Economics

Chapter 1 The Principles and Practice of Economics
1.1 The Scope of Economics
1) Which of the following statements is true?

A) All economic agents are necessarily individuals.
B) A worker who shirks work is not an economic agent.
C) A government is an example of an economic agent.
D) A street gang is not an economic agent.
Answer: C
Difficulty: Easy
Topic: Economic Agents and Economic Resources
2) Which of the following best describes scarce resources?

A) Resources that most people cannot afford to buy
B) Resources that can only be distributed efficiently by the government
C) Resources for which the quantity demanded is the same for all economic agents
D) Resources for which the quantity that people want exceeds the quantity that is freely available
Answer: D
Difficulty: Easy
3) Which of the following is NOT a scarce resource?

A) Gold
B) Pollution
C) Petroleum
D) iPhones
Answer: B
Difficulty: Easy
AACSB: Application of Knowledge
4) In economics, scarcity refers to the situation of:

A) optimizing with the use of limited information.
B) having more wants than the amount of available resources.
C) rationing of available goods and services by the government.
D) sellers setting the prices of their products too high for people to be able to afford them.
Answer: B
Difficulty: Medium
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A) Gold is not a scarce resource.
B) Both life-saving drugs and ice cream are examples of scarce goods.
C) If a scarce resource is given away for free, everyone will be able to consume it.
D) Scarcity means that there is an imbalance between unlimited resources and limited wants.
Answer: B
Difficulty: Easy
6) Economic reasoning implies that economic agents will make decisions:

A) by random selection.
B) by comparing the costs and benefits of various options.
C) by replicating the choices made by other economic agents.
D) solely on the basis of tastes and preferences for various options.
Answer: B
Difficulty: Easy
7) Economics is primarily the study of:

A) the mental functions and behavior of individuals and groups.
B) the state, nation, government, and politics and policies of governments.
C) the problems related to existence and evolution of society.
D) how agents choose to allocate scarce resources and how the choices affect society.
Answer: D
Difficulty: Easy
Topic: Definition of Economics
8) Economics is primarily the study of:

A) the relationship between matter and its motion.
B) agents' choices and their impact on society.
C) events of the past, and how these events affect present human behavior.
D) the different types of governments and the impact of their policies on a nation.
Answer: B
Difficulty: Easy
Topic: Definition of Economics
9) ________ economics is analysis that generates objective descriptions or predictions about the
world that can be verified with data.
A) Positive
B) Negative
C) Marginal
D) Normative
Answer: A
Difficulty: Easy
Topic: Positive Economics and Normative Economics
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10) Which of the following is an example of a positive economic statement?
A) The pricing policies of monopolies should be strictly supervised.
B) Unemployment is more harmful than inflation.
C) Higher interest rates will encourage more savings.
D) Pollution is one of the most serious economic problems.
Answer: C
Difficulty: Medium
11) Which of the following is an example of a positive economic statement?

A) The government should ideally work as a welfare state.
B) An increase in income causes an increase in savings.
C) Economics is the most useful social science.
D) Eliminating poverty is more important than reducing inflation.
Answer: B
Difficulty: Medium
12) ________ economics prescribes what an individual or society ought to do.

A) Positive
B) Negative
C) Behavioral
D) Normative
Answer: D
Difficulty: Easy
13) Which of the following is an example of a normative economic statement?

A) A cut in the tax rate will lead to an increase in consumption.
B) A relaxation in import duties will encourage imports.
C) An increase in subsidies to farmers will boost agricultural production.
D) An increase in social security benefits will increase the welfare of all economic agents.
Answer: D
Difficulty: Medium
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14) Which of the following is an example of a normative economic statement?
A) An increase in government expenditure will lead to an increase in well-being.
B) An increase in the money supply will lead to an increase in the inflation rate.
C) An increase in income is accompanied by an increase in savings.
D) An increase in income is accompanied by an increase in consumption.
Answer: A
Difficulty: Medium

A) Positive economics deals with issues that are subjective.
B) Normative statements depend on personal preferences.
C) Positive economics recommends what people ought to do.
D) Normative economic statements can be confirmed or disproven.
Answer: B
Difficulty: Easy
16) Which of the following statements correctly differentiates between positive and normative
economics?
A) Positive economics is descriptive, whereas normative economics is advisory.
B) Positive economics describes what people ought to do, whereas normative economics
describes what people actually do.
C) Positive economics is based on judgments, whereas normative economics is not.
D) Positive economics can only be applied to microeconomics, whereas normative economics
can be applied to both microeconomics and macroeconomics.
Answer: A
Difficulty: Easy
17) Positive economics is descriptive because:

A) it is based on ethical judgments.
B) its predictions cannot be verified with data.
C) it prescribes what an individual or society ought to do.
D) it explains what has happened or predicts what will happen.
Answer: D
Difficulty: Easy
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A) Positive economics describes what people ought to do.
B) Normative economics describes what people actually do.
C) Positive economics generates objective descriptions that can be verified with data.
D) Normative economics is free from value judgments, tastes, and preferences of economic
agents.
Answer: C
Difficulty: Easy
19) ________ is the study of how individuals, households, governments, and firms make
choices and how those choices affect prices, the allocation of resources, and the well-being of
other agents.
A) Growth theory
B) Microeconomics
C) Macroeconomics
D) Monetary economics
Answer: B
Difficulty: Easy
Topic: Microeconomics and Macroeconomics
20) Which of the following is an example of a topic studied by microeconomists?

