University of San Francisco Yanay Farja Economics 101 Spring 2012 Problem Set 5 â Due April 4 Question 1: The fumes from dry cleaners can contribute to air pollution. Suppose the following graph illustrates the situation in the dry cleaning market. a. Explain how a government can use a tax on dry cleaning to bring about the efficient level of production. What should the value of the tax be? b. How large is the deadweight loss (in dollars) from excessive dry cleaning, according to the figure? Question 2: Negative externalities can exist in consumption. Writing in the New England Journal of Medicine, Kelly Brownell of Yale and Thomas Frieden, health commissioner of New York City, argue that consuming sugar-sweetened soft drinks involves a significant externality. They argue that this externality exists because consuming soft drinks can lead to medical problems whose treatment is paid for partly by tax-payers through the government Medicare and Medicaid programs, and because these medical problems can also reduce school performance and work productivity. a. Assuming that this analysis is correct, use a graph to illustrate the externality in the market for sugar-sweetened soft drinks. Be sure to label on your graph the points representing the market equilibrium and the efficient equilibrium. b. If the government decides to tax soft drinks to deal with the externality, is it likely to require firms producing soft drinks to pay the tax or consumers of soft drinks to pay the tax? Assuming that the government can collect the tax as easily from consumers as from firms, will it matter which group pays the tax? Illustrate your answer with a graph showing the effect of the tax if consumers are required to pay it and the effect of the tax if firms are required to pay it. Question 3: Why does the government subsidize the purchase of college educations but not the purchase of hamburgers?