Chapter 1
1. Apple Computer Inc. decides to make iTunes freely available in unlimited quantities.
a. Does Apple’s decision change the incentives that people face?
Apple’s decision changes people’s incentives. For example, it increases people’s
incentives to buy an iPod and take advantage of the newly “free” music available on
iTunes.
b. Is Apple’s decision an example of a microeconomic or a macroeconomic issue?
Apple’s decision is a microeconomic decision because it affects a single company and a
single market.
2. Which of the following pairs does not match:
Capital and profit
Capital earns interest, so this pair does not match.
Explain how the following news headlines concern self-interest and the social interest:
a. Starbucks Expands in China
Starbucks expansion is a decision made by Starbucks to increase its profitability. The
decision is directly in Starbuck's self-interest. The question of whether this choice is also
in the social interest is one that is studied in microeconomics.
b. McDonald’s Moves into Salads
McDonald’s decision to serve salads is a decision made by McDonald’s to further
McDonald’s interest. Thus the decision is directly in McDonald’s self-interest. The
question of whether this choice also furthers the social interest is one that is studied in
microeconomics.
c. Food Must Be Labelled with Nutrition Information
The decision to require that food must be labelled with nutrition information is made in
the social interest. This decision is not made by any one single firm, soit does not
(necessarily) reflect anyone’s self-nterest.
4. The night before an economics test, you decide to go to the movies instead of
staying home and working your MyEconLab Study Plan. You get 50 percent on your
test compared with the 70 percent that you normally score.
a. Did you face a tradeoff?
Yes, you faced a tradeoff. The tradeoff was between a higher test score and an evening
with your friends at the movies.
b. What was the opportunity cost of your evening at the movies?
The opportunity cost of going to the movies is the fall in your grade. That is the 20
points forgone from choosing to see the movie rather than study.
5. Is the cost of regenerating East London an opportunity cost of hosting the 2012
Olympic Games? Explain why or why not.
The regeneration of East London is an opportunity cost of hosting the 2012 Olympics if
East London would not have been regenerated otherwise. However, if there were
already plans underway to regenerate East London, then the cost is not an opportunity
cost of hosting the Olympics because the cost would have been paid even if London did
not host the Olympics.
6. Which of the following statements is positive, which is normative, and which can be
tested?
a. The statement is normative and cannot be tested.
b. The statement is positive and can be tested.
c. The statement is positive and can be tested.
Chapter 2
1.
a. Draw a graph of Brazil’s PPF and explain how your graph illustrates scarcity.
Figure 2.1 shows Brazil’s PPF. The production possibilities frontier
itself indicates scarcity because it shows the limits to what can be
produced. In particular, production combinations of ethanol and
food crops that lie beyond the production possibilities frontier are
not attainable.
b. If Brazil produces 40 barrels of ethanol a day, how much food
must it produce if it achieves production efficiency?
If Brazil produces 40 barrels of ethanol per day, it achieves production efficiency if it also
produces 3 tonnes of food per day.
c. Why does Brazil face a tradeoff on its PPF?
Brazil faces a tradeoff on its PPF because Brazil’s resources and technology are limited.
For Brazil to produce more of one good, it must shift factors of production away from
the other good. Therefore to increase production of one good requires decreasing
production of the other good, which reflects a tradeoff.
2.
a. If Brazil increases its production of ethanol from 40 barrels per day to 54 barrels per
day, what is the opportunity cost of the additional ethanol?
When Brazil is production efficient and increases its production of ethanol from 40
barrels per day to 54 barrels per day, it must decrease its production of food crops from
3 tonnes per day to 2 tonnes per day. Hence the opportunity cost of the additional
ethanol is 1 tonne of food per day for the entire 14 barrels of ethanol or 1/14 of a tonne
of food per barrel of ethanol.
b. If Brazil increases its production of food crops from 2 tonnes per day to 3 tonnes per
day, what is the opportunity cost of the additional food?
When Brazil is production efficient and increases its production of food crops from 2
tonnes per day to 3 tonnes per day, it must decrease its production of ethanol from 54
barrels per day to 40 barrels per day. Hence the opportunity cost of the additional 1
tonne of food crops is 14 barrels of ethanol.
c. What is the relationship between your answers to a and b?
The opportunity costs are reciprocals of each other. That is, the opportunity cost of 1
tonne of food crops is 14 barrels of ethanol and the opportunity cost of 1 barrel of
ethanol is 1/14 of a tonne of food crops.
3. Does Brazil face an increasing opportunity cost of ethanol? What feature of the PPF
that you’ve drawn illustrates increasing opportunity cost?
