S O L U T I O N S M A N U A L
E c o n o m i c s 1 4 / E b y M i c h a e l P a r k i n
C h a p t e r 1 WHAT IS
ECONOMICS?
Answers to the Review Quiz
Page 2
1. List some examples of the scarcity that you face.
Examples of scarcity common to students include not enough income to afford both tuition and a nice car,
not enough learning capacity to study for both an economics exam and a chemistry exam in one night, and
not enough time to allow extensive studying and extensive socializing.
2. Find examples of scarcity in today’s headlines.
A headline in The New York Times on June 17, 2021 was “What is a Megadrought?” The story defined a
megadrought as a “period of extreme dryness that lasts for decades.” It then pointed out that the Western
United States has suffered from drought conditions since 2000 and because of climate change the drought
may continue. The entire story points out the role of scarcity because it is concerned with the scarcity of
water, which is a vital resource.
3. During the Covid-19 pandemic, what incentives did you face and how did you respond?
In some locales students and others faced incentives to wear a facemask, because if they did not wear a
mask they could not legally enter particular stores and if they did so anyway, they might be fined. Some
students and others faced the incentive to work remotely because that was the type of job being offered.
Many students faced the incentive to take classes remotely because this was how almost all classes were
offered.
4. Find an example of the distinction between microeconomics and macroeconomics in today’s
headlines.
Microeconomics: On June 17, 2021 a headline in East Bay Times was “The Housing Market Is So Hot
Buyers Are Paying $1 Million Over Asking Price.” This story covers a microeconomic topic because it
discusses how the choices of individuals and the interactions of the choices in the housing market have
forced prices higher. Macroeconomics: On June 17, 2021, a headline in The Wall Street Journal was “Fed
Pencils In Earlier Interest-Rate Increase.” This story covers a macroeconomic topic because it concerns
interest rates, which affects the national economy.
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1. Describe the broad facts about what, how, and for whom goods and services are produced.
What gets produced is significantly different today than in the past. Today the U.S. economy produces
more services, such as medical operations, teaching, and hair styling, than goods, such as pizza,
automobiles, and computers. How goods and services are produced is by businesses determining how the
factors of production, land, labor, capital and entrepreneurship, are combined to make the goods and
services we consume. Land includes all natural resources, both renewable natural resources such as wood,
and nonrenewable natural resources such as natural gas. Labor’s quality depends on people’s human
capital. In the U.S. economy, human capital obtained through schooling has increased over the years with
far more people completing high school and attending college than in past years. Finally, for whom are
goods and services to be produced depends on the way income is distributed to U.S. citizens. This
distribution is not equal; the 20 percent of people with the lowest income earn about 5 percent of the
nation’s total income while the 20 percent of people with the highest incomes earn about 50 percent of
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total income. On the average, men earn more than women, whites more than non-whites, and college
graduates more than high school graduates.
2. Give some examples to illustrate the potential for conflict between self-interest and the social
interest during the Covid-19 pandemic.
The decision whether to wear a facemask shows the potential conflict between self-interest and social
interest. It was in the self-interest of some people to not wear a mask, possibly because they felt the mask
was too constraining, but it was in the social interest to do so because it helped limit the spread of the
disease. Similarly, it was in the self-interest of owners and employees of bars and restaurants to remain
open at 100 percent capacity, but it was in the social interest to close them and, when they were allowed to
reopen, to do so at a reduced capacity. It was in the self-interest of some parents to have their child (or
children) attend school, perhaps because attendance helped the child learn or because the parents lacked
daycare, but it was in the social interest to have schools closed and use remote classes.
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1. Explain the idea of a tradeoff and think of three tradeoffs that you have made today.
