Problem 1
Consider a vehicle miles traveled (VMT) tax—a policy of charging motorists based on how many miles they have traveled. For example, an onboard vehicle device might be used to capture the distance driven by a vehicle through GPS or other technology, and then the government collects from drivers a specific tax per mile driven. In the market for miles driven by car, the marginal private benefits of miles driven by car are MB = 100 – Q/20, and the marginal private costs of miles driven are MC = Q/20 + 30. Here,the vertical axis is in terms of cents (US currency) and the horizontal axis (quantity) is in miles.
a) There are several different types of externalizes associated with driving. First, let’s focus on pollution.The marginal external costs (MEC) to the environment per mile driven are estimated to be: MEC =Q/60. Calculate the competitive (Qc) and socially optimal level of driving taking into account the externalizes from pollution (Qs). Draw a well-labeled graph including all relevant lines (“curves”).
b) Shade in the total social surplus from driving the socially optimal number of miles. Shade in the dead weight loss (DWL)—the negative social surplus—when the equilibrium level of driving does not take into account the external costs.
c) If the government were to implement a specific VMT tax, what is the optimal amount of the tax using only the information in this problem so far? Include the tax in your graph (by drawing the new supply curve with the graph). What happens to the negative surplus from the externalize with this tax in place?
d) Some state or city VMT tax proposals charge higher taxes during rush hour. What driving-related externalize would charging rates at different times of day help?
e) Conceptually, how would you determine how much higher the tax should be during rush hour relative to other times of day?
f) Would it make sense from the standpoint of a corrective tax to charge more for larger vehicles? If so, briefly explain and include the specific externalize story you have in mind.

Problem 2
Before answering this problem, you should read (skimming much of it is ok) the 20 page report by the Congressional Budget Office (CBO) “Alternative Approaches to Funding Highways” (March 2011) linked on the course outline page. The CBO is a nonpartisan agency that produces economic analysis to support the US Congressional budget process.
a) In a few sentences, state why a vehicle miles traveled (VMT) tax is theoretically more efficient than a gas tax—particularly in terms of reducing externalizes related to driving.
b) The report assesses the extent to which fuel taxes and VMT taxes are regressive—or disproportionately burdensome to lower income people relative to resources. (A tax is regressive when the percentage of income spent paying for that particular tax is higher for someone in a lower income bracket compared with someone with a higher income). Briefly summarize the report’s findings on how the two types of taxes compare in terms of level of regressivity. Note that part of this assessment involves comparing the differential impact of each type of tax on rural and urban people.
Problem 3
1.A number of years ago in Washington DC there were problems with federal heating plants that also produced sulfur dioxide (a pollutant). The Environmental Protection Agency (EPA) proposed that the Government Services Administration (GSA), who owns the plants, must build higher smoke-stacks to disperse the pollution.
a). Assuming that the GSA is independently owned and provides heat in a perfectly competitive market, examine the welfare effects of the proposed policy. Will the smoke-stack policy enable production to reach a socially optimal point? What may be a more efficient policy?
b) Suppose instead that the EPA simply fined the GSA (or imposed a tax). Graphically, draw a graph with the supply and demand for production of heat, and include a marginal external cost curve (either flat or upward sloping). Use the graph to show an optimal tax. What is the welfare gain due to an optimal tax? Compare an optimal tax with a standards policy which states that production must be limited to some level Qs, which is less than the socially optimal level.
c) How does the ‘smokestack’ policy graphically compare to these two policies?
d). Since the GSA is actually a government organization, what complications arise in determining the welfare effects of a pollution control policy?
Product code:Economics-QA/9
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