Public Finance
Mock Exam
Course Introduction
Public Finance explores the role of government in the economy, focusing on how public sector decisions influence the allocation and distribution of resources. The course examines government revenue generation through taxation and borrowing, the design and impact of various tax systems, and public expenditure on goods and services. Students learn to analyze key topics such as externalities, public goods, income redistribution, fiscal federalism, and budgetary policy. Emphasis is placed on the theoretical foundations of public finance as well as current policy issues, enabling students to evaluate government intervention in markets and its effects on economic efficiency and equity.
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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Q1) How governments should intervene is a _________ question,and why governments intervene in the way they do is a __________ question.
A) normative; normative
B) positive; negative
C) normative; positive
D) positive; normative
Answer: C
Q2) The government offers unemployment benefits to workers who have lost their jobs and not yet found new ones.Which of the following is an example of an indirect unintended effect of the government intervention?
A) Recipients reduce their job search activities.
B) Recipients can still afford to pay health insurance premiums.
C) Recipients are at less risk for falling into poverty.
D) Potential recipients choose not to file for benefits.
Answer: A
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Chapter 2: Theoretical Tools of Public Finance
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Q1) Graphically,the budget constraint can be described as:
A) the slope being the difference between the prices of the goods.
B) the slope being the sum of the prices of the goods.
C) a downward sloping line.
D) the slope being the product of the prices of the goods.
Answer: C
Q2) Consumer 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: A
Q3) Consumer surplus is greater than producer surplus when the demand curve is __________; producer surplus is greater than consumer surplus when the demand curve is _________.
A) elastic; elastic
B) inelastic; inelastic
C) perfectly elastic; perfectly inelastic
D) inelastic; elastic
Answer: D
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Chapter 3: Empirical Tools of Public Finance
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Q1) 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
Q2) To produce structural estimates,which of the following must be TRUE?
A) The researcher must observe more information than a researcher who estimates reduced-form estimates only.
B) The researcher cannot impose assumptions on the functional form of utility.
C) The researcher must use a randomized study.
D) The variables in the study cannot be correlated with each other.
Answer: A
Q3) Randomized trials:
A) cannot effectively establish causation.
B) can be very expensive.
C) avoid ethical problems.
D) are the least expensive way to test a hypothesis.
Answer: B
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Page 5
Chapter 4: Budget Analysis and Deficit Financing
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Q1) Which of the following is TRUE?
A) Neither the federal nor state governments have been able to control deficits for long periods.
B) Both the federal and state governments have been able to control deficits for long periods.
C) Both the federal and state governments have effective balanced budget requirements in place.
D) State governments have been able to control deficits for long periods while the federal government has not.
Q2) Some have argued in favor of reducing taxes on repatriated earnings that companies operating in the United States have made in other countries.Such a tax break could lead to a sharp increase in the amount of repatriated earnings and raise tax revenues.If such an increase were temporary,what would be the effect on the real budget deficit for the current year? What would be the effect on the structural deficit? Explain.
Q3) Suppose the economy is in a recession and that revenues for the current year are equal to expenditures.
(a)What is the budget deficit in this case?
(b)How would a cyclically adjusted budget deficit be different? Explain.
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Page 6
Chapter 5: Externalities- Problems and Solutions
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Q1) Taxing the producer of an externality based on the amount of the externality produced is equivalent to which of the following?
A) subsidizing the consumer
B) subsidizing those outside the market
C) increasing the producer's input costs
D) increasing the benefits of the consumers in the market
Q2) 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.
Q3) The purchase of coal by a utility is best described as a:
A) social cost.
B) private cost.
C) private benefit.
D) negative externality.
Q4) When are quantity restrictions not the same as price restrictions (via taxes)? Describe one situation in which the government would be better off imposing quantity restrictions than setting a tax,and explain why quantity restrictions are better in that case.
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Chapter 6: Externalities in Action- Environmental and Health Externalities
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Q1) Which statement gives a reason for opposition to the 1990 amendments to the Clean Air Act?
A) An industry study conducted in 1989 predicted the loss of up to 4 million jobs.
B) The nuclear power plants that would be built as a result were unwanted in most communities.
C) The changes did not allow older plants to purchase emission allowances from newer plants.
D) Environmentalists favored an allowance and trading system.
Q2) The central estimate for the ____________ due to smoking (excluding secondhand smoke)are ___________ the level of taxation.
