Solution and Answer Guide: Froeb/McCann/Ward/Shor, Managerial Economics: A Problem Solving Approach,
7e, ©2027, 9798214055640; Chapter 1: Solving Problems with Economics
Solution and Answer Guide
FROEB/MCC ANN/WARD/SHOR, MANAGERIAL ECONOMICS: A PROBLEM SOLVING APPROACH,
7E, ©2027, 9798214055640; C HAPTER 1: SOLVING PROBLEMS WITH ECONOMICS
TABLE OF CONTENTS
Section Review Answers .................................................................................................................1
Multiple-Choice Questions.........................................................................................................1
Individual Problems .................................................................................................................... 4
SECTION REVIEW ANSWERS
MULTIPLE-CHOICE QUESTIONS
1. What are the two main steps in the economic problem-solving framework presented in
the chapter?
a. Design incentives and monitor performance [Designing incentives and monitoring
performance are part of implementing solutions, but don’t address finding the
cause of the problem.]
b. Identify who is responsible and assign blame [Finding who is responsible is part of
finding the cause of a problem, but assigning blame is not an effective solution.]
c. Figure out what went wrong and how to fix it [Correct. The problem-solving model
is used to figure out what went wrong and how to fix it.]
d. Collect data and run a cost-benefit analysis [Data collection can help identify the
cause of problems, and a cost-benefit analysis can help prevent certain problems.]
Solution: c
Figure out what went wrong and how to fix it [Correct. The problem-solving model is
used to figure out what went wrong and how to fix it.]
2. According to the rational actor paradigm, why do people make mistakes?
a. They are irrational and unpredictable. [The rational actor paradigm assumes that
people act rationally.]
b. They are often too emotional to decide clearly. [Acting rationally precludes
decision-making clouded by emotion.]
c. They lack information or the right incentives. [Correct. According to the rational
actor paradigm, people make mistakes because they don’t have enough
information or they lack the proper incentives.]
d. They are not trained in economics. [A lack of economics training is not part of the
rational actor paradigm.]
Solution: c
© 2027 Cengage Learning, Inc. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly 1
accessible website, in whole or in part.
, Solution and Answer Guide: Froeb/McCann/Ward/Shor, Managerial Economics: A Problem Solving Approach,
7e, ©2027, 9798214055640; Chapter 1: Solving Problems with Economics
They lack information or the right incentives. [Correct. According to the rational actor
paradigm, people make mistakes because they don’t have enough information or they
lack the proper incentives.]
3. Which of the following is not one of the three key diagnostic questions used to analyze
a decision problem?
a. Who made the decision? [This is the first of the three key diagnostic questions.]
b. Did they have enough information? [This is the second of the three key diagnostic
questions.]
c. Did they consult a supervisor? [Correct. The three key diagnostic questions are:
Who is making the bad decision? Does the decision-maker have enough
information to make a good decision? Does the decision-maker have the incentive
to make a good decision?]
d. Did they have the right incentives? [This is the third of the three key diagnostic
questions.]
Solution: c
Did they consult a supervisor? [Correct. The three key diagnostic questions are: Who is
making the bad decision? Does the decision-maker have enough information to make a
good decision? Does the decision-maker have the incentive to make a good decision?]
4. When measurement and incentives break down, why is ethics important?
a. It prevents companies from being regulated. [Ethics does not preclude regulation.]
b. It helps maintain trust and guide behavior where incentives fall short. [Correct.
Organizations rely not just on economic incentives, but also on culture, trust, and
shared ethical norms to guide behavior.]
c. It allows firms to avoid costly lawsuits. [Ethics does not prevent costly lawsuits
and, in some cases, provides the incentive to initiate them.]
d. It replaces the need for economic thinking. [Ethics and economics complement one
another. They do not replace one another.]
Solution: b
It helps maintain trust and guide behavior where incentives fall short. [Correct.
Organizations rely not just on economic incentives, but also on culture, trust, and
shared ethical norms to guide behavior.]