A tradeoff reflects the point that when someone gets one thing, something else must be given up. What is
given up is the opportunity cost of whatever is obtained. Three examples of tradeoffs that are common to
students include: a) When a student sleeps in rather than going to his or her early morning economics
class, the student trades off additional sleep for study time. The opportunity cost of the decision is a lower
grade on the exam. b) When a student running late for class parks his or her car illegally, the student trades
off saving time for the risk of a ticket. The potential opportunity cost of the decision is the goods and
services that cannot be purchased if the student receives an expensive parking ticket. c) A student trades off
higher income by spending time during the day working at a part-time job for less time spent at leisure
time and study. The opportunity cost for the higher income is less leisure and lower grades in classes.
2. Explain what economists mean by rational choice and think of three choices that you’ve made
today that are rational.
A rational choice is one that compares the costs and benefits of the different actions and then chooses the
action that has the greatest benefit over cost for the person making the choice. Three rational choices made
by students include: a) The choice to skip breakfast to go to class. In this case the benefit is the higher
grade in the class and the cost is the breakfast forgone. b) The choice to stop talking with a friend on the
phone and start studying for an impending exam. In this case the benefit is the resulting higher grade in
the class and the cost is the conversation forgone. c) The choice to do laundry today rather than watch
television. In this case the benefit is the fact the student will have clean clothes to wear and the cost is the
loss of the entertainment the television show would have provided.
3. Explain why opportunity cost is the best forgone alternative and provide examples of some
opportunity costs that you have faced today.
When a decision to undertake one activity is made, often many alternative activities are no longer possible.
Often these activities are mutually exclusive so only the highest valued alternative is actually forgone. For
instance, the decision to go to a student’s 8:30 AM class eliminates the possibility of sleeping in during the
hour and of jogging during the hour. But in this case, it is impossible to both sleep in and to jog during the
hour, so the opportunity cost cannot be both activities. What is lost is only the activity that otherwise
would have been chosen—either sleeping in or jogging—which is whatever activity would have been
chosen, that is, the most highly valued of the forgone alternatives. For students, attending class, doing
homework, studying for a test are all activities with opportunity costs.
4. Explain what it means to choose at the margin and illustrate with three choices at the margin
that you have made today.
Choosing at the margin means choosing to do a little more or a little less of some activity. Three common
examples students encounter are: a) When a student faces a chemistry and an economics final exam in one
, WHAT IS ECONOMICS? 3
day, the student must determine whether spending the last hour studying a little more chemistry or a little
more economics will yield a better contribution (marginal benefit) to his or her overall GPA. b) A college
student buying a computer must decide whether the marginal benefit of adding 1 GB of additional
memory is worth the marginal cost of the additional memory. c) A student football fan with a choice of a
cheap seat in the student bleachers located at the far end of the playing field or a more expensive seat
located on the 30 yard line must determine whether the marginal benefit of watching the game from a
better seat is worth the marginal cost of the higher ticket price.
5. Explain why choices you made during the Covid-19 pandemic were in your self-interest. Why
might your choices not have been in the social interest?
People making rational decisions in their self-interest about actions compare the marginal benefits to
themself to the marginal costs to themself. Therefore people’s choices are in their self-interest because they
are looking at their marginal benefits and marginal costs. Some of these choices may not have been in the
social interest because the social interest includes costs imposed on other people. For example, in many
college towns students visited nightclubs and did not socially distance nor wear masks because to these
students the marginal benefit of socializing exceeded the marginal cost they incurred, say the likelihood of
catching coronavirus. But this was not in the social interest because if the student was infected, then he or
she in turn might infect others, including some high-risk individuals. The cost to the other people from
catching COVID-19 is ignored by students who visited nightclubs with socially distancing or masking.
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1. Distinguish between a positive statement and a normative statement and provide examples
associated with the Covid-19 vaccine rollout.
A positive statement is a description of how the world is. It is testable. A normative statement is a
description of how the world ought to be. It is, by its very nature, not testable because there is no
universally approved criterion by which the statement can be judged. “I will be vaccinated as quickly as
possible,” is a positive statement—it might not be true, but it is testable. “I will be vaccinated because I
think it is a good idea,” is a normative statement. Whether someone agrees with it depends on his or her
interpretation of what makes for a “good” idea. “The percentage of the population fully vaccinated in my
state is over 60 percent” is a positive statement—again, it might not be true, but it is testable. “The
percentage of the population fully vaccinated in my state is too low” is a normative statement because it
depends on people’s personal interpretation of what is “too low.”
