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Chapter 01 - Limits, Alternatives, and Choices
PROBLEMS
1. Potatoes cost Janice $1 per pound, and she has $5.00 that she could possibly spend on potatoes
or other items. If she feels that the first pound of potatoes is worth $1.50, the second pound is
worth $1.14, the third pound is worth $1.05, and all subsequent pounds are worth $0.30, how
many pounds of potatoes will she purchase? What if she only had $2 to spend? LO1
Answer: 3; 2
Feedback: Janice will purchase potatoes until the value of potatoes is less than the cost
of potatoes or until her income has been exhausted. For example, assume Janice has
$5.00 to spend on potatoes or other items and the cost of a pound of potatoes is $1. Now
2. Pham can work as many or as few hours as she wants at the college bookstore for $9 per hour.
But due to her hectic schedule, she has just 15 hours per week that she can spend working at
either the bookstore or at other potential jobs. One potential job, at a café, will pay her $12 per
hour for up to 6 hours per week. She has another job offer at a garage that will pay her $10 an
hour for up to 5 hours per week. And she has a potential job at a daycare center that will pay her
$8.50 per hour for as many hours as she can work. If her goal is to maximize the amount of
money she can make each week, how many hours will she work at the bookstore? LO1
Feedback: Pham will choose to work at the bookstore as long as the wage rate at the
For example, assume Pham only has 15 hours per week that she can work and the wage
rate at the bookstore is $9 per hour. She can also spend her time working at a café that
She will choose to work at the café for the full 6 hours because the wage rate at the café
is $12 per hour, which is greater than the wage rate at the bookstore of $9. This leaves her
1-1
Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written
consent of McGraw-Hill Education.
Chapter 01 - Limits, Alternatives, and Choices
3. Suppose you won $15 on a lotto ticket at the local 7-Eleven and decided to spend all the
winnings on candy bars and bags of peanuts. Candy bars cost $0.75 each while bags of peanuts
cost $1.50 each. LO5
a. Construct a table showing the alternative combinations of the two products that are available.
b. Plot the data in your table as a budget line in a graph. What is the slope of the budget line?
What is the opportunity cost of one more candy bar? Of one more bag of peanuts? Do these
opportunity costs rise, fall, or remain constant as additional units are purchased?
c. Does the budget line tell you which of the available combinations of candy bars and bags of
peanuts to buy?
d. Suppose that you had won $30 on your ticket, not $15. Show the $30 budget line in your
diagram. Has the number of available combinations increased or decreased?
Answers:
Part a:
Consumption alternatives
Goods A B C D E F
peanuts
Part b:
Candy Bars
20
10
Bags of
Peanuts
5.
5.175.
Slope
1-2
Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written
consent of McGraw-Hill Education.
Chapter 01 - Limits, Alternatives, and Choices
Feedback: The slope for the budget line above, with candy bars on the horizontal
The opportunity cost of one more candy bar is ½ of a bag of peanuts. The
Part c: No; it only tells you what is possible.
Feedback: The budget line does not tell you which of the available combinations of
Part d: Increased.
Candy Bars
B ags of
P eanuts
10
20
20 40
Inco me = $30
Incom e = $ 15
4. Suppose that you are on a desert island and possess exactly 20 coconuts. Your neighbor, Friday,
is a fisherman, and he is willing to trade 2 fish for every 1 coconut that you are willing to give
him. Another neighbor, Kwame, is also a fisherman, and he is willing to trade 3 fish for every 1
coconut. LO5
a. On a single figure, draw budget lines for trading with Friday and for trading with Kwame. (Put
coconuts on the vertical axis.)
b. What is the slope of the budget line from trading with Friday?
c. What is the slope of the budget line from trading with Kwame?
d. Which budget line features a larger set of attainable combinations of coconuts and fish?
e. If you are going to trade coconuts for fish, would you rather trade with Friday or Kwame?
1-3
Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written
consent of McGraw-Hill Education.
