Chapter 1 Ten Principles of Economics

1. The word “economy” comes from the Greek word oikonomos, which means
a. “environment.”
b. “production.”
c. “one who manages a household.”
d. “one who makes decisions.”

2. Resources are
a. scarce for households but plentiful for economies.
b. plentiful for households but scarce for economies.
c. scarce for households and scarce for economies.
d. plentiful for households and plentiful for economies.

3. Economics deals primarily with the concept of

a. scarcity.
b. money.
c. poverty.
d. banking.

4. The overriding reason why households and societies face many decisions is that
a. resources are scarce.
b. goods and services are not scarce.
c. incomes fluctuate with business cycles.
d. people, by nature, tend to disagree.

5. The phenomenon of scarcity stems from the fact that

a. most economies’ production methods are not very good.
b. in most economies, wealthy people consume disproportionate quantities of goods and
services.
c. governments restrict production of too many goods and services.
d. resources are limited.

6. Approximately what percentage of the world's economies experience scarcity?

a. 10 percent
b. 40 percent
c. 85 percent
d. 100 percent

7. When a society cannot produce all the goods and services people wish to have, it is said that the economy
is experiencing
a. scarcity.
b. surpluses.
c. inefficiencies.
d. inequalities.

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Chapter 1/Ten Principles of Economics ❖ 2

8. Oil is considered to be a non-renewable energy source. Oil

a. is an unlimited resource.
b. is a scarce resource.
c. is not a productive resource.
d. has no opportunity cost.

HOW PEOPLE MAKE DECISIONS

1. The principle that "people face trade-offs" applies to
a. individuals.
b. families.
c. societies.
d. All of the above are correct.

2. Guns and butter are used to represent the classic societal trade-off between spending on
a. durable and nondurable goods.
b. imports and exports.
c. national defense and consumer goods.
d. law enforcement and agriculture.

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Chapter 1/Ten Principles of Economics ❖ 3

3. When society requires that firms reduce pollution, there is

a. a trade-off because of reduced incomes to the firms' owners and workers.
b. a trade-off only if some firms are forced to close.
c. no trade-off, since the cost of reducing pollution falls only on the firms affected by the
requirements.
d. no trade-off, since everyone benefits from reduced pollution.

4. Economists use the word equality to describe a situation in which

a. each member of society has the same income.
b. each member of society has access to abundant quantities of goods and services,
regardless of their income.
c. society is getting the maximum benefits from its scarce resources.
d. society's resources are used efficiently.

5. Efficiency means that

a. society is conserving resources in order to save them for the future.
b. society's goods and services are distributed equally among society's members.
c. society's goods and services are distributed fairly, though not necessarily equally, among
society's members.
d. society is getting the maximum benefits from its scarce resources.

6. When the government attempts to improve equality in an economy the result is often
a. an increase in overall output in the economy.
b. additional government revenue since overall income will increase.
c. a reduction in equality.
d. a reduction in efficiency.

7. A likely effect of government policies that redistribute income and wealth from the wealthy to those on low
incomes is that those policies
a. enhance equality.
b. reduce efficiency.
c. reduce the reward for working hard.
d. All of the above are correct.

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Chapter 1/Ten Principles of Economics ❖ 4

8. The opportunity cost of an item is

a. the number of hours needed to earn money to buy the item.
b. what you give up to get that item.
c. usually less than the dollar value of the item.
d. the dollar value of the item.

9. A student spends an hour studying instead of watching TV with their friends. The opportunity cost to them
of studying is
a. the improvement in their grades from studying for the hour.
b. the improvement in their grades from studying minus the enjoyment of watching TV.
c. the enjoyment they would have received if they had watched TV with their friends.
d. zero. Since they chose to study rather than to watch TV, the value of studying must have
been greater than the value of watching TV.

10. A rational decision maker

a. ignores marginal changes and focuses instead on “the big picture.”
b. ignores the likely effects of government policies when making choices.
c. takes an action only if the marginal benefit of that action exceeds the marginal cost of that
action.
d. takes an action only if the combined benefits of that action and previous actions exceed the
combined costs of that action and previous actions.

