competitive equilibrium,where supply equals demand,maximizes social efficiency. D) social efficiency cannot be achieved in any competitive equilibrium.
Answer: C
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4
Chapter 3: Empirical Tools of Public Finance
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Sample Questions
Q1) If two measures,A and B,are correlated,which is definitely TRUE?
A) A causes B.
B) B causes A.
C) There is no causation between A and B.
D) It is possible that there is a causal relationship between A and B.
Answer: D
Q2) RS1U1P12S1S1P0is a measure of:
A) the statistical significance of the regression.
B) how well the regression model fits the underlying data.
C) the statistical significance of a given coefficient.
D) how well the economic theory explains the behavior of the underlying data.
Answer: B
Q3) Suppose that job training is randomly assigned among applicants.The people who receive the training form the _______ group; the people who do not receive training form the _______ group.
A) control; treatment
B) treatment; treatment
C) treatment; control
D) control; control
Answer: C
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Chapter 4: Budget Analysis and Deficit Financing
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Q1) Suppose you paid $2.50 for a beer in 2004 and $3 exactly a year later.The price in 2004 is measured in _______ dollars; the price in 2005 is measured in _________ dollars.
A) real; real
B) nominal; real
C) real; nominal
D) nominal; nominal
Q2) A balanced budget requires that:
A) politicians vote for a budget in which spending exceeds revenues in order for the politicians to be eligible for reelection.
B) a deficit in that year be smaller than that of the previous year.
C) entitlement spending equals discretionary spending.
D) total spending equals total revenue.
Q3) If debt is a nominal obligation to borrowers:
A) debt is irrelevant for government.
B) inflation decreases the burden of the national debt.
C) inflation increases the burden of the national debt.
D) inflation has no effect on the burden of the national debt.
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Chapter 5: Externalities- Problems and Solutions
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Q1) Suppose your neighbor enjoys riding around his yard on a rather loud dirt bike.What kind of externality is this (positive or negative,consumption or production)? What would the government have to do,if anything,to facilitate a Coasian solution to this externality? Would the result be socially optimal? Explain.
Q2) Part I of the Coase Theorem states that when there are well-defined property rights and costless bargaining,then,in a market in which there is an externality,which statement is TRUE?
A) The socially optimal level of consumption can be achieved through the use of taxes and subsidies by the government.
B) The socially optimal level of consumption can be achieved through the use of quantity restrictions by the government.
C) The socially optimal level of consumption can be achieved through negotiations between the affected parties.
D) The socially optimal level of consumption cannot be achieved without mediation by the government.
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Chapter 6: Externalities in Action- Environmental and Health Externalities
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Q1) When sulfur dioxide is released into the atmosphere,it combines with hydrogen to form sulfuric acid,also known as particulates.The health costs associated with these particulates:
A) can be observed by comparing outcomes in areas with high levels to outcomes in areas with low levels of particulates.
B) is not significant because economic costs relate only to property damage.
C) cannot be estimated because there is no way to determine the cause of differential health outcomes.
D) can best be estimated based on quasi-experiments with treatment and control groups.
Q2) Making a $200 bet that you will quit smoking by the end of the month is evidence of: A) an actuarial adjustment.
B) a commitment device.
C) a financial externality.
D) a self-control problem.
Q3) In recent years,there have been a number of different approaches using public policy tools to reduce obesity.Summarize at least three of these new approaches.
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Page 8
Chapter 7: Public Goods
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Q1) If a good becomes less valuable as a result of one consumer's use of the good,but does not become worthless to other consumers,that good is:
A) purely excludable.
B) partially excludable.
C) purely rival.
D) partially rival.
Q2) Health care reform implemented in Massachusetts in 2006 provides an example of:
A) unsuccessful contracting out.
B) successful contracting out.
C) a private sector solution to the free rider problem.
D) awarding government contracts without competitive bidding.
Q3) Which of the following is TRUE when there is optimal provision of a public good?
