Deck 14: Transaction Costs Imperfect Information and Behavioral Economics

Question 1

A do­it­yourself approach to production is more likely when

A)technology is complex
B)inputs are difficult to identify
C)resources cannot easily be measured
D)the price of inputs is known
E)contracts are complex

Answer 1

D

Question 2

Ronald Coase's study, "The Nature of the Firm," argued that firms are formed to take advantage ofsituations in which hierarchies are more efficient than markets.

Answer 2

True

Question 3

If we assume perfect information, perfect mobility of resources, and no transactions costs, then there islittle need for firms.

Answer 3

True

Question 4

The more complicated a production process is,

A)the lower the transactions cost of using markets
B)the lower the cost of production
C)the more likely the market will be used to organize production
D)the more likely that transaction costs decrease through centralized control of production
E)the more likely that transaction costs decrease through use of markets

Question 5

According to Coase, firms

A)exist because the entrepreneur must prevent shirking
B)should not exist
C)should not exist if all participants in a market have perfect information
D)exist because of the transaction costs of coordinating many resources through markets
E)increase production costs and should therefore be limited

Question 6

Production through the firm is often more efficient than market exchange when

A)production requires many transactions among many resource owners
B)production requires few transactions between two resource owners
C)the cost of transacting business through market relations is less than the cost of undertaking the same activity within the firm
D)inputs are easily identified, measured, priced, and hired
E)the costs of determining inputs and negotiating contracts are low

Question 7

In a world of perfect information, if consumers could costlessly contract with private contractors to producea good and there were no economies of scale,

A)firms would be unnecessary
B)markets would be unnecessary
C)consumers would be unnecessary
D)consumers would face greater production costs
E)firms would be more efficient than the market

Question 8

If transaction costs of market exchange are small, then a firm will expand to produce more of its productinternally.

Question 9

Ronald Coase's insight regarding the firm was that

A)firms tend to be more profitable when economies of scale are greater
B)uncertainty and information are the keys to perfect competition
C)perfectly competitive firms tend to displace monopolies
D)economic activity is best understood in terms of the transaction costs of exchange
E)consumers often carry out transactions directly with resource suppliers

Question 10

The more complicated the process used to produce a good,

A)the greater are the transaction costs of organizing production through markets
B)the lower are the transaction costs of organizing production through markets
C)the less likely a firm will use administrative controls to organize the production process
D)the more likely a firm will use the market to organize the production process
E)the more likely consumers will choose to purchase the good over other alternatives in the market

Question 11

In his article, "The Nature of the Firm," Ronald Coase

A)suggested that monopolies may be more innovative than competitive firms
B)argued that the economy should be organized into one large firm
C)provided an answer to the question, "Why do firms exist?"
D)focused on the concept of adverse selection
E)analyzed concentration in U.S.industry

Question 12

Ronald Coase's study, "The Nature of the Firm," argued that

A)market exchange is less costly than hierarchical exchange
B)markets are more efficient than hierarchies
C)firms are formed to take advantage of situations in which hierarchies are more efficient than markets
D)the role of the entrepreneur is primarily to deal with central authority
E)markets tend to be less competitive over time

Question 13

If perfect competition existed everywhere, along with frictionless exchange, perfect information, andconstant returns to scale,

A)consumers would carry out transactions directly with resource suppliers
B)firms would not have the information necessary to calculate marginal productivities of resources
C)entrepreneurs would be needed to collect information
D)consumers would produce output and then engage in barter
E)the economy would be organized into one large firm

Question 14

For the average homeowner, which of the following tasks is most likely to be contracted for?

A)fixing a shelf
B)hanging a painting
C)moving furniture
D)rewiring the kitchen lighting
E)repainting a bedroom

Question 15

According to Coase, firms emerge when

A)transaction costs in the market are less than the cost of hierarchical control
B)transaction costs in the market are more than the cost of hierarchical control
C)prices in the market are less than the cost of hierarchical control
D)prices in the market are more than the cost of hierarchical control
E)implicit contracts in the market can be made explicit in a firm

Question 16

The firm becomes the dominant organization type whenever

A)markets exist
B)markets don't exist
C)the net value of centralized, organized production exceeds the net value of market­arranged production
D)the net value of market­arranged production exceeds the net value of centralized, organized production
E)private enterprise eliminates shirking

Question 17

Which of the following statements about resource allocation is correct?