A) externalities; greater than B) externalities; less than C) internalities; greater than D) internalities; less than
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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8
Chapter 7: Public Goods
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Q1) A road,which can be considered as nonexcludable but rival in consumption,is an example of:
A) a pure private good.
B) a pure public good.
C) an impure public good.
D) an altruistic good.
Q2) If individuals care about the outcomes for other people as well as for themselves,economists refer to them as:
A) free riders.
B) irrational.
C) actuarially adjusted.
D) altruistic.
Q3) A good for which the price is set at $1 to model choice between goods is:
A) a pure public good.
B) a numeraire good.
C) an impure public good.
D) a pure private good.
Q4) 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.
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Chapter 8: Cost-Benefit Analysis
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Sample Questions
Q1) The county supervisor sends out a survey via U.S.mail asking residents how much they are each willing to pay toward a new community swimming pool.This is an example of:
A) contingent valuation.
B) revealed preference valuation.
C) cost-benefit analysis.
D) social discounting.
Q2) If the present discounted value of $134 next year is $115 this year,then what is the implied annual rate of interest?
A) 7.63%
B) 9.5%
C) 13.34%
D) 16.52%
Q3) The benefits of a high-speed rail system from Sacramento to San Diego do NOT include:
A) improved productivity resulting when commuters are able to work on the train.
B) lower medical expenses resulting from fewer automobile accidents.
C) the value of the land needed for the project.
D) less traffic and reduced use of fuel.
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Chapter 9: Political Economy
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Q1) According to the median voter model,which of the following must a politician know in order to attract the maximum number of votes?
A) the preferences of all voters
B) the preferences of the median voter
C) voters' willingness to pay
D) the issue that is most important to all voters
Q2) Which statement about direct democracy in the United States is NOT true?
A) The important feature of a referendum is that it is designed to elicit constituents' reactions to legislation.
B) At the local level,the town meeting remains an important venue for decision making in many southern states.
C) Voter initiative is widely used in the United States,especially in West Coast states.
D) Referenda and initiatives are used for all kinds of issues,including but not limited to election rules,alcohol rules,animal rights,and so on.
Q3) Discuss the recent experiences of the U.S.defense industry in contracting out without competitive bidding.Are they successful ventures? What might be the fundamental problem in these contracts?
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Chapter 10: State and Local Government Expenditures
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Q1) In 2009,which state spent the most per capita on education?
A) Wisconsin
B) California
C) Alaska
D) Florida
Q2) A city that is spending $1 million on policing receives a conditional grant of $500,000 to spend on policing.Assume policing is a normal good.The income effect ___________ spending on policing; the substitution effect ___________ spending on policing.
A) increases; increases
B) increases; decreases
C) increases; does not affect D) decreases; increases
Q3) The federal government gives a state a _________ grant,promising to pay the state $0.25 for every $1 the state spends on health care for senior citizens,which _______ the price of health care to the state by _________.
A) block; increases; 25%
B) conditional block; decreases; 25%
C) matching; decreases; 75%
D) partial matching; decreases; 25%
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Chapter 11: Education
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Q1) Someone argues that vouchers will lead students of different races to sort into "white" and "black" schools.This type of criticism expresses a concern about:
A) excessive school specialization.
B) segregation.
C) provision of education as a natural monopoly.
D) vouchers as an inefficient and inequitable use of public resources.
Q2) One unintended consequence of giving public schools incentives for their students to do well on standardized tests is that it may lead to "teaching to the test" at the expense of teaching subjects that are not tested.If the standardized exams given by the state test reading comprehension and mathematics,would you expect these teaching distortions to be the same at the elementary and high school level? Explain.
Q3) Which of the following is NOT true about Pell Grants?
A) Pell Grants are provided to low-income families to pay for higher education.
B) Pell Grant eligibility is entirely merit-based.
C) Te Pell Grant amount depends on the applicant's characteristics.
D) The Pell Grant program intends to provide more opportunities to low-income families.
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Chapter 12: Social Insurance- the New Function of Government
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Q1) Which term refers to charging a price for insurance that is a function of realized outcomes?
A) actuarial adjustment
B) moral hazard rating
C) experience rating
D) risk adjustment
Q2) If government subsidizes the health insurance costs of individuals because individuals do not sufficiently realize the importance of having health insurance,which justification for government intervention is being used?
A) high administrative costs
B) redistribution
C) paternalism
D) adverse selection
Q3) Which of the following provides insurance against on-the-job accidents?
