Question 1

Many years ago someone developed an item that was simply a small rock inside a box with holes. The person earned large profits from selling "pet rocks." Which of the following theories on the source of profits best describes the reason behind this success?

Accepted Answer

Profit in this context is best described as the return to the entrepreneur as innovator. The creator of "pet rocks" innovated by turning ordinary rocks into a desirable product through creative marketing and novelty, thereby generating profit.

Question 2

An increase in the anticipated (or expected) rate of inflation will cause the nominal interest rate to

Accepted Answer

The Fisher effect describes the relationship between inflation and both nominal and real interest rates. It states that the nominal interest rate is equal to the sum of the real interest rate and the expected inflation rate. Therefore, if the anticipated rate of inflation increases, the nominal interest rate will increase by the same amount to maintain the real interest rate.

Question 3

In what sense are profit and loss signals?

Accepted Answer

Profit and loss signals guide resources to where they are most valued by indicating what consumers prefer (profit) and what they do not prefer (loss), thus affecting resource allocation and production decisions.

Question 4

Which of the following statements is true?

Accepted Answer

The answer of Which of the following statements is true?
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Question 5

If X is the actual amount of income or receipts and i is the interest rate (in decimals) that could be earned on alternative uses of money that face the same risk, the present value of X one year from now is computed by

Accepted Answer

The present value of an amount X one year from now, considering an interest rate i, is calculated by discounting X by the factor (1+i). This accounts for the opportunity cost of not having the money available for alternative investments that could earn interest at rate i.

Question 6

If the nominal rate of interest is 5 percent and the expected rate of inflation is 6 percent, then the real rate of interest is

Accepted Answer

The real rate of interest can be approximately calculated using the formula: real interest rate = nominal interest rate - inflation rate. Therefore, 5% - 6% = -1%.

Question 7

Uncertainty

Accepted Answer

Uncertainty exists when the probability of a given event cannot be estimated, distinguishing it from risk, where probabilities can be assigned.

Question 8

Pure economic rent is

Accepted Answer

Pure economic rent refers to the payment made for the use of land or other resources that are perfectly inelastic in supply, meaning their supply does not increase as the price increases. This is because the amount of land, for example, is fixed regardless of the price it can command.

Question 9

If a firm is incurring a loss, the loss is a signal that

Accepted Answer

Losses indicate that the resources used by the firm could be more valuable if employed elsewhere, as the current output is not covering the costs, suggesting a misallocation of resources from the perspective of market demand.

Question 10

A person buys X in one market and combines it with Y purchased in another market. The combination of X and Y gives Z, which the person sells in a third market for a higher price than the sum of the prices of X and Y. Which theory of profit is most consistent with this example?

Accepted Answer

This example aligns with the theory that profit is the return to being alert to an arbitrage opportunity. The person identifies a price difference between markets for goods X and Y, combines them into Z, and sells Z for a profit, demonstrating alertness to arbitrage.

Question 11

Which of the following statements is false?

Accepted Answer

Artificial rents, like subsidies or monopolistic market positions enforced by regulations, also attract competition from individuals and firms, contrary to the assertion in option C. Both real and artificial rents can motivate entities to compete, as both can offer above-normal returns.

Question 12

George earns $500,000 playing baseball for team X. His next best alternative to playing baseball is to own a fast-food restaurant, for which he would earn $100,000 a year. His next best alternative to playing baseball for team X is playing baseball for team Y, for which he would earn $400,000 a year. This example best illustrates the economic principle that

Accepted Answer

Economic rent is the difference between what a factor of production earns in its current use and its next best alternative. In this case, George's economic rent is the difference between his earnings with team X and team Y, illustrating that economic rent can vary based on perspective.

Question 13

If X is the actual amount of income or receipts and i is the interest rate (in decimals) that could be earned on alternative uses of money that face the same risk, the present value of X in t years from now is computed by

Accepted Answer

The present value of an amount X to be received in t years, given an interest rate i, is calculated as X divided by (1 + i) raised to the power of t, which is represented in option D.

Question 14

Which of the following is not a theory of the source of profit as discussed in the textbook?

Accepted Answer

Theories A, B, and C are recognized theories of the source of profit that emphasize the role of uncertainty, alertness to arbitrage opportunities, and innovation by entrepreneurs, respectively. Theory D, which suggests profit is merely a return to those fortunate enough to own resources, does not align with the discussed theories that focus on active roles or contributions to the generation of profit.

Question 15

In a very popular movie, the principal character wore aviator sunglasses that were given to the movie studio by the producer of the sunglasses. The sunglasses suddenly became very popular, and the sunglasses producer earned significant profits. Which of the following theories on the source of profits discussed in the textbook best describes the reason behind this success?

Accepted Answer

The success of the sunglasses was due to an unexpected popularity boost from the movie, illustrating how uncertainty can lead to profits.

Question 16

If the nominal interest rate is 8 percent and the real interest rate is 6 percent, then the expected rate of inflation is

Accepted Answer

The expected rate of inflation can be calculated using the Fisher equation, which is: nominal interest rate = real interest rate + inflation rate. Therefore, 8% (nominal rate) = 6% (real rate) + inflation rate. Solving for the inflation rate gives us 2%.

Question 17

Jim Smith made his fortune by buying and selling real estate. Which of the following theories on the source of profits best describes the reason behind his success?

Accepted Answer

Jim Smith's success in real estate is best explained by his ability to identify and capitalize on arbitrage opportunities, buying properties at a lower price and selling them at a higher price.

Question 18

Profits are income to

Accepted Answer

Profits are the reward for entrepreneurs who take on the risks of starting and managing a business.

Question 19

Ceteris paribus, the nominal rate of interest will increase when the

Accepted Answer

The nominal rate of interest is the sum of the real rate of interest and the expected rate of inflation. Therefore, if the expected rate of inflation increases, ceteris paribus, the nominal rate of interest will also increase.

Question 20

Risk

Accepted Answer

Risk exists when the probability of a given event can be estimated, allowing individuals and organizations to assess and manage potential outcomes.

Quiz 29: Interest Rent and Profit