Consider a Market in Which There Is an External Cost

question 116

Multiple Choice

Consider a market in which there is an external cost. A tax can be used to arrive at the efficient market equilibrium because the tax will

• A) decrease supply of the good.
• B) increase supply of the good.
• C) decrease demand for the good.
• D) increase demand for the good.

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Definitions:

Put Option

A financial contract that gives the holder the right, but not the obligation, to sell a specified amount of an underlying asset at a set price within a specified time.

Hedge Ratio

The ratio of the size of a position in a hedging instrument to the size of the position being hedged, intended to minimize risk.

Black-Scholes

A mathematical model used to estimate the price of European-style options, factoring in variables such as stock price, strike price, volatility, time to expiry, and risk-free rate.

Long Call Option

A bullish strategy in which an investor buys a call option to profit from a rise in the price of the underlying asset.