A)Within a firm, resources are allocated by prices; in the market, resources are allocated by the decisions of managers.
B)Resources are allocated by prices both in the market and within the firm.
C)Within a firm, resources are allocated by the decisions of managers; in the market, resources are allocated by prices.
D)Resources are allocated by the decisions of managers both within the firm and in the market.
E)In the market, resources are allocated either by prices or by the decisions of managers.

Question 18

According to Coase, the optimal allocation of resources is guided by

A)the decisions of a firm's managers
B)market prices when market transaction costs are greater than the firm's internal organization costs
C)the decisions of a firm's managers when market transaction costs are greater than the firm's internal organization costs
D)the decisions of a firm's managers when market transaction costs are less than the firm's internal organization costs
E)entrepreneurs

Question 19

Firms emerge when transaction costs of using the market are less than the cost of hierarchical control.

Question 20

If the production of a sofa requires the purchase of 3 types of inputs and the production of a harp requiresthe purchase of 30 types of inputs,

A)the harp­producing firm will buy the sofa­producing firm
B)the sofa­producing firm will buy the harp­producing firm
C)harp production is more likely to be done by firms than sofa production is
D)sofa production is more likely to be done by firms than harp production is
E)both harp and sofa production will always be done by firms because there is more than one input involved in each

Question 21

Managers experience bounded rationality when they focus narrowly on maximizing their firm's profits andignore the broader perspective of society's preferences.

Question 22

One reason a computer manufacturer may produce its own microchips rather than buy them is that it canmaintain control over production quality.

Question 23

Which of the following is true of vertical integration?

A)It leads to the formation of larger firms from smaller ones.
B)It occurs when a firm adds more layers of management.
C)It occurs when firms try to buy up their competitors and corner the market.
D)It has no effect on the internal organization of a firm; it only affects outside markets.
E)It occurs when a firm buys another firm in a completely unrelated market.

Question 24

Don's Pasture Apple Cider Company buys four inputs: apples, glass bottles, apple presses, and computersfor record keeping.If the company decides to become more vertically integrated, it will

A)probably start growing apples next
B)probably start making glass bottles next
C)probably start making apple presses next
D)probably start making computers next
E)have to grow apples and make glass bottles, apple presses, and computers

Question 25

By integrating vertically,

A)firms trade with one another through markets
B)firms trade with one another through government intermediation
C)firm and market processes are connected to produce a good or service most efficiently
D)the various procedures involved in producing a good are collected within one firm
E)the various procedures involved in producing a good are parceled out among various contractors

Question 26

Vertical integration is

A)the expansion of a firm into earlier or later stages of production
B)an attempt by a firm to allow market prices to coordinate more transactions
C)an attempt by a firm to minimize shirking
D)an attempt by a firm to minimize the need to coordinate transactions within its boundaries
E)a way for a firm to accumulate information about its competitors

Question 27

Wendy's must decide whether to grow its own potatoes for French fries.Growing potatoes is a verydifferent process from running a fast­food restaurant.Based on this information alone, should Wendy'sgrow its own potatoes?

A)No, because Wendy's managers have bounded rationality.
B)Yes, because Wendy's managers have bounded rationality.
C)No, because there is a small number of potato suppliers.
D)Yes, because there is a small number of potato suppliers.
E)No, because it is easy to observe the quality of potatoes.

Question 28

The Criminal Records Corporation is operating at its minimum efficient scale, selling 10,000 records permonth via late­night cable TV advertising.It currently buys pressed records from Hole­in­the­Middle, Inc.,which has a minimum efficient scale of 100,000 records per month.Which of the following should CriminalRecords do?

A)Continue to buy 10,000 records from Hole­in­the­Middle, which can make the records more cheaply.
B)Buy 100,000 records from Hole­in­the­Middle, so that company can reach its minimum efficient scale too.
C)Buy Hole­in­the­Middle and use its facilities to manufacture the 10,000 records it needs.
D)Buy Hole­in­the­Middle and stop operating as Criminal Records because Hole­in­the­Middle is the more efficient business.
E)Buy Hole­in­the­Middle and stop operating as Criminal Records because Hole­in­the­Middle is the larger business.

Question 29

If the minimum efficient scale in the production of aluminum exceeds the quantity of aluminum anyindividual siding producer buys, siding producers should integrate backward into aluminum production.