A) disability insurance
B) workers' compensation
C) Medicare
D) unemployment insurance
Q4) Is self-insurance more likely to be chosen by rich or by poor people? Explain why.
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Chapter 13: Social Security
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Q1) Suppose that you hear a politician state that her plan for reforming Social Security will work because rich retirees don't need Social Security benefits.Which approach to Social Security reform is the politician probably advocating?
A) raising taxes further
B) raising the retirement age
C) lowering benefits for all recipients
D) lowering benefits for higher-income groups
Q2) 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.
Q3) 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.
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15
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Q1) Which of the following is TRUE with respect to disability insurance?
A) Disability insurance provides compensation to workers injured on the job until they can return to work.
B) Workers can file for disability benefits even if they have no medical documentation.
C) States set the level of disability benefits.
D) Disability benefits are funded by a separate payroll tax.
Q2) Which of the following is NOT true with respect to the three-way comparison of unemployment insurance (UI),disability insurance (DI),and workers' compensation (WC)?
A) The replacement rate is the highest for WC because benefits are not taxable.
B) Benefits are indefinite for DI and WC,subject to medical verification.
C) Verification is the most difficult for WC.
D) The qualifying events for DI and WC are essentially the same.
Q3) Discuss the efforts to alleviate the hardship due to high unemployment during the recent recession.What type of a role did the extended unemployment compensation (EUC)of 2008,Unemployment Compensation Extension Act of 2010,and the Middle Class Tax Relief and Job Creation Act of 2012 play? What were the fundamental differences between the Democrats and Republicans regarding these pieces of legislation?
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Chapter 15: Health Insurance I- Health Economics and Private Health Insurance
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Sample Questions
Q1) What is a health savings account (HSA)? What is the goal of the creation of such accounts?
Q2) Imagine two scenarios.In scenario 1,you have a $1 million health insurance policy.In scenario 2 you do not have health insurance.You earn an income of $40,000 and have $60,000 in savings.In both scenarios,you fall ill with exactly the same serious illness.In scenario 1,you undergo treatment that costs $850,000.In scenario 2,you undergo treatment that costs $50,000.Can you identify the moral hazard costs of health insurance in this case? If so,what are they? If not,why not? Explain your answer.
Q3) Which of the following would make selling insurance to employees of a given firm problematic for the insurer in terms of risk pooling?
A) The firm employs a large group of people.
B) All workers are required to participate in the group insurance plan.
C) Workers take into account their health status when choosing which firm to work for.
D) Workers do not take into account their health status when choosing which firm to work for.
Q4) 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) 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%
Q2) Medicare provides health insurance only to:
A) poor families.
B) all elderly over age 65.
C) poor individuals over the age of 65.
D) those who lost their health insurance coverage prior to retirement.
Q3) Discuss the three-legged-stool approach of Massachusetts' experiment with incremental universalism.What were the consequences of the three-legged-stool implementation? How does this experience compare to the ACA?
Q4) The textbook identifies three reasons why the prospective payment system (PPS)did not solve the long-run cost growth problems of Medicare.Describe two of those problems.
Q5) How are the providers of health care services to Medicaid recipients paid? Has this affected the health care experiences of Medicaid recipients? Explain.
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Chapter 17: Income Distribution and Welfare Programs
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Q1) The federal government restricts Temporary Assistance for Needy Families (TANF)to no longer than _____ year(s)and mandates that recipients start working after receiving at most ________ months of TANF benefits,although there are some loopholes in these requirements.
A) 3; 12
B) 3; 24
C) 5; 12
D) 5; 24
Q2) In Sandtown-Winchester,a low-income neighborhood in Baltimore,the median household income is _____; only 3 miles away in the wealthy Baltimore neighborhood of Roland Park,median household income is _____.
A) $12,000; $24,000
B) $18,000; $56,000
C) $24,000; $107,000
D) $36,000; $124,000
Q3) At its peak,cash welfare spending by the federal government amounted to:
A) 1.7% of the federal budget.
B) 10.7% of the federal budget.
C) 24.5% of the federal budget.
D) 33.3% of the federal budget.
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Chapter 18: Taxation- How It Works and What It Means
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Q1) What is the alternative minimum tax (AMT)? Why was it established? How will its application change over time,and why?
Q2) Which is a fixed amount that a taxpayer can deduct from taxable income?
