Chapter 2 : The Three Basic Economic Problems and Private Property Rights

Part A - Short questions

1. Explain which basic economic problem is illustrated in each of the following situations.
(a) The government decides to cut funding for scientific research. (2 marks)
(b) A shop selling chocolate decides to sell coffee as well. (2 marks)
(c) A pizza courier decides to drive his motorcycle rather than go on foot to deliver the takeaway. (2 marks)
(d) A research assistant decides to use new computer software to analyse the collected data. (2 marks)

2. Explain which basic economic problem is illustrated in each of the following situations?
(a) An airline decides to sell more duty-free goods on the plane. (2 marks)
(b) An airline buys an Airbus A380 aeroplane to accommodate more passengers. (2 marks)
(c) An airline decides to open a new route. (2 marks)
(d) An airline decides to install a socket in every business class seat to facilitate passengers’ use of
electronic devices. (2 marks)

3. Explain which basic economic problem is involved in each of the following situations.
(a) A company decides to hire more part-time workers to lower its production cost. (2 marks)
(b) A restaurant agrees to offer a free drink to students wearing school uniforms during lunchtime. (2
marks)

4. (a)The following are two suggestions made by a consultancy firm. Explain which basic economic
problem is involved in each of the suggestions.
(i) “As the wage rate of local workers is too high, you should employ more workers from other
places.” (2 marks)
(ii) “As the market for your existing products is shrinking, you ought to develop some new products
to expand your business.” (2 marks)
(b) Are the two statements above positive or normative? Explain. (4 marks)

5. The manager of a travel magazine decides to publish a new travel magazine with a free booklet
introducing different travel destinations. Moreover, as the workload of the existing editors is too heavy, he
decides to employ more editors.
(a) Which basic economic problem(s) is/are involved in the case above? (4 marks)
(b) Is the free booklet a free good? Explain. (4 marks)

6. In tackling the basic economic problem of “how to produce”, what is the difference between a market
economy and a command economy? (4 marks)

7. What are the differences between the way that a traditional economy and a market economy use in
tackling the three basic economic problems? (4 marks)
8. Recently, Mr. Chan bought a factory for producing garments. He decided to employ 800 workers and buy
80 sewing machines.
(a) Which basic economic problems are involved in Mr. Chan’s case? (2 marks)
(b) Suppose the demand for clothes increases unexpectedly and Mr. Chan decides to raise the prices of his
products. At the same time, he decides to raise the output of his best-selling and high-end products.
State the economic system under which this would possibly occur. Explain your answer. (4 marks)

9. Explain whether each of the following statements is true or false.

(a) Hong Kong is a command economy because the government controls the allocation of some resources,
such as water. (3 marks)
(b) People in every economic system have to face the three basic economic problems. (3 marks)
(c) Deciding who carries out the production is a “for whom to produce” problem. (3 marks)

10. Explain whether the existence of exchange implies the existence of private property rights. (3 marks)

11. (a)Does the user of a computer in school library possess a full set of private property rights over the
computer? Explain. (4 marks)
(b) Does Grace possess a full set of private property rights over a computer bought and used by her?
Explain. (4 marks)

12. In a secondary school, students who claimed they are in need could borrow notebook computers from
the school. They were not required to submit any proof of income. Someone complained that some students
abused this service. In order to tackle this problem, the school decided that students would be required to
submit their proof of income when they borrowed the notebook computers from the school.
(a) Which basic economic problem was involved in the school’s decision? (2 marks)
(b) Did the borrowers of the notebook computers possess a full set of private property rights over the
notebook computers? (4 marks)

13. Miss Lam is the manager of a factory owned by Mr. Chu. She is now considering either to buy more
machines or to employ more workers so as to increase the output of the factory.
(a) Which basic economic problem is Miss Lam facing? Explain. (2 marks)
(b) Do you think Miss Lam herself possesses a full set of private property rights over the machines of the
factory? Explain. (4 marks)

14. Hong Kong is a mixed economy. Explain the way that the following markets mainly use to solve the
three basic economic problems.
(a) secondary education (3 marks)
(b) private housing (3 marks)

15. State the differences between a market economy and a planned economy in terms of
(a) ownership of resources; and (2 marks)
(b) the way of tackling the “for whom to produce” problem. (2 marks)
16. In Country A, there is a shortage of private cars. Explain how the problem will be tackled if Country A is
(a) a command economy. (2 marks)
(b) a market economy. (2 marks)

