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CHAPTER 1
Limits, Alternatives, and Choices
A. Short-Answer, Essays, and Problems
1. What is a brief definition of economics? What are the conditions that give rise to this definition?
2. What are the three interrelated features of the economic perspective?
3. What do economists mean when they say that “there is no free lunch”? Give another example to which this
statement applies.
4. Discuss a time when you experienced a business giving something away for “free.” Was this item really
free?
5. (Consider This) Some stores give “free” products to consumer. An economist would say the products are
not free. Why the difference?
6. Is rational self-interest the same thing as selfishness? Explain.
7. Use marginal analysis to explain why it is possible to “have too much of a good thing.” Use education as
an example.
8. (Consider This) How can the economic perspective help us understand the behavior of fast-food
consumers? Explain several insights it provides about customer behavior.
9. Discuss how an economist might use the scientific method to determine the effect of a change in price of
pizza on the quantity sold at the student union.
10. The distinguished economist Kenneth Boulding stated: “Theories without facts may be barren, but facts
without theories are meaningless.” Explain what he meant.
11. What are the distinctions made in the text among the terms “hypotheses,” “theories,” “laws,” and
“principles”?
12. Why are economic theories and principles imprecise? Shouldn’t they apply to everyone?
13. Explain the importance of the ceteris paribus or “other-things-equal” assumption.
14. “Bad theories are abstract and therefore unrealistic; good theories are fully realistic and fit all the facts.”
Evaluate.
15. “Gathering economic facts is futile unless accompanied by economic analysis.” Explain.
16. “To be sure, any theoretical model must be abstracted ‘from the richness and complexity of behavior.’
However, abstraction becomes falsification when it so simplifies human behavior as to leave it
unrecognizable and unexplained.” Explain.
17. Distinguish between microeconomics and macroeconomics.
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18. Below are six statements. Indicate whether each one pertains to microeconomics (MIC) or
macroeconomics (MAC).
(a) “Last year, IBM was the U.S. business with the most patents registered with the U.S. government.”
(b) “The U.S. economy grew at an annual rate of 4.2 percent last year.”
(c) “Snow in the northeast has reduced the number of holiday shoppers at clothing stores and clothing
prices are falling.”
(d) “More workers are being hired by the nation’s businesses.”
(e) “The U.S. economy imported more goods and services than it exported last year.”
(f) “New discoveries in medicine are leading to strong growth in the biotech industry.”
19. Below are six statements. Indicate whether each one pertains to microeconomics (MIC) or
macroeconomics (MAC).
(a) “The inflation rate in the United States hit its lowest level in the last twenty years.”
(b) “The profits of Microsoft rose 20 percent during the past quarter.”
(c) “Rains from El Nino again hit the California region causing severe flooding in farms. The prices for
citrus and produce are expected to rise sharply.”
(d) “The nation’s economy grew at an annual rate of 3.7 percent in the final quarter of the year.”
(e) “The trade deficit in the United States was $20 billion last month.”
(f) “General Motors plans to spend $800 million on a new automobile plant.”
20. Give one example of a positive economic statement and one example of a normative economic statement.
21. Explain the dual role of economics and economists, to inform the economy and advise on economic policy.
22. Below are six statements. Identify whether each is a positive or normative statement.
(a) The national economy grew at a 6.2 percentage rate in the last quarter as the economy continues to
recovers from the past recession.
(b) The unemployment rate fell to 5.7 percent this month, and is expected to fall to 5.5 percent next month.
(c) The rate of inflation should be reduced to zero to maintain the value of the U.S. dollar.
(d) The government should take action to reduce the prices of prescription drugs charged by drug
companies.
(e) Interest rates for home mortgages are at their lowest rate in thirty years.
(f) The Federal government should increase income taxes on the wealthy to reduce the budget deficit.
23. Below are six statements. Identify whether each is a positive or normative statement.
(a) The minimum wage would be increased so low-income workers can earn a living wage.
(b) The unemployment rate is too high and should be reduced through government actions.
(c) The rate of inflation was about 2 percent last year, a low for the past decade.
(d) The government should take action to break up the monopoly power of Google.
(e) Interest rates should be lower in the United States so that people can afford to build a home.
(f) The Federal government achieved a budget surplus for the first time in thirty years.
