Book cover for Macroeconomics

Macroeconomics

Paul Krugman, Robin Wells

ISBN #9781464110375

4th Edition

265 Questions

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16,351 Students Helped

Homework Questions

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Summary
Learning Objectives
Key Concepts
Example Problems
Explanations
Common Mistakes

Summary

This chapter introduces the essential economic principle that scarcity forces individuals and societies to make choices. By understanding key concepts such as opportunity cost and marginal analysis, readers learn how to evaluate the benefits and costs of decisions. Additionally, the chapter explains how markets tend toward equilibrium and efficiency, while also recognizing situations where government intervention becomes necessary to address market failures and balance equity with economic efficiency.

Learning Objectives

1

Explain the concept of scarcity and its role in driving individual choices.

2

Define and illustrate opportunity cost and marginal analysis in decision making.

3

Analyze how responses to incentives shape economic behavior at both the individual and societal levels.

4

Assess how market equilibrium and efficiency are achieved and when government intervention may be necessary.

Key Concepts

CONCEPT

DEFINITION

Scarcity

The fundamental economic problem of having limited resources to meet unlimited wants.

Opportunity Cost

The value of the next best alternative that is forgone when a decision is made.

Marginal Analysis

The examination of the additional benefits of an activity compared to the additional costs incurred by that same activity.

Response to Incentives

The way individuals alter their behavior when they perceive costs and benefits as a result of incentives.

Market Equilibrium

A state where market supply equals market demand, leading to efficient allocation of resources.

Efficiency

The optimal production and allocation of resources, maximizing total benefits to society.

Market Failure

A situation in which the free market does not allocate resources efficiently on its own.

Government Intervention

Actions taken by the government to correct market failures or to balance equity with efficiency.

Example Problems

Example 1

In each of the following situations, identify which of the twelve principles is at work. a. You choose to shop at the local discount store rather than paying a higher price for the same merchandise at the local department store. b. On your spring break trip, your budget is limited to $\$ 35$ a day. c. The student union provides a website on which departing students can sell items such as used books, appliances, and furniture rather than give them away to their roommates as they formerly did. d. After a hurricane did extensive damage to homes on the island of St. Crispin, homeowners wanted to purchase many more building materials and hire many more workers than were available on the island. As a result, prices for goods and services rose dramatically across the board. Pou buy a used textbook from your roommate, Your roommate uses the money to buy songs from iTunes. f. You decide how many cups of coffee to have when studying the night before an exam by considering how much more work you can do by having another cup versus how jittery it will make you feel. h. You realize that you can graduate a semester early by forgoing a semester of study abroad. i. At the student union, there is a bulletin board on which people advertise used items for sale, such as bicycles. Once you have adjusted for differences in quality, all the bikes sell for about the same price. j. You are better at performing lab experiments, and your lab partner is better at writing lab reports. So the two of you agree that you will do all the experiments and she will write up all the reports. k. State governments mandate that it is illegal to drive without passing a driving exam. I. Your parents' after-tax income has increased because of a tax cut passed by Congress. They therefore increase your allowance, which you spend on a spring break vacation.

Example 2

Describe some of the opportunity costs when you decide to do the following. a. Attend college instead of taking a job b. Watch a movie instead of studying for an exam c. Ride the bus instead of driving your car

Example 3

Liza needs to buy a textbook for the next economics class. The price at the college bookstore is $\$ 65 .$ One online site offers it for $\$ 55$ and another site, for $\$ 57 .$ All prices include sales tax. The accompanying table indicates the typical shipping and handling charges for the textbook ordered online. a. What is the opportunity cost of buying online instead of at the bookstore? Note that if you buy the book online, you must wait to get it. b. Show the relevant choices for this student. What determines which of these options the student will choose?

Example 4

Use the concept of opportunity cost to explain the following. a. More people choose to get graduate degrees when the job market is poor. b. More people choose to do their own home repairs when the economy is slow and hourly wages are down. c. There are more parks in suburban than in urban areas. d. Convenience stores, which have higher prices than supermarkets, cater to busy people. e. Fewer students enroll in classes that meet before 10: 00 A.M.

Example 5

In the following examples, state how you would use the principle of marginal analysis to make a decision. a. Deciding how many days to wait before doing your laundry b. Deciding how much library research to do before writing your term paper c. Deciding how many bags of chips to eat d. Deciding how many lectures of a class to skip
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Step-by-Step Explanations

QUESTION

How do you determine the opportunity cost when making a choice between two alternatives?

STEP-BY-STEP ANSWER:

Step 1: Identify all available alternatives when faced with a decision.
Step 2: Determine the benefits associated with each alternative.
Step 3: Select the most preferred option based on the benefits it provides.
Step 4: Identify the alternative that was not chosen, which represents the next best option.
Step 5: Assess the benefits you would have received from the next best option; this represents the opportunity cost.
Final Answer: The opportunity cost is the value of the benefits your forego by not choosing the next best alternative.

Opportunity Cost

QUESTION

How do you decide if producing one additional unit of a product is beneficial?

STEP-BY-STEP ANSWER:

Step 1: Calculate the marginal cost, which is the additional cost incurred for producing one extra unit.
Step 2: Calculate the marginal benefit, which is the additional revenue or satisfaction derived from producing one extra unit.
Step 3: Compare the marginal benefit to the marginal cost.
Step 4: If the marginal benefit is greater than the marginal cost, producing the additional unit is beneficial.
Step 5: If the marginal benefit is less than the marginal cost, it is better not to produce the additional unit.
Final Answer: The decision to produce one more unit is based on whether marginal benefits exceed marginal costs.

Marginal Analysis

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Common Mistakes

  • Believing that resources are unlimited, which overlooks the inherent scarcity and the need for trade-offs.
  • Ignoring hidden or indirect opportunity costs when making decisions.
  • Confusing marginal analysis with average cost calculations.
  • Overestimating the ability of markets to always self-correct without considering potential market failures.
  • Assuming that government intervention is always beneficial or that markets never require corrective measures.