17. In economy X, a property developer considers building a residential building or a commercial building
on a piece of land. It decides to build a commercial building eventually.
(a) What basic economic problem is the property developer’s decision related to? Explain. (2 marks)
(b) The CEO of the property developer said, “As the demand for offices is not as large as expected, the
rent of the offices should be lowered to attract tenants.”
(i) Is the suggestion a positive statement or a normative statement? Explain. (2 marks)
(ii) Based on the CEO suggestion, which type of economic system do you think economy X is? Why?
(2 marks)

18. A government proposes to regulate the selling of duty-free cigarettes and alcohol by legislation, meaning
all duty-free cigarettes and alcohol can only be sold to non-residents.
(a) What are private property rights? (2 marks)
(b) Why may the private property rights over the duty-free cigarettes and alcohol be weakened if the law is
passed? Explain. (2 marks)

19. “If private property rights are not well-defined, there will be no exchange.” Do you agree with this
statement? Explain. (3 marks)

Part B - Long questions

1. A cinema chain is planning to expand its business. There are two options:
1. Open a new cinema in another district.
2. Open a restaurant next to each of its cinemas.
The chain can only pick one of these options. Even there is a concession counter in each of the cinemas, the
restaurant business is new to the chain. A lot of difficult decisions have to be made.
(a) What is the opportunity cost of opening a restaurant to the cinema chain? (3 marks)
(b) What type(s) of basic economic problems does the cinema chain need to tackle when running a
restaurant? Use ONE example of each to explain. (6 marks)
(c) Suppose the new cinema is located in a shopping mall and the cinema chain has to rent the premises to
run it. The contract states that the premise can only be used to run a cinema. Do you think the chain has
a full set of private property rights over the premises? Explain. (4 marks)
(d) Suppose the chain has decided to open a new cinema in another district but the business is much worse
than expected. Will the opportunity cost of choosing to open a new cinema change? Explain. (3 marks)

2. In a land auction, a property developer bid $400 million for a plot of land. It won the bid as the price was
the highest bidding price. The owner of the land is allowed to build anything on the land, rent it out or
transfer the rights to use the land to other developers.
(a) Which type of economic system is illustrated in the question? State ONE of its features. (4 marks)
(b) Now the developer is considering whether to build a hotel, a commercial building, or a shopping mall.
(i) Which basic economic problem is illustrated in this case? (2 marks)
(ii) Suppose the cost of building is the same for each of the three land usages mentioned. What is the
opportunity cost of building a shopping mall (excluding the cost of land)? (3 marks)
(c) Do you think the developer possesses a full set of private property rights over the plot of land? Explain.
(4 marks)

3. Suppose Country A produces 10 units of apples or 20 units of oranges with all its resources.
(a) What is the cost of producing one unit of apple, in terms of oranges? What is the cost of producing one
unit of orange, in terms of apples? (4 marks)
(b) Suppose there is advancement in technology which helps Country A produce 20 units of apples or 30
units of oranges with all its resources. The government of Country A is considering whether to
introduce this technology or not.
(i) What is the cost of producing one unit of apple now, in terms of oranges? Does the cost increase
or decrease? (3 marks)
(ii) Which basic economic problem is the government of Country A facing? (2 marks)
(c) Every farmer in Country A has to rent his or her farmland from the government. Do you think the
farmers have a full set of private property rights over their farmland? Explain. (4 marks)

4. Suppose the government acquires residential buildings in old districts for redevelopment. The residents
can only choose one of the following options:
Option 1: selling the flat out at the price offered by the government, where
the amount of compensation is calculated based on the size of the flat
Option 2: relocating to a public housing flat provided by the government
(a) (i) What is the residents’ opportunity cost of choosing Option 1? (2 marks)
(ii) Suppose the government decides to raise the amount of compensation per square meter. Would this
affect the residents’ opportunity cost of choosing Option 1? Explain your answer. (3 marks)
(b) Suppose the government is considering using the acquired land to construct an international sports
centre or to build hostels for the elderly. Explain which basic economic problem is illustrated in this
case. (2 marks)
(c) Suppose the government possesses a full set of private property rights over the acquired land. Explain
the three sets of rights the government has over the land. (6 marks)