24. “Economists are scientists and therefore should not become involved in making value judgments which
policy formulation necessarily entails.” Do you agree?
25. “Economics cannot be scientific because it is based upon the value judgment that ‘more (output) is better’.”
Do you agree?
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26. What is shown by the budget line in a two-product (A and B) case? Describe what happens when there is a
change in income or the price of a product.
27. Suppose a consumer has a daily income of $48 and purchases just two goods, A and B. The price of A is
$8 and the price of B is $6. In the graph below, draw the budget line for the consumer. Indicate the area of
the graph that is attainable given the income and the area that is unattainable.
28. Below is the budget line for George. Answer the following questions based on his monthly budget
constraint.
a. Suppose the price of lattes is $4.00. What is George’s monthly income?
b. Based on the income found in Part A. What is the price of donuts?
c. Suppose the price of lattes increased to $5.00. Draw the new budget line.
d. Assume George’s monthly income changes to $60 (Keep the price of lattes at $4.00). Draw the new budget
line.
29. How will an increase in income affect the budget line for two goods, all other things equal?
30. Explain: “It is in the nature of all economic problems that absolute solutions are denied us.”
31. Comment on the statement from an opportunity cost perspective: “The major cost of going to college is the
$15,000 per year in tuition.” Assume that a person could have earned $30,000 a year if the person did not
go to college.
32. (Consider This) Why might it be a good economic decision for a person such as Ryan Seacrest or Mark
Zuckerberg to drop out of college? Give an economic justification for such a decision.
33. What is meant by the “economizing problem”?
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34. List the four resource categories and give a brief description of each.
35. What four basic functions does the entrepreneur perform for the economy?
36. What do economists mean when they say that economic resources or factors of production are scarce or
limited in supply?
37. Explain and evaluate: “If resources were infinitely abundant in relation to the demand for them, the
economizing problem would dissolve in a sea of affluence.”
38. “The relative scarcity of resources makes the operation of any economy a matter of choosing between
alternatives.” Explain.
39. “The two cornerstones of economics are the scarcity of resources and the multiplicity of wants. True
economy consists of deriving maximum want satisfaction from available resources.” Explain.
40. The production possibilities curve below show the hypothetical relationship between the production of food
and clothing in an economy.
Combination
Food
Clothing
A
0
4
B
7
3
C
13
2
D
18
1
E
22
0
(a) What is the marginal opportunity cost of producing the second unit of clothing?
(b) What is the total opportunity cost of producing the second unit of clothing?
(c) What is the marginal opportunity cost of producing the third unit of clothing?
(d) What is the total opportunity cost of producing the third unit of clothing?
41. The production possibilities curve below shows the hypothetical relationship between the production of
guns (national defense) and butter (social goods) in an economy.
Combination
Guns
Butter
A
0
4
B
14
3
C
26
2
D
36
1
E
44
0
(a) What is the marginal opportunity cost of producing the second unit of butter?
(b) What is the total opportunity cost of producing the second unit of butter?
(c) What is the marginal opportunity cost of producing the third unit of butter?
(d) What is the total opportunity cost of producing the third unit of butter?
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42. A production possibilities table for two products, grain and airplanes, is found below. Usual assumptions
regarding production possibilities are implied. Grain is measured in metric tons and airplanes are measured
in units of 1,000.
Combination
Grain
(metric tons)
Airplanes
(1,000s)
A
0
7
B
14
6
C
26
5
D
36
4
E
44
3
F
50
2
G
54
1
H
56
0
(a) Using the below graph construct a production possibilities curve from this information placing grain on
the vertical axis and airplanes on the horizontal axis.
(b) What is the opportunity cost of producing the first unit of airplanes? The marginal opportunity cost of
producing the fourth unit of airplanes?
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43. A production possibilities table for two products, corn and paper, is found below. Usual assumptions
regarding production possibilities are implied. Corn is measured in tons, and paper is measured per unit.
Combination
Corn
Paper
A
0
6
B
18
5
C
33
4
D
45
3
E
54
2
F
60
1
G
63
0
(a) Using the following graph construct a production possibilities curve from this information placing corn
on the vertical axis and paper on the horizontal axis.
(b) What is the marginal opportunity cost of producing the first unit of paper? The marginal opportunity
cost of producing the fourth unit of paper?