A) National income calculations
B) Price determination by a firm
C) Measures to combat inflation
D) Interest rate determination
Answer: B
Difficulty: Easy
21) Which of the following is an example of a topic studied by microeconomists?

A) Energy consumption by a firm
B) Nationwide inflation rate
C) Economic growth as a means to alleviate poverty
D) Aggregate demand and aggregate supply in an economy
Answer: A
Difficulty: Medium
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22) ________ is the study of an economy as a whole.
A) Microeconomics
B) Game theory
C) Behavioral economics
D) Macroeconomics
Answer: D
Difficulty: Easy
23) Which of the following is an example of a topic studied by macroeconomists?

A) Aggregate demand in an economy
B) Price determination by a firm
C) Utility maximization by a consumer
D) Decision making by a producer
Answer: A
Difficulty: Medium
24) Which of the following is an example of a topic studied by macroeconomists?

A) Savings of a single household
B) Productivity of an agricultural farm
C) Total output of an economy
D) Price determination by a monopolist
Answer: C
Difficulty: Medium

A) Microeconomics is the study of an economy as a whole.
B) Macroeconomics studies how individuals make choices.
C) The study of the inflation rate is covered under microeconomics.
D) The study of the unemployment rate is covered under macroeconomics.
Answer: D
Difficulty: Medium
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26) Which of the following statements correctly highlights the difference between
microeconomics and macroeconomics?
A) Microeconomics is descriptive, whereas macroeconomics is advisory.
B) Microeconomics primarily deals with positive analysis, whereas macroeconomics primarily
deals with normative analysis.
C) Microeconomics deals with a small part of the economy, whereas macroeconomics deals with
aggregate economic performance.
D) Microeconomics describes what economic agents actually do, whereas macroeconomics
describes what economic agents ought to do.
Answer: C
Difficulty: Easy
27) The understanding of why an economy is contracting during slowdowns and how to
recommend appropriate policies is studied under:
A) macroeconomics.
B) microeconomics.
C) agricultural economics.
D) international economics.
Answer: A
Difficulty: Easy
28) Understanding the impact of carbon taxes on the energy usage of individual households and
firms is studied under:
A) microeconomics.
B) macroeconomics.
C) fiscal economics.
D) financial economics.
Answer: A
Difficulty: Medium
29) The relationship between the unemployment rate and inflation is studied under:
A) microeconomics.
B) macroeconomics.
C) behavioral economics.
Answer: B
Difficulty: Medium
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30) The relationship between a firm's advertising expenditure and its profit is studied under:
A) microeconomics.
B) macroeconomics.
C) public economics.
Answer: A
Difficulty: Medium
31) Define economics. Who are economic agents?

Answer: Economics is the study of how agents choose to allocate scarce resources and how
these choices affect society. An economic agent is an individual or a group that makes choices.
Difficulty: Easy
32) What are scarce resources? Why are economic agents concerned with the allocation of these
resources?
Answer: Scarce resources are resources for which the quantity that people want exceeds the
quantity that is freely available. Economic agents need to satisfy their unlimited wants in a world
of limited resources. This makes it important for them to understand how these scarce resources
are to be used and distributed in order to optimize allocation.
Difficulty: Easy
33) Differentiate between positive and normative economics using examples.

Answer: Positive economics is analysis that generates objective descriptions or predictions
about the world that can be verified with data. It is analysis that describes what people actually
do. "A 5% fall in the unemployment rate will lead to a 2% increase in the inflation rate" is an
example of a positive economic statement. Normative economics, on the other hand, is analysis
that prescribes what an individual or society ought to do. It is subjective and depends on personal
preferences, tastes, attitudes, feelings, or ethical judgments. "Pollution in developing countries is
one of the biggest global environmental problems" is an example of a normative economic
statement.
Difficulty: Easy
34) How does microeconomics differ from macroeconomics?

