Robert Ingenito University of Southern California
Fall 2008 School of Policy, Planning, and
Development
(916) 319-8365
PPD 501A:
Public Sector Economics
Public sector economists are concerned with understanding the implications of government spending and taxation on the behavior of individuals and on the performance of the economy. In this course you will come to understand the effects of various government policies by first developing a framework of basic economic theory. PPD 501A will begin with a general introduction to the theory of the behavior of firms and consumers and of markets. As we develop these economic models, we will consider how particular actions taken by the government theoretically and empirically affect market outcomes. The companion course, PPD 501B, explores market failures, where the actions of the government can result in more efficient outcomes. Additionally in that course, we will discuss macroeconomic concepts and theory.
My goals for you are:
· To gain a firm grasp of economic concepts and to understand how they can apply to policymaking, your understanding of current events, and to your own life.
· To become familiar with recent research on current topics in public sector economics.
· To gain an appreciation for the value of economic reasoning and research as it can apply to policy decisions, but to also recognize the limitations of its application.
You are expected to come to class prepared to participate in class discussions. Completion of required readings prior to class meetings is crucial to your understanding of the material, and necessary for your contribution to the learning environment. You must also be aware of current events, preferably through reading the Wall Street Journal, the New York Times, or the Los Angeles Times. An excellent source of California-specific public policy information is the Rough & Tumble internet site (www.rtumble.com), which provides daily links to articles in all the State’s major newspapers and blogs.
All students are expected to adhere to the University Student Code of Conduct outlined in SCampus. If you have questions regarding plagiarism and the appropriate way to give credit to sources in any work you submit, review SCampus or confer with the instructor.
Course Assignments
Your grade for the course will be based on class participation (10%), memos (5%), problem sets (40%), and a final exam (45%).
Class Participation (10%): One of the best ways to solidify your understanding of economic concepts is through trying to explain those concepts to others. You will have this opportunity through class discussion and in-class exercises (not graded).
Memos (5%): Prior to class meetings on days when articles from the reader (available at the USC Los Angeles campus bookstore, along with the textbook) are assigned, you will prepare a one-page memo discussing the articles you read for that day. This memo should convey your reaction to the article(s), and provide a study tool for you when you prepare for the final exam. It should also focus your thinking on aspects of the article(s) that will be interesting to raise in class discussion. Memos should summarize the methods and findings of the researcher, and should convey the relevance of the research to policy. Notice that the memos are a very small portion of your grade. After reading the articles, the memos should not take too much time. The memos are not to be handed in until the material has been discussed in class.
Problem Sets (40%): Two problem sets will be completed during the semester as another method of reinforcing your understanding of the material. These take-home problem sets will be completed before each weekend. I encourage you to work together on the problem sets. Additionally, in-class exercises will be done during both weekends; we will review these together, and they will not be graded.
Final Exam (45%): The final exam will be part in-class and part take-home (without collaboration). The take home portion must be postmarked by December 10th.
Course Schedule
Readings are listed for each day in order to give you an idea of the topics to be covered. It is recommended that you complete all readings for a weekend prior to Friday and then review the readings the day before class. The text for the course is Pindyck and Rubinfeld’s Microeconomics. The fourth, fifth, or sixth edition is acceptable. You may skip starred (*) sections and appendices of the text unless otherwise noted. Articles from the course reader will provide examples of current research topics in public sector economics. These articles often include math that is difficult to understand. You do not need to spend a lot of time trying to understand the math. You can skim these portions.
Weekend 1 (November 21 - 22)
Friday:
Introduction to Supply and Demand Analysis, Consumer Behavior, and the Basics of Regression
1. Chapters 1, 2, 3, and the Appendix on regression from Pindyck and Rubinfeld.
2. Currie, Janet and Duncan Thomas, “Does Head Start Help Hispanic Children,” NBER Working Paper: 5805, October 1996, 35 pages.
Problem Set 1 due
Memo on Currie & Thomas due
Saturday:
Individual and Market Demand, Choice Under Uncertainty
1. Chapters 4 and 5 from Pindyck and Rubinfeld. If you have taken calculus, I encourage you to read the appendix to chapter 4. Though it is not required, it will provide a more complete presentation for those who are comfortable with calculus.
2. Eissa, Nada and Jeffrey Liebman, “Labor Supply Response to the Earned Income Tax Credit,” Quarterly Journal of Economics, 111(2), May 1996, pages 605-637.
3. Hubbard, Glenn R. and Jonathan S. Skinner, “Assessing the Effectiveness of Savings Incentives,” Journal of Economic Perspectives, 10(4), 1996, pages 73-90.
Memo on Eissa & Liebman, and Hubbard & Skinner due
Weekend 2 (December 5 - 6)
Friday:
Production and Profit Maximization under Perfect Competition
1. Chapters 6, 7, and 8 from Pindyck and Rubinfeld.
Saturday:
Analysis of Competitive Markets, General Equilibrium, and Efficiency
1. Chapters 9 and 16 from Pindyck and Rubinfeld.
2. Moffitt, Robert, “Incentive Effects of the U.S. Welfare System: A Review,” Journal of Economic Literature, 30(1), March 1992, pages 1-61.
Memo on Moffitt due
Readings for PPD 501A
Fall 2008
Prior to reading these selections, read the Appendix in Pindyck and Rubinfeld on the basics of regression. As you read, consider the assumptions the researchers are making and the implications of their research on policy. Comments on and questions regarding each of the articles are provided to help you focus your reading on important aspects of each paper. Prior to each class meeting prepare a one page memo discussing the articles you read for that day. This memo may address questions posed here and should convey your reaction to the article. Memos should summarize the findings and methods of the researcher and should convey the relevance of the research to policy.