Coconuts
Fish
20
40 60
Trade with Friday
Slope = -1/2
Trade with Kwame
Slope = -1/3
Chapter 01 - Limits, Alternatives, and Choices
Answers:
Part a:
Feedback: The slope of the budget line from trading with Friday equals -(1/2). This
Feedback: The slope of the budget line from trading with Kwame equals -(1/3). This
Feedback: The budget line from trading with Kwame features a larger set of attainable
Feedback: Because Kwame is willing to give up more fish per coconut, I can consume
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Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written
consent of McGraw-Hill Education.
Chapter 01 - Limits, Alternatives, and Choices
5. Below is a production possibilities table for consumer goods (automobiles) and capital goods
(forklifts):
LO6
a. Show these data graphically. Upon what specific assumptions is this production possibilities
curve based?
b. If the economy is at point C, what is the cost of one more automobile? Of one more forklift?
Which characteristic of the production possibilities curve reflects the law of increasing
opportunity costs: its shape or its length?
c. If the economy characterized by this production possibilities table and curve were producing 3
automobiles and 20 fork lifts, what could you conclude about its use of its available resources?
d. Is production at a point outside the production possibilities curve currently possible? Could a
future advance in technology allow production beyond the current production possibilities curve?
Could international trade allow a country to consume beyond its current production possibilities
curve?
Answers:
Part a: (See figure below.) The assumptions are full employment, fixed supplies
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Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written
consent of McGraw-Hill Education.
Chapter 01 - Limits, Alternatives, and Choices
Assume the economy is producing at point C. Thus, the economy is producing 4
automobiles and 21 forklifts.
The cost of producing one more automobile can be found by moving to point D and
The cost of producing one more forklift can be found in an equivalent fashion. First, we
In review, take the cost (loss) and divide by the gain. If we were at point D, the cost of
Increasing opportunity cost implies that we must give up more of a particular good to get
Feedback: The economy is underutilizing resources (inside the PPC).
Feedback: No, the country cannot produce outside its PPC. Yes, a technological advance
would shift the PPC outward allowing the country produce more with a given amount of
inputs. Yes, by specializing in goods we have a comparative advantage producing we can
trade to gain access to goods beyond our own PPC.
6. Look at Figure 1.3. Suppose that the cost of cheese falls, so that the marginal cost of producing
pizza decreases. Will the MC curve shift up or down? Will the optimal amount of pizza increase
or decrease? LO6
1-6
Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written
consent of McGraw-Hill Education.
Chapter 01 - Limits, Alternatives, and Choices
Feedback: To think about cost schedules we must think about input costs. If the cost of
cheese falls, then the cost of making pizza is cheaper for all pizzas. This implies that the
7. Referring to the table in problem 5, suppose improvement occurs in the technology of
producing forklifts but not in the technology of producing automobiles. Draw the new production
possibilities curve. Now assume that a technological advance occurs in producing automobiles
but not in producing forklifts. Draw the new production possibilities curve. Now draw a
production possibilities curve that reflects technological improvement in the production of both
goods. LO7
Technological advance in producing forklifts and not automobiles.
Feedback: This implies we can produce more automobiles with the given resources, so
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Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written
consent of McGraw-Hill Education.
forklifts
8
30
automobiles
forklifts
8
30
Chapter 01 - Limits, Alternatives, and Choices
Feedback: This implies we can produce more forklifts and automobiles with the given
8. Because investment and capital goods are paid for with savings, higher savings rates reflect a
decision to consume fewer goods for the present in order to be able to invest in more goods for
1-8
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consent of McGraw-Hill Education.
Chapter 01 - Limits, Alternatives, and Choices
the future. On average, households in China save 40 percent of their annual income each year,
whereas households in the United States save less than 5 percent. Production possibilities are
growing at roughly 9 percent annually in China and 3.5 percent in the United States. Use
graphical analysis of “present goods” versus “future goods” to explain the differences in growth
rates. LO7
A
Present
Goods
Future
Goo ds
United States
Future
Goo ds
Present
Goods
B
China
Feedback: Since the United States is consuming more today rather than saving, their
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consent of McGraw-Hill Education.
