Chapter 1 - The Nature of Economics.doc

10Miller• Economics Today, Nineteenth Edition Chapter 1The Nature of Economics11 Answers to Questions for Critical Analysis Microeconomic and Macroeconomic Implications of the Gig Economy (p. 3) Why do you suppose that economists sometimes disagree about whether to classify freelancers who provide paid consulting services to businesses as “workers” or “firms”? Whether freelancers are classified as “workers” or “firms” affects the reported numbers of jobs and firms in the economy. Those numbers in turn affect how economists evaluate the performance of the economy. Greece Discovers That Higher Tax Rates Encourages More Tax Evasion (pp. 6?7) How do you suppose that higher tax rates have affected the inventive for Greek residents to engage in tax avoidance, or legally reducing tax liabilities, including earning less income that is subjected to taxation? Economists assume that individuals do not intentionally make decisions that would leave them worse off, such as paying more taxes. From this perspective, Greek residents have the incentive to engage in tax avoidance, which would reduce their tax liabilities. Why Doesn’t Higher pay Persuade Some Women to Avoid Traditional Gender Roles? (p. 7) Why do you suppose that second- and third-generation females of U.S. immigrant families are found to be more likely to accept working alongside males in higher-paying jobs? Second- and third-generation females of U.S. immigrant families tend to become more assimilated into the U.S. culture, so they tend to behave more like the rest of the U.S. population. Getting Directions (p. 8) In what way do small talk and gossip represent the use of simplifying assumptions? Gossip and small talk usually deal with other persons or situations of interest to the persons engaged in the conversation. Often the people who are talking choose to leave out details which they consider unimportant or information that do not support their position. The interpretation of the situation or the behavior of the person being talked about will be affected by which details are omitted. You Are There The Incentive to Understand Chickens’ “Speech” (p. 11) 1. Could it be the case that chicken farmers who have both humanitarian and profit motives for keeping their chickens comfortable nonetheless are fully “self-interest”? Explain. Yes, chicken farmers could be fully “self-interest” even if they have both humanitarian and profit motives for keeping their chickens comfortable. In addition to wealth or profits, self-interest also includes the pursuit of other goals, such as the care for chickens. Why might the rationality assumption explain why even a chicken farmer who has absolutely no humanitarian concern for chickens might seek to maintain very comfortable conditions for the birds? Comfortable and healthy chickens lay more and bigger eggs than chickens do in poor living conditions. It is therefore the farmers’ interest to keep the chickens comfortable. Issues & Applications Why More Highly Educated Women Are Having More Children (pp. 12?13) 1. How might Figure 1-1 support the argument that higher incomes associated with greater levels of educational attainment provide an incentive for women to have more children? This argument is supported by the observation that the percentage of women having at least one child increased with higher levels of educational attainment. 2. Under the rationality assumption, could a woman potentially take into account her family welfare as well as her own when considering having another child? Explain your reasoning. Yes, a woman is rational to be concerned about her family welfare in addition to her own because she cares for her family as she cares for herself. Research Project 1. To obtain information about childbearing choices by more highly educated women, see the Web Links in MyEconLab. 2. Read a discussion of fertility patterns among U.S. women in the Web Links in MyEconLab. Appendix A—Reading and Working with Graphs A graph is a visual representation of the relationship between variables. An independent variable has values determined independently of the equation under study. A dependent variable has values that change according to changes in the value of one or more independent variables. (See Table A-1.) I. Direct and Inverse Relationships: A direct relationship occurs when an increase in one variable is associated with an increase in the other variable, and vice versa. An inverse relationship occurs when an increase in one variable is associated with a decrease in the other variable, and vice versa. (See Figure A-1.) II. Constructing a Graph A. A Number Line: (See Figure A-2.) B. Combining Vertical and Horizontal Number Lines: A graph or plane has a vertical, or y, axis, and a horizontal, or x, axis. The origin is intersection of the y axis and x axis. (See Figures A-3 and A-4.) III. Graphing Numbers in a Table: (See Table A-2 and Figures A-5 and A-6.) IV. The Slope of a Line (A Linear Curve): (See Figure A-7) A. Slopes of Linear (Straight-Line) Curves: The slope of a line is the change in the y value divided by the corresponding change in the x value of a curve, or “rise” over “run.” (See Figures A-7, A-8, and A-9) B. Slopes of Nonlinear Curves: (See Figure A-10) 1. Slope Varies Along a Nonlinear Curve: (See Figure A-10) 2. Measuring Slope at a Point Along a Nonlinear Curve: (See Figure A-10) Answers to Problems 1-1. Define economics. Explain briefly how the economic way of thinking—in terms of rational, self-interested people responding to incentives—relates to each of the following situations. a. A student deciding whether to purchase a text- book for a particular class b. Government officials seeking more funding for mass transit through higher taxes c. A municipality taxing hotel guests to obtain funding for a new sports stadium Economics is the study of how individuals allocate limited resources to satisfy unlimited wants. a. Among the factors that a rational, self-interested student will take into account are her income, the price of the textbook, her anticipation of how much she is likely to study the textbook, and how much studying the book is likely to affect her grade. b. A rational, self-interested government official will, for example, recognize that higher taxes will raise more funds for mass transit while making more voters, who have limited resources, willing to elect other officials. c. A municipality’s rational, self-interested government will, for instance, take into account that higher hotel taxes will produce more funds if as many visitors continue staying at hotels, but that the higher taxes will also discourage some visitors from spending nights at hotels. 