44. How are tradeoffs illustrated by the production possibilities curve? Consider the case of Federal
government spending on national defense and spending on social programs.
45. What is the economic rationale for the law of increasing opportunity costs?
46. Explain how increasing opportunity costs are reflected graphically in the production possibilities curve.
47. How is the most-valued or optimal point on the production possibilities curve determined?
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48. In the following graph, explain the relationship between marginal cost and marginal benefit at 1 million
units of output, 2 million units of output, and 3 million units of output for the production of computers. In
your explanation discuss the overallocation of resources, underallocation of resources, and optimal
allocation of resources for the production of computers.
49. Suppose the United States can produce cattle or corn with a given amount of resources. Below is a graph
depicting the production possibility frontier for the United States and the marginal benefit and cost of a
bushel of corn. Discuss the relationship between the marginal cost and marginal benefit of corn and the
production of both corn and cattle.
(a) Discuss the overallocation of resources, underallocation of resources, and optimal allocation of
resources.
(b) When operating at the optimal level of corn production, what is the optimal level of cattle production?
Why is this the optimal amount (why not more or less cattle)?
50. Comment: “We could do a better job of solving the economizing problem by setting our consumption goals
lower rather than by setting our production goals higher.”
51. (Consider This) Explain what happened to Iraq’s production possibilities curve as a result of: (a) the war
with the United States in 2003; and (b) the rebuilding of the nation after the war.
52. What changes must occur for the potential total output of the economy to grow?
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53. Look at the following production possibilities curve illustrating the possibilities in Sluggerville for
producing bats and/ or peanuts with the existing level of resources and technology.
(a) Show a point U that would indicate unemployed resources in Sluggerville.
(b) Draw a new curve B that illustrates the results of improved technology in the production of bats, but no
change in the production efficiency of peanuts.
(c) Show a point G that would indicate a point that is currently unattainable in the production of peanuts
and bats in Sluggerville.
54. Cattletown Steakhouse is a restaurant known for its steak meal and hamburger basket.
(a) Using the below graph draw a production possibility frontier exhibiting increasing opportunity costs.
(b) On the graph label the areas that are attainable and unattainable.
(c) On the graph label a point where resources are fully employed and one where they are underemployed.
(d) Suppose the patty machine (used to produce hamburgers) breaks down, increasing the time it takes to
produce a hamburger basket. Depict this situation on the production possibility frontier.
55. Economic growth is the result of what two factors?
56. What do economists mean when they state that investment is spending on “goods for the future”?
57. One application of the production possibilities concept has been to explain the difference in growth patterns
of a nation with a high level of investment (Alta) and an equivalent nation with a low level of investment
(Zorn). Use the concept to explain why Alta’s economic growth would be greater than that of Zorn over
time.
58. The production possibilities curve suggests that a nation cannot live beyond its means or production
potential. Explain why international trade would cause this statement to be modified.
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59. Explain how each event affects production possibilities.
(a) The population becomes more educated over time as the number of high school dropouts falls and the
number of college graduates rises.
(b) The unemployment rate declines from 7.3 to 4.5 percent of the labor force.
(c) Businesses and government are unable to solve a major computer problem, thus reducing economic
efficiency and national output.
(d) Advances in telecommunications and new technology significantly contribute to economic growth
over time.
(e) The Congress and the President decide to allocate more resources to national defense.
(f) A nation participates in increased international trade with other nations of the world.
60. Describe the adjustments in the production possibilities curves in each of the following situations for the
U.S. economy.
(a) the economy moves from full employment into a deep recession
(b) the economy makes great strides in eliminating discrimination
(c) the end of the cold war leads to cuts in military spending
(d) Congress significantly increases government spending for health and education
61. (Last Word) List and give examples of the five pitfalls to economic thinking.
62. (Last Word) Below are four statements. Each of them is an example of one of the pitfalls often
encountered in the study of economics. Indicate following each statement the type of pitfall involved.
(a) “July is the month with the most ice cream sales and also the month with the most drownings.
Therefore, the more ice cream people eat, the more likely they are to drown.”
(b) “Dry weather in the county where Farmer Brown lives decreased his income because his crop was so
poor. Therefore, when there is dry weather in the nation as a whole all farm incomes will suffer.”