Question 30

Spacely Sprockets, Inc., usually pays $1,000 for a million flanges, which it uses as inputs in themanufacture of sprockets.It also spends an average of $20 per million flanges on finding manufacturers andnegotiating contracts.Spacely is capable of making its own flanges at a cost of $980 per million.Giventhese costs,

A)Spacely should continue to contract out for flanges
B)Spacely should start to manufacture its own flanges
C)it's not possible to say what Spacely should do
D)Spacely should stop paying the additional $20 to find and negotiate contracts and just buy the flanges outright for $1,000 per million
E)Spacely should move away from the use of flanges and toward an input that it can produce by itself

Question 31

If the minimum efficient scale in the production of rubber exceeds the quantity of rubber any individual tireproducer buys,

A)tire producers should integrate backward into rubber production
B)there will be a monopoly in rubber production
C)tire producers should not integrate backward into rubber production
D)tire producers will be charged prices above what the cost of producing rubber themselves would be
E)tire companies will switch to fiberglass

Question 32

The McDonald's restaurants in Russia grow their own potatoes to guarantee that they are grown correctly.Growing potatoes is very different from running a fast­food restaurant.One could say of McDonald'sdecision to grow its own potatoes for the Russian franchise that

A)the bounded rationality criterion outweighs the need for quality control
B)the bounded rationality criterion is outweighed by the need for quality control
C)both bounded rationality and the need for quality control are factors that make it rational for McDonald's to grow its own potatoes
D)growing potatoes is irrational
E)there must not be many potato suppliers in Russia

Question 33

When a firm is operating at its minimum efficient scale, its short­run average total cost of production isminimized.

Question 34

When several resources are combined in the production of a good,

A)it is easy to determine the marginal products of the various resources
B)the marginal contribution of each input often cannot be observed
C)allocating revenue among the various resources is easy
D)there is more competition for each of the resources used
E)there is less competition for each of the resources used

Question 35

The limit on the amount of information a manager can comprehend about a firm's operation is known as

A)adverse selection
B)bounded rationality
C)diseconomies of scope
D)managerial incompetence
E)moral hazard

Question 36

The simpler a production process is,

A)the greater the cost of production
B)the greater the transaction cost of using markets
C)the more likely a firm will use the market to organize production
D)the more likely a firm will used centralized control to organize production
E)the more likely that transaction costs increase by using centralized control of production

Question 37

When a firm is operating at its minimum efficient scale, its

A)short­run average total cost of production is minimized
B)long­run marginal cost of production is minimized
C)long­run average cost of production is minimized
D)long­run profit is maximized
E)profit is at a maximum

Question 38

Wendy's restaurants must decide whether to grow their own potatoes for French fries or buy them.If theybuy rather than grow, then they have opted to

A)integrate horizontally
B)allow market prices to guide resource allocation
C)integrate vertically
D)allow hierarchical control to guide resource allocation
E)form an authority relation

Question 39

Vertical integration has no effect on the internal organization of a firm; it only affects the outside markets.

Question 40

When a firm is no longer able to reduce its long­run average cost by expanding, it has achieved itsminimum efficient scale of production.

Question 41

Economies of scope exist when it is less expensive to produce two or more product lines in a single firmthan it is to produce them separately.

Question 42

One reason a computer manufacturer may make its own microchips rather than buy them is that

A)it can maintain control over the quality during production
B)the total cost of components is the same as the price of chips purchased from a chip manufacturer
C)firms do not make high­quality microchips
D)managers at the computer firm place a high value on their time
E)firms do not produce goods for the market that can be made in­house

Question 43

Which of the following would not limit the extent of a firm's vertical integration?

A)the managers' bounded rationality
B)a large minimum efficient scale of producing inputs relative to the firm's input requirements
C)the fact that the quality of inputs is easily determined at the time of purchase
D)many interchangeable suppliers of the firm's inputs
E)high transaction costs of contracting with resource suppliers

Question 44

One reason many people make their own Hollandaise sauce rather than buy it is that

A)they can maintain control over the quality during production
B)the total cost of ingredients is the same as the price of store­bought sauce
C)firms do not make high­quality Hollandaise sauce
D)people place a high value on their time
E)firms do not produce goods that can be made at home

Question 45

If the quality of an input is easily determined at the time of purchase, then it is likely to

A)be the cause of high transaction costs of using markets
B)encourage vertical integration of a firm
C)encourage supplier firms to produce low­quality inputs
D)be produced internally by the firm
E)be purchased in the market

Question 46

If a firm that experiences economies of scope doubles its production of an item, its costs will less thandouble.

