evolution of us

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McGraw-Hill/Irwin 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.

The Evolving U.S. EconomyThe Evolving U.S. Economyin Perspectivein Perspective

Chapter 3


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Lau gher C u rveLau gher C u rveF rank: According to this economist, Ernie,

its all very simple.

In an endogenous business cyclewhere variable-span diffusion indicesare neither rising nor falling and thecapital-to-output ratio is low, then theinterplay of liquidity preferences andreserve ratios escalates and interestrates rise, causing the yield ratio todrop on common stocks.


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Lau gher C u rveLau gher C u rveE rnie: I get it!

In other words, when the economygoes higgledy-piggledy, the Dowgoes blooey!


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The U.S. Economy in Historic a lThe U.S. Economy in Historic a lPerspectivePerspective

T he U.S. economy is a market economy. A market economy is an economicsystem based on private property and themarket.


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The U.S. Economy in Historic a lThe U.S. Economy in Historic a lPerspectivePerspective

A market economy gives private propertyrights to individuals, and relies on marketforces to coordinate economic activity.

P rivate property rights the control a privateindividual or firm has over an asset or a right.


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How M a rkets WorkHow M a rkets WorkM arkets work through a system of rewardsand payments.Individuals are free to whatever they wantas long as its legal.


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How M a rkets WorkHow M a rkets WorkF luctuations in prices play a central role incoordinating individuals wants in a marketeconomy.

If there is not enough of something, its pricegoes up.

If there is too much, price goes down.


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Wh a ts Good Abo u t the Wh a ts Good Abo u t theM a rket?M a rket?

M ost economists believe the market is agood way to coordinate individuals'activities.


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Wh a ts Good Abo u t the Wh a ts Good Abo u t theM a rket?M a rket?

T he primary debate among economists isabout how markets should be structured.Whether markets should be modified andadjusted by government regulation.


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Ca pit a lism a nd Soci a lismCa pit a lism a nd Soci a lismS ocialism an economic system basedon individuals good will toward others, noton their own self-interest.In principle, society decides what, how,and for whom to produce.


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Ca pit a lism a nd Soci a lismCa pit a lism a nd Soci a lismC apitalism an economic system basedupon the market.T he ownership of the means of productionresides with a small group of individualscalled capitalists.


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Soci a lism in TheorySoci a lism in TheoryS ocialism an economic system that triesto organize society in the same way asfamilies are organized.Everyone contributes what they can andget what they need.


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Socia

lism in Pra

cticeSocia

lism in Pra

cticeSocialism in practice is often called Soviet-style socialism.S oviet-style socialist economies usedadministrative control or central planning tosolve the coordination problems: what,how, and for whom.


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Socia

lism in Pra

cticeSocia

lism in Pra

cticeB y the 1960s, Western Europe had major welfare support systems and governmentsvery much involved in their marketeconomies.


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Socia

lism in Pra

cticeSocia

lism in Pra

cticeSince the 1990s, people have talked littleabout differences in economic systems.Instead, they have talked aboutdifferences in institutions.


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Socia

lism in Pra

cticeSocia

lism in Pra

cticeEven countries that call themselvessocialist are hardly differentiable frommarket economies.


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Evolving Economic SystemsEvolving Economic SystemsEconomic systems and the institutions thatmake them up are constantly evolving.


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Evolving Economic SystemsEvolving Economic SystemsF eudalism dominated the Western worldfrom about the 8th to the 15th century.F eudalism is an economic system inwhich traditions rule.


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Evolving Economic SystemsEvolving Economic SystemsF eudalism gave way to mercantilism.M ercantilism is an economic system inwhich government determines the what,how, and for whom decisions by doling outthe rights to undertake certain economic

activities.


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Evolving Economic SystemsEvolving Economic SystemsM ercantilism gave way to the IndustrialRevolution.I ndustrial revolution a time whentechnology and machines rapidlymodernized industrial production and

mass-produced goods replacedhandmade goods.


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Evolving Economic SystemsEvolving Economic SystemsC apitalism evolved from the IndustrialRevolution.


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The U.S. EconomyThe U.S. EconomyT he U.S. economy is divided into threegroups: business, households, andgovernment.


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The U.S. EconomyThe U.S. EconomyH ouseholds supply factors of production tobusiness and are paid by business for doing so.T his takes place in the f actor market .


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The U.S. EconomyThe U.S. EconomyB usiness produces goods and servicesand sells them to households andgovernment.T his takes place in the g oods market .


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The U.S. EconomyThe U.S. EconomyExports and imports provide aninternational connection.