(c) “I have to live within my income. Therefore, governments should not be allowed to borrow money.”
(d) “National health insurance plans are socialistic.”
63. (Last Word) What is the fallacy of composition? Give an economic and a non-economic example.
64. (Last Word) Explain the economic fallacy in the statement: “If the Jones family would just cut up their
credit cards and live within their means, they’d be better off. And if consumers in this nation cut up their
credit cards and lived within their means, the nation would be better off.”
65. (Last Word) Explain what the post hoc fallacy is. Give an example.
66. (Last Word) Explain the difference between correlation and causation and give an example.
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67. (Last Word) Suppose the following were facts relating years of education to average annual income of
individuals. Can you conclude that years of education cause income to increase?
Years of education
Income
0–10
$ 8,000
11–12
15,000
13–15
22,000
16–18
30,000
19–21
35,000
22 and over
52,000
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B. Answers to Short-Answer, Essays, and Problems
1. What is a brief definition of economics? What are the conditions that give rise to this definition?
It is the social science concerned with the efficient use of scarce resources to achieve the maximum
2. What are the three interrelated features of the economic perspective?
First, economics recognizes that there is a general condition of scarcity that forces individuals and society
to make choices. Human and property resources are scarce, so choices must be made about how best to use
3. What do economists mean when they say that “there is no free lunch”? Give another example to which this
statement applies.
Anything of any value that is offered for “free” still has a cost. Economists refer to this sacrifice as an
4. Discuss a time when you experienced a business giving something away for “free.” Was this item really
free?
5. (Consider This) Some stores give “free” products to consumer. An economist would say the products are
not free. Why the difference?
The products may be given free to the consumers for marketing purposes, such as to attract customers to
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6. Is rational self-interest the same thing as selfishness? Explain.
7. Use marginal analysis to explain why it is possible to “have too much of a good thing.” Use education as
an example.
This explanation is based on an evaluation of the marginal costs and marginal benefit of providing a good
or service. We may want more education for our society, but at some point the marginal cost of providing
8. (Consider This) How can the economic perspective help us understand the behavior of fast-food
consumers? Explain several insights it provides about customer behavior.
Several insights come from the economic perspective as it applies to this example: (1) People choose the
9. Discuss how an economist might use the scientific method to determine the effect of a change in price of
pizza on the quantity sold at the student union.
Answers may vary, but may include the following points. An economist would begin by observing the
10. The distinguished economist Kenneth Boulding stated: “Theories without facts may be barren, but facts
without theories are meaningless.” Explain what he meant.
11. What are the distinctions made in the text among the terms “hypotheses,” “theories,” “laws,” and
“principles”?
1-13
12. Why are economic theories and principles imprecise? Shouldn’t they apply to everyone?
13. Explain the importance of the ceteris paribus or “other-things-equal” assumption.
14. “Bad theories are abstract and therefore unrealistic; good theories are fully realistic and fit all the facts.”
Evaluate.
15. “Gathering economic facts is futile unless accompanied by economic analysis.” Explain.
16. “To be sure, any theoretical model must be abstracted ‘from the richness and complexity of behavior.’
However, abstraction becomes falsification when it so simplifies human behavior as to leave it
unrecognizable and unexplained.” Explain.
Critics of some economic theories make statements such as this. Their concern is that if economists
simplify their theories too much, they may be testing hypotheses that will be unworkable in the real world,
17. Distinguish between microeconomics and macroeconomics.
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Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent
of McGraw-Hill Education.
deals with the performance and behavior of the economy as a whole, including such major aggregates as
the household, business, and governmental sectors and with totals for the economy.
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18. Below are six statements. Indicate whether each one pertains to microeconomics (MIC) or
macroeconomics (MAC).
(a) “Last year, IBM was the U.S. business with the most patents registered with the U.S. government.”
(b) “The U.S. economy grew at an annual rate of 4.2 percent last year.”
(c) “Snow in the northeast has reduced the number of holiday shoppers at clothing stores and clothing
prices are falling.”
(d) “More workers are being hired by the nation’s businesses.”
(e) “The U.S. economy imported more goods and services than it exported last year.”
(f) “New discoveries in medicine are leading to strong growth in the biotech industry.”
19. Below are six statements. Indicate whether each one pertains to microeconomics (MIC) or
macroeconomics (MAC).