Question 47

.If a firm experiences economies of scope, per unit production costs fall as it produces more and more of itsproduct.

Question 48

One reason many people make their own pickles rather than buy them is that

A)they can maintain control over the quality during production
B)the total cost of ingredients is the same as the price of store­bought pickles
C)firms do not make high­quality pickles
D)people place a high value on their time
E)firms do not produce goods that can be made at home

Question 49

Apple Computer is more likely to continue to use input markets rather than manufacture its own inputsinternally when

A)the quality of inputs is difficult to determine
B)switching among input suppliers is easy
C)there are very few firms producing the input
D)the input is difficult to identify and define
E)transaction costs go up

Question 50

If a firm experiences economies of scope, per unit production costs fall as it produces more than one kindof product.

Question 51

If the minimum efficient scale in woodstove production is 100,000 units per year,

A)the average cost of producing 50,000 stoves is greater than the average cost of producing 100,000
B)the average cost of producing 50,000 stoves is equal to the average cost of producing 100,000
C)the total cost of producing 50,000 stoves is greater than the total cost of producing 100,000
D)the firm should not produce more than 100,000 woodstoves
E)MC exceeds AC at 100,000 stoves

Question 52

If the minimum efficient scale in toaster production is 500,000 units per year,

A)the average cost of producing 300,000 toasters is greater than the average cost of producing 500,000
B)the average cost of producing 300,000 toasters is equal to the average cost of producing 500,000
C)the total cost of producing 300,000 toasters is greater than the total cost of producing 500,000
D)the firm should not produce more than 500,000 toasters
E)MC exceeds AC at 500,000 toasters

Question 53

Which of the following is the best example of a vertically integrated firm?

A)General Electric, which produces light bulbs, jet engines, washing machines, and so on
B)Kinko's, which has a photocopy store near many colleges and universities
C)USX Corporation, which owns ore and coal mines, coke ovens, blast furnaces, mills, and foundries
D)Intel, which makes computer chips for most of the computer manufacturers
E)Century 21, which has real estate offices that help people sell a house in one city and buy another house in another city

Question 54

In Exhibit 14­1, suppose each tire produced requires ten pounds of rubber.Which of the following is true?

A)The tire manufacturer should integrate backward into producing rubber.
B)The tire manufacturer should produce more than 200,000 tires.
C)The tire manufacturer should buy rubber rather than produce it.
D)The rubber producer must be a monopolist.
E)The minimum efficient scale of rubber production is 2 million pounds.

Question 55

Economies of scope is the term used to describe an industry that is composed of firms having substantialeconomies of scale.

Question 56

Used car dealers are able to make a profit by buying used cars at a low price and selling them at a higherprice because

A)they sell lemons
B)they can take advantage of unsuspecting consumers
C)they are attempting to maximize their profits
D)the transaction costs to some buyers is less than it would be without the used car dealers
E)there are no transaction costs associated with the process of buying a used car

Question 57

Which of the following is the best example of a vertically integrated firm?

A)General Electric, which produces light bulbs, jet engines, washing machines, and so on
B)Kinko's, which has a photocopy store near many colleges and universities
C)Americam Apparel, which from a single building in downtowm LA, controls the dyeing, finishing, designing, sewing, cutting, marketing and distribution of
The company's product.
D)Intel, which makes computer chips for most of the computer manufacturers
E)Century 21, which has real estate offices that help people sell a house in one city and buy another house in another city

Question 58

If a firm experiences economies of scope,

A)its average cost falls as it increases output
B)its average cost rises as it increases output
C)average production costs fall when it produces more than one kind of product
D)it should integrate vertically
E)average production costs rise as it produces more kinds of products

Question 59

Suppose a company that produces mouthwash branches out into producing toothpaste.If this expansionreduces the average cost per unit, the company must

A)benefit from vertical integration
B)benefit from horizontal integration
C)experience economies of scale
D)experience economies of scope
E)have no transaction costs

Question 60

A horizontally integrated firm produces products in a variety of industries (e.g., General Electric, whichproduces jet engines, air conditioners and microwave ovens).