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The U.S. EconomyThe U.S. EconomyG overnment:

B uys goods and services from business andbuys labor services from households.Provides services to both business andhouseholds.


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The U.S. EconomyThe U.S. EconomyG overnment:

G ives some of its tax revenues directly back toindividuals (income redistribution).Oversees the interaction of business andhouseholds in the goods and factor markets.


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The U.S. EconomyThe U.S. Economy


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B usiness

B usiness

Business is the name given to privateproducing units in our society.

B usinesses decide what to produce, how muchto produce, and for whom to produce it.


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Wha

t Do U.S. Firms Produ

ce? Wha

t Do U.S. Firms Produ

ce? As the U.S. economy has evolved, therelative importance of services hasincreased.


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Cons u mer Sovereignty a ndCons u mer Sovereignty a ndB u sinessB u siness

B usinesses produce what they believe willsell.C onsumer soverei g nty means thatconsumers wishes rule what is producedby businesses.


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B efore deciding to start a business, the keyquestion is: C an I make a profit?P ro f it is whats left over from totalrevenues after all the appropriate costshave been subtracted.


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B y channeling the desire to make a profitfor the general good of society, the U.S.economic system allows the invisible handto work.


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Forms ofB u

sinessForms ofB u

sinessT here are three major types of businesses:

S ole P roprietorship businesses that haveonly one owner. P artnership businesses with two or moreowners.


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Forms ofB u

sinessForms ofB u

sinessT here are three major types of businesses:

Corporation B usinesses that are treated as aperson and are legally owned by theirstockholders who are not liable for the actionsof the corporate "person."


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Forms ofB u

sinessForms ofB u

siness A corporation issues stock and provides itsowners with limited liability.

S tock certificates of ownership in acompany. L imited liability the stockholders liability

is limited to the amount that stockholder hasinvested in the company.


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Forms ofB u

sinessForms ofB u

siness

Sol e

pr o priet o rships(72%)

Co rp o rati o ns (86%)

C orporations (20%)

Partnerships (8%)

Partnerships (9%)Sole proprietorships (5%)

By NumbersBy Numbers By ReceiptsBy Receipts


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Sole ProprietorshipSole Proprietorship Advantages:

M inimum bureaucratic hassle.Direct control by owner.

Disadvantages:L imited ability to get funds.Unlimited personal liability.


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Pa

rtnershipPa

rtnership Advantages:

A bility to share work and risks.Relatively easy to form.

Disadvantages:Unlimited personal liability (even for partner'sblunder).L imited ability to get funds.


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Corpora

tionCorpora

tion Advantages:

N o personal liability.Increasing ability to get funds.A bility to shed personal income and gainadded expenses.


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Corpora

tionCorpora

tionDisadvantages:

L egal hassle to organize.Possible double taxation of income.M onitoring problems.


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Fina

ncea

ndB u

sinessFina

ncea

ndB u

sinessB y selling stocks and bonds, corporationscan finance expansions and newinvestments.

Accounting statements are an importanttool investors use to decide where to

invest.


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EE--Commerce a nd the Digit a lCommerce a nd the Digit a lEconomyEconomy

E -commerce refers to buying and sellingover the internet.

I t brings people together at a low cost in avirtual marketplace where geographicallocation doesnt matter.I

t adds competition, increases information,and reduces the importance of geography.


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Hou

seholdsHou

seholdsH ouseholds groups of individuals livingtogether and making joint decisions.In the economy, households vote with their dollars.


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The Power of Hou

seholdsThe Power of Hou

seholdsC onsumer sovereignty reigns, but it worksindirectly by influencing business.H ouseholds are often not active producersof output but merely passive recipients of income.


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Ho u seholds a s S u ppliers ofHo u seholds a s S u ppliers ofLa borLa bor

T he largest source of household income iswages and salaries.H ouseholds supply the labor with whichbusinesses produce and governmentgoverns.


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Ho u seholds a s S u ppliers ofHo u seholds a s S u ppliers ofLa borLa bor

M any of the fastest growing jobs are inservice industries.M any of the fastest declining jobs are inmanufacturing and agriculture.


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GovernmentGovernmentG overnment plays two general roles in theeconomy:

A referee sets the rules that determinerelations between businesses and households.A n actor collects money in taxes and spends

that money on its own projects, such asdefense and education.


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Governmenta

sa

n ActorGovernmenta

sa

n Actor All levels of government consume about 20percent of the nations total output andemploy about 21 million persons.


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Governmenta

sa

n ActorGovernmenta

sa

n ActorState and local government employ 18million workers and spend over $1 trillionper year.Tax revenues are spent on administration,education, and roads.


