STUDY NOTES & REFERENCE GUIDE
Chapter 1: Making Economic Decisions
1-1
A survey of students answering this question indicated that they thought about 40% of their
decisions were conscious decisions.
1-2
The choice of an engine has important money consequences so would be
(a) Yes.
suitable for engineering economic analysis.
Important economic- and social- consequences. Some might argue the
(b) Yes.
social consequences are more important than the economics.
Probably there are a variety of considerations much more important than
(c) ?
the economics.
(d) No. Picking a career on an economic basis sounds terrible.
(e) No. Picking a wife on an economic basis sounds even worse.
1-3
Of the three alternatives, the $150,000 investment problem is most suitable for economic
analysis. There is not enough data to figure out how to proceed, but if the ‘desirable interest
rate' were 9%, then foregoing it for one week would mean a loss of:
1
/52 (0.09) = 0.0017 = 0.17%
immediately. It would take over a year at 0.15% more to equal the 0.17% foregone now.
The chocolate bar problem is suitable for economic analysis. Compared to the investment
problem it is, of course, trivial.
Joe's problem is a real problem with serious economic consequences. The difficulty may be in
figuring out what one gains if he pays for the fender damage, instead of having the insurance
company pay for it.
1-4
Gambling, the stock market, drilling for oil, hunting for buried treasure—there are sure to be a lot
of interesting answers. Note that if you could double your money every day, then:
2x ($300) = $1,000,000
and x is less than 12 days.
Coursesity ‐ Stuvia | Page 1 of 419
, STUDY NOTES & REFERENCE GUIDE
1-5
Maybe their stock market ‘systems' don't work!
1-6
It may look simple to the owner because he is not the one losing a job. For the three
machinists it represents a major event with major consequences.
1-7
For most high school seniors there probably are only a limited number of colleges and
universities that are feasible alternatives. Nevertheless, it is still a complex problem.
1-8
It really is not an economic problem solely — it is a complex problem.
1-9
Since it takes time and effort to go to the bookstore, the minimum number of pads might be
related to the smallest saving worth bothering about. The maximum number of pads might
be the quantity needed over a reasonable period of time, like the rest of the academic year.
1-10
While there might be a lot of disagreement on the ‘correct' answer, only automobile
insurance represents a substantial amount of money and a situation where money might be
the primary basis for choosing between alternatives.
1-11
The overall problems are all complex. The student will have a hard time coming up with
examples that are truly simple or intermediate until he/she breaks them into smaller and
smaller sub-problems.
1-12
These questions will create disagreement. None of the situations represents rational
decision-making.
Choosing the same career as a friend might be OK, but it doesn't seem too rational.
Jill didn't consider all the alternatives.
Don thought he was minimizing cost, but it didn't work. Maybe rational decision-making
says one should buy better tools that will last.
Coursesity ‐ Stuvia | Page 2 of 419
, STUDY NOTES & REFERENCE GUIDE
1-13
Possible objectives for NASA can be stated in general terms of space exploration or the
generation of knowledge or they can be stated in very concrete terms. President Kennedy
used the latter approach with a year for landing a man on the moon to inspire employees.
Thus the following objectives as examples are concrete. No year is specified here, because
unlike President Kennedy we do not know what dates may be achievable.
Land a man safely on Mars and return him to earth by .
Establish a colony on the moon by .
Establish a permanent space station by .
Support private sector tourism in space by .
Maximize fundamental knowledge about science through x probes per year or for $y
per year.
Maximize applied knowledge about supporting man's activities in space through x
probes per year or for $y per year.
Choosing among these objectives involves technical decisions (some objectives may be
prerequisites for others), political decisions (balance between science and applied
knowledge for man's activities), and economic decisions (how many dollars per year can be
allocated to NASA).
However, our favorite is a colony on the moon, because a colony is intended to be
permanent and it would represent a new frontier for human ingenuity and opportunity.
Evaluation of alternatives would focus on costs, uncertainties, and schedules. Estimates of
these would rely on NASA's historical experience, expert judgment, and some of the
estimating tools discussed in Chapter 2.
1-14
This is a challenging question. One approach might be:
(a) Find out what percentage of the population is left-handed.
(b) What is the population of the selected hometown?
(c) Next, market research might be required. With some specific scissors (quality and price)
in mind, ask a random sample of people if they would purchase the scissors. Study the
responses of both left-handed and right-handed people.
