SOLUTIONS MANUAL
Economics 3/E Dean Karlan
CHAPTER 1
ECONOMICS AND LIFE
Solutions to End-of-Chapter Questions and Problems
Review Questions
1. Suppose you are shopping for new clothes to wear to job interviews, but you’re on a tight
budget. In this situation, what are your wants and constraints? What does it mean to behave
rationally in the face of scarcity? [LO 1.1]
Answer: If you are deciding what to buy for a job interview, your want is to buy clothing
that looks clean and professional, so you can present the best possible impression to potential
employers. Your constraint is the amount of money you can spend on this clothing. A person
behaving rationally would buy the nicest clothes they could afford.
2. You are a student with a demanding schedule of classes. You also work part time and your
supervisor allows you to determine your schedule. In this situation, what is your scarce
resource? How do you decide how many hours to work? [LO 1.1]
Answer: Your scarce resource is time. You need both time to study and time to work.
Presumably, you want to do well in school and also make money. You will try to balance
your schedule so that you work as much as possible while still having enough time to study
and do well in school.
3. Think about the definition of scarcity that you learned in this chapter. Name three ways that
you confront scarcity in your own life. [LO 1.1]
Answer: People face scarcity in many aspects of their lives. Some people love to travel and
explore new places, so they face scarcity in both time and money that keeps them from
traveling as often as they would like. Others face scarcity in their professional life, in that
there are often many worthwhile projects to address, but the available resources are limited in
terms of employees, time, and budget.
4. When shopping for your interview clothes, what are some trade-offs you face? What is the
opportunity cost of buying new clothes? What are the benefits? How do you balance the two?
[LO 1.2]
Answer: The money you spend on clothes for a job interview could be spent on other things
instead, so it is one opportunity cost. Another opportunity cost is the time you spend
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shopping, which could be spent preparing for your interview or playing Frisbee. The benefits
include looking put-together during the interview, which provides a boost to your job
prospects. You balance the costs and benefits by accepting costs that are less than (or no
greater than) the benefits they provide.
5. You have an 8:30 class this morning but you are feeling extremely tired. How do you decide
whether to get some extra sleep or go to class? [LO 1.2]
Answer: If you are behaving rationally, you decide by comparing the trade-offs. The
opportunity cost of going to class is missing out on some extra sleep. Depending on what else
in on your schedule that day (perhaps an important interview), it may make sense to choose
extra sleep over class. The opportunity cost of extra sleep is that you will miss the lecture. If
your grade will suffer significantly by your absence, you may want to grab some coffee and
go to class!
6. It’s Friday night. You already have a ticket to a concert, which cost you $30. A friend invites
you to go out for a game of paintball instead. Admission would cost you $25, and you think
you’d get $25 worth of enjoyment out of it. Your concert ticket is nonrefundable. What is
your opportunity cost (in dollars) of playing paintball? [LO 1.2]
Answer: The opportunity cost of going to play paintball is whatever amount of enjoyment
(in dollars) you would get out of going to the concert. The $30 you paid for the concert ticket
is not relevant to the decision, as it is a sunk cost and is nonrefundable regardless of what you
do.
7. Suppose you have two job offers and are considering the trade-offs between them. Job A
pays $45,000 per year and includes health insurance and two weeks of paid vacation. Job B
pays $30,000 per year; it includes four weeks of paid vacation but no health insurance. [LO
1.2]
a. List the benefits of Job A and the benefits of Job B.
b. List the opportunity cost of Job A and the opportunity cost of Job B.
Answer:
a. The benefits of Job A are the extra pay and health insurance. For Job B, the benefit is two
extra weeks of vacation.
b. The opportunity cost of Job A is losing out on the extra two weeks of vacation that comes
with Job B. For Job B, the opportunity costs are the extra $15,000 in salary and the health
insurance that come with Job A.
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8. Your former neighbors gave you their lawnmower when he moved. You are thinking of
using this gift to mow lawns in your neighborhood this summer for extra cash. As you think
about what to charge your neighbors and whether this idea is worth your effort, what
opportunity costs do you need to consider? [LO 1.2]
Answer: You need to consider the opportunity cost of your time. Your lawn mowing
business would need to cover the opportunity cost of what you could earn in another summer
job. You also need to consider the cost of gasoline for the mower and the value of the lawn
mower itself. Just because it was a gift does not mean that it has no opportunity cost. The
opportunity cost of using the lawnmower for your business is its sale value, if you decide to
sell the gift rather than use it yourself. Your lawn mowing business needs to cover all of
these costs (the value of your time in another job, gasoline, and the sale value of the
lawnmower) in order for it to be a worthwhile endeavor.
9. Think of a few examples of incentives in your daily life. How do you respond to those
incentives? [LO 1.3]
Answer: An incentive is something that causes people to behave in a certain way by
changing the trade-offs they face. No parking signs encourage people not to park in certain
places and speed limit signs encourage people not to drive too fast. The consequence in either
case is the risk of getting a ticket. The ability to devote a certain percentage of income to a
401(k) retirement account each month before paying taxes encourages people to save for
retirement.
10. You supervise a team of salespeople. Your employees already receive a company discount.
Suggest a positive incentive and a negative incentive you could use to improve their
productivity. [LO 1.3]
Answer: For a positive incentive, you could offer a reward such as a bonus, a gift certificate,
or an extra discount on company merchandise to the most productive employee of the month.
For a negative incentive, you could announce that employees who fail to meet targets will
lose their company discount.
11. Your boss decides to pair workers in teams and offer bonuses to the most productive team.
Why might your boss offer team bonuses instead of individual bonuses? [LO 1.3]
Answer: Your boss is creating a reward system for a project that requires group effort. Even
if you are not motivated to compete for an individual bonus, you are likely to feel
responsibility to your teammate and make a greater effort to be productive. Your teammate
can encourage, pressure, and/or help you to achieve greater productivity.
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12. Think of a public policy—a local or national law, tax, or public service—that offers an
incentive for a particular behavior. Explain what the incentive is, who is offering it, and what
they are trying encourage or discourage. Does the incentive work? [LO 1.3]
Answer: The U.S. government places a subsidy on growing corn. This provides an incentive
for farmers to plant corn on more of their land instead of alternative crops. The government
is trying to encourage the production of domestic corn so that the United States can produce
corn-based ethanol more cheaply.
13. Why do individuals or firms usually provide the goods and services people want? [LO 1.4]
Answer: If firms didn’t produce goods that people want, no one would buy their goods.
These firms would lose money and go out of business, and would be replaced by firms that
did produce goods that customers want.
14. You may have seen TV advertisements for products or programs that claim to teach a sure-
fire way to make millions on the stock market. Apply the Why isn’t someone already doing
it? test to this situation. Do you believe the ads? Why or why not? [LO 1.4]
Answer: Guessing which stocks are going to perform well and which are going to tank is a
hard, if not impossible, task which makes it very hard to make millions in the stock market.
You should not believe the ads for that reason. (If there really was a surefire way to make
millions, you can bet everyone would already be doing it!)
15. Describe an innovation in technology, business, or culture that had a major economic impact
in your lifetime. [LO 1.4]
Answer: The Internet has completely changed the way people do business. While writing
this textbook, we have collaborated with people all over the country, sharing documents
online that we once would have had to send through the mail.
16. Why do people confuse correlation with causation? [LO 1.5]
Answer: Correlation means that two events occur together. Since the two often occur
together, people often believe that one causes the other, but this is not always true. People
once thought that ice cream caused polio, for example. The real relationship was that people
ate more ice cream in the summer, and this also happened to be the time of year that the polio
virus spread more rapidly.
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