Chapter 3
1. Which of the following factors are most important to a
country’s obtaining a high standard of living?
a. It must have abundant land good for farming.
b. It must have an abundant supply of raw materials.
c. It must have an educated workforce.
d. It must encourage entrepreneurship and provide
incentives to work, save, and to make a profit.
D. A country can have abundant resources
and an educated work force, but if it
does not provide opportunities and give
the proper incentives, it will not grow.
2. Rational households with limited
resources attempt to maximize
a. the amount of goods acquired.
b. the amount of services obtained.
c. marginal utility.
d. average utility.
e. total utility.
E. Households make individual decisions
based on their marginal utility; in the
process their total utility is maximized.
3. It takes 14 glassblowing machines, each operated by
only one person, to produce 90% of all the glass
bulbs used in the U.S. This is an example of how
automation leads to a loss of jobs over the long run.
In a micro sense this could be a true statement, but in a
macro sense the statement is false because more
machines leads to lower costs, lower costs lead to lower
prices, lower prices leads to an increase in buying
power, and this leads to more production and jobs.
4. The key to wealth building is to
a. Borrow as much money as you can and
make risky investments.
b. Work and save a part of what you earn.
c. Make wise investments with your savings.
d. Both b and c.
D. Wealth building is a two step process: save a
part of your earnings and then learn how to
make profitable investments with your savings.
5. Which of the following best describes
Japan’s mistake in the 1990s?
a. Marginal analysis
b. Economies of scale
c. Moral hazard
d. The Pareto Effect
C. Moral hazard is the consequence of the practice of the
government supporting failing companies. The
consequence is that there will be less incentive to make
careful investments in the future if there is the belief
that any losses will be paid for by the government.
6. Let's say that you are driving 65 mph in a 45 mph zone.
A policeman stops you and gives you a ticket for driving
20 mph over the speed limit. This is an example of
a. the rule of law.
b. the rule of man.
c. suffering the consequences.
d. paying the price of driving.
A. The rule of law. The law says that you can
get a ticket for speeding, the ticket is in
accordance to how the law is written.
7. Let's say that you are driving 45 mph in a 45 mph
zone. A policeman stops you and gives you a ticket
for driving 20 mph over the speed limit in
anticipation of a bribe. This is an example of
a. the rule of law.
b. the rule of man.
c. negative intensions.
d. the rich get richer and the poorer get poorer.
B. The rule of man refers to a situation whereby whoever
is in authority uses his authority to enrich himself.
Sometimes this can be contrary to the rule of law.
8. In a business sense, productivity increases
when the amount of output increases to a
greater extent than does the amount of inputs.
This is one definition of an increase in productivity.
Another way to look at an increase in productivity is to
produce more per unit of time at a lower per unit cost.
9. The assembly line technique of production can
increase productivity by
a. making better use of robotics.
b. eliminating non-productive activity.
c. enabling workers to become more efficient
performing the same task over and over again.
d. all of the above.
D. The assembly line is contrasted to the skilled
craftsmen technique of production whereby one or
a small group of workers would do the assembling.
10. Which of the following is an example of rent seeking?
a. Cotton farmers pay money to politicians to influence
legislation, such as raising tariffs against Brazilian cotton.
b. People looking for rental property seek available
apartments in the newspaper.
c. Landlords seek out the highest paying renters.
d. none of the above
A. Rent seeking is the term used to describe the
practice of special interest groups putting money into
politicians pockets for the purpose of influencing
legislation which will benefit their business.
11. Because machines replace people’s jobs, the
more we automate the fewer jobs we will have.
Automation leads to more jobs because it lowers
costs of production, which allows for lower
prices, an increase in buying power, more
sales, more production, and more jobs.
12. An increase in productivity enables a business
owner to produce more goods per unit of time
at a lower per unit cost.
The key to economic growth is to increase
productivity. By becoming more efficient the lower
costs and lower prices increase buying power and
raises the standard of living for the average person.
13. Up to a certain point, improvements in capital
will result in an increase in productivity.
New and better machines increase productivity
because they tend to be more efficient and
require fewer repairs, which helps lower costs.
14. The key behind economies of scale is that the more
people to divide up the labor the more productivity
increases, at least up to a certain point.
The more labor is divided among workers the more
non-productive activity we can eliminate and the
more productivity increases, at least up to a certain
point. Economists call this economies of scale.
Beyond a certain point when productivity begins to
decline is when diseconomies of scale set in.
15. International trade leads to greater economies of scale.
The more we trade with other nations, the greater
the economic pie, and the more ways we can
divide up the labor among different countries.
16. Federal laws that redistribute the wealth, to take from
the wealthy and give to the less fortunate, always lead
to economic stagnation.
There is a natural principle which says that “he
who has will be given more and he who has not,
that thing which he does not have will be taken
If you have money in savings, the bank gives you
more money. If you do not have money and need
to borrow from a bank, the bank takes money
away from you in the form of interest.
Therefore, some amount of redistribution of wealth
may be necessary to prevent too much wealth
concentration in a few hands.
17. A persistent decline in productivity will
cause an increase in unemployment.
A decline in productivity causes an increase in
costs, and an increase in costs will lead to an
increase in prices, eroding consumer buying
power and a decline in consumer demand,
leading to an increase in unemployment.
18. A free market system can only maintain its vitality
when hard work and risk taking are rewarded.
Would you be in college if you knew that your
hard work and investing money for college
expenses would not benefit you in the future?
19. The American government has subsidized
the Brazilian cotton farmer.
America has put up trade restrictions against the
importation of cotton from Brazil to protect the
American cotton farmer from this competition.
When Brazil won a court case from an international
court concerning free trade agreements, the U.S.
government decided to subsidize the Brazilian
farmer as well as the American farmer.
20. The faster we grow the sooner we will experience
long lasing economic prosperity.
The best way to grow is slow and steady.
Unemployment results from a slow down in the
growth rate, not necessarily a decline in growth
itself. A slow growth rate is easier to maintain
than large spurts in growth that are temporary.
21. History has taught us that for a modern industrial
society to prosper we need a strong central
government, but when the government gets too big
and intrusive there is a tendency toward slow
growth and economic stagnation.
There are many reasons we need a strong national
government in a free market system, but a free market
system is based on the profit motive and individuals
making decisions in accordance to their own self interest.
22. An Austrian economist would tend to favor
market solutions to market problems, whereas a
Keynesian economist would tend to favor
government solutions to economic problems.
Whereas Austrians tend to favor market solutions to
economic problems, such as laws favoring saving
and investing to aid long term growth, Keynesians
tend to favor government programs that will
boost demand during periods of unemployment.
23. In 2002, Congress passed the Sarbanes-Oxley
Accounting Reform Law. A part of the law requires
costly external audits of companies in addition to the
traditional audits of a company’s financial statements.
This law has greatly added to the costs of
accounting and record keeping for large firms.
24. Coal fired plants give us half of our electricity,
yet we are witnessing the mass retirement of
coal-fired plants in America today.
Because the Environment Protection Agency
(EPA) considers coal a danger to the
environment, strict regulations and government
mandates are restricting the burning of coal.
25. The United States has a perfectly free
market economic system.
The government has essentially taken over the
health care and financial sectors of the economy.
With the highest corporate taxes in the world as
well as high personal taxes and a huge national
debt, the U.S. is becoming a system that is less
and less a free market system.
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