2. What is a model? Can you think of a model that you might use in your everyday life?
A model is a description of some aspect of the economic world. It includes only those features that are
necessary to understand the issue under study. An economic model is designed to reflect those aspects of
the world that are relevant to the user of the model and ignore the aspects that are irrelevant. A typical
model is a GPS map. It reflects only those aspects of the real world that are relevant in assisting the user in
reaching his or her destination and avoids using information irrelevant to travel.
3. How do economists try to disentangle cause and effect?
Economists use models to understand some aspect of the economic world. Testing the predictions of
models makes it necessary to disentangle cause and effect. To overcome this problem, economists have
three methods of testing their models: Using a natural experiment, using a statistical investigation, and
using economic experiments. A natural experiment is a situation that arises in the ordinary course of life in
which one factor being studied varies and the other factors are the same. This method allows the economist
to focus on the effect from the factor that differs between the two situations. A statistical investigation
looks for correlations between variables but then determining whether the correlation actually reflects
causation can be difficult. An economic experiment puts people into decision making situations and then
varies the relevant factors one at a time to determine each factor’s effect.
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4. How is economics used as a policy tool?
Individuals, businesses, and governments use economics as a policy tool. Individuals use the economic
ideas of marginal benefit and marginal cost when making decisions for such topics as attending college,
paying cash or credit for a purchase, and working. Businesses also use the concepts of marginal benefit and
marginal cost when making decisions about what to produce, how to produce, and even how many hours
to stay open. Finally governments also use marginal benefit and marginal cost when deciding issues such as
the level of property taxes, the amount to fund higher education, or the level of a tariff on Brazilian
ethanol.
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1. What types of jobs do economists do?
Economists are found in a large variety of jobs. Many of these jobs are analysts of various sorts. Some
economists are market research analysts—they work with data on sales and try to predict a product’s
success and the price that should be set for it. Other economists are financial analysts—they work with
data on interest rates, stock and bond prices to try to forecast the cost of borrowing and the returns that
can be expected on investments. Still other economists work as budget analysts—they use data on an
organization’s cash inflows (its receipts) and its outflows (its payments) in order to prepare plans
forecasting future cash flows.
2. What are the skills needed for an economics job?
Economists need five important skills:
Critical-thinking skills: Economists need the ability to use logical thinking to clarify and then solve real-
world problems.
Analytical skills: Economists must be able to use economic ideas and tools to analyze data to determine
important patterns and reach logical conclusions.
Math skills: Economists need to be able to use mathematical and statistical tools to explore and analyze
data to reach valid conclusions.
Writing skills: Economists must be able to clearly write reports presenting ideas, conclusions from any
analysis and reasons why the conclusions are valid.
Oral communication skills: Economists need the ability to orally explain ideas, conclusions, and the
reasons why the conclusions are correct to a variety of people, including those with little
knowledge of economics.
3. What is the range and median level of economists’ pay? How do they compare to other college
majors?
Economists’ pay ranges from $56,500 to $139,600 a year and has a median salary of $105,100 a year.
Students who earn a PhD in economics typically earn about $150,000 a year by mid-career. Economists
who work as analysts have incomes that range from an average of $55,000 a year for market research
analysts to $82,000 a year for financial analysts. Midcareer, petroleum engineering and operations research
majors earn more than applied economics majors but the salaries for economics majors are higher than
most other majors, such as chemical engineering, nuclear engineering, and corporate accounting and
finance.
4. Why is the underrepresentation of women and minorities in economics an economic problem?
The underrepresentation of women and minorities in economics is an economic problem because the
outcome is inefficient. The marginal benefit of women and minorities working as economists exceeds their
marginal cost. Resources are not being allocated efficiently. With a more diverse group of economists,
likely more diverse questions will be studied in more diverse ways. This exploration should increase the
quality and accuracy of economists’ advice and predictions.
