# Market Failures and the Role of the State

Market Failures and the Role of the State;

1. If the economy has market failures then government should always participate as
a producer. Is this statement true or false. The size of the government (as a
producer) has been decreasing recently in developed economies. Explain why has
been the case (this question is a repeat from Problem Set 2, but now you have
2. The government participation as a producer can ONLY be justi ed because of
the presence of market failures. This statement is true or false? The market, and
not the government, should provide public goods. This statement is true or false?
Which one is the minimum size of the government (as a producer)?
3. Give an example of a subsidy that solves a market failure. Have subsidies always
improve the eciency of the economy? What is a entry barrier? Give examples.
What the government can do when a rm imposes entry barriers to other rms?
Fiscal Policy and the AS-AD Model
1. If the price level increases then aggregate consumption drops. Is this statement
true or false. Why most economic models assume that government spending is an
exogenous variable? Are taxes an endogenous or an exogenous variable?
2. If aggregate supply is higher than aggregate demand what do rms do in the short
run? They adjust prices or production? (explain why). What is the di erence
between a stable equilibrium and a unstable equilibrium? Does the aggregate
demand and aggregate supply model has an equilibrium? Is this equilibrium
stable?
3. Use the aggregate demand and aggregate supply diagram to predict the impact
on the equilibrium level of GDP if there is
(a) an increase in government purchases.
(b) an increase in taxes.
(c) an equal increase in government purchases and taxes.
(d) a drop en expected income
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4. Assume that the consumption function is given by C = 200 + 0; 75(Y ?? T).
Investment is 100; government purchases and taxes are both 100.
(a) What is the equilibrium level of income (GDP) ?
(b) If the economy has a GDP equal to 800. Will the level of GDP stay at this
level. If not, it will increase or decrease?
(c) If government purchases increase to 125, what is the new equilibrium income?
(d) What level of government purchases is needed to achieve an income of 1,600?
5. If the economy is at equilibrium then the economy is at full employment. Is this
statement true or false? Why is desirable to implement a stabilization program?
If an economy has a recession, what would be the most appropriate scal policy:
expansionary or contractionary and how it could be implemented?
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