Chapter 3/The Fundamental Economic Problem: Scarcity and Choice
CHAPTER 3
THE FUNDAMENTAL ECONOMIC PROBLEM:
SCARCITY AND CHOICE
TEST YOURSELF
1. A person rents a house for $24,000 per year. The house can be purchased for
$200,000, and the tenant has this much money in a bank account that pays 4 percent
interest per year. Is buying the house a good deal for the tenant? Where does
opportunity cost enter the picture?
This question asks the students to apply opportunity cost to a straightforward decision: to
rent or buy. After buying the house, the person would no longer have to pay $24,000
annual rent. On the other hand, she would lose the $8,000 she currently earns in interest
2. Graphically show the production possibilities frontier for the nation of Stromboli,
using the data given in the following table. Does the principle of increasing cost hold
in Stromboli?
Stromboli’s 2018 Production Possibilities
Pizzas per Year Pizza Ovens per Year
75,000,000 0
60,000,000 6,000
45,000,000 11,000
30,000,000 15,000
15,000,000 18,000
0 20,000
Figure 1 shows the production possibilities frontier. The principle of increasing cost
holds, because the curve is concave. For example, begin at the point of producing 20
pizza ovens and 0 pizzas. To produce 15 pizzas we must give up the production of 2 pizza
Chapter 3/The Fundamental Economic Problem: Scarcity and Choice
FIGURE 1 (Pizza numbers are in millions, ovens are in thousands)
3. Consider two alternatives for Stromboli is 2018. In one case (a) its inhabitants eat 60
million pizzas and build 6,000 pizza ovens. In case (b), the population eats 15million
pizzas but builds 18,000 ovens. Which case will lead to a more generous production
possibilities frontier for Stomboli in 2018?
4. Jasmine’s Snack Shop sells two brands of potato chips. She produces them by
buying them from a wholesale supplier. Brand X costs Jasmine $1 per bag, and
Brand Y costs her $1.40. Draw Jasmine’s production possibilities frontier if she has
$280 budgeted to spend on the purchase of potato chips from the wholesaler. Why is
it not “bowed out”?
Figure 2 shows the production possibilities frontier. It is a straight line rather than a
curve, because for each additional box of brand X that Jasmine buys, no matter how
FIGURE 2
1. Discuss the resource limitations that affect
a. the poorest person on earth
b. the richest person in the United States
c. a farmer in Kansas
d. the government of Indonesia
(a) The poorest person on earth has access to so few resources that she is in danger of
perishing. The opportunity cost of any additional good or service is life threatening.
For example, if she takes the time to cut and sharpen a stick for hunting, she may not
be able to gather the food she needs to stay alive.
(b) Even the richest person in America faces resource limitations. If he buys a shipping
2. If you were president of your college, what would you change if your budget were cut
by 10 percent? By 25 percent? By 50 percent?
This question will help students begin to develop a better understanding of their
institution. They may be surprised to learn that about 90 percent of the college’s budget
3. If you were to leave college, what things would change in your life? What, then, is the
opportunity cost of your education?
The answer to this question obviously depends upon the student. Students should be
encouraged to think broadly. A student who leaves college would not have to pay tuition
4. Raising chickens requires several types of feed, such as corn and soy meal. Consider a
farm in the former Soviet Union. Try to describe how decisions on the number of
chickens to be raised, and the amount of each feed to use in raising them, were made
under the old communist regime. If the farm is now privately owned, how does the
market guide the decisions that used to be made by the central planning agency?
Under the former communist regime, the farmer was allocated a certain amount of each
type of feed, at a fixed cost, and was also given a quota for the number of chickens to be
produced. The farmer did as he was told, and took few if any risks or innovations. Under
5. The United States is one of the world’s wealthiest countries. Think of a recent case
in which the decisions of the U.S. government were severely constrained by scarcity.
Describe the trade-offs that were involved. What were the opportunity costs of the
decisions that were actually made?
There are countless good answers to this question. An increase in defense purchases, for