Answer: Microeconomics is the study of how individuals, households, firms, and governments
make choices, and how those choices affect prices, the allocation of resources, and the well-
being of other agents. On the other hand, macroeconomics is the study of the economy as a
whole. The scope of macroeconomics extends to the study of economy-wide phenomena, like the
growth rate of an economy, the nation-wide unemployment rate, or the inflation rate.
Difficulty: Easy
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35) Robert and Janet are discussing unemployment and inflation in their country. Robert, on the
basis of a recent newspaper report, claims that a 5% reduction in unemployment will lead to a
2% rise in inflation. On the other hand, Janet insists that inflation is a far bigger problem than
unemployment and should be addressed with prime importance. Classify Robert's and Janet's
statements as descriptive or advisory. Explain your answer.
Answer: Robert claims that a 5% reduction in unemployment will lead to a rise in a 2% in
inflation. This statement represents predictions that can be verified with data. Therefore, Robert's
approach is positive, which means it is an analysis of things as they are. Positive economics
describes what has happened or predicts what will happen. The conclusion of his statement can
be verified with data and is not subject to his tastes and preferences.
Janet claims that inflation is a far bigger problem than unemployment and should be addressed
with prime importance. Janet's statement is normative. Normative economics is analysis that
recommends what people ought to do. Unlike Robert's statement, Janet's belief that inflation is a
bigger problem than unemployment is based on her values and/or ethical judgments. Therefore,
while Robert's statement is descriptive in nature, Janet's statement is advisory.
Difficulty: Medium
36) Classify the following as positive economics statements or normative economics statements.
a) An increase in an individual's income increases consumption, but by an amount less than the
increase in income.
b) The government should undertake the responsibility of providing healthcare to all its citizens.
c) A negative current account deficit can be advantageous to an economy.
d) An increase in net exports has a positive effect on a country's national income.
e) The gross domestic product of India is increasing at 5% annually.
Answer: The statements can be classified as follows:
a) An increase in an individual's income increases consumption, but by an amount less than the
increase in income: Positive economic statement
b) The government should undertake the responsibility of providing healthcare to all its citizens:
Normative economic statement
c) A negative current account deficit can be advantageous to an economy: Normative
economic statement
d) An increase in net exports has a positive effect on a country's national income: Positive
economic statement
e) The gross domestic product of India is increasing at 5% annually: Positive economic
statement
Difficulty: Medium
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37) a) A recent news report stated that the unemployment rate in the country Lithasia had
increased from 10.2% to 18.2% from 2003 to 2013 and that the government has adopted strict
fiscal measures to expand employment. Would this report be considered microeconomic or
macroeconomic analysis?
b) Students in a class are discussing how a monopolist should determine his profit-maximizing
output. Would this discussion be considered microeconomic or macroeconomic analysis?
Answer:
a) This report will pertain to macroeconomics. Macroeconomics refers to the study of an
economy as a whole. Macroeconomics covers economy-wide phenomena, like the growth rate of
a country's total economic output, the inflation rate, or the unemployment rate. The report
suggests that the total unemployment rate in Lithasia has increased from 10.2% to 18.2% from
2003 to 2013. This estimation is a measure of the economy-wide aggregate unemployment, and
is covered under macroeconomics.
b) Microeconomics is the study of how individuals, households, firms, and governments make
choices. The students are discussing how a single monopolist should determine its profit-
maximizing output. This is a discussion of an individual entity and so is considered
microeconomic analysis.
Difficulty: Medium
1.2 Three Principles of Economics
1) Which of the following correctly defines the term "equilibrium"?

A) It refers to analysis that uses data to arrive at conclusions.
B) It refers to a situation where all agents are simultaneously optimizing.
C) It refers to an optimizing decision made by an individual economic agent.
D) It refers to government intervention that efficiently allocates scarce resources.
Answer: B
Difficulty: Easy
Topic: Three Principles of Economics
2) Which of the following best describes equilibrium?

A) A situation where the government intervenes to allocate resources
B) A situation where only one individual or firm takes an optimum decision
C) A situation where no economic agent would benefit by changing his or her behavior
D) A situation where economic agents do not optimize as they do not have perfect information
Answer: C
Difficulty: Easy
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3) Empiricism is analysis that uses ________ to test theories.
A) data
B) illustrations
C) philosophy
D) value judgments
Answer: A
Difficulty: Easy
4) Which of the following is NOT a key principle of economics?

A) Optimization
B) Equilibrium
C) Empiricism
D) Substitution
Answer: D
Difficulty: Easy
5) Define the three key principles of economics.

Answer:
a) Optimization: Optimization refers to the process of choosing the best option from a set of
alternatives, given the available information.
b) Equilibrium: Equilibrium is a special situation where everyone is simultaneously optimizing,
so that nobody would benefit personally by changing his or her behavior.
c) Empiricism: Empiricism is analysis that is evidence-based as it uses data to test theories and to
determine what is causing things to happen in the world.
Difficulty: Easy
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1.3 The First Principle of Economics: Optimization
1) Which of the following statements is true of optimization?

A) Optimization analysis only relates to the financial budget of an economic agent.
B) Individuals who optimize do not consider costs when choosing the most feasible alternative.
C) Economic agents can optimize only when they are able to perfectly estimate all future costs
and benefits.
D) Economic agents who optimize attempt to choose the best feasible option, given the
information that they have.
Answer: D
Difficulty: Easy
Topic: The First Principle of Economics: Optimization
2) Feasible options are options:

A) that are available and affordable.
B) that are available but not affordable.
C) that are affordable but not available.
D) that are optimal for an economic agent.
Answer: A
Difficulty: Easy
3) A consumer has $40 that he wants to spend. He is faced with four options: a camera that costs
$60, a cell phone that costs $150, a book that costs $10, and a Bluetooth speaker that costs $45.
Which of the following is a feasible option for the consumer?
A) The book
B) The camera
C) The cell phone
D) The Bluetooth speaker
Answer: A
Difficulty: Easy
4) A decision or a choice that is made after using optimization analysis:

