Chapter #1

Economics

the study of how society manages its scarce resources

Rational people act only when the marginal benefit of the action exceeds the marginal cost.

True

Market Economy

An economic system where interaction of households and firms in markets determines the allocation of resources

Economics is the study of how? A. to fully satisfy our unlimited wants? B. Society manages its scares resources C. to reduce our wants until we are satisfied D. to avoid making tradeoffs E. society manages its unlimited resources

B. Society manages its scares resources

Suppose you find $20. If you choose to use the $20 to go to the football game, your opportunity cost of going to the game is? A. nothing, because you found the money B. $20 ( because you could have used the $20 to buy other things.) C. $20 ( because you could have used the $20 to buy other things) plus the value of your time spent at the game. D. $20 (because you could have used the $20 to buy other things) plus the value of your time spent at the game, plus cost of the dinner you purchased at the game. E. None of the above

C. $20 ( because you have used the $20 to buy other things) plus the value of your time spent at the game.

Tradeoffs are required because wants are unlimited and resources are? A. Efficient B. Economical C. Scarce D. Unlimited E. Marginal

C. Scarce

Raising taxes and increasing welfare payments? A. proves that there is such a thing as a free lunch B. reduces market power C. improves efficiency at the expense of equity D. improves equity at the expense of efficiency E. none of the above

D. Improves equity at the expense of efficiency

A rational person does not act unless the action? A. Making money for the person B. is ethical C. produces marginal cost that exceed marginal benefits D. produces marginal benefits that exceed marginal cost E. none of the above

D. Produces marginal benefits that exceed marginal cost

Which of the following involve tradeoff? A. Buying a new car B. Going to college C. Watching a football game on Saturday afternoon D. Taking a nap E. All the above are tradeoffs

E. All above are tradeoffs

Workers in the United States have a relatively high standard of living because the United States has a relatively high minimum wage.

False; workers in the United States have a high standard of living because they are productive.

In (a) and (b) above, and (c) and (d) above, which is the opportunity cost of which - college for work or work for college ? Corn for beans or beans for corn?

Each is the opportunity cost of the other because each decision requires giving something up.

A goal for a society is to distribute resources more equally and fairly. How might you distribute resources if everyone were equally talented and worked equally hard? What if people had different talents and some people worked hard, while others did not?

Fairness would require that everyone get an equal share. Fairness would require that people not get an equal share.

An auto manufacturer should continue to produce additional autos as long as the firm is profitable, even if the cost of the additional units exceeds the price received.

False; a manufacturer should produce as long as the marginal benefit exceeds the marginal cost.

In the short run, a reduction in inflation is caused by excessive growth in the quantity of money in the economy.

False; a reduction in inflation tends to raise unemployment.

An individual farmer is likely to have market power in the market for wheat.

False; a single farmer is too small to influence the market.

The United States will benefit economically if we eliminate trade with Asian countries because we will be forced to produce more of our own cars and clothes

False; all countries gain from voluntary trade

A tax on liquor raises the price of liquor and provides and incentive for consumers to drink more.

False; higher prices reduce the quantity demanded.

Adam Smith's "invisible hand" concept describes how corporate business reaches into the pockets of consumers like an "invisible hand".

False; the "invisible hand" refers to how markets guide self-interested people to create desirable social outcomes.

When the government redistributes income with taxes and welfare, the economy becomes more efficient .

False; the economy becomes less efficient because it decreases the incentive to work hard.

Farmer Jones has 100 acres of land. He can plant corn, which yields 100 bushels per acre, or he can plant beans, which yield 40 bushels per acre. He chooses to plant corn.

He gives up 10,000 bushels of corn.

Farmer Jones has 100 acres of land. He can plant corn, which yields 100 bushels per acre, or he can plant beans, which yield 40 bushels per acre. He chooses to plant beans.

He gives up 4000 bushels of beans.

To reduce the deficit and limit consumption of gasoline, the government raises the tax on gasoline by $2.00 per gallon.

Higher gas prices would reduce the miles driven. This would lower auto accidents , put less wear and tear on roads and cars, and reduce the demand for cars and road repairs.

Marginal Changes

Incremental adjustments to an existing plan

To help the homeless, the government places rent controls on apartments restricting rent to $10 per month.

Many renters would want to rent an apartment at $10/ month, but few landlords could produce apartment at this price, therefore this rent control would create more homelessness.

To help the "working poor," the government raises the minimum wage to $25 per hour.

Many would want to work at $25/ hour but few firms would want to hire low productivity workers at this wage; therefore it would simply create unemployment.

Is air scarce? Is clean air scarce?