A) marginal cost equals marginal rate of substitution for each consumer
B) each consumer's surplus equals marginal cost
C) total consumer surplus equals marginal cost
D) the sum of all consumers' marginal rates of substitution equals marginal cost
Q4) Roads are typically viewed as a public good.However,some highways are financed by tolls levied on drivers instead of through taxes.Discuss why this model works for some roads and not others in terms of the properties of public goods.
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Chapter 8: Cost-Benefit Analysis
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Sample Questions
Q1) The revealed preference approach to valuing a life focuses on:
A) survey results.
B) actions.
C) lost wages.
D) medical expenses.
Q2) The opportunity cost of an input that is sold in a perfectly competitive market is:
A) greater than the price of the input.
B) less than the price of the input.
C) equal to the price of the input.
D) not related to the price of the input.
Q3) The search for the least costly way of providing a desired public good is:
A) contingent valuation.
B) revealed preference.
C) social discounting.
D) cost-effectiveness analysis.
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Chapter 9: Political Economy
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Sample Questions
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.Setting aggregate marginal benefit equal to marginal cost leads to the conclusion that the efficient quantity of the public good is equal to:
A)2
B)6
C)10
D)80.
Q2) Which of the following refers to taxing individuals for a public good according to their valuation of the benefit they receive from the good?
A) efficient-cost taxation
B) benefit taxation
C) median voter taxation
D) mean voter taxation
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Chapter 10: State and Local Government Expenditures
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Q1) An implication of the Tiebout model is that comparable houses in a community with a relatively ________ level of taxes,given a level of public goods,will be worth
A) low; less
B) high; less
C) high; more
D) low; nothing
Q2) Which of the following is a conditional block grant?
A) $4 million to be spent on education
B) up to $4 million to be spent as the state sees fit
C) $4 million to the state government to be spent on any state program
D) a $1 increase in federal grant money for every $1 spent by the state
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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Chapter 11: Education
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Q1) If the government were to directly operate schools,it would be intervening through _________.If the government were to require that everyone attend school through age 16 without intervening in any other way,it would be intervening through__________.
A) public provision; private provision
B) the price mechanism; the quantity mechanism
C) the quantity mechanism; the price mechanism
D) public provision; the quantity mechanism
Q2) The Common Core is:
A) a long-accepted group of learning objectives that govern K-12 curriculum design. B) a controversial set of national standards outlining what students ought to know.
C) an attempt to give local school districts more control over educational goals. D) considered too easy to be helpful in improving educational outcomes.
Q3) Employers often list a 4-year college degree as a requirement for those applying for certain jobs.Is this practice consistent with the screening explanation for education,the human capital story,both,or neither? Explain.
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13
Chapter 12: Social Insurance- the New Function of Government
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Q1) Which of the following is NOT true about the change in government spending over the past 50 years?
A) The share of defense spending has decreased significantly.
B) Spending on health and social security spending has increased dramatically.
C) After adjusting for inflation,government spending has remained constant.
D) The share of health care spending increased more than the spending in social security and income security.
Q2) Asymmetric information between buyers and sellers results in:
A) adverse selection.
B) rent seeking.
C) moral hazard.
D) X-inefficiency.
Q3) Which of the following provides insurance against earnings loss due to retirement?
A) disability insurance
B) Social Security
C) workers' compensation
D) Medicare
Q4) Is self-insurance more likely to be chosen by rich or by poor people? Explain why.
Page 14
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Chapter 13: Social Security
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Q1) Which of the following is a reason behind the fiscal imbalance of Social Security?
A) Wage growth has slowed dramatically.
B) An increase in birth rates has occurred over time.
C) People are not living as long.
D) More covered workers have immigrated to the U.S.
Q2) Suppose that the primary insurance amount was changed so that it was indexed by the consumer price index minus 2 percentage points.Which approach to reforming Social Security would this be?
A) raising taxes further
B) extending the base of taxable wages
C) raising the retirement age
D) lowering benefits for all recipients
Q3) Which of the following program details do NOT belong to Social Security?
A) The total FICA tax burden on self-employed people is 12.4%.
B) Eligibility requirements include 40 quarters of work.
C) An age of 62 or older is an eligibility requirement.
D) When eligible,the Social Security claimant receives an annuity payment.