A) has zero opportunity cost.
B) is not necessarily risk free.
C) is the same for all individuals.
D) cannot be justified using normative analysis.
Answer: B
Difficulty: Easy
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A) Optimization requires individuals to foresee the future perfectly.
B) An optimizing individual need not consider the risks involved in various choices.
C) An optimizing individual is also likely to exhibit rationality.
D) The less information that is available, the easier it is to make optimal decisions.
Answer: C
Difficulty: Easy

A) Rational economic agents maximize more than just monetary income.
B) An individual does not require information to make optimal decisions.
C) The principle of optimization is only accurate when it comes to making monetary decisions.
D) It is not necessary to consider the risks of a particular alternative while making an optimal
decision.
Answer: A
Difficulty: Easy
7) Which of the following correctly identifies the trade-off that a budget constraint represents?
A) The amount of income that must be given up to obtain an additional unit of a good
B) The maximum amount of two goods that a consumer can purchase given his income
C) The optimum combination of goods that a consumer with a given income should purchase
D) The amount of one good that has to be given up to purchase an additional unit of the other
good
Answer: D
Difficulty: Easy
Topic: Trade-offs and Budget Constraints
8) A budget constraint represents the:

A) total money income that an agent earns in different time periods.
B) goods and services an economic agent can choose given her limited income.
C) inequality in the incomes earned by various economic agents.
D) aggregate income earned by all the firms in an economy.
Answer: B
Difficulty: Easy
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A) A budget constraint is the same for a consumer at all levels of income.
B) A budget constraint quantifies the trade-offs that economic agents face while making
decisions.
C) A budget constraint is a function of the income of the consumer and not the prices of the
goods and services available for consumption.
D) A budget constraint is based on the minimum amount of money that an economic agent can
spend on goods and services.
Answer: B
Difficulty: Easy
10) A consumer has $20 that he wants to spend on two goods: pens priced at $2 each, and pencils
priced at $1 each. Which of the following correctly represents his budget constraint?
A) $20 = ($2/Quantity of pens) + ($1/Quantity of pencils)
B) $20 = ($2 × Quantity of pens) + ($1 × Quantity of pencils)
C) $20 = ($3/Quantity of pens + Quantity of pencils)
D) $20 = $3 × (Quantity of pens - Quantity of pencils)
Answer: B
Difficulty: Medium
11) An individual has 8 hours to spare. He has to divide his time between two activities: reading
and writing. Which of the following allocations will exactly satisfy the individual's budget
constraint?
A) 3 hours of reading and 4 hours of writing
B) 4 hours of reading and 6 hours of writing
C) 2 hours of reading and 2 hours of writing
D) 5 hours of reading and 3 hours of writing
Answer: D
Difficulty: Easy
12) A consumer has $50 to spend. He has to decide between buying two goods: magazines
priced at $5 each and DVDs priced at $10 each. Which of the following combinations of the two
goods will exactly satisfy his budget constraint?
A) 3 magazines and 4 DVDs
B) 2 magazines and 4 DVDs
C) 6 magazines and 1 DVD
D) 2 magazines and 2 DVDs
Answer: B
Difficulty: Medium
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A) All rational economic agents attempt to maximize their income.
B) A rational consumer makes his decisions depending on what the majority chooses.
C) A budget constraint is an economic tool that quantifies the trade-off between consumption of
two goods.
D) A trade-off refers to the exchange of goods between economic agents through a barter system
or mutual exchange.
Answer: C
Difficulty: Easy
14) The best alternative use of a resource is referred to as its:

A) sunk cost.
B) market price.
C) marginal utility.
D) opportunity cost.
Answer: D
Difficulty: Easy
Topic: Opportunity Cost
15) A student has two options: she can either surf the web, or work part-time. Working part-time
pays her $20 per hour. What is the student's opportunity cost of surfing the web for 5 hours?
A) $4
B) $20
C) $50
D) $100
Answer: D
Difficulty: Medium
16) John has to choose between two jobs: one that offers him $50 per hour and one that offers
him $35 per hour. The opportunity cost of choosing the job that offers him $50 per hour is:
A) $1.5 per hour.
B) $15 per hour.
C) $35 per hour.
D) $85 per hour.
Answer: C
Difficulty: Medium
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17) ________ is a calculation that adds up costs and benefits using a common unit of
measurement, like dollar values.
A) Cost-benefit analysis
B) Revenue-income analysis
C) Budget constraint analysis
D) Expenditure-income analysis
Answer: A
Difficulty: Easy
Topic: Cost-Benefit Analysis
18) Cost-benefit analysis requires:

