2.
Multiplier = 1 / (1-0.8)
= 1/ 0.2
= 5

Thus, in order to increase the GDP by $25 million, the government must spend $5billion

Marginal Propensity to consume X tax cut = 5 billion
0.8 X tax cut = 5
tax cut = 6.25billion

There is this difference because unlike the government spending, the money gained as a result of the tax cut is not all consumed.

3. Decrease public spending or increase taxes. A conservative economist would favor the latter option while the liberal economist would favor the former

I keep having a trouble with this blog. I post an article and it does not show up. Perhaps its my windows vista computer... So i shall now post all my blogs with my XP computer.

So, I found this interesting article about the Chinese economy. Recently the Chinese Central Bank has increased its interest rates in order to discourage investment. According to Premier Wen Jia Bao, "China's investment growth is too high, lending growth too fast, liquidity excessive and trade and international payments very imbalanced." Truly, China has been showing outstanding economic expansion rates. Just last year, China has economically expanded at a rate of 10.7%. By increasing the interest rates, the Chinese Central Bank has the hopes of discouraging investment; because firms will only invest when the rate of return is greater than the interest rates, an interest in the latter--to a level greater than the former--will discourage firms' investment. However, it must be kept in mind that not all firms face the same rate of returns; some firms may face higher rate of returns while some may face lower rate of returns. As a return, some firms will continue to invest--unhindered--regardless of the increase in the interest rates. Thus, in order to effectively dampen investment, the Chinese Central Bank should consider increasing the interest rates more (not just the 0.27% increase it made on March 18, 2007 to the level of 6.39%). However, of course a dramatic increase in the interest rates may have devastating effects on the Chinese economy; this is perhaps why the Central Bank has gradually increased the interest rates over a course of five times since October 29, 2004.
This recent move by the Central Bank is very important, as investment must be discouraged in China. First off, China's current rate of economic expansion--fueled by investment--is unstable; will China be able to grow at an outstanding rate of 10.7% (this is last year's rate of expansion) ten years from now? I don't think so. In addition, the current rate of economic expansion is environmentally dangerous. According to Jared Diamonds in his "Collapse," China is the greatest polluting nation. As a result, despite China's outstanding economic performance, the benefits can be overshadowed by the costs, in other words the negative externalities, including but not limited to pollution, exacerbation of global warming, air and water pollution (just observe the rate at which cases of asthma occur has increased in Shanghai and how much heavy-metal are found in the blood of fish caught in Chinese waters).

1) Weigh the two arguments regarding unemployment in Europe. Is unemployment high because of high natural rates of unemployment or because of deficient aggregate demand?

I will attempt to address this question despite my lacking knowledge in the economic condition of Europe. Now, Europe—unlike Asian countries—has excellent welfare conditions. By that I mean that when a person in Europe is fired, he has the opportunity to try and reintegrate himself back into the workforce by reeducating himself (with the financial help of the government) in a new field of work; however, even if he chooses not to actively seek reeducation, he will still receive monthly off-job-payments from the government. This is much unlike Asian countries. In the case of Korea, when a person loses his job, the government only provides him with two-month-worth of meager financial assistance. Thus, Europeans do not face as much “financial danger” as the Asians do, and thus have fewer incentives to quickly find a job. That is perhaps why European countries have high natural rates of unemployment.

Additionally, just observe the working conditions of many European countries (now, by this, I am referring to mainly Western European countries, not Eastern countries). Workers in these nations are required to work for a less amount of time than Americans or Chinese by law. On top of that, Europeans have 30~40days of paid vacation, compared to a maximum of two weeks of paid vacation in the USA (I think it’s two weeks if I remember correctly…). Because European workers work less hours than Americans, it is inevitable that European workers produce fewer total output than Americans do. As a result, in order to produce as much total output as the American firms do, European firms must hire more workers—which would increase their production costs—thereby discouraging the firms from employing workers. These lead to a higher natural rate of unemployment.

Now, although I am not learned in the economic condition of Europe, I—after having contrasted European working conditions with that of America or those of Eastern Asian nations—believe that high natural rates of unemployment play the chief role in keeping unemployment rates in Europe at low levels.

2) Explain the experience of the US between 1996 and 2000 when the economy was at greater than full employment with high GDP growth while maintaining low rates of inflation. What allowed this so-called “New Economy” to occur, and what brought it to an end in 2001?