1-2. Some people claim that the “economic way of thinking” does not apply to issues such as health care. Explain how economics does apply to this issue by developing a “model” of an individual’s choices. This issue involves choice and, therefore, can be approached using the economic way of thinking. In the case of health care, an individual typically has an unlimited desire for good health. The individual has a limited budget and limited time, however. She must allocate her budget across other desirable goods, such as housing and food, and must allocate her time across waiting in a physician’s office, work, leisure, and sleep. Hence, choices must be made in light of limited resources. 1-3. Does the phrase “unlimited wants and limited resources” apply to both a low-income household and a middle-income household? Can the same phrase be applied to a very high-income household? Because wants are unlimited, the phrase applies to very high-income households as well as low- and middle-income households. Consider, for instance, a household with a low income and unlimited wants at the beginning of the year. The household’s wants will still remain unlimited if it becomes a high-income household later in the year. 1-4. In a single sentence, contrast microeconomics and macroeconomics. Next, categorize each of the following issues as a microeconomic issue, a macroeconomic issue, or not an economic issue. a. The national unemployment rate b. The decision of a worker to work overtime or not c. A family’s choice to have a baby d. The rate of growth of the money supply e. The national government’s budget deficit f. A student’s allocation of study time across two subjects Microeconomics is the study of individual decision making, whereas macroeconomics examines the aggregate behavior of the entire economy. a. macroeconomics b. microeconomics c. microeconomics d. macroeconomics e. macroeconomics f. microeconomics 1-5. One of your classmates, Sally, is a hardworking student, serious about her classes, and conscientious about her grades. Sally is also involved, however, in volunteer activities and an extracurricular sport. Is Sally displaying rational behavior? Based on what you read in this chapter, construct an argument supporting the conclusion that she is. Sally is displaying rational behavior if all of these activities are in her self-interest. For example, Sally likely derives intrinsic benefit from volunteer and extracurricular activities and may believe that these activities, along with good grades, improve her prospects of finding a job after she completes her studies. Hence, these activities are in her self-interest even though they reduce some available study time. 1-6. Recently, a bank was trying to decide what fee to charge for “expedited payments”—payments the bank would transmit with extra speed so that customers could avoid late fees on cable TV bills, electric bills, and the like. To try to determine what fee customers were willing to pay for expedited payments, the bank conducted a survey. It was able to determine that many of the people surveyed already paid fees for expedited payment services that exceeded the maximum fees they said they were willing to pay. How does the bank’s finding relate to economists’ traditional focus on what people do, rather than what they say they will do? This example illustrates that what people say they will do does not actually correspond to what matters in the economy, which is what they actually do. 1-7. Explain, in your own words, the rationality assumption, and contrast it with the assumption of bounded rationality proposed by adherents of behavioral economics. The rationality assumption states that people do not intentionally make choices that leave them worse off. The bounded rationality hypothesis suggests that people are almost, but not completely, rational. 1-8. Why does the assumption of bounded rationality suggest that people might use rules of thumb to guide their decision making instead of considering every possible choice available to them? The bounded rationality hypothesis indicates that because people cannot study every possible alternative available to them, they consider only the most obvious apparent choices. They find easy ways of deciding which of these obvious choices to select, and according to the hypothesis, these methods are simple rules of thumb. 1-9. Under what circumstances might people appear to use rules of thumb, as suggested by the assumption of bounded rationality, even though they really are behaving in a manner suggested by the rationality assumption? Suppose that there is a change in the environment that a person faces, and the person adjusts to this change as predicted by the rationality assumption. If the new environment becomes predictable, then the individual who actually behaves as predicted by the traditional rationality assumption may settle into behavior that appears to involve repetitive applications of a rule of thumb. 