1. Chapter 2 - Confronting Scarcity: Choices in Production Read pages 38-57 I Basics of Production A) Terminology 1) The production possibilities models shows the goods and services that an economy is capable of producing given the factors of production and the technology it has available.

2. 2) An economic system is the set of rules that define how an economy’s resources are to be owned and how decisions about their use are to be made. 3) A factor of production is a resource available for the production of goods and services: Labor, capital and natural resources 4) Labor is the human effort that can be applied to the production of goods and services. It consists of two parts: Raw time and the skill level of the workers known as human capital.

3. 5) Capital is a factor that has been produced for use in the production of other goods and services. It can include physical goods (machines) and intellectual discoveries (mathematics, computer software). 6) Financial capital are money or other paper assets that represent claims on future payments. It is not regarded as a factor of production. 7) Natural resources are the resources of nature that can be used for the production of goods and services.

4. 8) Technology is the knowledge that can be applied to the production of goods and services. 9) An entrepreneur is a person who seeks to earn profits by finding new ways to organize factors of production.

5. II The Production Possibilities Curve A) We illustrate this curve with an example. Consider an entrepreneur who has three factories which can produce skis or snowboards. Each factory has a slightly different floor plan and equipment creating some differences in their abilities to produce the two products.

8. From this example we see that the slope of the three production possibilities curves differ with plant 1 being steepest with slope of –2, next is plant 2 with slope of –1 and finally plant 3 with slope of – ½. These slopes represent the opportunity costs of producing another snowboard in each plant. In particular, the cost of another snowboard in plant 1 is 2 pairs of skis, in plant 2 it is 1 pair of skis and in plant 3 it is ½ a pair.

9. B) More Terminology 1)Economists say that an economy has a comparative advantage in producing a good or service if the opportunity cost of producing that good or service is lower for that economy than for any other. 2)The law of increasing opportunity cost holds that as an economy moves along its production possibilities curve in the direction of producing more of a particular good, the opportunity cost of additional units of that good will increase.

11. C) Producing on versus producing inside the production possibilities curve 1)If all the factors of production that are available for use under current market conditions are being utilized, the economy has achieved full employment. 2)When an economy is operating on its production possibilities curve, we say that it is engaging in efficient production. 3)If it is inside its production possibilities curve, its production is inefficient.

14. D) Specialization 1) Specialization implies that an economy is producing goods and services in which it has a comparative advantage.

15. III Economic Growth A) The process through which an economy achieves an outward shift in its production possibilities curve is called economic growth.

17. B) Factors influencing economic growth Anything that increases the quantity or quality of the factors of production. 1)Increase in the quantity of labor. 2)Increase in the quantity of capital. 3)Increase in human capital. 4)Improved technologies.

19. C) A comparison of Economic Systems 1)A market economy is one in which the resources are generally owned by private individuals who have the power to make decisions about their use. 2)A command socialist economy is one in which the government is the primary owner of capital and natural resources and has broad power to allocate the use of the factors of production. 3)A mixed economy has elements of both types of systems.

21. D) Government role in a market economy 1)At a minimum, it should provide the laws to allow private ownership and policing institutions to enforce those laws. 2)May want to provide some goods which the market is not likely to provide on its own in efficient quantities. 3)May want to restrict some markets.

22. IV Some sample questions. 1)as the average level of education in the United States increases, a)the United States’ production possibilities curve shifts inward. b)the technology used to produce goods and services improves. c)usage of natural resources increases. d)workers possess greater human capital.

23. The answer is d).

24. 2) Which of the following will not lead to an outward shift in a country’s production possibilities curve? a)The discovery and exploitation of a new oil field. b)The introduction of computers into the production process. c)A reduction in sales taxes. d)The establishment of several new factories.

25. The answer is c).