Tutorial
Chapter 2
Decisions
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1. A perfectly free market can provide
society with everything it needs.
False
The market fails in many aspects of meeting
our needs and therefore it has to be
modified. A free market system needs a
strong government to function efficiently.
2
2. If the federal government interferes with the price
mechanism too much, communication among its
parts will begin to break down as price signals blur.
True
A free market system can only function
smoothly if there is ample communication
among its various parts.
3
3. Rent seeking occurs when big
business financially supports
politicians to influence legislation.
True
When a business lobbies Congress instead of
spending the money on better production, it
is involved in rent seeking.
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4. Moral hazard occurs when a business
is insulated from risk and therefore
behaves differently than it would if it
were fully exposed to risk.
True
Moral hazard is a consequence of rent seeking.
Caution is thrown to the wind when people
are not held responsible for their actions.
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5. If we developed a fertility drug doubling
the number of cows, economists would
say that the supply of cows has increased.
False
Economists only consider events if there is a
market transaction. Economists are less
concerned about how many cows we have
standing on four feet as they are about how
many cows are brought to market.
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6. Strictly speaking, money is considered capital.
False
Capital is defined as the machines, buildings, or tools
used in the productive process. Money does not fit
this definition of capital. Money that is used to
purchase capital is called financial capital.
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7. It is folly for a society to always want more
goods and services. When society has plenty
of everything, people should be satisfied with
what they have and not always want more.
False
The problem of being satisfied with what we
already have is that everything wears out
over time. If we do not consistently replace
what we have, tomorrow we will have less.
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8. Some economic goals are conflicting.
True
Society is always faced with conflicting goals
because of opportunity costs. If we spend more
on a clean environment we will have fewer
resources devoted to the military, and vice versa.
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9. Pollution is a negative externality.
True
Negative externalities are the negative by-product
of the industrial process.
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10. America is rich enough in natural resources and
capital that we would not be harmed if we did not
trade with other nations.
False
Despite are wealth the standard of living for
the average person would diminish if we
did not trade with other nations.
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11. The old adage of “the rich get richer and the
poor get poorer” is an accurate assessment of how
the economy works.
True
There is a natural law whereby those people
who have the most receive more than
people who have less. The more you have,
the more you will be given. The less you
have, the less you will be given.
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12. Crony capitalism can lead to moral hazard.
True
Crony capitalism is a system whereby the government
and the means of production are controlled by a
handful of private individuals who arrange the
economy to benefit only themselves. This presents a
moral hazard situation because even in failure these
people gain financially and therefore are risk adverse.
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13. The law of comparative advantage states that the person who
should produce a good is the person who
a. has the lowest opportunity cost of producing that good.
b. can produce that good using the fewest resources.
c. will produce that good using the most expensive resources.
A.
Every decision you make entails an opportunity cost,
you always give up something when you make decisions.
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14 Comparative advantage
a. leads to all of the following.
b. leads to the most efficient allocation of resources and the
greatest combined output.
c. eliminates specialization, so that each person produces for
all of his own needs independently.
B. Should a country produce those goods that it is best at
producing? Not necessarily. For example, let’s suppose
Americans were better than any anyone else at producing
hand made wicker baskets, should we spend our time and
energy producing baskets? No, because that time and energy
would be better spent in the technology area, like computers.
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15. What is crony capitalism?
a. Occurs when cronies participate in the free enterprise
system.
b. A system where success in business depends on close
relationships between business and government.
c. An economic system that is totally free of government
interference.
d. An economic system which is highly regulated.
B. Instead of the government regulating and
overseeing the business sector the government
becomes a partner of big business.
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16. Because of specialization and comparative advantage, most
people
a. consume only what they produce themselves.
b. consume the products produced by their family and
friends.
c. consume the products of many other specialists.
C. Because of specialization and the fact that people
pursue activities that they have a comparative
advantage, we do not have to be self-sufficient. By
specializing and then buying from one another, our
standard of living increases.
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17. The “division of labor” refers to
a. discrimination in labor markets.
b. separating a job into smaller tasks completed by
different people.
c. one worker who divides his time among different jobs
and duties.
d. defining a job according to the appropriate sex.
B. One of the characteristics of a modern industrial society
is the specialization of labor. This leads to a higher
standard of living because it eliminates some nonproductive activity, among other things.
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18. Specialization of labor
a. increases productivity without creating any
problems.
b. reduces productivity, and is usually eliminated
by business firms.
c. can create problems of boredom and repetitive
motion injuries.
d. prevents the introduction of more sophisticated
and efficient production techniques.
C. On an individual basis, the division of
labor has the downside of boredom and
physical and emotional type problems.
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19. When the government increases spending the
money comes from
a. taxes.
b. debt.
c. thin air.
d. all of the above
D. These are the three places the government
gets money. It can raise taxes, borrow more,
or it can create the money.