1-10. For each of the following approaches that an economist might follow in examining a decision- making process, identify whether the approach relies on the rationality assumption or on the assumption of bounded rationality. a. To make predictions about how many apps a person will download onto her tablet device, an economist presumes that the individual faces limitations that make it impossible for her to examine every possible choice among relevant apps. b. In evaluating the price that an individual will be willing to pay for a given quantity of a particular type of health-care service, a researcher assumes that the person considers all relevant health-care options in pursuit of his own long-term satisfaction with resulting health outcomes. c. To determine the amount of time that a person will decide to devote to watching online videos each week, an economist makes the assumption that the individual will feel overwhelmed by the sheer volume of videos available online and will respond by using a rule of thumb. a. Bounded rationality b. Rationality assumption c. Bounded rationality 1-11. For each of the following approaches that an economist might follow in examining a decision- making process, identify whether the approach relies on the rationality assumption or on the assumption of bounded rationality. a. An economic study of the number of online searches that individuals conduct before selecting a particular item to purchase online presumes that people are interested only in their own satisfaction, pursue their ultimate objectives, and consider every relevant option. b. An economist seeking to predict the effect that an increase in a state’s sales tax rate will have on consumers’ purchases of goods and services presumes that people are limited in their ability to process information about how the tax-rate increase will influence the after-tax prices those consumers will pay. c. To evaluate the impact of an increase in the range of choices that an individual confronts when deciding among devices for accessing the Internet, an economic researcher makes the assumption that the individual is unable to take into account every new Internet-access option available to her. a. Rationality assumption b. Bounded rationality c. Bounded rationality 1-12. Which of the following predictions appear(s) to follow from a model based on the assumption that rational, self-interested individuals respond to incentives? a. For every ten exam points Myrna must earn in order to pass her economics course and meet her graduation requirements, she will study one additional hour for her economics test next week. b. A coin toss will best predict Leonardo’s decision about whether to purchase an expensive business suit or an inexpensive casual outfit to wear next week when he interviews for a high-paying job he is seeking. c. Celeste, who uses earnings from her regularly scheduled hours of part-time work to pay for her room and board at college, will decide to purchase and download a newly released video this week only if she is able to work two additional hours. a. Yes, because Myrna is acting in her own self-interest by establishing this allocation of her time to studying economics. b. No, because Leonardo is leaving an important decision affecting his self-interest to random chance, potentially leaving him worse off if he fails to obtain employment. c. Yes, because Celeste is basing her choice on a self-interest assessment of expenditures in light of available resources. 1-13. Write a sentence contrasting positive and normative economic analysis. Positive economic analysis deals with economics models with predictions that are statements of fact, which can be objectively proved or disproved. Normative analysis takes into account subjective personal or social values concerning the way things ought to be. 1-14. Based on your answer to Problem 1–13, categorize each of the following conclusions as resulting from positive analysis or normative analysis. a. A higher minimum wage will reduce employment opportunities for minimum wage workers. b. Increasing the earnings of minimum wage employees is desirable, and raising the minimum wage is the best way to accomplish this. c. Everyone should enjoy open access to health care at no explicit charge. d. Heath-care subsidies will increase the consumption of health care. a. Positive b. Normative c. Normative d. Positive 1-15. Consider the following statements, based on a positive economic analysis that assumes all other things remain constant. For each, list one other thing that might change and thus offset the outcome stated. a. Increased demand for laptop computers will drive up their price. b. Falling gasoline prices will result in additional vacation travel. c. A reduction of income tax rates will result in more people working. a. An increase in the supply of laptop computers, perhaps because of the entry of new computer manufacturers into the market, pushes their price back down. b. Another factor, such as higher hotel taxes at popular vacation destinations, makes vacation travel more expensive. c. Some other factor, such as a fall in market wages that workers can earn, discourages people from working additional hours. 1-16. Suppose that the U.S. federal government has borrowed $500 billion to expand its total spending on goods and services across the entire economy in an effort to boost by $500 billion the aggregate production by the nation’s firms. Would we apply microeconomic or macroeconomic analysis to analyze this policy action? This policy action involves billions of dollars in economywide total spending and aggregate production. Because the action involves the economy has a whole, macroeconomic analysis would be applied. 1-17. Suppose that the government has raised by $10 a per-carat tax rate it imposes on diamonds in an effort to influence production of this particular good by each of the firms that produce it and purchases by individual consumers. Would we apply microeconomic or macroeconomic analysis to analyze this policy action? This policy action involves a tax per unit applied to sales of one specific item produced by a particular set of firms and bought by a particular group of consumers. Because the action involves a small part of the economy, microeconomic analysis would be applied. 