Brazil faces an increasing opportunity cost of ethanol production. For instance, when
increasing ethanol production from 0 barrels per day to 22 barrels the opportunity cost
of a barrel of ethanol is 1/22 of a tonne of food while increasing ethanol production
another 18 barrels per day (to a total of 40 barrels per day) has an opportunity cost of
1/18 of a tonne of food per barrel of ethanol. The PPF’s bowed outward shape reflects
the increasing opportunity cost.
4. Define marginal cost and use the information provided in the table in problem 1 to
calculate the marginal cost of producing a tonne of food when the quantity produced
is 2.5 tonnes per day.
The marginal cost of a good is the opportunity cost of producing one more unit of the
good. When the quantity of food produced is 2.5 tonnes, the marginal cost of a tonne of
food is the opportunity cost of increasing the production of food from 2 tonnes per day
to 3 tonnes per day. If this increase is carried out, the production of ethanol falls 54
barrels per day to 40 barrels per day, a decrease of14 barrels per day. The opportunity
cost of increasing food production is the decrease in ethanol product, so the
opportunity cost of producing a tonne of food when 2.5 tonnes of food per day are
produced is 14 barrels of ethanol per day.
5. Define marginal benefit, explain how it is measured, and explain why the
information provided in the table in problem 1 does not enable you to calculate the
marginal benefit of food.
The marginal benefit of a good is the benefit received from consuming one more unit of
the product. The marginal benefit of a good or service is measured by the most people
are willing to pay for one more unit of it. The data in the table do not provide
information on how much people are willing to pay for an additional unit of food. Hence
the table has no information on the marginal benefit of food.
6. Distinguish between production efficiency and allocative efficiency. Explain why
many production possibilities achieve production efficiency but only one achieves
allocative efficiency.
Production efficiency occurs when goods and services are produced at the lowest cost.
This definition means that production efficiency occurs at any point on the PPF.
Therefore all of the production points on the PPF are production efficient. Allocative
efficiency occurs when goods and services are produced at the lowest cost and in the
quantities that provide the greatest possible benefit. The allocatively efficient
production point is the single point on the PPF that has the greatest possible benefit.
7. What is Harry’s marginal cost of tennis if he plays for (i) 3 hours a week; (ii) 5 hours
a week; and (iii) 7 hours a week.
(i) Harry’s marginal cost of an hour of tennis is 1.5 percentage points. When Harry
increases the time he plays tennis from 2 hours to 4 hours, his grade in economics falls
from 78 percent to 75 percent. His opportunity cost of these 2 additional hours of tennis
is 3 percentage points, so his marginal cost of playing tennis for the third hour per week
is 1.5 percentage points. (ii) Harry’s marginal cost of an hour of tennis is 2.5 percentage
points. When Harry increases the time he plays tennis from 4 hours to 6 hours, his grade
in economics falls from 75 percent to 70 percent. His opportunity cost of these 2
additional hours of tennis is 5 percentage points. So his marginal cost of playing tennis
for the fifth hour per week is 2.5 percentage points. (iii) Harry’s marginal cost of an hour
of tennis is 5 percentage points. When Harry increases the time he plays tennis from 6
hours to 8 hours, his grade in economics falls from 70 percent to 60 percent. His
opportunity cost of these 2 additional hours of tennis is 10 percentage points. So his
marginal cost of playing tennis for the seventh hour per week is 5 percentage points.
8.
a.
Harry’s grade in economics is 66 percent and he plays tennis for 7 hours per week. From
the answer to part (a), Harry’s marginal cost of playing the third hour a week of tennis is
1.5 percentage points, his marginal cost of playing tennis the fifth hour a week is 2.5
percentage points and his marginal cost of playing tennis the seventh hour a week is 5
percentage points. Plot these three opportunity costs in Figure to create Harry’s
marginal cost curve. Harry’s opportunity cost of playing tennis increases as he spends
more time on tennis. Harry uses his time efficiently if he plays tennis for 7 hours a week
because when he plays 7 hours a week his marginal benefit from the seventh hour of
tennis, 5 percentage points, equals its marginal cost, also 5 percentage points. When
Harry plays 7 hours of tennis, the PPF in Figure shows that his grade in economics 66
percent.
b.
If Harry studied for enough hours to get a higher grade, he would have fewer hours to
play tennis. Harry’s marginal benefit from tennis would be greater than his marginal
cost, so he would be more efficient (better off) if he played more hours of tennis and
took a lower grade.
9.