Now, theoretically, if a nation’s economy is at higher than full employment, higher inflation should be triggered. If the aggregate demand curve shifts to the right, it will intersect the aggregate supply curve at a new equilibrium. This new equilibrium will be of greater quantity of output and of higher price than the original equilibrium. Because the price levels increase as a result of an increase in demand, the resulting inflation is a demand-pull inflation. However, in the case of the USA, demand-pull inflation did not ignite at all: it remained at very mild levels. How was this possible?

The fact is that during the period between 1996 and 2000, aggregate demand curve was not the only one to shift to the right (increase). The aggregate supply curve has also shifted to the right (increased) as a result of a surge in productivity, fueled by the burst of new technology, including, but not limited to “computers, the Internet, inventory management systems, [and] electronic commerce” (remember, productivity is a determinant of AS) (McConnell Brue). As the AS curve shifted to the right (increased), it intersected with the AD curve at another new equilibrium point, one in which involves greater quantity of output but lower levels of price than the second equilibrium point. As a result, although quantity of output (both supplied and demanded) increased dramatically, price level only increased slightly, creating only a mild demand-pull-inflation.

However, in 2001, the salubrious economy experienced a turn when the “New Economy” came to an end. Because of substantial decrease in investment spending, aggregate demand curve shifted to the left (decreased), decreasing quantity of output (and hence the GDP). In addition, in March 2001, the USA experienced a recession, which was exacerbated by the 9/11 tragedy (which also dampened private spending, further shifting the aggregate demand curve to the left). This increased unemployment rates, which further shifted the aggregate demand curve to the left (this is because unemployed people, facing a halt of income, will be compelled to borrow money, augmenting household indebtedness; because that is a determinant of consumer spending, such behavior will decreasing consumer spending; because consumer spending is a determinant of aggregate demand, its decrease will decrease aggregate demand). These economic troubles brought along the end of the “New Economy.”

Mr. Welker,

Could you please read my article and tell me if the evaluation is sufficient or not?

Also, are overconsumption and underconsumption of goods/serviaces (above socially optimal level or below it) a market failure?

I. Abstract
Currently, a number of firms are developing commercially viable clean energy, and the article focuses on LiveFuels, a firm currently working to create biofuel from algae’s natural photosynthetic ability. Because such ventures are costly, venture capitalists and hedge funds have invested more than $2.4 billion in the clean energy business just last year.

II. Analysis
Although developing cleaner alternate sources of energy on a commercial scale is a costly project, “hundreds, if not thousands” of firms have begun to do so for two major reasons. Firstly, oil prices have surged to “high levels” lately (P1 à P2). As a result, the demand for alternate sources of energy has increased (D à D1). This is because oil is a substitute to alternate sources of energy, and a substitute’s price is one of the product’s determinants of demand, which can shift the product’s demand curve outwards: if a substitute’s price increases (P1à P2), the demand for the product will increase (DàD1).

Market for Oil Market for Clean Energy

Secondly, many are recognizing the negative externalities created by conventional forms of energy (oil). Negative externalities occur when the production or consumption of a good or service adversely affects a bystander, who is neither involved in the production nor the consumption. In the case of oil, its consumption creates pollution, which may adversely affect society (the bystander) through problems such as global warming, worsening health conditions, or the destruction of natural ecosystems. Because these problems are caused by the consumption of oil by the consumers, oil consumption creates negative externalities of consumption. As a result, the marginal social benefit (MSB) is less than the marginal private benefit (MPB) at all levels of consumption as observable in the diagram to the right (MPB is the demand curve based on the consumer’s utility, while MSB is the demand curve which includes MPB and the external costs or benefits of consumption). This is because private benefit diminishes in the society level as a result of the negative externality. Thus, although consumers will maximize their utility by consuming at Q1 (where MPB = MSC), the socially optimal (or efficient) level will be at Q2 (where MSC = MSB). Because Q1 is greater than Q2, there is an over-consumption, and hence a market failure. In the “over-consuming levels” (between Q2 and Q1), MSC will be greater than MSB, creating a welfare loss to society (shaded green).