No, you don't have to give up anything to get it. Yes, you can't have as much as you want without giving up something to get it ( pollution equipment on cars, ect.)

To raise the population of wolves, the government prohibits the killing of wolves.

Restrictions on killing wolves reduces the population of animals upon which wolves may feed- rabbits, deer, ect.

Opportunity cost is what you give up to get an item. Since there is no such thing as a free lunch, what would likely be given up to obtain each of the items below? Susan can work full time or go to college. She chooses work.

She gives up college degree and the increase in income through life that it would have brought her ( but doesn't have to pay tuition).

Susan can work full time or go to college. She chooses college.

She gives up income from work ( and must pay tuition).

To improve the welfare of American sugar beet growers, the government bans imports of sugar from South America.

South American growers have difficulty repaying their bank loans to U.S. banks. They turn to more profitable crops such as coco leaves and marijuana.

If the government printed twice as much money, what do you think would happen to prices and output if the economy were already producing maximum capacity?

Spending would double but since quantity of output would remain the same, prices would double.

Why is there a tradeoff between equity and Efficiency?

Taxes and welfare make us more equal but reduce incentives for hard work, lowering total output

Market Power

The ability of an individual or group to substantially influence market prices

Productivity

The amount of goods and services produced per hour by a worker

High and persistent inflation is caused by excessive growth in the quantity of money in the economy.

True

In the Wealth of Nations Adam Smith said, " It is not from benevolence of the butcher, the brewer, or the baker that we expected our dinner, but from their regards to their own interest." What do you think he meant?

The butcher, brewer, and baker produce the best food possible, not out of kindness, but because it is in their best interest to do so. Self-interest can minimize social welfare.

Monopoly

The case in which there is only one seller in the market

Why do you think air bags have reduced deaths from auto crashes less than we hoped?

The cost of an accident has lowered. This changed incentives so people drive faster and have more accidents.

What is the opportunity cost of saving some of your paycheck?

The items you could have enjoyed had you spend it (current consumption)

Water is necessary for life. Diamonds are not. Is the marginal benefit of an additional glass of water greater or lesser than an additional on carat diamond? Why?

The marginal benefit of another glass of water is generally lower because we have so much water that one more glass is of little value. The opposite is true for diamonds.

"Invisible Hand"

The principle that self-interested market participants may unknowingly maximize the welfare of society as a whole

Equity

The property of distributing output fairly among society's members

Efficiency

The property of society getting the most from its scarce resources

Phillips Curve

The short-run tradeoff between inflation and unemployment

Suppose on country is better at producing agricultural products ( because they have more fertile land) while another country is better at producing manufactured goods. (because they have a better educational system and more engineers). If each country produced their specialty and traded, would there be more or less total output than if each country produced all of their agricultural and manufactured needs? Why?

There would be more total output if they specialize and trade because each is doing what it does most efficiently.

Who is more self-interested, the buyer or the seller?

They are equally self- interested. The seller will sell to the highest bidder and the buyer will buy from of the lowest offer.

To reduce the consumption of drugs, the government makes drugs illegal.

This raises the price of drugs and makes selling them more profitable. This creates more gangs and gang warfare.

An unintended consequence of public support for higher education is that low tuition provides an incentive for many people to attend state universities even if they have no desire to learn anything.

True

Sue is better at cleaning, and Bob is better at cooking. It will take fewer hours to eat and clean if Bob specializes in cooking and Sue specializes in cleaning than if they share the household duties evenly.

True

To a student, the opportunity cost of going to a basketball game would include the price of the ticket and the value of the time we could have been spent studying.

True

When a jet flies overhead, the noise it generates is an externality

True

When economist say, "There is no such thing as free lunch," they mean that all economic decisions involve tradeoffs.

True

If we save more and use it to build more physical capital, productivity will rise and we will have raising standards of living in the future. What is the opportunity cost of future growth?

We must give up consumption today.

Opportunity Cost

Whatever is given up to get something else

Externality

When one person's actions have an impact on a bystander

Your car needs to be repaired. You have already paid $500 to have the transmission fixed, but it still doesn't work properly. You can sell your car "as is" for $2,000. If your car were fixed, you could sell it for $2,500. Your car can be fixed with a guarantee for another $300. Should you repair your car? Why?

Yes, because the marginal benefit of fixing the car is $2500- $2000-$500 and the marginal cost is $300. The original repair payment is not relevant.

Market Failure

a situation in which the market fails to allocate resources efficiently

Inflation

an increase in the overall level of prices in the economy

Business Cycle

fluctuations in economic activity

Scarcity

limited resources and unlimited wants