Chapter Questions

Positive externalities Benefits of a transaction that are borne by an individual not a party to the transaction. Post hoc,ergo propter hoc A common error in economic theorizing which asserts that because event A preceded event B,that event A caused event

B. Principal–agent problem Arises when there are inadequate incentives for agents (managers or workers) to put forth their best efforts for principals (owners or managers).This incentive problem arises because principals,who have a vested interest in the operations of the firm,benefit from the hard work of their agents,while agents who do not have a vested interest prefer leisure. Production efficiency The production by a firm of goods and services at least cost,or the full and productive employment of society’s resources. Pure capitalism Describes economic systems that are characterized by the private ownership of productive resources,the use of markets and prices to allocate goods and services,and little or no government intervention in the economy. Satisficing behavior An alternative to the assumption of profit maximization,satisficing behavior may include maximizing salaries and benefits, maximizing a market share subject to some minimally acceptable (by shareholders) profit level,earning an “adequate”rate of return on investment,and attaining some minimum rate of return on sales,profit,market share,asset growth,and so on. Scarcity Describes the condition in which the availability of resources is insufficient to satisfy the wants and needs of individuals and society. Total economic cost Includes all relevant costs associated with producing a given amount of output.Economic costs include both explicit (out-ofpocket) expenses and implicit (opportunity) costs. Total economic profit Economic profit is the difference between total revenue and total economic costs. Total operating cost Economic cost less normal profit. Total operating profit Economic profit plus normal profit.

CHAPTER QUESTIONS

1.1Define the concept of scarcity.Explain the significance of this concept in relation to the concept of opportunity cost.Are opportunity cost and sacrifice the same thing? Would you say that a sacrifice represents the cost of a particular decision? 1.2Explain why the concept of scarcity is central to the study of economics. 1.3The opportunity cost of any decision includes the value of all relevant sacrifices,both explicit and implicit.Do you agree? Explain.

1.4In economics there is no “free lunch.”What do you believe is the meaning of this statement? 1.5Explain how managerial economics is similar to and different from microeconomics. 1.6What is the difference between a theory and a model? 1.7Bad theories make bad predictions.Do you agree with this statement? Explain. 1.8The “law of demand”is not a law.Do you agree with this statement? Explain. 1.9Evaluate the following statement:Theories are only as good as their underlying assumptions. 1.10Explain the difference between a theory and a law. 1.11The Museum of Heroic Art (MOHA) is a not-for-profit institution. For nearly a century,the mission of MOHA has been to “extol and lionize the heroic human spirit.”MOHA’s most recent exhibitions,which have featured larger-than-life renditions of such pulp-fiction super-heros as Superman,Wolverine,Batman,Green Lantern,Flash,Spawn,and Brenda Starr, have proven to be quite popular with the public.Art aficionados who wish to view the exhibit must purchase tickets months in advance.The contract of MOHA’s managing director,Dr.Xavier,is currently being considered for renewal by the museum’s board of trustees.Should theories of the firm based on the assumption of profit maximization play any role in the board’s decision to renew Dr.Xavier’s contract? 1.12Many owners of small businesses do not pay themselves a salary. What effect will this practice have on the calculation of the firm’s accounting profit? Economic profit? Explain. 1.13It has been argued that profit maximization is an unrealistic description of the organizational behavior of large publicly held corporations.The modern corporation,so the argument goes,is too complex to accommodate such a simple explanation of the managerial behavior.One alternative argument depicts the manager as an agent for the corporation’s shareholders. Managers,so the argument goes,exhibit “satisficing”behavior;that is,they maximize something other than profit,such as market share or executive perquisites,subject to some minimally acceptable rate of return on the shareholders’ investment.Do you believe that this assessment of managerial behavior is realistic? Do you believe that the description of shareholder expectations is essentially correct? If not,then why not? 1.14Suppose you are attending a shareholder meeting of Blue Globe Corporation.A major shareholder complains that Robert Redtoe,the chief operating officer (COO) of Blue Globe,earned $1,000,000 gross compensation,while Sam Pinkeye,the COO of Blue Globe’s chief competitor, Green Ball Company,earned only $500,000.Should you support a motion to cut Redtoe’s compensation? Explain your position.