(I have no idea why the image is so small)

In order to help decrease consumption of oil (so that consumption level will drop to the socially efficient level of Q2), many firms are now developing cleaner alternate sources of energy, such as algae. Unlike oil, algae biofuel may yield positive externalities of consumption. Unlike negative externalities of consumption, this occurs when the consumption of a good or service benefits a bystander. In the case of algae biofuel, its consumption benefits society (the bystander): it may reduce pollution and may be renewable unlike oil. Because the benefits society face is greater than the benefits an individual face due to external benefits, the MSB will be greater than MPB at all levels of consumption as observable in the graph below.


(TIRED OF POSTING GRAPHS; I HATE HOW THE SCRIPT KEEPS SCREWING UP THE FORMAT)

As a result, while consumers will maximize their utility by consuming at Q1 (where MPB = MSC), the socially optimal (efficient) output is at Q2 (where MSB = MSC). Because Q1 is less than Q2, there is an under-consumption, and hence a market failure. In the “under-consuming levels” (between Q1 and Q2), MSB will be greater than MSC, creating a potential welfare gain to society.

III. Evaluation
However, because of a lack of consumption, such potential welfare gain may not be achieved. That is why the government should intervene in order to increase the consumption of this merit good and hence the benefits to society. Merit goods are underprovided and under-consumed (by the free market) goods, which the government believes provide benefits to the consumers and society (positive externalities) and thus should be provided and consumed at a greater level. To do so, the government should firstly subsidize the algae biofuel firms; this will shift the MSC curve outwards, so that the consumption increases from Q1 to Q2 (graph below), increasing societal welfare. Secondly, the government can try to shift the demand curve (MPB curve) outwards through the determinants of demand. Increasing consumers’ preference for algae biofuel through campaigning; decreasing the cost of complements (such as biofuel-run machines) by subsidizing them; or increasing the cost of substitutes (such as oil) by taxing them are all viable methods the government can employ. This may then shift the MPB curve up to where the MSB curve is (graph above), increasing the supply and consumption from Q1 to the socially optimal level of Q2; this will increase societal welfare gain.

Econ portfolio

Mr. Welker,
I am currently stuck with my Econ analysis. I am having trouble grasping the concept of negative externality. Please read my draft.

I. Abstract
Currently, a number of firms have begun to develop commercially viable cleaner alternate sources of energy, and the article focuses on LiveFuels, which is currently working to create biofuel from algae’s natural photosynthetic ability. Because such ventures are costly, venture capitalists and hedge funds have invested more than $2.4 billion in the clean energy business just last year.

II. Analysis
Although developing cleaner alternate sources of energy on a commercial scale is a costly project, “hundreds, if not thousands” of firms have begun to do so for two major reasons. Firstly, oil prices have surged to “high levels” lately (P1 à P2). As a result, the demand for alternate sources of energy has increased (D à D1). This is because oil is a substitute to alternate sources of energy, and a substitute’s price is one of the product’s determinants of demand, which can shift the product’s demand curve: if substitute’s price increases (P1à P2), the demand for the product will increase (DàD1).

Market for Oil Market for Clean Energy

(graphs ommitted due to temporary malfunctioning of google docs)


Secondly, many are recognizing the negative externalities created by conventional forms of energy (oil). Negative externalities occur when the production or consumption of a good or service adversely affects a bystander, who is neither involved in the production nor the consumption. In the case of oil, its consumption creates pollution. Along with pollution arise a number of problems, which adversely affects society (the bystander): worsening health conditions, global warming, destruction of natural ecosystems, and the diminishing beauty of the environment. These are what create negative externalities, and as a result, the social cost is greater than the private cost and as a result, external costs (faced by society) must be added to existing private costs in order to accurate reflect the full cost faced by society.

Because this is a negative externality of consumption (for consumption of oil creates the negative externality), the marginal social benefit is less than the marginal private benefit. Marginal private benefit is the demand curve based on the benefits consumers face, while marginal social benefit is the demand curve which includes those benefits along with the external costs society faces.
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this is where i got stuck. now according to the packets you gave us, negative externality causes the social cost to increase because the private costs and the external costs must be taken into account in order to determine the full costs of society. THEN, there comes my last paragraph (which I added as an after thought). According to the IB-textbook-whatever packet you gave us, there are four types of externalities, with negative externalities subdivided into two types: one of production and the other of consumption. Now, if its negative externalities of consumption, the text states that the social cost does not increase, but instead the social benefit decreases. Taking these two concepts into account, I am confused. I just can't seem to fit them together. Also, the two just seems so different that it does not make sense that they both refer to negative externalities.