A) choosing the alternative with the least net benefit.
B) all costs and benefits to be measured in the same unit.
C) evaluating the budget constraint before making a choice.
D) that the risks associated with different alternatives are ignored.
Answer: B
Difficulty: Easy
19) Suppose that Jinelle, an engineer, has to choose between two jobs. Which of the following
statements is true?
A) When deciding between both jobs, she should consider both wage and non-wage attributes of
each job.
B) While deciding between jobs, she should focus only on the costs of each job and ignore the
benefits.
C) While deciding between jobs, she should only focus on the benefits from each job and ignore
the costs.
D) While deciding between jobs, she should consider the wage attributes and ignore the non-
wage attributes of each job.
Answer: A
Difficulty: Easy
20) The net benefit of a particular alternative equals:

A) the benefits received from the alternative plus the costs incurred in choosing the alternative.
B) the benefits received from the alternative divided by the costs incurred in choosing the
alternative.
C) the costs incurred in choosing the alternative divided by the benefits received from the
alternative.
D) the benefits received from the alternative minus the costs incurred in choosing the alternative.
Answer: D
Difficulty: Easy
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21) Out of a set of feasible alternatives, an optimizer should choose the alternative with the:
A) highest net benefit.
B) highest opportunity cost.
C) lowest total cost, regardless of benefit.
D) highest total benefit, regardless of cost.
Answer: A
Difficulty: Easy
22) If a particular choice that an individual faces gives him a benefit of $20 but costs $30, the net
benefit from making this choice equals:
A) $20.
B) $10.
C) -$10.
D) -$30.
Answer: C
Difficulty: Easy
23) If a job pays a wage of $50 per hour, but has a non-wage cost valued at $20 per hour, the net
benefit of taking the job equals:
A) $2.5 per hour.
B) $20 per hour.
C) $30 per hour.
D) $70 per hour.
Answer: C
Difficulty: Medium
Scenario: Maria has to choose between driving and taking a train to destination A. Travelling by
train will cost her $400 and will take 4 hours. Driving to destination A takes 6 hours, and the
required amount of gasoline costs $250. Her opportunity cost of time is $15 per hour.
24) Refer to the scenario above. What is the total cost involved if Maria chooses to travel by
train?
A) $60
B) $400
C) $420
D) $460
Answer: D
Difficulty: Medium
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25) Refer to the scenario above. If Maria borrows her parents' car and pays for only the gasoline,
what is her total cost of driving to destination A?
A) $90
B) $250
C) $300
D) $340
Answer: D
Difficulty: Medium
26) Refer to the scenario above. Maria should choose to:

A) drive, as it will save her $120.
B) travel by train, because it is quicker.
C) drive, as it will give her a real saving of $150.
D) travel by train, as it will save her $30 in travel time.
Answer: A
Difficulty: Medium
27) Refer to the scenario above. If Maria's opportunity cost of time increases to $80 per hour, the
cost involved in taking the train is:
A) $320.
B) $720.
C) $800.
D) $970.
Answer: B
Difficulty: Medium
28) Refer to the scenario above. If Maria's opportunity cost of time increases to $80 per hour, the
cost of driving to destination A is:
A) $480.
B) $730.
C) $800.
D) $970.
Answer: B
Difficulty: Medium
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29) Refer to the scenario above. If the opportunity cost of time increases to $80 per hour, which
of the following statements is true?
A) Maria should choose to drive as it saves her $10.
B) Maria should choose to drive as it saves her $150.
C) Maria should choose to travel by train as it saves her $10.
D) Maria should choose to travel by train as it saves her $150.
Answer: C
Difficulty: Medium

A) A rational economic agent is not likely to optimize.
B) Cost-benefit analysis can also be used for normative economic analysis.
C) Cost-benefit analysis does not yield the same result as optimization analysis.
D) The net benefit of an option that costs $50 and provides a benefit of $100 is equal to $150.
Answer: B
Difficulty: Medium
31) Which of the following statements is true of economic reasoning?

