Chapter 2 Wheelan

Question 1

Perverse incentives (law of unintended consequences)

Answer 1

Inadvertent incentives that can be created when we set out to do something completely DIFFERENT. (counter-intuitive)

Question 2

What is the problem with a uniform pay scale? (adverse selection)

Answer 2

Provides an incentive for the most talented to look for work elsewhere

Question 3

What does a teacher’s uniform pay scale create?

Answer 3

Adverse incentives

Question 4

How do incentives help a market?

Answer 4

• Rewarding productivity, punishing inefficiency
• Rewarding winners
• Crushing losers

Question 5

raising prices

Answer 5

reduces demand

Question 6

rhino market

Answer 6

not naturally self-correcting. demand is low price is high, more reason for poachers to hunt and sell

Question 7

communal property

Answer 7

many owners

Question 8

not altruism

Answer 8

maximizing value of a scarce resource

Question 9

government provides incentives in form of

Answer 9

permits and revenues

Question 10

when illegal or regulated

Answer 10

demand decreases and it lowers incentive for poachers to hunt rhinos

Question 11

incentives as commission

Answer 11

harder working employees

Question 12

incentives for high gas prices

Answer 12

less driving

Question 13

self interest

Answer 13

makes the world go round

Question 14

money is an

Answer 14

imperfect, sometimes ineffective incentive

Question 15

inputs

Answer 15

something you can control directly

Question 16

good policy

Answer 16

uses incentive to some positive way. Ex: London and driving restrictions. Flaw- reduced tourism and car traffic revenues declined

Question 17

good policy

Answer 17

uses incentive to channel behavior toward some desired outcome

Question 18

bad policy

Answer 18

ignores incentive or fails to anticipate how rational individuals might change their behavior to avoid being penalized

Question 19

corporate America

Answer 19

cesspool of competing and misaligned incentives

Question 20

Principal-agent problem

Answer 20

Difficulties in motivating one party (the “agent”), to act in the best interests of another (the “principal”) rather than in his own interests (ex: Burger King preventing employees stealing)

Question 21

principal agent - how does it work

Answer 21

for BK to not waste time monitoring employees they provide an incentive to the buyer to notify if they are not given a receipt. a type of management tool

Question 22

stock options

Answer 22

Allows recipient to purchase the company’s stock at a predetermined price.

Ex: aligns incentives of
CEOs to that of shareholders to ensure they do a good job.

Question 23

Toxic assets

Answer 23

Financial assets whose value has fallen significantly and for which there is no longer a functioning market, so that such assets cannot be sold at a price satisfactory to the holder

Question 24

negative factor of stock options

Answer 24

CEOs can achieve short term success, get compensated, and leave a disaster behind

Question 25

challenge is to reward good outcomes without

Answer 25

creating incentives for employees to game the system in ways that can damage the company in the long run

Question 26

economics teaches us how to

Answer 26

get incentives right

Question 27

in some cases individuals will make themselves worst off…

Answer 27

even if they are being completely rational. Ex: Prisoner’s dilemma

Question 28

Prisoner’s Dilemma

Answer 28

It offers great insight into real world situations in which unfettered SELF-INTEREST leads to POOR OUTCOMES.

Question 29

Creative destruction

Answer 29

Capitalist economic development ARISES out of the DESTRUCTION of some prior economic order

Question 30

Government’s role in creative destruction

Answer 30

Help FIRMS and industries under siege from competition and to protect the affected WORKERS

Question 31

government benefits

Answer 31

perverse incentives:

• generous unemployment benefits diminish incentive to work
• medicare/social security discourage saving money for old age
• save less because we need to set aside less money for retiring

Question 32

income tax

Answer 32

discourages unemployment

Question 33

green tax

Answer 33

collects taxes and makes people drive less. Conserves fuels as an incentive

Question 34

sin taxes

Answer 34

taxes on smoking, alcohol, and gambling

Question 35

simple level of taxation

Answer 35

understood and collected

Question 36

fair taxation

Answer 36

two people with same income will pay same or similar taxes

Question 37

broad taxation

Answer 37

revenues raised from imposing taxes on a large group rather than smaller

Question 38

Deadweight loss

Answer 38

Taxes make individuals worse off without making anyone else better off.
Ex: taxing only red car owners.

Question 39

economics

Answer 39

offers an analytical framework to think and ask important questions but no right answer

Question 40

carbon based taxation

Answer 40

incentive to conserve non renewable resources

Question 41

regressive tax

Answer 41

falls more heavily on the poor than the rich

Question 42

lump sum tax

Answer 42

• most efficient. broad simple and fair

- imposed uniformly on every individual in a jurisdiction

Question 43

Earned income tax credit (EITC)

Answer 43

Uses income tax system to SUBSIDIZE low wage workers so that their TOTAL income is raised ABOVE the poverty line

Question 44

economy

Answer 44

wants to understand how people behave and react to try to be better off, so economists can predict accordingly.

Question 45

systems work better with

Answer 45

incentives