or is this not negative externality of consumption at all? I thought it is the consumption of oil, gasoline by consumers that exacerbates the pollution... did i mistake negative externality of production as consumption? If so how is it not consumption?

as you can see, i am tres tres confused.

i wait thou response
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note to self:
so, the mankiw packet fails to cover negative externalities of consumption. thus, refer to IB handout. negative externalities of consumption. so when talking about negative externalities and defining it, dont talk about it in terms of social cost being greater than private cost. just omit that. instead focus on talking about social benefit being less than private benefit.
oil creates negative externalities of consumption because it is the consumption of oil that creates the pollution. the driving of cars.
so consider: taxing oil. increase prices and it will decrease demand for oil. this will shift the supply curve inwards.
or consider the determinants of demands that will shift the demand in. increase the dangers about oil, increase prices of complements such as cars, etc.
then talk about the positive externality of consumption of clean energy.
then talk about what the government still has to do. (which is essentially what i wrote above.) in addition, the government can subsidize clean energy so that the level of output increases, so that consumers can consume it, and decrease the prices of the clean energy.

Tentative article for portofolio..

Now, this is an interesting article I found. Discusses a prospective alternative source of energy, algae, which will yield positive externalities. It also mentions (although briefly) some other conventional sources of energy that yield negative externalities.

But, I am not sure if this article is enough for an economic analysis.. any feedback?
===================================================================

March 7, 2007

Venture Capitalists Want to Put Some Algae in Your Tank

By CLIFFORD KRAUSS

NILAND, Calif. — The idea of replacing crude oil with algae may seem like a harebrained way to clean up the planet and bolster national security.

But Lissa Morgenthaler-Jones and her husband, David Jones, are betting their careers and personal fortunes that they can grow masses of the slimy organism and use its natural photosynthesis process to produce a plentiful supply of biofuel.

A few companies are in a race to be first to convert algae to fuel on a commercial scale, and it will require not a small amount of money, luck and biotech tweaking.

“You have a vintage here that you are not sure is going to mature into anything good, and you are putting money into it on the off chance that it might,” Ms. Morgenthaler-Jones, acknowledged during a drive the other day to an algae-filled catfish farm in this secluded desert town.

Like thousands of other pioneer venture capitalists over the last two years or so, these two San Francisco Bay area investors have trolled through the dizzying, complicated world of renewable fuels — from wave power, to hydrogen fuel cells, to lithium batteries, to cow manure for making methane. And just like their predecessors of the dot-com boom a decade ago, they have come up with their very own gamble, started their own company, called LiveFuels Inc., and are now negotiating with other potential venture capital partners.

What is different, though, about Ms. Morgenthaler-Jones and this latest entrepreneurial wave is that the search is for something that both produces profits and offers something good for the environment. One goal, for instance, is to find an energy-efficient way to convert algae into fuel, which is why she was visiting a catfish farm here that was for sale. Farmed catfish could provide a useful source of carbon dioxide for the algae, as well as a critical revenue flow to keep research going. The timing may be just right. With oil prices at high levels and fears of global warming growing, the old world of conventional hydrocarbon energy has been joined by an alluring new array of alternative-energy gadgetry, technical wizardry and potential riches. But there are still many more blind alleys than successes, and sleepless nights go with the territory.

There are hundreds, if not thousands, of start-ups in the alternative-energy business, some so tiny they are run out of home basements. But the bigger ones are beginning to take off. A handful are now building at least three demonstration plants to convert wood chips and grasses into ethanol in the United States and Canada.

Meanwhile, venture capital firms and hedge funds are financing the construction of new plants to produce biodiesel fuel out of vegetable oil, larger and more durable wind turbines and new materials to make cheaper solar cells.

While still on the fringes of the energy mix, United States venture capital flowing into clean energy leapfrogged to more than $2.4 billion in 2006, well more than double that invested in 2005, and more than triple from 2004, according to Clean Edge, a research and consulting firm. The numbers are still small compared with the research budgets of the big oil companies, but the ascent of venture capital in renewable energy has reminded some Silicon Valley venture capitalists of the early flow of money into the Internet in the mid-1990s.