12. Suppose the cost of operating a 100-room hotel for a night is $10,000 and there are five empty rooms for
tonight. If the marginal cost of operating one room for one night is $30 and a customer is willing to pay $60
for the night, the hotel manager should
a. rent the room because the marginal benefit exceeds the marginal cost.
b. rent the room because the marginal benefit exceeds the average cost.
c. not rent the room because the marginal benefit is less than the marginal cost.
d. not rent the room because the marginal benefit is less than the average cost.

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Chapter 1/Ten Principles of Economics ❖ 5

13. Economists are particularly good at understanding that people respond to

a. laws.
b. incentives.
c. punishments more than rewards.
d. rewards more than punishments.

HOW PEOPLE INTERACT

1. Which of the following is a principle concerning how people interact?

a. Underdeveloped?.
b. Rational people think at the margin.
c. People respond to incentives.
d. All of the above are correct.

2. Which is the most accurate statement about trade?

a. Trade can make every nation better off.
b. Trade makes some nations better off and others worse off.
c. Trading for a good can make a nation better off only if the nation cannot produce that
good itself.
d. Trade helps rich nations and hurts poor nations.

3. Suppose that a country with a high level of output per person agrees to trade with a country with a low
level of output per person. Which country can benefit?
a. Only the one with a low level of output per person.
b. Only the one with a high level of output per person.
c. Both
d. Neither

4. Suppose that a country with a high average wage level agrees to trade with a country with a low average
wage level. Which country can benefit?
a. Only the one with a high average wage level.
b. Only the one with low average wage level per person.
c. Both
d. Neither

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Chapter 1/Ten Principles of Economics ❖ 6

5. Trade
a. allows specialization, which increases costs.
b. allows specialization, which reduces costs.
c. reduces specialization, which increases costs.
d. reduces specialization, which reduces costs.

6. Central planning refers to

a. markets guiding economic activity. Today many countries that had this system have
abandoned it.
b. markets guiding economic activity. Today many countries that did not have this system
have implemented it.
c. government guiding economic activity. Today many countries that had this system have
abandoned it.
d. government guiding economic activity. Today many countries that did not have this
system have implemented it.

7. One advantage market economies have over centrally-planned economies is that market economies
a. provide an equal distribution of goods and services to households.
b. establish a significant role for government in the allocation of resources.
c. solve the problem of scarcity.
d. are more efficient.

8. The term "invisible hand" was coined by

a. Adam Smith.
b. David Ricardo.
c. Karl Marx.
d. Benjamin Franklin.

9. In a market economy, economic activity is guided by

a. the government.
b. corporations.
c. central planners.
d. self-interest and prices.

10. For markets to work well, there must be

a. market power.
b. a central planner.
c. property rights.
d. abundant, not scarce, resources.

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Chapter 1/Ten Principles of Economics ❖ 7

12. A company that formerly produced software went out of business because too many potential customers
bought illegally produced copies of the software instead of buying the product directly from the company.
This instance serves as an example of
a. market power.
b. inefficient trade.
c. inadequate enforcement of property rights.
d. the invisible hand at work.

13. Public policies

a. may be able to improve either economic efficiency or equality.
b. may be able to improve economic efficiency but cannot improve equality.
c. may be able to improve equality but cannot improve economic efficiency.
d. cannot improve either equality or economic efficiency.

HOW THE ECONOMY AS A WHOLE WORKS

2. The term "productivity"

a. means the same thing as "efficiency."
b. is seldom used by economists, as its meaning is not precise.
c. refers to the quantity of goods and services produced from each unit of labor input.
d. refers to the variety of goods and services from which households can choose when they
shop.

3. What is the most important factor that explains differences in living standards across countries?
a. The quantity of money
b. The level of unemployment
c. Productivity
d. Equality
4. Suppose that the average income of a Costa Rican is higher than the average income of a Guatemalan. You
might conclude that

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Chapter 1/Ten Principles of Economics ❖ 8

a. Costa Rican firms are faced with stricter government regulations than Guatemalan firms.
b. total income is divided among fewer workers in Costa Rica since it has a smaller labor
force than Guatemala.
c. Guatemala's climate allows for longer growing seasons and therefore Guatemala can
produce large quantities of grain and other crops.
d. productivity in Costa Rica is higher than in Guatemala.