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20. If the government borrows to increase
spending, we do not pay for it now, only later.
a. True
b. False
c. Can’t tell
d. Depends on who lends the money
B. A dollar spent today is paid for today regardless of
where it comes from. We either pay for it in terms of
higher taxes, higher interest rates, inflation or the
negative effects of a misallocation of resources.
21
21. “Efficiency” refers to
a. producing output using the least amount of labor.
b. producing output using the least amount of
capital.
c. producing as far inside the production
possibilities frontier as possible.
d. getting the maximum possible output from
available resources.
D. A country is being most efficient when it
uses its resources the best way possible.
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22. If all resources are used efficiently to produce goods
and services, the nation will find itself producing
a. inside its production possibilities frontier.
b. somewhere on its production possibilities frontier.
c. outside of its production possibilities frontier.
d. at one extreme of its production possibilities frontier.
B. If a country uses its resources inefficiently it will
operate inside its production possibilities curve. If it
produces at the most efficient level possible it will
operate on the curve. It is not possible to operate
beyond its most efficient frontier unless it increases
its resources or becomes more efficient.
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23. Opportunity cost is constant if
a. resources are equally adaptable to the
production of all goods.
b. each resource is specialized in the
production of one particular good.
c. larger and larger sacrifices must be made
to gain equal successive amounts of a good.
d. all resources are used fully and efficiently.
A. This is an unrealistic assumption, but is sometimes
made. For example, if you were a farmer, this would
mean that an acre of land will yield the same amount
no matter what crop you plant on the acreage. The
land is equally suited for all crops being considered.
This is not realistic.
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24. The set of mechanism and institutions that
resolve the basic economic questions is called the
a. economic system.
b. production possibilities dilemma.
c. business resolution device.
d. absolute advantage determination.
A. All countries have to have some mechanism to decide
what to produce, how to produce, and who gets what
and how much. The economic system, whether it be a
free market system or a command system, is the
mechanism countries use to answer these questions.
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25. Pure capitalism and command economies represent
a. two extremely different ways of answering the
basic economic questions.
b. two names describing exactly the same way of
answering the basic economic questions.
c. the only two ways of answering the basic
economic questions.
d. the most efficient ways to answer the basic
economic questions.
A. A command economy is one where the central
government makes all of the economic decisions.
Capitalism is a system where the decisions are made by
private individuals based on the profit motive.
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26. Which of the following does not distinguish
between different types of economic systems?
a. Laws about resource ownership.
b. The extent of government involvement in
the economy.
c. Whether or not the basic economic
questions must be answered.
d. What process is used to allocate resources
and products.
C. No matter the economic system, the basic
economic questions must be answered.
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27. Which of the following is a characteristic of a
planned economy?
a. All resources are privately owned.
b. Economic activity is coordinated by the
price system.
c. Competitive markets guide resources to
their highest-valued uses.
d. Centralized economic planning is used to
answer basic economic questions.
D. Friedrich Hayek’s explains in his book The Road to
Serfdom how centralized planning can lead to a loss
of personal freedoms and economic stagnation.
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28. Which of the following is a characteristic of
pure capitalism?
a. All resources are owned communally.
b. Economic activity is coordinated by
government decision makers.
c. The price system is used to guide resources to
their highest-valued uses.
C. Because individuals are making decisions to maximize
their welfare and profit, consumers will purchase at the
lowest price possible and suppliers will sell at the
highest price possible. The market is at equilibrium
where the two parties reach an agreement.
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29. Problems with pure capitalism include which of the
following?
a. People have no incentive to direct resources to their
highest-valued use.
b. The active government involvement in controlling
the economy may not be in the best interest of the
individuals involved.
c. Public goods, while desirable, may not be produced.
C. This is why we have modified capitalistic system; we
have modified it in an attempt to rectify some of its
weaknesses. We support a government that taxes us
and then uses the tax money to support things that
would not exist in a purely free enterprise system.
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30. Problems with a pure command economy include
which of the following?
a. Property rights cannot be enforced.
b. Public goods, while desirable, may not be produced.
c. The lack of a legal system makes it impossible to
create contracts.
d. Large, diverse economies may be extremely difficult
for central authorities to analyze and control.
D. Command economies may have some advantages,
but one of the big disadvantages is the fact that large
complex and diversified economies are difficult to
analyze and control by any one central authority.
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31. With regard to pure capitalistic economies and
pure command economies,
a. all real-world societies are purely capitalistic.
b. all real-world societies are pure command.
c. all real-world societies are purely capitalistic
or purely command.
d. real-world societies are usually a mixture of
command and capitalism.
D. Even our own American system, even
though it is primarily a free market system,
has some aspects of a command system in it.
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32. A mixed capitalist economy occurs when
a. decisions are based primarily on religion or custom.
b. all resources are publicly owned and economic
planning is centralized.
c. all resources are privately owned and prices are
used to coordinate economic activity.
d. resources are both publicly and privately owned
and some markets are regulated.
D. Some economists call our type of
economic system a mixed economic system
because we have aspects of both systems.
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END
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