1-18. Centralized command and control prevails throughout a certain nation’s economy. What three key economic questions have been addressed in this nation, and what has been the common element of the nation’s answers to those questions? The three questions are as follows: What and how much will be produced? How will items be produced? For whom will items be produced? In this command-and-control economy, the common element of the nation’s answers to these questions is that the government makes all decisions. 1-19. During her years of college, Dominique discovered that her three favorite subjects were astronomy, chemistry, and political science. She chose to major in astronomy because she had seen data indicating that science majors earn higher-than- average wages and because she liked astronomy better than both chemistry and political science. Upon graduation, however, she learned that average wages in chemistry fields were 20 percent higher than average wages earned by astronomers. Did Dominique’s behavior violate the rationality assumption? The rationality assumption states that individuals do not intentionally make decisions that would leave themselves worse off. When Dominique decided on astronomy over chemistry, she sought an enjoyable field of study within the generally higher-pay area of science. Thus, she did not intentionally make herself worse off. Indeed, with her training in astronomy she may still receive earnings higher than average pay in other non-science fields, including political science. She has ended up “less well off” only in the sense that she could have earned even higher wages if she had majored in chemistry and only after the fact—not because she intentionally made a decision that would leave her “worse off.” 1-20. Sebastian is a financial analyst who is convinced that his clients do not always make choices that are consistent with their long-term objectives. He has also determined that his clients do not consider every relevant choice and often fail to act in their own self-interest. Does Sebastian perceive that his clients’ behavior accords with the rationality assumption or the assumption of bounded rationality? Sebastian perceives that the bounded rationality assumption applies, because he views their behavior as inconsistent with their long-term goals, their capabilities to evaluate every relevant choice, and their own self-interest. 1-21. Maneesha has completed an analysis of the market for a prescription medication. She has determined that the policymaker should act to prevent an increase in the price of this drug on the grounds that the mainly elderly consumers of the medication already have spent their lives paying too much for pharmaceuticals. They ought not to have to pay higher prices, Maneesha has concluded, so the government should act to halt any further price increases in this market. Has Maneesha applied positive or normative economic analysis? Maneesha has predicated her analysis on the basis of what the outcome “should” be, what price is “too much” to pay, and what people “ought not” be obliged to do. Consequently, her analysis is based on value judgments instead of purely descriptive considerations, and as such it is an example of normative economic analysis. Appendix A A-1. Explain which is the independent variable and which is the dependent variable for each of the following examples. a. Once you determine the price of a flash drive at the college bookstore, you will decide how many flash drives to buy. b. You will decide how many credit hours to register for this semester once the university tells you how many work-study hours you will be assigned. c. You anticipate earning a higher grade on your next economics exam because you studied more hours in the weeks preceding the exam. a. Independent: price of a flash drive; Dependent: quantity of flash drives b. Independent: work-study hours; Dependent: credit hours c. Independent: hours of study; Dependent: economics grade A-2. For each of the following items, state whether a direct or an inverse relationship is likely to exist. a. The number of hours you study for an exam and your exam score b. The price of pizza and the quantity purchased c. The number of games the university basketball team won last year and the number of season tickets sold this year a. direct b. inverse c. direct A-3. Review Figure A-4 on page 20, and then state whether each of the following paired observations is on, above, or below the x axis and on, to the left of, or to the right of the y axis. a. (–10, 4) b. (20, ?2) c. (10, 0) a. above x axis; left of y axis b. below x axis; right of y axis c. on x axis; to right of y axis A-4. State whether each of the following functions specifies a direct or an inverse relationship. a. y = 5x b. y = 10 – 2x c. y = 3 + x d. y = –3x a. direct (or positive); each 1-unit rise in x induces a 5-unit increase in y. b. inverse (or negative); each 1-unit rise in x induces a 2-unit decrease in y. c. direct (or positive); each 1-unit rise in x induces a 1-unit increase in y. d. inverse (or negative); each 1-unit rise in x induces a 3-unit decline in y. A-5. Given the function y = 5x, complete the following schedule and plot the curve. y x -20 -4 -10 -2 0 0 10 2 20 4 A-6. Given the function y = 8 – 2x, complete the following schedule and plot the curve. y x 16 -4 12 -2 8 0 4 2 0 4 A-7. Calculate the slope of the function you graphed in Problem A-5. Each one-unit increase in x yields a 5-unit increase in y, so the slope given by the change in y corresponding to the change in x is equal to 5. A-8. Calculate the slope of the function you graphed in Problem A-6. Each one-unit increase in x yields a 2-unit decrease in y, so the slope given by the change in y corresponding to the change in x is equal to ?2. ©2018 Education, Inc.