5. Why were Uber drivers canceling long rides in favor of shorter ones?
a. Their bonuses were based on the location and quantity of the rides, not quality.
[Correct. Uber drivers were taking advantage of an incentive system that gave
bonuses for completing rides within specific high-demand areas.]
b. Long rides consumed more fuel, and Uber didn’t reimburse for fuel. [Multiple short
rides often consume more fuel than single longer rides.]
c. The app was malfunctioning and giving inaccurate trip times. [The driver’s
preference for short rides was not due to an app malfunction; it was due to a
desire to take advantage of an incentive system.]
d. Drivers were lazy and didn’t want to go far away. [Drivers did not cancel long drives
because they were lazy; they canceled because they received incentives for short
rides in high-demand areas.]
Solution: a
© 2027 Cengage Learning, Inc. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly 2
accessible website, in whole or in part.
, Solution and Answer Guide: Froeb/McCann/Ward/Shor, Managerial Economics: A Problem Solving Approach,
7e, ©2027, 9798214055640; Chapter 1: Solving Problems with Economics
Their bonuses were based on the location and quantity of the rides, not quality.
[Correct. Uber drivers were taking advantage of an incentive system that gave bonuses
for completing rides within specific high-demand areas.]
6. Which of the following best explains why unionized auto plants may underperform
compared to non-unionized ones?
a. Unionized plants face higher material costs due to bulk purchasing restrictions.
[Labor organization does not affect purchasing.]
b. Performance-based bonuses are typically weaker or absent in unionized settings.
[Correct. Without a monetary incentive for higher performance, employees will be
less motivated to perform.]
c. Unionized workers are less skilled than those in non-unionized plants. [Union
members are generally as skilled as or more skilled than nonunion members.]
d. Unionized plants are more likely to use outdated technology due to contract
constraints. [Labor organization does not affect capital equipment and technology
purchases.]
Solution: b
Performance-based bonuses are typically weaker or absent in unionized settings.
[Correct. Without a monetary incentive for higher performance, employees will be less
motivated to perform.]
7. How would an economist explain the rise in crime following the George Floyd protests?
a. The protests made people angrier and more violent. [This is a psychological, not an
economic explanation.]
b. Police focused more on community relations than on stopping crime. [Failing to
stop crime will lead to poor community relations.]
c. With less police activity, the risk of being caught and punished fell, making crime
more attractive. [Correct. From an economic perspective, crime is more likely to
pay if the probability of being caught is low.]
d. The protests caused an economic downturn that increased desperation. [The
protests did not cause an economic downturn.]
Solution: c
With less police activity, the risk of being caught and punished fell, making crime more
attractive. [Correct. From an economic perspective, crime is more likely to pay if the
probability of being caught is low.]
8. Why might a “bonus cap” for executives be a bad policy for the company?
a. It would make it harder to measure executive performance. [Bonus caps do not
affect the effectiveness of executive performance measurement methods.]
b. It would sow discontent. [Even if discontented, the rational actor paradigm
indicates executives would still perform to reach the cap value to maximize their
bonus.]
c. It would reduce effort after reaching the cap. [Correct. Based on the rational actor
paradigm, executives will reduce their effort after they reach the cap because
additional effort does not provide additional reward.]
d. It would lead to excessive risk-taking by executives trying to exceed the cap. [The
opposite would be true because executive compensation could not exceed the cap.]
© 2027 Cengage Learning, Inc. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly 3
accessible website, in whole or in part.
, Solution and Answer Guide: Froeb/McCann/Ward/Shor, Managerial Economics: A Problem Solving Approach,
7e, ©2027, 9798214055640; Chapter 1: Solving Problems with Economics
Solution: c
It would reduce effort after reaching the cap. [Correct. Based on the rational actor
paradigm, executives will reduce their effort after they reach the cap because
additional effort does not provide additional reward.]
9. Why do more babies tend to be born in late December, right before the new year?
a. Hospitals want to hit their year-end delivery goals. [Correct. Hospitals have an
economic incentive to deliver more babies before the December 31 deadline.]
b. Parents think December babies do better in school. [The correlation of birth month
to academic performance is not a common belief.]
c. Parents can get the full year’s tax credit, even if the baby is born on December 31.