(d) With only two hours available, this is probably all the information one could collect. From
the data, make an estimate.
A different approach might be to assume that the people interested in left handed scissors in
the future will be about the same as the number who bought them in the past.
(a) Telephone several sewing and department stores in the area. Ask two questions:
(i) How many pairs of scissors have you sold in one year (or six months or?).
(ii) What is the ratio of sales of left-handed scissors to regular scissor?
(b) From the data in (a), estimate the future demand for left-handed scissors.
Coursesity ‐ Stuvia | Page 3 of 419
, STUDY NOTES & REFERENCE GUIDE
Two items might be worth noting.
1. Lots of scissors are universal, and equally useful for left- and right-handed
people.
2. Many left-handed people probably never have heard of left-handed scissors.
1-15
Possible alternatives might include:
1. Live at home.
2. A room in a private home in return for work in the garden, etc.
3. Become a Resident Assistant in a University dormitory.
4. Live in a camper-or tent- in a nearby rural area.
5. Live in a trailer on a construction site in return for ‘keeping an eye on the place.'
1-16
A common situation is looking for a car where the car is purchased from either the first
dealer or the most promising alternative from the newspaper's classified section. This may
lead to an acceptable or even a good choice, but it is highly unlikely to lead to the best
choice. A better search would begin with Consumer Reports or some other source that
summarizes many models of vehicles. While reading about models, the car buyer can be
identifying alternatives and clarifying which features are important. With this in mind, several
car lots can be visited to see many of the choices. Then either a dealer or the classifieds
can be used to select the best alternative.
1-17
Choose the better of the undesirable alternatives.
1-18
(a) Maximize the difference between output and input.
(b) Minimize input.
(c) Maximize the difference between output and input.
(d) Minimize input.
1-19
(a) Maximize the difference between output and input.
(b) Maximize the difference between output and input.
(c) Minimize input.
(d) Minimize input.
1-20
Some possible answers:
1. There are benefits to those who gain from the decision, but no one is harmed.
(Pareto Optimum)
2. Benefits flow to those who need them most. (Welfware criterion)
Coursesity ‐ Stuvia | Page 4 of 419
Chapter 1: Making Economic Decisions
1-1
A survey of students answering this question indicated that they thought about 40% of their
decisions were conscious decisions.
1-2
The choice of an engine has important money consequences so would be
(a) Yes.
suitable for engineering economic analysis.
Important economic- and social- consequences. Some might argue the
(b) Yes.
social consequences are more important than the economics.
Probably there are a variety of considerations much more important than
(c) ?
the economics.
(d) No. Picking a career on an economic basis sounds terrible.
(e) No. Picking a wife on an economic basis sounds even worse.
1-3
Of the three alternatives, the $150,000 investment problem is most suitable for economic
analysis. There is not enough data to figure out how to proceed, but if the ‘desirable interest
rate' were 9%, then foregoing it for one week would mean a loss of:
1
/52 (0.09) = 0.0017 = 0.17%
immediately. It would take over a year at 0.15% more to equal the 0.17% foregone now.
The chocolate bar problem is suitable for economic analysis. Compared to the investment
problem it is, of course, trivial.
Joe's problem is a real problem with serious economic consequences. The difficulty may be in
figuring out what one gains if he pays for the fender damage, instead of having the insurance
company pay for it.
1-4
Gambling, the stock market, drilling for oil, hunting for buried treasure—there are sure to be a lot
of interesting answers. Note that if you could double your money every day, then:
2x ($300) = $1,000,000
and x is less than 12 days.
Coursesity ‐ Stuvia | Page 1 of 419
, STUDY NOTES & REFERENCE GUIDE
1-5
Maybe their stock market ‘systems' don't work!
1-6
It may look simple to the owner because he is not the one losing a job. For the three
machinists it represents a major event with major consequences.
1-7
For most high school seniors there probably are only a limited number of colleges and
universities that are feasible alternatives. Nevertheless, it is still a complex problem.
1-8
It really is not an economic problem solely — it is a complex problem.
1-9
Since it takes time and effort to go to the bookstore, the minimum number of pads might be
related to the smallest saving worth bothering about. The maximum number of pads might
be the quantity needed over a reasonable period of time, like the rest of the academic year.