“Venture capital in energy has reached a critical mass,” said Daniel Yergin, the energy historian and consultant. “Enough is happening so that significant things will come out of this. With the same intent to do in energy what they did in biotech, they bring not only money and discipline, but they are results-oriented.”

One Seattle-based start-up, Prometheus Energy, attracted enough equity capital in the last three years to open a plant in Orange County, Calif., in January that for the first time produces liquid natural gas commercially out of landfill methane gas that would otherwise waft greenhouse gases into the atmosphere. Another venture capital favorite, Jadoo Power of Folsom, Calif., has already pioneered portable hydrogen fuel-cell technology for remote satellite phones, critical emergency radio communications and police surveillance, and it is now working on cells for home use to free customers entirely of their utility bills.

“I can honestly say that for the first time in my life we are seeing the venture capital community put sizable amounts of money into energy,” Energy Secretary Samuel W. Bodman said in a speech in Houston last month. “This is real money. They are betting, if you will, that clean, safe, affordable energy represents the new innovation frontier.”

To this group add LiveFuels, with its improbable company jingle that goes “from pond to pump.”

“If the U.S. put 15 million acres of desert into algae production, we could produce enough volume of liquid fuels to get us off the Middle East oil addiction and give Iowa back to the songbirds,” said B. Gregory Mitchell, an algae research biologist at the University of California, San Diego, who is a friend of Ms. Morgenthaler-Jones and Mr. Jones.

The company projects that in three years it can produce some biofuel, which theoretically could eventually be produced in quantities of as much as 20,000 gallons of fuel a year per acre of algae.

The road to algae has been far from straight for Mr. Jones, and Ms. Morgenthaler-Jones, who comes from a family of venture capitalists and started her own clean energy venture capital fund in 2004. It culminated more than two years of reading and research, tracking down and talking to scientists and attending energy and venture capital gatherings, where Ms. Morgenthaler-Jones has a habit of munching on chocolate-covered strawberries while doodling molecular diagrams of fatty acids during the duller lectures.

They looked at investing in wave energy but decided that corrosion from salt water and unpredictable weather made it unreliable. They looked at investing in hydrogen fuel cells but decided that they were too expensive for generating stationary power and too fragile to install in cars.

They looked at wind energy but decided it could not beat the price of power from coal anytime soon, especially with Congress’s past habit of allowing production tax credits to lapse whenever the price of oil dropped and the sense of urgency faded. They looked at solar but concluded that it would be tough to compete with venture capitalists experienced in semiconductors already pouring into the field.

They came close to investing in a cellulosic ethanol company that had designed machinery to turn sugar cane or wood chips into a synthetic gas. But after talking to experts, they concluded that the scientist behind the firm was promising more than he could deliver.

Ms. Morgenthaler-Jones spent months visiting dairy farms around the country to see if there might be a good business opportunity in converting cow manure into methanol.

“Oh, boy! Do you smell it?” she said. “I was tramping around in manure and admiring five-acre manure ponds.” But what bothered her most were the regulatory and cost hurdles to making the business work.

“For most of these alternative fuels, you need a perfect confluence of technology, regulation and market conditions,” she said.

During her research, Ms. Morgenthaler-Jones found a decade-old government study on algae that lost funding during the Clinton administration. It was a moment that led her to more conversations with algae specialists. The slime, she concluded, showed real potential.

And since Ms. Morgenthaler-Jones and Mr. Jones both had prior business experience in biotechnology, they founded LiveFuels as an algae business last February. She became chief executive, and he, chief financial officer.

Since its founding a year ago, the company has not attracted outside capital, much less made any money. They need $45 million in seed money. LiveFuels has survived so far with nearly $1 million of family money to pay two full-time and two part-time employees and to rent laboratory space outfitted with a centrifuge and microscopes to research algae DNA.

But the fledgling company caught the attention of the energy world in recent months when it formed partnerships with two Energy Department national laboratories to help revive the government’s moribund algae energy research. The couple are now negotiating with several investors, whom they would not identify.

At the catfish farm recently in the dusty Imperial Valley, they and three advising scientists peppered the owner with questions about the salinity of the water in the ponds, local water rights, evaporation and drainage. LiveFuels would have to use biotechnology to make stronger, fecund and more productive strains of algae to be superheated or pressurized into fuel.