[The economic incentive of a tax credit applies regardless of when the baby is
born; it would simply apply to the subsequent year’s return if the baby was born in
the subsequent year.]
d. It’s just a coincidence—birth timing can’t be planned. [Birth timing is often
planned, and hospitals incentivized to meet year-end delivery goals are more likely
to encourage expectant mothers to have labor induced.]
Solution: a
Hospitals want to hit their year-end delivery goals. [Correct. Hospitals have an
economic incentive to deliver more babies before the December 31 deadline.]
10. What helps explain Americans’ strong preference for SUVs over more fuel-efficient
vehicles?
a. Americans don’t understand the long-term costs of fuel consumption. [Correct. If
the prospective SUV buyer does not have the information (understanding of the
long-term costs), they will not make the right decision.]
b. Auto manufacturers give bigger discounts on SUVs than on smaller cars. [Auto
manufacturers set high prices on SUVs, so, even with larger discounts, they are
usually more expensive than smaller, more fuel-efficient vehicles.]
c. Consumers value personal comfort. [Many smaller, more fuel-efficient vehicles,
such as small luxury sedans, are more comfortable than SUVs.]
d. SUVs are classified as “light trucks” and are exempt from stricter fuel economy
standards. [Exemption from fuel economy standards does not provide a benefit to
the buyer.]
Solution: a
Americans don’t understand the long-term costs of fuel consumption. [Correct. If the
prospective SUV buyer does not have the information (understanding of the long-term
costs), they will not make the right decision.]
INDIVIDUAL PROBLEMS
1. Goal Alignment at a Small Manufacturing Firm
The owners of a small manufacturing firm have hired a vice president to run the
company with the expectation that he will buy the company after five years.
Compensation of the new vice president is a flat salary plus 75% of the first $150,000
profit, and then 10% of profit over $150,000. The purchase price for the company is set
© 2027 Cengage Learning, Inc. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly 4
accessible website, in whole or in part.
7e, ©2027, 9798214055640; Chapter 1: Solving Problems with Economics
Solution and Answer Guide
FROEB/MCC ANN/WARD/SHOR, MANAGERIAL ECONOMICS: A PROBLEM SOLVING APPROACH,
7E, ©2027, 9798214055640; C HAPTER 1: SOLVING PROBLEMS WITH ECONOMICS
TABLE OF CONTENTS
Section Review Answers .................................................................................................................1
Multiple-Choice Questions.........................................................................................................1
Individual Problems .................................................................................................................... 4
SECTION REVIEW ANSWERS
MULTIPLE-CHOICE QUESTIONS
1. What are the two main steps in the economic problem-solving framework presented in
the chapter?
a. Design incentives and monitor performance [Designing incentives and monitoring
performance are part of implementing solutions, but don’t address finding the
cause of the problem.]
b. Identify who is responsible and assign blame [Finding who is responsible is part of
finding the cause of a problem, but assigning blame is not an effective solution.]
c. Figure out what went wrong and how to fix it [Correct. The problem-solving model
is used to figure out what went wrong and how to fix it.]
d. Collect data and run a cost-benefit analysis [Data collection can help identify the
cause of problems, and a cost-benefit analysis can help prevent certain problems.]
Solution: c
Figure out what went wrong and how to fix it [Correct. The problem-solving model is
used to figure out what went wrong and how to fix it.]
2. According to the rational actor paradigm, why do people make mistakes?
a. They are irrational and unpredictable. [The rational actor paradigm assumes that
people act rationally.]
b. They are often too emotional to decide clearly. [Acting rationally precludes
decision-making clouded by emotion.]
c. They lack information or the right incentives. [Correct. According to the rational
actor paradigm, people make mistakes because they don’t have enough
information or they lack the proper incentives.]
d. They are not trained in economics. [A lack of economics training is not part of the
rational actor paradigm.]
Solution: c
© 2027 Cengage Learning, Inc. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly 1
accessible website, in whole or in part.