Q4) Explain the two fundamental problems related to investing the Social Security trust fund in the stock market.
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Q1) The consumption-smoothing benefits of unemployment insurance are _________ those for disability insurance,and the negative behavioral responses to unemployment insurance are __________ those for disability insurance.
A) larger than; larger than B) smaller than; smaller than
C) smaller than; larger than D) larger than; smaller than
Q2) Workers' compensation covers:
A) job search costs.
B) medical costs associated with any injury incurred while employed.
C) medical costs associated with an injury incurred while at work.
D) cash payments to replace exactly half of a worker's lost wages during recuperation.
Q3) 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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Q1) Suppose that you want to estimate how health insurance affects the mobility rate of workers.Which of the following is a problem with identifying this effect when you compare the mobility rate of those who have insurance with that of those who do not have insurance?
A) Jobs that offer health insurance tend to be the same in other ways (e.g.,pension plans or vacation).
B) Jobs that offer health insurance may be better in other ways (e.g.,pension plans or vacation).
C) Those with health insurance may not want to switch jobs because they are fearful of losing their insurance.
D) Health insurance does not affect worker mobility since workers are able to keep their insurance after changing jobs.
Q2) Health insurance premiums are typically lower when a large group is insured because:
A) larger groups have lower medical expenditures per person,on average.
B) larger groups have more predictable medical expenditures per person,on average.
C) administrative costs increase proportionally with the size of the group.
D) the insurance company can pick and choose which group members to cover.
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Chapter 16: Health Insurance Ii- Medicare, medicaid, and Health Care Reform
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Q1) Practicing medicine on the flat of the curve implies that the _________ value of medical treatment is exceeded by the __________ cost of treatment.
A) average; average
B) median; median
C) marginal; marginal
D) average; marginal
Q2) Approximately what percentage of total health-care spending was spent on long-term care in 2007?
A) 2%
B) 8.5%
C) 17%
D) 31%
Q3) 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
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Chapter 17: Income Distribution and Welfare Programs
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Q1) Which of the following must be TRUE for an ordeal mechanism to be effective?
A) The disincentive to work from taxing the high-income individuals must be minimized.
B) The disincentive to work for welfare recipients must be less than the additional social welfare received from making them better off.
C) The gains from the program to welfare recipients must exceed the cost imposed on welfare recipients.
D) The cost imposed on welfare recipients must be equal to zero.
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) Discuss reasons why many states have moved from mailing food stamps to recipients to sending electronic debit cards.Has this change increased or decreased the ordeal mechanism associated with food stamps?
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Chapter 18: Taxation- How It Works and What It Means
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Q1) Compare and contrast tax deductions and tax credits in terms of both efficiency and vertical equity.
Q2) The deduction of which item is hardest to justify on ability-to-pay grounds?
A) high medical expenditures
B) property and casualty losses
C) state and local tax payments
D) child care expenses
Q3) Which tax is paid on individual income from sales of assets?
A) excise tax
B) estate tax
C) sales tax
D) capital gains tax
Q4) Which of the following CANNOT be subtracted from gross income as a deduction?
A) contributions to retirement savings accounts
B) reimbursed employee expenses
C) contributions to health savings accounts
D) interest paid on student loans
Q5) What is the difference between the marginal tax rate and the average tax rate? What is the difference between the statutory tax rate and the effective tax rate? Explain.
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Chapter 19: The Equity Implications of Taxation- Tax
Incidence
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Q1) Which statement is TRUE?
A) Effective excise tax rates have risen for high-income groups over the last 20 years.
B) Effective excise tax rates have risen for low-income groups over the last 20 years.
C) Effective corporate tax rates are higher than effective income tax rates for all households.
D) Effective income tax rates have not changed over the last 20 years.
Q2) Suppose the pretax price of gasoline is $1 per gallon.A tax of $1.50 is imposed and is paid by producers to the government.What must the post-tax price of gasoline in order for the consumer tax burden to be equal to one-half of the tax wedge?
A) $1
B) $1.25
C) $1.75
D) $2.25
Q3) Is it possible for the government to impose a tax that causes the market price of the good to fall? Explain why you think it is or is not possible.
