Prof. Bryan Caplan
bcaplan@gmu.edu
http://www.bcaplan.com
Econ 849
Fall, 2001
HW #1 (please type all answers)
1. (1 page, doublespaced) Analyze the KaldorHicks efficiency consequences of FCC regulation of indecent/obscene language on commercial television relative to laissezfaire. Carefully distinguish costs, benefits, transfers, and deadweight costs.
2. The Queen holds on auction on the monopoly right to produce and sell tea. There are two available producers of tea. The demand curve for tea, and the costs of the two producers (Lancaster and York), are given in this table:
Price per ton 
Quantity (tons) 
Total Revenue 
Total Cost of Lancaster 
Total Cost of York 
£1000 
1000 
£1,000,000 
£400,000 
£500,000 
£900 
1500 
£1,350,000 
£600,000 
£750,000 
£800 
3000 
£2,400,000 
£1,200,000 
£1,500,000 
£700 
3200 
£2,240,000 
£1,280,000 
£1,600,000 
£600 
3400 
£2,040,000 
£1,360,000 
£1,700,000 
£500 
3600 
£1,800,000 
£1,440,000 
£1,800,000 
£400 
3800 
£1,520,000 
£1,520,000 
£1,900,000 
£300 
4000 
£1,200,000 
£1,600,000 
£2,000,000 
£200 
4200 
£840,000 
£1,680,000 
£2,100,000 
A. If Lancaster received the monopoly privilege, what price and output level would he set? What would his (gross) monopoly profits be?
B. If York received the monopoly privilege, what would his price, output, and (gross) monopoly profits be?
C. If the Queen auctioned off the monopoly privilege to Lancaster and York, who would win the auction? How much would the winner pay? (Assume the Queen starts at a low price and rises it by a penny at a time until one bidder drops out).
D. Are there any losses to productive efficiency from this grant of privilege? To allocative efficiency? Why?
E. Suppose the Queen, sensitive to the charge that she is enriching herself with these auctions, randomly selects the recipient of the grant (by making Lancaster and York publicly play Rock, Paper, Scissors, for example). How are the deadweight losses of monopoly likely to be affected?
F. Parliament strips the Queen of the right to give monopolies, and declares that henceforth monopolies will be awarded to whichever firm gets the most votes from the members of Parliament. Lancaster and York compete for votes by paying for political advertising for their supporters, hiring lawyers, and so on. Who, if anyone, now benefits  on net  from the distribution of monopoly grants?
3. Suppose that you are narrowly selfinterested, riskneutral, require an hour to vote, and value your time at $100/hour. Bush is $1000 better for you than Gore, and people other than yourself vote for Bush with p=.505. Using the probability of decisiveness formula from the notes, calculate the critical number of voters (2n+1) that leaves you exactly indifferent between voting and not voting.
4. Use diagrams to contrast the deadweight loss from laissezfaire supply of (a) a good that is perfectly nonrival but fully excludable, and (b) a good that is fully rival but perfectly nonexcludable.
5. Suppose there are seven workers. The PDV of their lifetime labor is as follows:
Worker # 
1 
2 
3 
4 
5 
6 
7 
$ PDV 
1,000,000 
1,200,000 
1,400,000 
1,600,000 
1,800,000 
2,000,000 
2,500,000 
Employers cannot tell how productive a worker is, but they CAN tell whether a worker has a college degree, and they know the AVERAGE value of workers with and without college degrees. Competition forces them make worker pay equal their average PDV.
A. What will the PDV of lifetime earnings be for workers with and without college educations be if...? Fill in the following table.
(Hint: What is [1M+1.2M+1.4M+1.6M+1.8M+2M+2.5M]/7 ?)
Worker #'s w/ College Degrees 
Without College PDV 
With College PDV 
College Premium 
17 
 
$1,642,857 
 
27 
$1,000,000 
$1,750,000 
$750,000 
37 



47 



57 



67 



7 
$1,500,000 
$2,500,000 
$1,000,000 
B. Suppose you are worker #4. Workers #13 don't have college degrees; workers #57 do. What is your PDV of earnings without a college degree? With a college degree?
C. What are the total earnings of the other workers if you (still worker #4) get a college degree? If you don't?
D. Suppose worker #4's college costs $500,000 total. What is the net gain of college to worker #4? The net gain to all seven workers?
E. Are there externalities of education in this problem? Explain.
6. In a given market:
Supply is given by: Q=aP
Demand is given by: Q=cdP
Social Benefits are given by: Q=c/2dP
What is total surplus at the intersection of Supply and Demand? At the intersection of Supply and Social Benefits? Prove that total surplus is maximized at the intersection of Supply and Social Benefits. Illustrate your answers with diagrams.