, Solution and Answer Guide: Froeb/McCann/Ward/Shor, Managerial Economics: A Problem Solving Approach,
7e, ©2027, 9798214055640; Chapter 1: Solving Problems with Economics
They lack information or the right incentives. [Correct. According to the rational actor
paradigm, people make mistakes because they don’t have enough information or they
lack the proper incentives.]
3. Which of the following is not one of the three key diagnostic questions used to analyze
a decision problem?
a. Who made the decision? [This is the first of the three key diagnostic questions.]
b. Did they have enough information? [This is the second of the three key diagnostic
questions.]
c. Did they consult a supervisor? [Correct. The three key diagnostic questions are:
Who is making the bad decision? Does the decision-maker have enough
information to make a good decision? Does the decision-maker have the incentive
to make a good decision?]
d. Did they have the right incentives? [This is the third of the three key diagnostic
questions.]
Solution: c
Did they consult a supervisor? [Correct. The three key diagnostic questions are: Who is
making the bad decision? Does the decision-maker have enough information to make a
good decision? Does the decision-maker have the incentive to make a good decision?]
4. When measurement and incentives break down, why is ethics important?
a. It prevents companies from being regulated. [Ethics does not preclude regulation.]
b. It helps maintain trust and guide behavior where incentives fall short. [Correct.
Organizations rely not just on economic incentives, but also on culture, trust, and
shared ethical norms to guide behavior.]
c. It allows firms to avoid costly lawsuits. [Ethics does not prevent costly lawsuits
and, in some cases, provides the incentive to initiate them.]
d. It replaces the need for economic thinking. [Ethics and economics complement one
another. They do not replace one another.]
Solution: b
It helps maintain trust and guide behavior where incentives fall short. [Correct.
Organizations rely not just on economic incentives, but also on culture, trust, and
shared ethical norms to guide behavior.]
5. Why were Uber drivers canceling long rides in favor of shorter ones?
a. Their bonuses were based on the location and quantity of the rides, not quality.
[Correct. Uber drivers were taking advantage of an incentive system that gave
bonuses for completing rides within specific high-demand areas.]
b. Long rides consumed more fuel, and Uber didn’t reimburse for fuel. [Multiple short
rides often consume more fuel than single longer rides.]
c. The app was malfunctioning and giving inaccurate trip times. [The driver’s
preference for short rides was not due to an app malfunction; it was due to a
desire to take advantage of an incentive system.]
d. Drivers were lazy and didn’t want to go far away. [Drivers did not cancel long drives
because they were lazy; they canceled because they received incentives for short
rides in high-demand areas.]
Solution: a
© 2027 Cengage Learning, Inc. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly 2
accessible website, in whole or in part.
, Solution and Answer Guide: Froeb/McCann/Ward/Shor, Managerial Economics: A Problem Solving Approach,
7e, ©2027, 9798214055640; Chapter 1: Solving Problems with Economics
Their bonuses were based on the location and quantity of the rides, not quality.
[Correct. Uber drivers were taking advantage of an incentive system that gave bonuses
for completing rides within specific high-demand areas.]
6. Which of the following best explains why unionized auto plants may underperform
compared to non-unionized ones?
a. Unionized plants face higher material costs due to bulk purchasing restrictions.
[Labor organization does not affect purchasing.]
b. Performance-based bonuses are typically weaker or absent in unionized settings.
[Correct. Without a monetary incentive for higher performance, employees will be
less motivated to perform.]
c. Unionized workers are less skilled than those in non-unionized plants. [Union
members are generally as skilled as or more skilled than nonunion members.]
d. Unionized plants are more likely to use outdated technology due to contract
constraints. [Labor organization does not affect capital equipment and technology
purchases.]
Solution: b
Performance-based bonuses are typically weaker or absent in unionized settings.
[Correct. Without a monetary incentive for higher performance, employees will be less
motivated to perform.]