If Harry becomes a tennis superstar, his PPF does not change. Harry’s PPF shows the
grade he can produce for different hours of playing tennis and these production
possibilities are unaffected by Harry’s superstar status. As a result Harry’s MC curve
does not change. However Harry’s MB from playing tennis increases because of his big
paydays so his MB curve shifts rightward. As a result, Harry’s efficient allocation of time
now allocates more time to tennis (and results in a lower grade).
10.
If Harry finds high grades to easier to attain his PPF shifts outward. In particular for
every level of tennis playing his grade in economics is higher. As a result Harry’s
marginal cost of earning a high grade in economics is reduced so that Harry’s MC curve
shifts downward. Harry’s MB curve does not change because Harry’s marginal benefit
from a high grade has not changed. Harry’s efficient time allocation results in Harry
increasing the number of hours of tennis he plays.
11.
a. Make a graph that illustrates the farm’s PPF. The PPF is
illustrated in Figure 2.4 as PPF0. Because the marginal cost of
both wheat and pork increase as more of the product is
produced, the PPF displays increasing opportunity cost so it
has the “conventional” bowed outward shape.
b. The new technology rotates the PPF outward from PPF0to
PPF1.
c. The opportunity cost of producing wheat has increased. The opportunity cost of a
bushel of wheat is equal to the magnitude of the slopes of the PPFs illustrated in Figure
2.4. The slope of PPF1 has a larger magnitude than the slope of PPF0 so the opportunity
cost of a bushel of wheat is higher along PPF1. Alternatively, the opportunity cost of
increasing wheat product from 600 bushels per week to 800 bushels per week along
PPF1 is 35 hundred kilograms of pork but is only 20 hundred kilograms of pork along
PPF0.
d. The farm is able to produce more with the new technology than with the old, but it is
not necessarily more efficient. If the farm was producing on its PPF before the new
technology and after, the farm was production efficient both before the new technology
and after.
12.
a. Sue forgoes 4 jackets to produce 40 caps, so Sue’s opportunity cost of producing one
cap is (4 jackets)/(40 caps) or 0.1 jacket per cap.
b. Tessa forgoes 4 jackets to produce 80 caps, so Tessa’s opportunity cost of producing
one cap is (4 jackets)/(80 caps) or 0.05 jacket per cap.
c. Tessa’s opportunity cost of a cap is lower than Sue’s opportunity cost, so Tessa has a
comparative advantage in producing caps.
d. Tessa specializes in caps and Sue specializes in jackets. Both Sue and Tessa gain from
trade. Sue gains because she can obtain caps from Tessa at a cost of (1 jacket)/(15 caps),
which is 0.067 jacket per cap, a cost that is lower than what it would cost her to produce
caps herself. Tessa also gains from trade because she trades caps for jackets for 0.067
jacket per cap, which is higher than her cost of producing a cap.
Chapter 3
1.
a. What is the relative price of butter in terms of wool?
1 pound of butter exchanged for 2 yards of cloth and 4 yards of cloth exchanged for 1
pound of wool. Hence 1 pound of butter exchanged for 2 yards of cloth and 2 yards of
cloth exchanged for 1/2 pound of wool. So the relative price of butter in terms of wool
was 1/2 pound of wool per pound of butter.
b. If the money price of bacon was 20¢ a pound, what do you predict was the money
price of
butter?
1 pound of bacon exchanged for 1 yard of cloth and 2 yards of cloth exchanged for 1
pound of butter. Hence it took 2 pounds of bacon to exchange for 1 pound of butter. As
a result, if the money price of a pound of bacon was 20¢ the money price of 1 pound of
butter was 40¢.
c. If the money price of bacon was 20¢ a pound and the money price of salt was $2.00
a bushel, do you think anyone would accept Mr. Gregg’s offer of cloth for salt?
If the money price of bacon is 20¢ a pound, Mr. Gregg’s offer to exchange 1 pound of
bacon for 1 yard of cloth means that anyone could obtain 1 yard of cloth for a money
price of 20¢. Mr. Gregg’s further offer to exchange 8 yards of cloth for 1 bushel of salt
means that anyone could acquire 1 bushel of salt for $1.60, the price of 8 yards of cloth.
If the money price of salt is $2.00 a bushel, many people would accept Mr. Gregg’s offer
of cloth for salt because it enables them to obtain salt at a money price of only $1.60 a
bushel.
2. The price of food increased during the past year.
a. Explain why the law of demand applies to food just as it does to all other goods and
services.
