1 Economics Sunday September 30 2012 10 57 AM Economics study of how people make choices given that resources are scarce In Making Choices Decisions are rational People respond to incentives Optimal decisions are made at the margin implies additional Because of scarcity of resources Society must choose what goods and services will be produced How goods and servicies will be produced Who s going to receive goods and services 1 2 3 1 2 3 1 2 3 A Society s decision about the type of market system determines who how and what to produce Centrally Planned economy government decides how resources will be allocated Market Economy Firms decide how to produce firms produce market decides who gets products U S is a Modern Mixed economy mostly a Market economy but the government plays a significant role in allocation of resources Normative vs Positive Economics 1 2 Positive concerned with what is Normative concerned with what ought to be Microeconomics vs Macroeconomics 1 2 Microeconomics the study of how households and firms make choices how they interact in markets and how the government attempts to influence their choices Macroeconomics the study of the economy as a whole including topics such as inflation unemployment and economic growth Test 1 Page 1 2 Tradeoffs Comparitive Advantage and the Market System Sunday September 30 2012 11 27 AM PPF Production Possibilities Frontier a curve showing the maximum attainable combination of two products that may be produced with available resources and current technology illustrates tradeoffs opportunity cost factors of production land capital labor On the curve is efficient full employment of obtainable resources Moving on the curve left to right gives you gain in opportunity cost increases as production of one output expands Shifts in PPF 1 2 Increase in Resource Base Economic Growth and PPF shifts right Decrease in Resource Base Economic Decline and PFF Shifts left Economic Growth the ability of the economy to increase the production of goods and services The Market System Market a group of buyers and sellers of a good or services and the institution or arrangement by which they come together to trade Product Market a market for goods such as computers or services such as medical treatment Factor Market a market for the factors of production such as labor capital natural resources and entrepreneurial ability Factors of Production the inputs used to make goods and services Capital physical capital such as computers and machine tools that is used to produce other goods Labor all types of work from part time to senior managers Natural Resources land water oil ores and other raw materials Entrepreneurial the ability of an entrepreneur someone who operates a business to bring together the rest of the factors of production to produce and sell goods and services Circular Flow of Income Households consist of all the individuals in a home suppliers of factors of production especially labor Test 1 Page 2 especially labor Firms suppliers of goods and services Circular Flow Diagram a model that illustrates how participants in markets are linked Basic circular flow of the economy total expenditures total income total output Ceteris Paribus all else equal the requirement that when analyzing the relationship between two variables all other variables are held constant Test 1 Page 3 8 GDP gross domestic product Sunday September 30 2012 2 52 PM GDP market value of all final goods and services produced in a nation during a period of time usually one year Counts only final goods or services not intermediate New goods current production Measured using market values not quantities GDP roughly equals total income total output total expenditure Basic Circular Flow Assumptions closed economy 1 2 3 Households spend everything they earn on goods services Households supply factors of production Firms spend all their revenue on resources Business Cycle Alternating periods of economic expansion and recession open economy Leakages to spending flow Savings Taxes Imports Injections to the spending flow Investments Consumption Government purchases Net exports CALCULATING GDP 1 2 3 1 2 3 4 Expenditure Approach GDP C I G NX Consumption C spending by households on goods and services not including spending on new houses Accounts for 70 5 of GDP Investment I spending by firms on new factories office buildings machinery and additions to inventories plus spending by households and firms on new houses Government Purchases G spending by federal state and local governments on goods and services Net Exports NX exports minus imports Income Approach add up all the incomes earned in exchange for the factors of production Wages Savings Rent Profits Indirect Business Taxes National Income Depreciation Test 1 Page 4 Depreciation firms set aside funds to repair replace worn out capital goods used in production Disposable Personal Income Tells how much households have to spend and save after taxes and transfers Real vs Nominal GDP Product approach Nominal GDP uses prices and quantities of the current year Real GDP uses quantities of current year but PRICES OF BASE YEAR GDP DEFLATOR Nominal GDP Real GDP Change in GDP Deflator of inflation Test 1 Page 5 9 Inflation and Unemployment Monday September 24 2012 11 16 AM r REAL INTEREST i INTEREST U UNEMPLOYMENT 1 2 3 4 UNEMPLOYMENT Calculating unemployment U S Department of Labor takes household survey 60 000 households Each member 16YO is asked are you employed Employed worked last week Unemployed looking for work in the last 4 weeks A person not looking for work and unemployed is not counted as unemployed they are discouraged workers Labor Force employed and unemployed and looking for work In a vibrant Market Based Economy jobs are being created and destroyed all the time because of changes in consumer tasks technological process and success and failures of entrepreneurship Types of Unemployment Frictional short term reflects the normal search time by workers who are changing jobs initially entering labor force or seasonally employed Structural caused by a persistent mismatch of skills of workers and the requirements of jobs Cyclical caused by a lack of jobs during a recession Full employment DOES NOT EQUAL zero unemployment usual unemployment rate is 5 6 Minimum Wage Debate Efficiency Wage If the minimum wage is set too far above the market wage for employees more people will be unemployed because firms cannot afford to pay the minimum wage to as