5. Mr. Chan and his friends rent a premises in Mongkok and run a restaurant. They have made the following
decisions in a meeting:
(i) Offering 10% discount to students
(ii) Free dessert for each customer
(iii) Customers can make orders themselves using a computer system
(a) Which basic economic problem(s) is/are involved in each of the above decisions? Explain. (6 marks)
(b) Are the free desserts free goods or economic goods? Why? (3 marks)
(c) Suppose Mr. Chan and his friends now buy the premises. What right(s) over the premises do they have
after buying the premises which they did not have in the past? Explain your answer. (4 marks)
ANSWER KEY
Part A - Short questions
1. (a) The problem of “what to produce” is illustrated. Since government resources are scarce, she cannot
satisfy all wants. Cutting funding for scientific research concerns the use of her resources, which could be
spent on other areas. (2 marks)
(b) The problem of “what to produce” is illustrated. With limited resources, the shop cannot produce
everything it wants to produce. Deciding to sell coffee concerns the kinds of goods to be produced.
(2 marks)
(c) The problem of “how to produce” is illustrated. Deciding to drive his motorcycle rather than go on foot
to deliver the takeaway concerns the method of providing the delivery service. (2 marks)
(d) The problem of “how to produce” is illustrated. Deciding to use new computer software to analyse the
collected data concerns the method of production. (2 marks)

2. (a) The problem of “what to produce” is illustrated. The airline decides what kinds of duty-free goods
and the quantities of duty-free goods to be sold on the plane. (2 marks)
(b) The problem of “how to produce” is illustrated. Buying an Airbus A380 aeroplane concerns what
factors of production are to be used in providing the air services. (2 marks)
(c) The problem of “what to produce” is illustrated. Opening a new route concerns what kinds of air
services to be provided. (2 marks)
(d) The problem of “what to produce” is illustrated. As it is a new service provided by the airline to
passengers, it concerns what kinds of services to be provided. (2 marks)

3. (a) The problem of “how to produce” is illustrated. Hiring more part-time workers concerns what factors
of production to be used in production. (2 marks)
(b) The problem of “for whom to produce” is illustrated. Setting criterion for deciding who can get the free
drinks is involved. The criterion in this situation is that the customers have to be students wearing
school uniforms. (2 marks)

4. (a)(i) The problem of “how to produce” is illustrated. Employing more workers from other places
concerns what factors of production are used in production. (2 marks)
(ii) The problem of “what to produce” is illustrated. Developing some new products concerns what
kinds of goods to be produced. (2 marks)
(b) The two statements are normative statements. (2 marks)
The words “should” and “ought to” involve value judgment on what is desirable or the best. (2 marks)

5. (a)The problem of “what to produce” is involved. In this case, the manager decides what kind of
magazine to publish. (2 marks)
The problem of “how to produce” is also involved. Employing more editors concerns what kind of
factor of production and the quantities to be used. (2 marks)
(b) The free booklet is not a free good. (1 mark)
Free goods refer to those goods that people do not prefer more of as the quantity available is sufficient
to satisfy all human wants. (1 mark)
 However, people prefer more of the free booklets as the quantity available is not sufficient to satisfy all
human wants; OR
People prefer more of the free booklets; OR
Production of the free booklets involves the use of scarce resources. (2 marks)

6. In a market economy, since allocation of resources is guided by market prices, producers use production
methods which minimise the cost. (2 marks)
In a command economy, since the government plays a central role in deciding how the resources are
allocated, the methods of production used are determined by the government instead of the market
mechanism. (2 marks)

7. In a traditional economy, the three basic economic problems are tackled by customs and traditions.
(2 marks)
In a market economy, the three basic economic problems are tackled by market mechanism. (2 marks)

8. (a) The problems of“what to produce” and “how to produce” are involved. (2 marks)
(b) This would possibly occur under a market economy. (1 mark)
In a market economy, allocation of resources is mainly guided by market prices, which are determined
by the interactions between buyers and sellers in the markets. (2 marks)
Therefore, Mr. Chan can adjust the price of his products and decide which kinds of goods and their
quantities to be produced according to the market demand. (1 mark)

9. (a) False. (1 mark)

Although the Hong Kong Government controls the allocation of some resources, most resources are
allocated by the price mechanism and some are allocated by customs and traditions. Hence, Hong
Kong is a mixed economy instead of a command economy. (2 marks)
(b) True. (1 mark)
People in every economic system have to face the three basic economic problems. However, different
economic systems tackle these problems in different ways. (2 marks)
(c) False. (1 mark)
Deciding who carries out the production is related to the problem of “how to produce”. This concerns
what kinds of factors of production to be used in production, but not setting criteria for deciding who
can get the goods. (2 marks)