The law of demand applies to food because there is both a substitution and an income
effect that reinforce each other. When the price rises, people substitute to different
foods. For instance, some might substitute home cooked meals for dining at a
restaurant. And when the price rises, there is a negative income effect, so people they
buy less of food overall and less food with the rising price. On both counts, the higher
price of food decreases the quantity of food demanded.
b. Explain how the substitution effect influences food purchases and provide some
examples
of substitutions that people might make when the price of food rises and other things
remain the same.
People substitute in two ways: They substitute cheaper foods for more expensive foods
and also substitute diets for food.
c. Explain how the income effect influences food purchases and provide some
examples of the income effect that might occur when the price of food rises and other
things remain the same.
Food is a normal good so a rise in the price, which decreases people’s real incomes,
decreases the quantity of food demanded. In the United States, restaurants suffer as the
negative income effect from a higher price of food leads people to cut back their trips to
restaurants. In poor countries, people literally eat less when the price of food rises and
in extremely poor countries starvation increases.
3. Place the following goods and services into pairs of likely substitutes and into pairs
of likely complements. (You may use an item in more than one pair.) The goods and
services are: coal, oil, natural gas, wheat, corn, rye, pasta, pizza, sausage, skateboard,
roller blades, video game, laptop, iPod, cell phone, text message, email, phone call,
voice mail
Substitutes include: coal and oil; coal and natural gas; oil and natural gas; wheat and
corn; wheat and rye; corn and rye; pasta and pizza; pasta and sausage; pizza and
sausage (they type of sausage that cannot be used as a topping on pizza); skateboard
and roller blades; skateboard and video game; roller blades and video game; text
message and email; text message and phone call; and, email and phone call.
Complements include: pizza and sausage (the type of sausage that can be used as a
topping on pizza); skateboard and iPod; roller blades and iPod; video game (the type
played on a computer) and laptop; cell phone and text message; cell phone and phone
call; cell phone and voice mail; and, phone call and voice mail.
4. During 2010, the average income in China increased by 10 percent. Compared to
2009,
how do you expect the following would change:
a. The demand for beef? Explain your answer.
Beef is a normal good. The increase in income increases the demand for beef.
b. The demand for rice? Explain your answer.
Rice is probably an inferior good. The increase in income decreases the demand for rice.
5. In January 2010, .........
a. The demand for gasoline?
The rise in the price of gasoline does not change the demand for gasoline. The demand
for gasoline changes only when some influence other than the price of the good
changes.
b. The quantity of gasoline demanded?
The rise in the price of gasoline decreases the quantity of gasoline demanded. A rise in
the price of a good or service decreases the quantity of that good or service demanded
6.
a. The supply decreased while the demand did not change. Hence the supply curve
shifted leftward and the demand curve did not shift. As a result, the equilibrium price of
gasoline rose and the equilibrium quantity decreased.
b. The supply of gasoline decreased while the demand did not change. As a result there
was a decrease in the quantity of gasoline demanded.
7. Explain the effect of each event on the supply of low-fat milk.
The rise in the wage rate makes it more costly to produce the good, so at the price of
the good the producers will decreases the quantity supplied. This is true for all prices of
low-fat milk, so the supply of low-fat milk decreases. When the price of sawdust rises,
the quantity supplied increases. Sawdust is a complement in production of low-fat milk,
so to produce more sawdust the mill makes more low-fat milk. The rise in the price of
sawdust leads to an increase in the supply of low-fat milk. A rise in the price of a timber
beam will be an incentive for producers to make more low-fat milk. That is as the price
rises, the quantity supplied of low-fat milk increases. If the price of a low-fat milk is
expected to rise next year, producers will make fewer beams this year and save the logs
and produce more beams next year when the price is expected to be higher. The supply
of low-fat milk will decrease today and increase next year. With the reduction in the
number logs that can be cut, the quantity of beams that can be made is less than before
the law was passed. The quantity supplied at each price decreases. The supply of beams
decreases. A new technology that reduces the cost of making a timber beam lowers the
producers’ costs and at any price of a beam will increase the quantity of beams made.
The supply of beams increases.
8. Use a graph to show the effect of each event.?
Figure illustrates the effect of an increase in
the supply of timber beams as the shift of the
supply curve from S0to S1and it illustrates a
decrease in the supply as the shift of the
supply curve from S0 to 2. Figure illustrates
the effect of a rise in the price of a timber
beam as a movement along the supply curve
S.
9. Does any event (or events) illustrate the law of supply?
A rise in the price of a timber beam, other things remaining the same, Figure illustrates
the law of supply. The other events change supply and do not illustrate the law of
supply.