Q4) Why is general equilibrium analysis called a game of "follow the tax burden"?
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Page 21
Chapter 21: Taxes on Labor Supply
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Q1) If the tax rate on income is given by t and the wage is given by w,what is the slope of the budget constraint?
A) -w + t
B) w - t + 1
C) w(t - 1)
D) w(1 - t)
Q2) If the tax rate on income is given by t and the wage is given by w,what is the after-tax wage?
A) w - t
B) w - t + 1
C) w(t - 1)
D) w(1 - t)
Q3) If a person responds to a tax on wages by working the same number of hours,then the:
A) substitution effect exceeds the income effect.
B) substitution effect induces the individual to work more.
C) income effect exceeds the substitution effect.
D) income effect exactly offsets the substitution effect.
Q4) 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) Suppose an Individual Retirement Account (IRA)has a contribution limit of $3,000 per year and that prior to the passage of the law establishing IRAs,Carlos was saving $2,500 per year.After the IRAs were established,Carlos saved $2,000 per year.Which statement is TRUE?
A) The tax subsidy in the IRA had a marginal effect on Carlos's saving.
B) The tax subsidy in the IRA had an inframarginal effect on Carlos's saving.
C) The substitution effect exceeded the income effect.
D) The income and substitution effects cancelled each other out.
Q2) Which of the following best describes liquidity constraints?
A) limits on how easily assets can be used for immediate cash needs
B) geographic and political barriers that limit a person's ability to invest overseas
C) government restrictions on minimum levels of saving
D) a barrier to credit availability that limits a person's ability to borrow
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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Page 23
Chapter 23: Taxes on Risk Taking and Wealth
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Q1) If an individual purchases an asset and sells it before he dies,the capital gains tax burden is based on the:
A) sale price minus the basis.
B) sale price.
C) purchase price.
D) basis.
Q2) Suppose that there is a 25% chance that an investment of $1,000 will rise in value to $1,400,a 25% chance that the investment will remain at $1,000,and a 50% chance that the investment will fall in value to $900.What is the expected profit associated with the investment?
A) $25
B) $50
C) $75
D) $100
Q3) Which of the following assets could yield a capital gain?
A) a savings account
B) a bank certificate of deposit
C) a house
D) a checking account
Q4) Discuss the views of supporters and opponents of estate taxes.
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Chapter 24: Taxation of Business Income
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Q1) Suppose a corporation purchases an asset for $100,000.Under straight-line depreciation,the corporation would be allowed to depreciate the asset over 5 years.Under accelerated straight-line depreciation,it would be allowed to depreciate the asset over 2 years.What must the discount rate be such that the corporation is indifferent between straight-line depreciation and accelerated straight-line depreciation?
A) -10%
B) 0%
C) 5%
D) 10%
Q2) Why don't companies finance all of their investment with debt and thereby avoid corporate taxation?
Q3) Which statement about the benefits of an investment is generally assumed to be TRUE in economic models?
A) The marginal product of capital is increasing.
B) The marginal product of capital is constant.
C) The marginal product of capital is diminishing.
D) The marginal product of capital is equal to the marginal product of labor.
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Chapter 25: Fundamental Tax Reform and Consumption Tax
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Q1) Suppose the government is considering replacing the current income tax system with either a national sales tax or a value-added tax.Would one of these alternatives be more desirable than the other in terms of compliance? Explain.
Q2) Which statement is NOT true of tax evasion?
A) Tax evasion is inefficient.
B) Tax evasion violates vertical equity.
C) Tax evasion violates horizontal equity.
D) People never made a choice to engage in tax evasion.
Q3) Which definition best describes tax shelters?
A) homeless shelters paid for by voluntary donations on one's tax form
B) special sections of the tax code that favor special interests that wish to minimize their tax burden
C) tax-exempt regions of the country
D) activities whose sole reason for existence is to minimize one's tax burden
Q4) The flat tax was popularized by:
A) Hall and Rabushka in 1981.
B) Haig and Simons in 1986.
C) Domar and Musgrave in 1944.
D) Roth and Rossotti in 1997.
Page 26
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