A) Economic reasoning hampers optimal decision making.
B) Economic reasoning can only be used with normative choices.
C) Economic reasoning implies that leisure time is free and costless.
D) Economic reasoning helps people make the best use of scarce resources.
Answer: D
Difficulty: Easy
Topic: Evidence-Based Economics: Is Facebook Free?
32) Why do trade-offs occur? How are budget constraints related to trade-offs?
Answer: Trade-offs occur because of scarcity: economic agents need to satisfy their wants with
limited resources. Therefore, in most cases, some benefits have to be given up in order to gain
some other benefits. Budget constraints quantify the relevant trade-offs that an economic agent
faces. Once trade-offs are quantified, rational decision making becomes easier allowing the
individual to make an optimal decision.
Difficulty: Easy
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33) Define opportunity cost. A student who has just graduated from college has three job offers:
the first job pays him $35,000 a year, the second job pays him $23,000 a year, and the third one
pays him $15,000 a year. What is the student's opportunity cost of taking the first job?
Answer: Opportunity cost is the best alternative use of a resource. It is what an economic agent
is giving up when he chooses a particular option. If the individual decides to take the first job; he
will earn $35,000 a year. The opportunity cost of taking this job is the next best offer that he
could have taken up. Therefore, the opportunity cost of the first job is $23,000 a year.
Difficulty: Easy
34) What is cost-benefit analysis? What are the steps involved in using cost-benefit analysis to
make the optimal choice?
Answer: Cost-benefit analysis is a calculation that adds up the costs and benefits of a particular
choice using a common unit of measurement. It involves the conversion of all costs and benefits
into a common unit of measurement so that they can be compared. The difference between the
benefits and costs of choosing an alternative is referred to as the net benefit of the alternative.
The alternative with the highest net benefit is the optimal choice.
Difficulty: Easy
35) Kevin has a lot of free time and he decides to pick up a new hobby. He has two options—he
can take art classes or can sign up for French cooking classes. He estimates that the art classes
would cost him $70, and would provide him with a benefit of $100. On the other hand, the
cooking classes would cost him $120, but provide him benefits worth $160. Use cost-benefit
analysis to arrive at the optimum choice for Kevin.
Answer: Kevin's optimal choice would depend on the net benefits of both options.
Net benefit of taking up art classes = $100 - $70 = $30
Net benefit of taking up cooking classes = $160 - $120 = $40
Therefore, given the costs and benefits involved, Kevin should sign up for the French cooking
classes rather than the art classes.
Difficulty: Medium
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36) If Tom spends 4 hours a day on Facebook and the minimum wage in his country is $7 per
hour, what is his opportunity cost of spending time on Facebook? Given that spending time on
Facebook has an opportunity cost, does this analysis suggest that Tom should work rather than
spending his time on social networking?
Answer: Opportunity cost refers to the best alternative use of a resource. In this case, the
resource is time. So, if Tom decided to work instead of spending time on Facebook, he would
earn $7 every hour. Therefore, Tom's opportunity cost of spending time on Facebook is equal to
7 × 4 = $28.
No, economic analysis does not dictate choices. Economics would not tell Tom what to do; it
will only help him identify the trade-offs that he is making in his decisions. Whether Tom
chooses to work or spend time on Facebook is a normative choice that Tom should make based
on costs and benefits.
Difficulty: Medium
Topic: Evidence-Based Economics: Is Facebook Free?
37) A consumer has a monthly income of $100 that he wants to spend on two goods: rugs priced
at $10 and chairs priced at $5. What is the consumer's opportunity cost of buying a rug? What is
his opportunity cost of buying a chair? Use a table to represent the consumer's budget constraint.
Answer: Opportunity cost is the best alternative use of a resource. Buying one rug costs $10,
and each chair costs $5. So, one rug can be purchased with the same amount of money used to
buy two chairs. Therefore, the opportunity cost of buying a rug is 2 chairs. Similarly, the
opportunity cost of buying a chair is half a rug.
The consumer's budget constraint is given by:
$100 = 10 × (Quantity of rugs) + 5 × (Quantity of chairs)
The following table shows the various combinations of rugs and chairs that the consumer can
buy with $100.
Budget Quantity of Rugs Quantity of Chairs

100 10 0
100 9 2
100 8 4
100 7 6
100 6 8
100 5 10
100 4 12
100 3 14
100 2 16
100 1 18
100 0 20
Difficulty: Medium
21
38) a) Sam pays $600 for 30 days of guitar classes. He attends an hour-long class every day. If,
instead of attending class, he works at a part-time job, he would be paid $5 an hour. Or, he could
work at a fast-food outlet and earn $9 per hour. Once he has already paid a nonrefundable fee of
$600 to enroll in the class, what is his opportunity cost of attending each hour of class?
b) Suppose workers decide to work more and consume less leisure when their hourly wage rate
increases. What could explain this behavior?
Answer:
a) Sam's opportunity cost will measure the next best use of an hour of his time plus the hourly
cost of guitar classes. Once he pays the nonrefundable $600, there is no other cost other than the
value of his time. With an hour of time, he has two options: work for $5 per hour, or work for $9
per hour. Therefore, the next best use of an hour that Sam spends on guitar classes is equal to the
$9 he could have earned per hour by working at the fast-food outlet. Sam's opportunity cost of
attending his guitar classes is $9 per hour.
b) With an increase in their hourly wage rates, workers work more and consume less leisure due
to a change in their opportunity cost. Assuming that the initial wage of an employee is $10 per
hour, the opportunity cost of one hour of rest or leisure is $10 per hour. Now, if the wage rate
increases from $10 to $20 per hour, the opportunity cost of one hour of rest or leisure also
increases to $20 per hour. Therefore, taking an hour of rest becomes more expensive for
employees and they tend to work more than they used to.
Difficulty: Medium
22
39) Wendy has to decide between taking a flight and driving to California. Air tickets cost $800
and will get her to California in 2 hours. If she decides to drive, she would need $300 worth of
gasoline and 10 hours to reach her destination. Suppose that Wendy's opportunity cost of time is
$20 per hour. Assuming that there are no other costs involved, use cost-benefit analysis to decide
whether she should fly or drive to California. If Wendy has an important business meeting to
attend and this increases her opportunity cost of time to $200 per hour, will her optimum
decision change? Explain.
Answer: Cost-benefit analysis is a calculation that adds up costs and benefits using a common
unit of measurement. It is used to identify the alternative that has the greatest net benefit, which
is equivalent to benefits minus costs.
If Wendy decides to drive down instead of flying, she saves ($800 - $300) = $500. But driving
down to California takes an additional 8 hours of travelling time.
Therefore, the net benefit of driving relative to flying = ($500 cost saving) - (8 hours of
additional travelling time) × ($20/hour) = $500 - $160 = $340.
Because the net benefit of driving is positive, driving to California is an optimum choice for
Wendy when the opportunity cost of time is $20 per hour.
If the opportunity cost of time changes, the net benefit of driving relative to flying will also
change.
Net benefit of driving relative to flying when the opportunity cost of time is $200 per hour =
($500 cost saving) - (8 hours of additional travelling time) × ($200/hour) = $500 - $1,600 = -
$1,100.
Because the net benefit of driving relative to flying is negative, flying to California is an
optimum choice for Wendy when the opportunity cost of time is $200 per hour.
Difficulty: Medium
23
1.4 The Second Principle of Economics: Equilibrium
1) Which of the following statements is true of equilibrium?