7. How would an economist explain the rise in crime following the George Floyd protests?
a. The protests made people angrier and more violent. [This is a psychological, not an
economic explanation.]
b. Police focused more on community relations than on stopping crime. [Failing to
stop crime will lead to poor community relations.]
c. With less police activity, the risk of being caught and punished fell, making crime
more attractive. [Correct. From an economic perspective, crime is more likely to
pay if the probability of being caught is low.]
d. The protests caused an economic downturn that increased desperation. [The
protests did not cause an economic downturn.]
Solution: c
With less police activity, the risk of being caught and punished fell, making crime more
attractive. [Correct. From an economic perspective, crime is more likely to pay if the
probability of being caught is low.]
8. Why might a “bonus cap” for executives be a bad policy for the company?
a. It would make it harder to measure executive performance. [Bonus caps do not
affect the effectiveness of executive performance measurement methods.]
b. It would sow discontent. [Even if discontented, the rational actor paradigm
indicates executives would still perform to reach the cap value to maximize their
bonus.]
c. It would reduce effort after reaching the cap. [Correct. Based on the rational actor
paradigm, executives will reduce their effort after they reach the cap because
additional effort does not provide additional reward.]
d. It would lead to excessive risk-taking by executives trying to exceed the cap. [The
opposite would be true because executive compensation could not exceed the cap.]
© 2027 Cengage Learning, Inc. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly 3
accessible website, in whole or in part.
, Solution and Answer Guide: Froeb/McCann/Ward/Shor, Managerial Economics: A Problem Solving Approach,
7e, ©2027, 9798214055640; Chapter 1: Solving Problems with Economics
Solution: c
It would reduce effort after reaching the cap. [Correct. Based on the rational actor
paradigm, executives will reduce their effort after they reach the cap because
additional effort does not provide additional reward.]
9. Why do more babies tend to be born in late December, right before the new year?
a. Hospitals want to hit their year-end delivery goals. [Correct. Hospitals have an
economic incentive to deliver more babies before the December 31 deadline.]
b. Parents think December babies do better in school. [The correlation of birth month
to academic performance is not a common belief.]
c. Parents can get the full year’s tax credit, even if the baby is born on December 31.
[The economic incentive of a tax credit applies regardless of when the baby is
born; it would simply apply to the subsequent year’s return if the baby was born in
the subsequent year.]
d. It’s just a coincidence—birth timing can’t be planned. [Birth timing is often
planned, and hospitals incentivized to meet year-end delivery goals are more likely
to encourage expectant mothers to have labor induced.]
Solution: a
Hospitals want to hit their year-end delivery goals. [Correct. Hospitals have an
economic incentive to deliver more babies before the December 31 deadline.]
10. What helps explain Americans’ strong preference for SUVs over more fuel-efficient
vehicles?
a. Americans don’t understand the long-term costs of fuel consumption. [Correct. If
the prospective SUV buyer does not have the information (understanding of the
long-term costs), they will not make the right decision.]
b. Auto manufacturers give bigger discounts on SUVs than on smaller cars. [Auto
manufacturers set high prices on SUVs, so, even with larger discounts, they are
usually more expensive than smaller, more fuel-efficient vehicles.]
c. Consumers value personal comfort. [Many smaller, more fuel-efficient vehicles,
such as small luxury sedans, are more comfortable than SUVs.]
d. SUVs are classified as “light trucks” and are exempt from stricter fuel economy
standards. [Exemption from fuel economy standards does not provide a benefit to
the buyer.]
Solution: a
Americans don’t understand the long-term costs of fuel consumption. [Correct. If the
prospective SUV buyer does not have the information (understanding of the long-term
costs), they will not make the right decision.]
INDIVIDUAL PROBLEMS
1. Goal Alignment at a Small Manufacturing Firm
The owners of a small manufacturing firm have hired a vice president to run the
company with the expectation that he will buy the company after five years.
Compensation of the new vice president is a flat salary plus 75% of the first $150,000
profit, and then 10% of profit over $150,000. The purchase price for the company is set
© 2027 Cengage Learning, Inc. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly 4
accessible website, in whole or in part.