(a) “The inflation rate in the United States hit its lowest level in the last twenty years.”
(b) “The profits of Microsoft rose 20 percent during the past quarter.”
(c) “Rains from El Nino again hit the California region causing severe flooding in farms. The prices for
citrus and produce are expected to rise sharply.”
(d) “The nation’s economy grew at an annual rate of 3.7 percent in the final quarter of the year.”
(e) “The trade deficit in the United States was $20 billion last month.”
(f) “General Motors plans to spend $800 million on a new automobile plant.”
20. Give one example of a positive economic statement and one example of a normative economic statement.
A positive economic statement is any factual statement such as: “Last month there were 11.2 million
21. Explain the dual role of economics and economists, to inform about the economy and advise on economic
policy.
Economists make use of both positive and normative economics. Positive economics establishes scientific
statements about economic behavior and deals with what the economic is actually like. Positive economics
22. Below are six statements. Identify whether each is a positive or normative statement.
(a) The national economy grew at a 6.2 percentage rate in the last quarter as the economy continues to
recovers from the past recession.
(b) The unemployment rate fell to 5.7 percent this month, and is expected to fall to 5.5 percent next month.
(c) The rate of inflation should be reduced to zero to maintain the value of the U.S. dollar.
(d) The government should take action to reduce the prices of prescription drugs charged by drug
companies.
(e) Interest rates for home mortgages are at their lowest rate in thirty years.
(f) The Federal government should increase income taxes on the wealthy to reduce the budget deficit.
23. Below are six statements. Identify whether each is a positive or normative statement.
(a) The minimum wage would be increased so low-income workers can earn a living wage.
(b) The unemployment rate is too high and should be reduced through government actions.
(c) The rate of inflation was about 2 percent last year, a low for the past decade.
(d) The government should take action to break up the monopoly power of Google.
(e) Interest rates should be lower in the United States so that people can afford to build a home.
(f) The Federal government achieved a budget surplus for the first time in thirty years.
24. “Economists are scientists and therefore should not become involved in making value judgments which
policy formulation necessarily entails.” Do you agree?
It is important to distinguish between positive and normative economics. When conducting positive
economic analysis, economists use objective, scientific methods to collect data and test hypotheses to arrive
25. “Economics cannot be scientific because it is based upon the value judgment that ‘more (output) is better’.”
Do you agree?
This statement can be subjected to positive economic analysis. If you can show that this assumption is
valid, i.e., that it is correct that most people believe that “more is better,” then this is not a value judgment
26. What is shown by the budget line in a two-product (A and B) case? Describe what happens when there is a
change in income or the price of a product.
A budget line shows various combinations of two products which can be purchased with a given money
27. Suppose a consumer has a daily income of $48 and purchases just two goods, A and B. The price of A is
$8 and the price of B is $6. In the graph below, draw the budget line for the consumer. Indicate the area of
1-17
28. Below is the budget line for George. Answer the following questions based on his monthly budget
constraint.
(a) Suppose the price of lattes is $4.00. What is George’s monthly income?
(b) Based on the income found in Part A. What is the price of donuts?
(c) Suppose the price of lattes increased to $5.00. Draw in new budget line.
(d) Assume George’s monthly income changes to $60 (Keep the price of lattes at $4.00). Draw the new budget
1-18
29. How will an increase in income affect the budget line for two goods, all other things equal?
30. Explain: “It is in the nature of all economic problems that absolute solutions are denied us.”
1-19
31. Comment on the statement from an opportunity cost perspective: “The major cost of going to college is the
$15,000 per year in tuition.” Assume that a person could have earned $30,000 a year if the person did not
go to college.
Tuition is only one part of the cost of going to college. The major cost of going to college for most people
32. (Consider This) Why might it be a good economic decision for a person such as Ryan Seacrest or Mark
Zuckerberg to drop out of college? Give an economic justification for such a decision.
The economic decision should be based on weighing the costs of going to college with the expected benefit
of doing something else with the time. If the opportunity costs of going to college are high because there is
33. What is meant by the “economizing problem”?
34. List the four resource categories and give a brief description of each.
35. What four basic functions does the entrepreneur perform for the economy?
36. What do economists mean when they say that economic resources or factors of production are scarce or
limited in supply?