A) Economic agents have an incentive to divert from equilibrium.
B) Each economic agent can reach equilibrium irrespective of the actions of others.
C) In equilibrium, the opportunity cost of the choices made by each economic agent is zero.
D) In equilibrium, all economic agents are choosing the best feasible option simultaneously.
Answer: D
Difficulty: Easy
Topic: The Second Principle of Economics: Equilibrium
2) Which of the following will hold true if the market for cameras is in equilibrium at a price of
$40?
A) Sellers of cameras will have an incentive to charge a price higher than $40.
B) The quantity of cameras produced will equal the quantity of cameras bought in the market.
C) Buyers of cameras will want to buy fewer cameras than they are purchasing at equilibrium.
D) If the cost of producing cameras falls below $40 per camera, all sellers will stop supplying
cameras.
Answer: B
Difficulty: Medium
3) When the market for a commodity is in equilibrium:

A) no economic agent will want to change his or her behavior.
B) there will still be some unsold stock of the commodity.
C) all buyers of the commodity will want to change their behavior.
D) all sellers of the commodity will want to change their behavior.
Answer: A
Difficulty: Easy
4) Which of the following is true of equilibrium?

A) Equilibrium refers to a situation where the government allocates resources among economic
agents.
B) Equilibrium refers to a situation where all economic agents simultaneously optimize after
considering each other's actions.
C) Equilibrium refers to a situation where all economic agents are making sub-optimal choices
and have an incentive to change behavior.
D) Equilibrium refers to a situation where an economic agent can be made better off without
making anyone else worse off.
Answer: B
Difficulty: Easy
24
5) The term "free riders" refers to people who:
A) don't contribute but still benefit from others' actions.
B) make economic decisions randomly and are not rational.
C) selflessly pay for others' consumption of goods and services.
D) haggle over the prices of the goods and services that they buy.
Answer: A
Difficulty: Easy
Topic: The Free-Rider Problem
6) Which of the following is an example of free riding?

A) An individual who sneaks inside a music concert
B) A consumer who buys his groceries from a nearby store
C) A tax payer who exercises in the public park near his house
D) A club member who makes voluntary contributions to the club
Answer: A
Difficulty: Medium
7) Which of the following is an example of free riding?

A) A housekeeper cleaning a house
B) A tax evader enjoying national security
C) A consumer paying for pollution control
D) An individual who buys a ticket for a baseball match
Answer: B
Difficulty: Medium
8) Each member in a group might do what's best for himself or herself instead of behaving in a
way that optimizes the well-being of the entire group. This gives rise to the problem of:
A) Pareto inefficiency.
B) free riding.
C) irrational behavior.
D) disequilibrium.
Answer: B
Difficulty: Easy
9) Which of the following statements is true of free riding?

A) Free riding is easy to detect and punish.
B) Free riding reduces with social pressure.
C) Free riding is not affected by incentives.
D) Free riding does not impose a cost on society.
Answer: B
Difficulty: Easy
25
10) Assume that a house is rented by four students. When it comes to keeping the house clean,
each of the four roommates has an incentive to leave cleaning to the others. As a result, the house
is never clean. Which of the following is the best solution to this problem of free riding?
A) Ask every roommate to clean the house if they dirty it
B) Require every roommate to contribute to a cleaning service
C) Require each roommate to pay more toward the house rent and groceries
D) Assign one roommate the responsibility to keep a watch over the other students
Answer: B
Difficulty: Medium
11) When a market is in equilibrium, both buyers and sellers do not perceive a benefit from
changing their behavior. Why?
Answer: In most economic situations, an economic agent is not optimizing individually. His
decision is influenced by the decisions taken by other economic agents. In equilibrium, each and
every economic agent is doing the best that they can do, given the information they have and
given the actions of other economic agents. Therefore, nobody perceives a benefit from changing
his or her behavior.
Difficulty: Easy
12) Suppose the market for pizza slices is in equilibrium at a price of $1 per slice. What
conditions are likely to be satisfied in the pizza slice market?
Answer: The conditions that are satisfied when the market for pizza slices is in equilibrium are:
a) The number of pizza slices manufactured by sellers will equal the number of pizza slices
purchased by buyers.
b) Pizza sellers will produce pizzas at the point where the cost of production is less than or
equal to the market price of $1.
c) Buyers will consume pizza as long as the benefit that they derive from consumption is at
least equal to the market price of $1.
Difficulty: Medium
13) Explain the term "free riders."