10. “As more people buy computers, the demand for Internet service increases and
the price of Internet service decreases. The fall in the price of Internet service
decreases the supply of Internet service.” Is this statement true or false? Explain.
The statement is false for several reasons. First, if the demand for Internet services
increases and nothing else changes, the price of Internet service will rise, not fall.
Second, if the price of Internet services falls, the supply of Internet services does not
change. Rather, there is a decrease in the quantity supplied, that is, a movement along
the supply curve rather than a shift of the supply curve.
11. The demand and supply schedules for gum are given in the table.
a. Draw a graph of the gum market, label the axes and the curves, and mark in the
equilibrium price and quantity.
Figure 3.5, on the next page, shows the demand and supply
curves. The equilibrium price is 50 cents a pack, and the
equilibrium quantity is 120 million packs a week. The price of
a pack adjusts until the quantity demanded equals the
quantity supplied. At 50 cents a pack, the quantity
demanded is 120 million packs a week and the quantity
supplied is 120 million packs a week.
b. Suppose that the price of gum is 70¢ a pack. Describe the
situation in the gum market and explain how the price adjusts.
At 70 cents a pack, there is a surplus of gum and the price falls. At 70 cents a pack, the
quantity demanded is 80 million packs a week and the quantity supplied is 160 million
packs a week. There is a surplus of 80 million packs a week. The price falls until market
equilibrium is restored at a price of 50 cents a pack.
c. Suppose that the price of gum is 30¢ a pack. Describe the situation in the gum
market and explain how the price adjusts.
At 30 cents a pack, there is a shortage of gum and the price rises. At 30 cents a pack, the
quantity demanded is 160 million packs a week and the quantity supplied is 80 million
packs a week. There is a shortage of 80 million packs a week. The price rises until market
equilibrium is restored at a price of 50 cents a pack.
12. The following events occur one at a time:
(i) The price of crude oil rises.
(ii) The price of a car rises.
(iii) All speed limits on highways are abolished.
(iv) Robots cut car production costs.
Which of these events will increase or decrease (state which occurs)
a. The demand for gasoline?
(ii) and (iii) and (iv) change the demand for gasoline. The demand for gasoline will
change if the price of a car rises, all speed limits on highways are abolished, or robot
production cuts the cost of producing a car. If the price of a car rises, the quantity of
cars bought decrease and the demand for gasoline decreases. If all speed limits on
highways are abolished, people will drive faster and use more gasoline. The demand for
gasoline increases. If robot production plants lower the cost of producing a car, the
supply of cars will increase. With no change in the demand for cars, the price of a car
will fall and more cars will be bought. The demand for gasoline increases.
b. The supply of gasoline?
(i) changes the supply of gasoline. The supply of gasoline will change if the price of crude
oil (a factor of production used in the production of gasoline) changes. If the price of
crude oil rises, the cost of producing gasoline rises and the supply of gasoline decreases.
c. The quantity of gasoline demanded?
(i) changes the quantity of gasoline demanded. If the price of crude oil rises, the cost of
producing gasoline rises and the supply of gasoline decreases. The demand for gasoline
does not change. The price of gasoline rises and there is a movement up the demand
curve for gasoline. The quantity of gasoline demanded decreases.
d. The quantity of gasoline supplied?
(ii) and (iii) and (iv) change the quantity of gasoline supplied. If the price of a car rises,
the quantity of cars bought decrease so the demand for gasoline decreases. The supply
of gasoline does not change. The price of gasoline falls and there is a movement down
the supply curve of gasoline. The quantity of gasoline supplied decreases. If all speed
limits on highways are abolished, people will drive faster and use more gasoline. The
demand for gasoline increases. The supply of gasoline does not change, so the price of
gasoline rises and there is a movement up along the supply curve. The quantity of
gasoline supplied increases. If robot production plants lower the cost of producing a car,
the supply of cars will increase. With no change in the demand for cars, the price of a
car will fall and more cars will be bought. The demand for gasoline increases. The supply
of gasoline does not change, so the price of gasoline rises and the quantity of gasoline
supplied increases.
13.
a. Low-income families switched to public transportation. Middle-income families gave
up the second and third cars. As a result, the quantity of gasoline demanded decreased.
b. The first factor is consumers’ incomes. Higher incomes increased the demand for
gasoline. But the increase in incomes was small and so the increase in demand also was
small. The second factor was the gradual move toward hybrids and increased use of
ethanol. These decreased the demand for gasoline. But these effects were also small.
The two main factors offset each other so, on net, the demand for gasoline did not
change