A) an itemized deduction
B) a standard deduction
C) a tax credit
D) an exemption
Q3) The type of tax that yields the highest amount of revenue to all U.S.governments (federal,state,and local combined)is the _________ tax.The tax that yields the second-highest amount is the ________ tax.The tax that yields the least amount of revenue is the _________ tax.
A) payroll; individual income; wealth
B) payroll; individual income; corporate
C) individual income; payroll; corporate
D) individual income; consumption; wealth
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
Page 20
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Chapter 19: The Equity Implications of Taxation- Tax
Incidence
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Q1) Suppose your city's government is considering levying a tax on all commercial car washes within the city limits.The state government is also considering levying a tax on all commercial car washes in the state.In the short run,consumers bear _____ of the tax burden under the local tax than under the state tax.In the long run,car wash employees bear _______ of the tax burden under the local tax than under the state tax.
A) more; less
B) more; more
C) less; more
D) less; less
Q2) Which statement is TRUE regarding a $1 per pack tax on cigarettes that is imposed on producers?
A) It shifts the supply of cigarettes to the left.
B) It shifts the supply of cigarettes to the right.
C) It shifts the demand for cigarettes to the left.
D) It shifts the demand for cigarettes to the right.
Q3) Why is general equilibrium analysis called a game of "follow the tax burden"?
Q4) 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.
Page 21
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Chapter 21: Taxes on Labor Supply
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Q1) (a)What can cause a tax wedge in the market for child care that puts market work at a disadvantage?
(b)The text described two ways the government can remove this tax wedge.Identify them and discuss the advantages and disadvantages of both.
Q2) Which statement is NOT true about the structure of the Earned Income Tax Credit (EITC)?
A) Up to a threshold,EITC pays a certain fixed percent of wage earned.
B) EITC pays a fixed amount at a range of income.
C) At a particular range of income,government reduces EITC payments based on a lower fixed percent of income earned.
D) EITC payments decrease as earnings increase,but everyone qualifies for some amount.
Q3) The substitution effect of child care expenditures induces parents to _________; the income effect of child care expenditures induces parents to __________.
A) work more; work more
B) work more; work less
C) work less; work less
D) work less; work more
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Chapter 22: Taxes on Savings
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Q1) If banks raise nominal interest rates to fully offset inflation,the purchasing power of savings will:
A) remain the same when capital income is taxed.
B) decrease when capital income is not taxed.
C) increase when capital income is not taxed.
D) increase when capital income is taxed.
Q2) Suppose that in the first period,a woman works,earns income Y,and saves S of the income.In the second (and last)period,the woman consumes her savings plus whatever interest it earned (r is the interest rate).What is the opportunity cost of first-period consumption?
A) Y(1 + r)<sup>2</sup>
B) 1 + r
C) Y - S
D) Y(1 + r)
Q3) Which statement about the standard intertemporal choice model is TRUE?
A) People save in order to smooth consumption over time.
B) People gain utility directly by working.
C) For most people,it is optimal to set consumption equal to income each year.
D) A dollar to be received in 10 years is worth the same amount as a dollar received today.
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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) The primary source of wealth for most entrepreneurs comes from:
A) interest on the income earned early in the life of the business.
B) an increase in the value of the business asset over time.
C) tax deductions against other sources of income enabled by owning a business.
D) tax credits earned by starting a business.
Q3) What are the three ways in which capital gains are subsidized over interest-bearing savings accounts in the U.S.tax code?
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) Firms pay taxes on __________.An optimal tax on corporate profit would be levied on _________.
A) economic profits; dividends
B) economic profits; accounting profits
C) capital gains; economic profits
D) accounting profits; economic profits
Q3) Why do governments levy corporate taxes on firms rather than taxing the factors of production that make up those firms? Discuss the two fundamental reasons.
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Chapter 25: Fundamental Tax Reform and Consumption Tax
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Q1) If the penalties associated with tax evasion are increased and the risk of being caught evading taxes increases,which of the following statements is TRUE,other things held constant?
A) The marginal cost of evading taxes is decreased for any given level of unreported income.
B) The marginal cost of evading taxes is increased for any given level of unreported income.
C) More tax evasion occurs.
D) The two changes cancel each other out so there is no change in tax evasion.
Q2) 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.
Q3) Tax ______ is legal; tax _______ is illegal.
A) avoidance; compliance
B) compliance; avoidance
C) evasion; avoidance
D) avoidance; evasion
Q4) Identify and describe two political reasons the tax code is so complicated.
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