Question 61

Publications such as Consumer Reports magazine

A)increase the optimal amount of information gathered
B)reduce the optimal amount of information gathered
C)reduce the amount of common knowledge
D)raise the marginal benefit of information curve
E)make consumers perfectly informed

Question 62

Reliable information is

A)costly for consumers, but not for producers
B)costly for producers and consumers
C)freely available
D)costly for producers, but not for consumers
E)not relevant to economic decision making

Question 63

According to the search model, a computerized dating service should

A)reduce the amount of search
B)not affect the amount of search
C)increase quality dispersion
D)reduce quality dispersion
E)lower the marginal benefit of search

Question 64

) In Exhibit 14­2, if a consumer gathers an amount of information equal to I3,

A)she has made the optimal search
B)she is relying solely on common knowledge
C)she has acquired all available information that is beneficial to her
D)further information will be costless to her
E)she should increase her search

Question 65

According to the search model, a computerized used car search service should

A)reduce the amount of search
B)not affect the amount of search
C)increase price dispersion
D)reduce price dispersion
E)lower the marginal benefit of search

Question 66

According to the search model, the marginal benefit of acquiring information about a product is greater forexpensive items than for cheap items.

Question 67

In Exhibit 14­2, the point I1 indicates

A)the optimal amount of information gathered
B)common knowledge
C)the opportunity cost of the consumer's time
D)adverse selection
E)that all information is costly

Question 68

According to the search model, Consumer Reports magazine benefits consumers by increasing the marginalbenefit of information.

Question 69

According to the search model, the marginal cost of acquiring information about a product

A)is greater for a doctor than a nurse's aide
B)is the same for high­income consumers as for low­income consumers
C)is greater for expensive items than for cheap items
D)is greater for cheap items than for expensive items
E)diminishes as more information is acquired

Question 70

In Exhibit 14­2, the optimal level of search is

A)I1
B)I2
C)I3
D)0
E)not shown

Question 71

) In Exhibit 14­2, if a consumer gathers an amount of information equal to I2,

A)he has made the optimal search
B)he has avoided the cost of acquiring information
C)he has searched too much
D)further information will be costless to him
E)he should increase his search

Question 72

Suppose a company that produces furniture wax branches out into producing a dusting product like Lemon­Dust­Away.If this expansion is efficient, the company must

A)benefit from vertical integration
B)benefit from horizontal integration
C)experience economies of scale
D)experience economies of scope
E)have no transaction costs

Question 73

Which of the following is the most likely result when there are economies of scope?

A)outsourcing
B)vertical integration
C)natural monopoly
D)multi­product firms
E)adverse selection

Question 74

The optimal searcher is likely to not even attempt to secure perfect information even if it is possible toachieve it.

Question 75

For most consumers, the process of gathering information can be considered

A)irrational
B)unproductive
C)a vocation
D)nonmarket work
E)costless

Question 76

Exhibit 14­2 In Exhibit 14­2, the marginal benefit curve reflects

A)the fact that as consumers become more familiar with a market, additional information yields less and less improvement in product quality or value
B)the opportunity cost of the consumer's time
C)the fact that greater and greater distances must be covered to acquire a marginal piece of information
D)the fact that the cost of gathering information diminishes as more is gathered
E)the fact that there is much common knowledge about consumption

Question 77

For most consumers, the process of learning about the efficiency and durability of various brands ofrefrigerators can be considered

A)irrational
B)unproductive
C)a vocation
D)nonmarket work
E)costless

Question 78

Exhibit 14­2 In Exhibit 14­2, if a consumer gathers an amount of information equal to I3,

A)he has made the optimal search
B)he has avoided the cost of acquiring information
C)he has searched too much
D)further information will be costless to him
E)he should increase his search

Question 79

)According to the search model, we should expect greater price dispersion for a given good

A)if the good is a luxury
B)if the good is inferior
C)if there is much common knowledge about the good
D)during a recession
E)if a computerized search service is offered

Question 80

According to the search model, the marginal benefit of acquiring information about a product

A)is greater for a doctor than a nurse's aide
B)is the same for high­income consumers as for low­income consumers
C)is greater for expensive items than for cheap items
D)is greater for cheap items than for expensive items
E)increases as more information is acquired