Geothermal activity under the desert could provide a free source of carbon dioxide to bubble up for the algae to absorb and convert into organic matter to process as fuel. But fish farming, the scientists warned, would not be a sure-fire profit-maker and could prove to be more of a diversion of time and capital than an asset.

By the end of a long day, the couple were still not sure whether to invest in the fish farm or not, and this was their fourth visit.

Last month at a biodiesel conference in San Antonio, when Ms. Morgenthaler-Jones met Peterson Conway, an executive with the GreenFuel Technologies Corporation, a competing algae company, he jokingly asked her, “Do you think some day we’ll look at this as rabbit farming or the holy grail?”

1. Explain how the reference to “repeat offenders” in the news story highlights the issue of market failure.

The “repeat offenders,” as referred to in the news article, are firms who continuously pollute the environment to a severe degree. These firms pollute more than they are supposed to, mainly because they are over producing the goods. This is essentially what causes the market failure. The overallocation of resources to the production of the certain product (for the market-equilibrium-quantity of the firm is much greater than the socially-optimal-quantity) is a symptom of market failure, as resources are not allocated efficiently.

2. Discuss the degree of success experienced by the Environment Agency in dealing with cases of environmental damage. Cite at least two case study examples to illustrate the points you are making in your answer.

The Environment Agency has been quite successful last year in dealing with cases of environment agency. For instance, after it has begun its work with water companies in order to improve the quality of water (by regulating sewage discharges), the quality of bathing water has increased. For example, according to the EA, in 2005, 99% of the waters in England complied with the EC Bathing Water Directive mandatory standards, demonstrating a 21% increase since 1990. In addition, with its stringent waste management program, the Environment Agency has decreased the number of serious pollutions in England by over 25% just last year.

3. Consider the solutions to the problem of market failure in this context and examine the case for and against each measure. Support your answer with appropriate examples.

1) Corrective taxes

Corrective tax essentially is a tax on a firm’s pollution: the more the firm pollutes, the more it will be taxed. Thus, the corrective tax is an incentive for firms to produce less (and closer to the social optimum) in order to incur fewer losses (due to the taxes). Also, not only will a corrective tax discourage the firm from producing, but it will also encourage the firm to seek out for cleaner and environment-friendly methods of production. However, this method has its flaws. Firms, which consider it more profitable to pay taxes rather than decrease their production will continue to do so. Take the example of the “repeated offenders” in the article; they continue to pollute the environment through excessive production and pay the taxes because the firms find it more economically beneficial to produce, pollute, and be fined rather than decrease their production. Thus, in this sense, the corrective taxes fail to achieve its primary purpose.

2) Financial incentive to invest in appropriate technology

This method may be effective if the incentive is greater than the benefit the firms receive from continuing to produce the way they do. For example, if the firm finds that the benefits of investing appropriate technology, which is more environment-friendly (for example get financial subsidies if they invest or evade taxes by ceasing to use environment-hostile technology), is greater than the profit they make by producing the way they do, they will invest, reducing pollution. However, if the incentive is not greater than the economic profits (from the way they produce now), then it will continue to produce the way they do (environment-hostile), still creating pollution. This is like the case of the “repeated offenders”: although they have continuously been taxed, they preferred to continue producing and polluting rather than seeking out for other technology.

3) Tradable permits

This method of pollution-reduction is economically efficient. First of all, the government will regulate the amount of pollution each firms may make by issuing pollution permits, essentially the amount of pollution each firms may make. However, not all firms are equal: some firms find it inexpensive to cut down on pollution while some firms find it much more expensive to cut down on pollution. Thus, this method allows the firms who can easily cut down on pollution to sell its pollution permit (which it did not use, for it cut down its pollution) to the firm that has trouble reducing its pollution. That way, pollution may be reduced in a cost-effective way.

4) Extension of property rights

Essentially, according to this theory, a firm may be fined for polluting an area that belongs to someone else (just as an individual will be fined for damaging someone else’s property). While this method may deter firms from polluting, for they would be fined every time they polluted someone else’s territory, it may not work as well as the other methods. This is because unlike actual property (houses, for example), it is difficult to determine who the owner is for natural territory, such as streams, and especially more so with air. But, it must be acknowledged that the Environment Agency did actually succeed in gaining “ownership” of natural territories, so that they may fine firms who pollute them.