Currie, Janet and Duncan Thomas, “Does Head Start Help Hispanic Children,” NBER
Working Paper: 5805, October 1996, 35 pages.
Currie and Thomas want to discover the effect of Head Start on child outcomes. A simple comparison of Head Start children to children not in Head Start will not provide the desired information because children are selected for the program based on their circumstances. To isolate the effect of Head Start, Currie and Thomas use a fixed effects regression analysis, one variant of ordinary least squares. This allows them to compare children from the same family, one who attends Head Start or preschool, and another who does not. Adding a dummy variable for each family controls for all family characteristics that are fixed over time. The fixed effects analysis controls for this unobserved heterogeneity. “Unobserved heterogeneity” is variation across families that can not be observed in data. For example, observed heterogeneity may be differences in income and education across families for which data are available, but unobserved heterogeneity would include differences in parenting skills or attitudes toward learning.
Do you believe that this study provides conclusive evidence in favor of the Head Start program? Are their measures of child outcomes useful and are you convinced that Head Start could provide benefits to the child throughout his/her education and career?
Eissa, Nada and Jeffrey Liebman, “Labor Supply Response to the Earned Income Tax
Credit,” Quarterly Journal of Economics, 111(2), May 1996, pages 605-637.
As you read this article, pay special attention to the effect of the Earned Income Tax Credit (EITC) on the budget constraint and consider how this change in the budget constraint would theoretically affect the decision to work and hours of work. Consider income and substitution effects for an individual who did not work before the EITC and for an individual who did work before the EITC. Try to graph the indifference curves and the budget constraint on a graph similar to the one on page 609.
Eissa and Liebman use a probit regression. The probit regression is used when the dependent variable (in this case, labor force participation, [lfp]) takes on values of only zero and one. If the woman works, lfp equals 1, if she does not, lfp equals 0. The regression will provide coefficients that describe how changes in the independent variables affect the probability of labor force participation. Because probabilities are restricted to values between zero and one, this special regression is used.
Hubbard, Glenn R. and Jonathan S. Skinner, “Assessing the Effectiveness of Savings
Incentives,” Journal of Economic Perspectives, 10(4), 1996, pages 73-90.
How do savings incentives affect capital accumulation? What are the effects of IRAs and 401(k)s on total family savings? Discuss the cost benefit approach the authors use to assess the effectiveness of savings incentives. What market failure is the government trying to overcome through IRAs and 401(k)s? Do you believe there is a valid economic justification for these incentives?
Using a lifecycle model of consumption, consider how changes in savings incentives affect the budget constraint for an individual choosing consumption in two periods, where the individual works in period 1 and is retired in period 2. Rather than placing two goods on the axes of your graph, put consumption in period 1 on the horizontal axis and consumption in period 2 on the vertical axis. The individual earns ‘I’ in period 1, and nothing in period 2. Find the budget constraint by considering the option the individual has to consume now or save for period 2. It is easiest to find the budget constraint if you consider the possibility of consuming nothing in period 1 and saving everything for period 2.
Moffitt, Robert, “Incentive Effects of the U.S. Welfare System: A Review,” Journal of
Economic Literature, 30(1), March 1992, pages 1-61.
Is the choice of our government to redistribute income to the poor an effort to achieve equity or efficiency? Is society necessarily going to achieve a more efficient allocation of resources after income redistribution? What does Aid to Families with Dependent Children (AFDC) do to the budget constraint of single women with children? Illustrate the effect on the budget constraint from changing the benefit reduction rate from 0 to 0.5. Why would this be a very expensive way of encouraging recipients to work? What would happen to the number of recipients?
PPD 501A Due: November 21, 2008
Fall 2008
Problem Set 1
Pindyck and Rubinfeld, Chapter 2
1. For each of the following, illustrate the impact of the event on a supply and demand diagram. You will shift either supply or demand. Label your graphs carefully.
a. Television Market: The advent of HDTV, or high definition television, makes traditional televisions less desirable. What happens to the price of traditional televisions? The quantity of traditional TV’s sold? Explain.
b. Milk Market: The fall in the prices of breakfast cereals has led to increased consumption of cereal. What effect would this have on the price of milk and the quantity consumed? Explain.
c. New Cars: American incomes have been rising during the recovery since the last recession. What effect would this increase in income have on the market for new cars? Explain.
d. Baseball Bats: What effect would an increase in the price of wood have on the price of baseball bats and the quantity consumed? Explain.
2. If the demand and supply schedules for a good are:
P qD qS
1 / 80 / 302 / 60 / 35
3 / 50 / 50
4 / 30 / 60
5 / 20 / 65
6 / 10 / 70
a) Calculate the price elasticity of demand if the price changes from $2 to $3. Is demand elastic or inelastic at this point on the curve? Show your work. (Hint: Use equation 2.1 from page 32 of the text.)
b) Calculate the price elasticity of supply if the price changes from $2 to $3. Is supply elastic or inelastic at this point on the curve? Show your work.
c) Would the demand curve be relatively flat or relatively steep between $2 and $3?
d) Would the supply curve be relatively flat or relatively steep between $2 and $3?
Chapter 3
3. a) Draw a budget constraint and an indifference curve for an individual who works in period one and is retired (earns no income) in period two. He consumes some of his income in period 1 and saves the rest of his income for period 2. Place consumption in period 1 on the horizontal axis, and consumption in period 2 on the vertical axis. He has to choose how much to consume now and how much to save for the future. Suppose he earns $1,000,000 in period 1 and receives 10% interest on any income saved for period 2. The interest is taxed at 30%. Draw his budget constraint, labeling the axes, and draw an indifference curve that maximizes his utility. Label consumption in each period, C1 and C2. Label savings in period 1. (Remember that any income that is not consumed is saved for period 2).