Answer: Free riders are people who don't contribute but still benefit from the actions that others
undertake. Sometimes people pursue their own private interests and don't contribute voluntarily
to the public interest, and this causes free riding. For example, a free rider may avoid paying
taxes but enjoy the same benefits enjoyed by tax payers.
Difficulty: Easy
26
1.5 The Third Principle of Economics: Empiricism
1) Empiricism refers to the process of:

A) measuring variables.
B) testing ideas using data.
C) collecting and organizing data.
D) making choices using values and beliefs.
Answer: B
Difficulty: Medium
Topic: The Third Principle of Economics: Empiricism

A) Data help establish whether theories match reality.
B) Data are not an integral part of optimization analysis.
C) Empiricism is not an integral part of optimization analysis.
D) Empiricism refers to the testing of ideas without using data.
Answer: A
Difficulty: Easy
3) Which of the following statements is true of data?

A) Data help in verifying causal relationships.
B) Data are not important to evaluate theories.
C) Anecdotes work as good substitutes for data.
D) The less the available data, the better the analysis.
Answer: A
Difficulty: Easy

A) Testing with data is essential to develop a good theory.
B) Knowledge of economics complicates decision making.
C) Cost-benefit analysis can be applied only to limited economic decisions.
D) Economics is more of a theoretical subject with limited applications in the real world.
Answer: A
Difficulty: Easy
5) Which of the following is a feature of a good theory?

A) A good theory does not rely on data.
B) A good theory cannot be tested with data.
C) A good theory is free from approximations.
D) A good theory closely predicts actual behavior.
Answer: D
Difficulty: Easy
27
6) What is the rationale behind empiricism in economic analysis?
Answer: Empiricism refers to the use of data to test theoretical ideas or concepts. Empiricism is
important as it enables economists to determine whether economic theories are consistent with
actual human behavior. This enables economists to refute faulty theories or modify them such
that they would better fit the real world. Empiricism also enables researchers to identify causal
relationships between sets of variables.
Difficulty: Easy
1.6 Is Economics Good for You?

A) Economics is concerned with money, not choices.
B) Economics can be used to predict people's actions.
C) Economics does not provide insights into human behavior.
D) Economic reasoning tends to reduce the quality of decision making.
Answer: B
Difficulty: Easy
Topic: Is Economics Good for You?
28

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Chapter 1 The Principles and Practice of Economics

1.1 The Scope of Economics

1) Which of the following statements is true?

2) Which of the following best describes scarce resources?

3) Which of the following is NOT a scarce resource?

4) In economics, scarcity refers to the situation of:

6) Economic reasoning implies that economic agents will make decisions:

7) Economics is primarily the study of:

8) Economics is primarily the study of:

11) Which of the following is an example of a positive economic statement?

12) ________ economics prescribes what an individual or society ought to do.

13) Which of the following is an example of a normative economic statement?

15) Which of the following statements is true?

17) Positive economics is descriptive because:

20) Which of the following is an example of a topic studied by microeconomists?

21) Which of the following is an example of a topic studied by microeconomists?

23) Which of the following is an example of a topic studied by macroeconomists?

24) Which of the following is an example of a topic studied by macroeconomists?

25) Which of the following statements is true?

31) Define economics. Who are economic agents?

33) Differentiate between positive and normative economics using examples.

34) How does microeconomics differ from macroeconomics?

1.2 Three Principles of Economics

1) Which of the following correctly defines the term "equilibrium"?

2) Which of the following best describes equilibrium?

4) Which of the following is NOT a key principle of economics?

5) Define the three key principles of economics.

1) Which of the following statements is true of optimization?

2) Feasible options are options:

4) A decision or a choice that is made after using optimization analysis:

6) Which of the following statements is true?

8) A budget constraint represents the:

14) The best alternative use of a resource is referred to as its:

18) Cost-benefit analysis requires:

20) The net benefit of a particular alternative equals:

26) Refer to the scenario above. Maria should choose to:

30) Which of the following statements is true?

31) Which of the following statements is true of economic reasoning?

Budget Quantity of Rugs Quantity of Chairs

1) Which of the following statements is true of equilibrium?

3) When the market for a commodity is in equilibrium:

4) Which of the following is true of equilibrium?

6) Which of the following is an example of free riding?

7) Which of the following is an example of free riding?

9) Which of the following statements is true of free riding?

13) Explain the term "free riders."

1) Empiricism refers to the process of:

2) Which of the following statements is true?

3) Which of the following statements is true of data?

4) Which of the following statements is true?

5) Which of the following is a feature of a good theory?

1.6 Is Economics Good for You?

1) Which of the following statements is true?

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