10. Exchange is the transfer of rights over a private property. In the process of exchange, market prices serve
as a signal for allocating the private property rights of goods. (1 mark)
If private property rights do not exist, there is no reason for people to pay for goods and services as others
may use your private property without your consent. (1 mark)
As a result, no exchange will take place. Therefore, the existence of exchange implies the existence of
private property rights. (1 mark)
11. (a) No. (1 mark)
The user of a computer in school library only possesses the exclusive rights to use the computer. When it is
his turn to use the computer, no one is allowed to use the computer without his permission. (1 mark)
He does not possess the exclusive rights to derive income from the computer. Since the computer is
owned by the school library but not him, he cannot sell or lease out the computer in order to generate
income. (1 mark)
He does not possess the rights to transfer the computer. Since the computer is owned by the school
library but not him, he cannot transfer the computer to a third party. (1 mark)
OR any reasonable answer with explanation (4 marks)
(b) Yes. (1 mark)
Grace possesses the exclusive rights to use the computer. No one is allowed to use her computer
without her permission. (1 mark)
She possesses the exclusive rights to derive income from the computer. As the computer is her
property, she can sell or lease out her computer in order to generate income. (1 mark)
She possesses the rights to transfer over the computer. As the computer is her property, she can transfer
the computer to a third party. (1 mark)
OR any reasonable answer with explanation (4 marks)

12. (a)The problem of “for whom to produce” was involved. As the notebook computers from school were
scarce, some students’ wants could not be satisfied. The school thus set criteria to decide who could
borrow notebook computers. (2 marks)
(b) No. (1 mark)
The borrowers of the notebook computers possessed the exclusive rights to use the notebook
computers. Without the borrowers’ permission, no one was allowed to use the notebook computers. (1
mark)
However, they did not possess the exclusive rights to derive income from the notebook computers. As
the notebook computers were owned by the school but not them, they could not sell or lease out the
notebook computers in order to generate income. (1 mark)
They did not possess the rights to transfer the notebook computers. As the notebook computers were
owned by the school but not them, they could not transfer the notebook computers to a third party. (1
mark)
OR any reasonable answer with explanation (4 marks)

13. (a) Miss Lam is facing the problem of “how to produce” because she is deciding which production
method, buying more machines or employing more workers, to use to increase output. (2 marks)
(b) No. (1 mark)
Miss Lam has the exclusive rights to use the machines of the factory. As she is the manager of the
factory, she has the right to decide the uses of the machines. (1 mark)
Miss Lam has only the rights to manage the use of the machines but she does not own them. Therefore,
she does not have the exclusive rights to derive income from the machines and the rights to transfer the
machines. (2 marks)
14. (a) By government decisions. (1 mark)
In the secondary education market, the government sets up various criteria for secondary education,
such as syllabuses, admission requirements, etc. Schools need to follow government decisions to
decide what type of education services to provide, how to provide education services, who can get the
places and so on. (2 marks)
(b) By market mechanism. (1 mark)
In the private housing market, the price of private housing is determined by the interactions between
buyers and sellers. Based on the price signals, producers decide what type of housing to produce, how
to build the housing, who can get the housing and so on. (2 marks)

15. (a)Most resources are owned by private individuals in a market economy while most resources are
owned by the government in a planned economy. (2 marks)
(b) The “for whom to produce” problem is mostly tackled by market mechanism in a market economy
while the “for whom to produce” problem is mostly tackled by government planning in a planned
economy. (2 marks)

16. (a)In a command economy, allocation of resources is decided by the government. When there is a
shortage of cars, the government will command the producers to produce more cars (or any reasonable
answer). (2 marks)
(b) In a market economy, allocation of resources is guided by market prices. When there is a shortage of
cars, people will compete for cars and their bidding will raise the price. The increased price guides the
producers to produce more cars. (2 marks)

17. (a) “What to produce”, because this is about what is to be built on the piece of land. (2 marks)
(b) (i) Normative statement, because it describes what ought to be and involves a value judgement on
what is desirable or the best (indicated by the word “should”). (2 marks)
(ii) Market economy, because the property developer lowers the rent of the offices according to the
demand-supply situation in the market. (2 marks)

18. (a)Private property rights refer to the exclusive right to use, the exclusive right to receive income from
and the right to transfer a good owned by a person. (2 marks)
(b) The private property rights over the duty-free cigarettes and alcohol may be weakened because the
duty-free shops’ right of selling (transferring) the duty-free cigarettes and alcohol is confined. (2 marks)