5. According to a recent study of Chilean bus drivers, drivers who are paid by the number of passengers they
transport have higher productivity than drivers who are paid by the hour. If Chilean bus drivers are paid by
the number of passengers they transport and Colombian bus drivers are paid by the hour, we can conclude that
a. Chilean bus drivers likely have a higher standard of living than Colombian bus drivers.
b. Colombian bus drivers likely have a higher standard of living than Chilean bus drivers.
c. Chilean and Colombian bus drivers likely have the same standard of living.
d. Chilean and Colombian bus drivers likely have a higher standard of living than US bus
drivers.

6. In a particular country in 2010, the average worker needed to work 25 hours to produce 40 units of output.
In that same country in 2020, the average worker needed to work 40 hours to produce 68 units of output. In
that country, the productivity of the average worker
a. decreased by 1.7 percent between 2010 and 2020.
b. remained unchanged between 2010 and 2020.
c. increased by 4.75 percent between 2010 and 2020.
d. increased by 6.25 percent between 2010 and 2020.

7. To promote good economic outcomes, policymakers should strive to enact policies that
a. enhance productivity.
b. enhance individuals' market power.
c. result in a rapidly growing quantity of money.
d. All of the above are correct.

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Chapter 1/Ten Principles of Economics ❖ 9

8. An increase in the overall level of prices in an economy is referred to as

a. the income effect.
b. inflation.
c. deflation.
d. the substitution effect.

9. In the short run, an increase in the money supply is likely to lead to

a. lower unemployment and lower inflation.
b. lower unemployment and higher inflation.
c. higher unemployment and lower inflation.
d. higher unemployment and higher inflation.

10. Which of the following is the most accurate statement about the relationship between inflation and unem-
ployment?
a. In the short run, falling inflation is associated with falling unemployment.
b. In the short run, falling inflation is associated with rising unemployment.
c. In the long run, falling inflation is associated with falling unemployment.
d. In the long run, falling inflation is associated with rising unemployment.

11. The business cycle is measured by the

a. production of goods and services.
b. number of people employed.
c. the interest rate.
d. Both a. and b. are correct.

13. When a government program is justified not on its merits but on the number of jobs it will create,
a. the program is an efficient use of taxpayer dollars.
b. it should be approved only if the unemployment rate is low.
c. taxes should be raised to fund the program.
d. it is known as the “broken window fallacy.”

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Chapter 1/Ten Principles of Economics ❖ 10

TRUE/FALSE

1. Economics is the study of how evenly goods and services are distributed within society.

2. Because resources are scarce, a society cannot give all individuals the standard of living to which each as-
pires.

3. Equality means distributing society’s resources in the most efficient manner.

4. With careful planning, we can usually get something that we like without having to give up something else
that we like.

5. The classic trade-off between “guns and butter” states that when a society spends more on national defense,
it has less to spend on consumer goods to raise the standard of living.

6. Government policies that improve equality usually increase efficiency at the same time.

7. The cost of an action is measured in terms of foregone opportunities.

8. A marginal change is a small incremental adjustment to an existing plan of action.

9. Trade allows each person to specialize in the activities he or she does best, thus increasing each individual's
productivity.

10. Trade with any nation can be mutually beneficial.

11. The government can potentially improve market outcomes if market inequalities or market failure ex-
ists.

12. Inflation is the primary determinant of a country's living standards.

13. In the short-run, society faces a trade-off between inflation and unemployment.

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Chapter 1/Ten Principles of Economics ❖ 11

14. The business cycle refers to fluctuations in economic activity such as employment and production.

15. The broken window fallacy states that when a window breaks and someone spends money to repair it,
they have created new economic activity that would not have otherwise taken place.

SHORT ANSWER

1. How does the study of economics depend upon the phenomenon of scarcity?

2. One trade-off society faces is between efficiency and equality. Define each term. If a government redistrib-
utes income from the rich to those on low incomes, explain how this action affects equality as well as effi-
ciency in the economy.

3. Define opportunity cost. What is the opportunity cost to you of attending college? What was your oppor-
tunity cost of coming to class today?

4. Under what conditions might government intervention in a market economy improve the economy’s per-
formance?

5. Explain how an attempt by the government to lower inflation could cause unemployment to increase in the
short run.

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in whole or in part.