1-10
While there might be a lot of disagreement on the ‘correct' answer, only automobile
insurance represents a substantial amount of money and a situation where money might be
the primary basis for choosing between alternatives.
1-11
The overall problems are all complex. The student will have a hard time coming up with
examples that are truly simple or intermediate until he/she breaks them into smaller and
smaller sub-problems.
1-12
These questions will create disagreement. None of the situations represents rational
decision-making.
Choosing the same career as a friend might be OK, but it doesn't seem too rational.
Jill didn't consider all the alternatives.
Don thought he was minimizing cost, but it didn't work. Maybe rational decision-making
says one should buy better tools that will last.
Coursesity ‐ Stuvia | Page 2 of 419
, STUDY NOTES & REFERENCE GUIDE
1-13
Possible objectives for NASA can be stated in general terms of space exploration or the
generation of knowledge or they can be stated in very concrete terms. President Kennedy
used the latter approach with a year for landing a man on the moon to inspire employees.
Thus the following objectives as examples are concrete. No year is specified here, because
unlike President Kennedy we do not know what dates may be achievable.
Land a man safely on Mars and return him to earth by .
Establish a colony on the moon by .
Establish a permanent space station by .
Support private sector tourism in space by .
Maximize fundamental knowledge about science through x probes per year or for $y
per year.
Maximize applied knowledge about supporting man's activities in space through x
probes per year or for $y per year.
Choosing among these objectives involves technical decisions (some objectives may be
prerequisites for others), political decisions (balance between science and applied
knowledge for man's activities), and economic decisions (how many dollars per year can be
allocated to NASA).
However, our favorite is a colony on the moon, because a colony is intended to be
permanent and it would represent a new frontier for human ingenuity and opportunity.
Evaluation of alternatives would focus on costs, uncertainties, and schedules. Estimates of
these would rely on NASA's historical experience, expert judgment, and some of the
estimating tools discussed in Chapter 2.
1-14
This is a challenging question. One approach might be:
(a) Find out what percentage of the population is left-handed.
(b) What is the population of the selected hometown?
(c) Next, market research might be required. With some specific scissors (quality and price)
in mind, ask a random sample of people if they would purchase the scissors. Study the
responses of both left-handed and right-handed people.
(d) With only two hours available, this is probably all the information one could collect. From
the data, make an estimate.
A different approach might be to assume that the people interested in left handed scissors in
the future will be about the same as the number who bought them in the past.
(a) Telephone several sewing and department stores in the area. Ask two questions:
(i) How many pairs of scissors have you sold in one year (or six months or?).
(ii) What is the ratio of sales of left-handed scissors to regular scissor?
(b) From the data in (a), estimate the future demand for left-handed scissors.
Coursesity ‐ Stuvia | Page 3 of 419
, STUDY NOTES & REFERENCE GUIDE
Two items might be worth noting.
1. Lots of scissors are universal, and equally useful for left- and right-handed
people.
2. Many left-handed people probably never have heard of left-handed scissors.
1-15
Possible alternatives might include:
1. Live at home.
2. A room in a private home in return for work in the garden, etc.
3. Become a Resident Assistant in a University dormitory.
4. Live in a camper-or tent- in a nearby rural area.
5. Live in a trailer on a construction site in return for ‘keeping an eye on the place.'
1-16
A common situation is looking for a car where the car is purchased from either the first
dealer or the most promising alternative from the newspaper's classified section. This may
lead to an acceptable or even a good choice, but it is highly unlikely to lead to the best
choice. A better search would begin with Consumer Reports or some other source that
summarizes many models of vehicles. While reading about models, the car buyer can be
identifying alternatives and clarifying which features are important. With this in mind, several
car lots can be visited to see many of the choices. Then either a dealer or the classifieds
can be used to select the best alternative.
1-17
Choose the better of the undesirable alternatives.
1-18
(a) Maximize the difference between output and input.
(b) Minimize input.
(c) Maximize the difference between output and input.
(d) Minimize input.
1-19
(a) Maximize the difference between output and input.
(b) Maximize the difference between output and input.
(c) Minimize input.
(d) Minimize input.
1-20
Some possible answers:
1. There are benefits to those who gain from the decision, but no one is harmed.
(Pareto Optimum)
2. Benefits flow to those who need them most. (Welfware criterion)
Coursesity ‐ Stuvia | Page 4 of 419