19. Yes. If private property rights are not well-defined, people’s exclusive right to use, exclusive right to
receive income from, and the right to transfer a property would be affected. There is no reason for people to
own and to pay for goods and services. Thus, exchange will not take place. (3 marks)
Part B - Long questions
1. (a) Opportunity cost of a choice is the highest-valued option forgone. (1 marks)
The opportunity cost of opening a restaurant to the cinema chain is the value of opening a new cinema
in another district. (2 marks)
(b) The problem of “what to produce” needs to be tackled. As resources are limited, the cinema chain has
to decide what kinds of food they want to serve and in what quantity. (2 marks)
The problem of “how to produce” needs to be tackled: The cinema chain has to decide the method of
cooking, what factors of production to be used and how to serve their customers. (2 marks)
The problem of “for whom to produce” needs to be tackled. The cinema chain has to decide who their
target customers are. (2 marks)
(c) No. (1 mark)
The cinema chain possesses the exclusive rights to use the premises. No one is allowed to use the
premises without the cinema chain’s permission. (1 mark)
The cinema chain possesses the exclusive rights to derive income from the premises. The cinema chain
can make use of it to run its business and derive income. (1 mark)
The cinema chain does not possess the rights to transfer the premises. As the premises are not owned
by the chain, it cannot transfer the premises to a third party. (1 mark)
OR any reasonable answer with explanation (4 marks)
(d) The opportunity cost of choosing to open a new cinema will not change. (1 mark)
It is because the value of the highest-valued option forgone (opening a restaurant next to each of its
cinemas) does not change. Only the value of opening a new cinema changes. (2 marks)

2. (a)A market economy is illustrated because the allocation of land is guided by market price. (2 marks)
In a market economy, the problem of “what to produce” is tackled by market mechanism. When the
price of a good increases, it will attract more producers to the market or existing producers will
produce more. (2 marks)
(b) (i) The problem of “what to produce” is illustrated. Since the area of land is limited, the developer
cannot build all the things it wants. It has to decide the usage of the land. (2 marks)
(ii) Opportunity cost of a choice is the highest-valued option forgone. (1 mark)
The opportunity cost of building a shopping mall would be building a hotel or a commercial
building, depending on the preference of the developer. (2 marks)
(c) Yes. (1 mark)
The developer possesses the exclusive rights to use the land because it can decide the usages of the
land. (1 mark)
It possesses the exclusive rights to derive income from the land. It can rent out the land in order to
generate income. (1 mark)
It possesses the rights to transfer the land. It can transfer the rights to use the land to other developers.
(1 mark)
3. (a)The cost of producing one unit of apple
= 20 units of oranges / 10 units of apples
= 2 units of oranges (2 marks)
The cost of producing one unit of orange
= 10 units of apples / 20 units of oranges
= 0.5 unit of apples (2 marks)
(b) (i) The cost of producing one unit of apple now
= 30 units of oranges / 20 units of apples
= 1.5 units of oranges (2 marks)
The cost of producing apple decreases from 2 units of oranges to 1.5 units of oranges. (1 mark)
(ii) The government is facing the problem of “how to produce” because she is facing the choice of the
method of production. (2 marks)
(c) No. (1 mark)
The farmers possess the exclusive rights to use their farmland. They can decide what kinds of crops to
grow on the farmland. (1 mark)
They possess the exclusive rights to derive income from their farmland. They can make use of the
farmland to grow crops and derive income. (1 mark)
They do not possess the rights to transfer their farmland. As the farmland is not owned by them, they
cannot transfer the farmland to a third party. (1 mark)
OR any reasonable answer with explanation (4 marks)

4. (a)(i) The residents’ opportunity cost of choosing Option 1 is the highest-valued option forgone, i.e.
Option 2. (2 marks)
(ii) No. (1 mark)
As raising the amount of compensation per square meter by the government would not affect the
value of the Option 2 (the highest-valued option forgone), it would not affect the residents’
opportunity cost of choosing Option 1. (2 marks)
(b) The problem of “what to produce” is illustrated. With limited land, the government has to decide its
usage. (2 marks)
(c) The government possesses the exclusive right to use the land. For example, she can decide the usage of
the land. (2 marks)
The government possesses the exclusive right to derive income from the land. For example, she can
lease the land out to generate income. (2 marks)
The government possesses the right to transfer the land. For example, she can sell the land to property
developers. (2 marks)
5. (a) Decision (i) involves the “for whom to produce” problem because this is about setting criterion for
deciding who can enjoy the food with a 10% discount. (2 marks)
Decision (ii) involves the “what to produce” problem because this is about what kind of services to
provide. (2 marks)
Decision (iii) involves the “how to produce” problem because this is about the method of production.
(2 marks)
(b) Economic goods. (1 mark)
More of the free dessert is preferred; OR (2 marks)
The dessert is produced from scarce resources which have alternative uses. (2 marks)
(c) The exclusive right to receive income. (1 mark)
After buying the premises, they have the exclusive right to receive income generated from the
premises, such as by leasing the premises out to earn rent. (1 mark)
The right to transfer. (1 mark)
After buying the premises, they have the right to transfer the premises to others, such as by selling the
premises. (1 mark)