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Governmenta

sa

n ActorGovernmenta

sa

n ActorIncome taxes make up 50 percent of thefederal governments revenue.T he two largest categories of spending areincome security and defense.


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I ncome of St a te a nd L oca lI ncome of St a te a nd L oca lGovernmentGovernment

Intergovernmental (22%) Property tax (20%)

Individual andcorporateincome tax(20%)

Sales or grossreceipts (20%)

Other (20%)


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Expendit u res of St a te a nd L oca lExpendit u res of St a te a nd L oca lGovernmentGovernment

C entral governmentadministration (10%) T ransportation (7%)

C ivilian safety (14%)

Education (37%)Publicwelfare (9%)

H ealth andH ospitals

(21%)

Other (21%)


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I ncome of the Feder a lI ncome of the Feder a lGovernmentGovernment

Social security taxes andcontributions (20%)

C orporate incometaxes (20%)

Excise taxesand other (20%)

Individual income

taxes (20%)


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N ational

defense(18%)

Expendit u res of the Feder a lExpendit u res of the Feder a lGovernmentGovernment

Interest (13%) H ealth andeducation (26%)

Income security (33%)

Other (11%)


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Governmenta

sa

RefereeGovernmenta

sa

RefereeG overnment sets the rules of interactionbetween households and business.It acts as a referee, changing the ruleswhen it sees fit.It decides whether the invisible hand willbe allowed to operate freely.


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The U.S. Economy a ndThe U.S. Economy a ndGlob a liz a tionGlob a liz a tion

It is impossible to talk about U.S. economicinstitutions without considering how thoseinstitutions integrate with the worldeconomy.


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Globa

l Corpora

tionsGloba

l Corpora

tionsG lobal corporations corporations withsubstantial operations on both theproduction and sales sides in more thanone country.


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Globa

l Corpora

tionsGloba

l Corpora

tionsG lobal corporations create jobs, bring newideas and new technologies to a country,and provide competition for domesticcompanies.


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Globa

l Corpora

tionsGloba

l Corpora

tionsT here is no global government to regulateor control global corporations.T hey can shift operations to another country they dont like the policies of thehost country.


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Globa

l Ma

rketsGloba

l Ma

rketsT he W orld Trade Or g anization (W TO ) iscommitted to getting nations to agree notto impost new tariffs or other traderestrictions except under certain limitedconditions.


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Globa

l Ma

rketsGloba

l Ma

rketsT he global economy gives firms a lot moreplaces to search for business.T he internet reduces the cost of thatsearch significantly.G lobalization increases the number of

potential competitors for business


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Globa

l Ma

rketsGloba

l Ma

rketsG lobalization increases competition byallowing greater specialization and divisionof labor.T his leads to increased growth and better living standards for everyone.


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Su

rviving ina

Globa

l EconomySu

rviving ina

Globa

l EconomyC ompanies operating in the globaleconomy must continually look for way toimprove efficiency and lower cost.


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Su

rviving ina

Globa

l EconomySu

rviving ina

Globa

l EconomyG lobalization lets companies takeadvantage of cost differentials acrosscountries.Specialization and division of labor helpshold down prices and wages firms pay for

the factors of production.


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Does Glob a liz a tion Elimin a teDoes Glob a liz a tion Elimin a te Jobs? Jobs?

G lobal trade increases total production.G lobalization eliminates some jobs, but italso creates jobs.


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Dea

ling with Globa

liza

tionDea

ling with Globa

liza

tionG overnments have developed a variety of international institutions to promotenegotiations and coordinate economicrelations.


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Dea

ling with Globa

liza

tionDea

ling with Globa

liza

tionInternational organizations that encourageinternational cooperation include:

T he U nited Nations (U N ) has no ability totax and no ability to independently impose itswill on its members


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Dea

ling with Globa

liza

tionDea

ling with Globa

liza


T he W orld Bank a multinational,international financial institution that workswith developing countries to secure low-interest loans.


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Dea

ling with Globa

liza

tionDea

ling with Globa

liza


T he International Monetary Fund ( IMF ) amultinational, international financialinstitution concerned primarily withmonetary issues.


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Dea

ling with Globa

liza

tionDea

ling with Globa

liza

tionT here are also informal organizations:

Group of Five Japan, G ermany, B ritain,France, and the U.S. meets to promotenegotiations and coordinate economicrelations among nations.Group of S even includes the G roup of Fiveplus Canada and I taly does much the samework as the G roup of Five


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The Evolving U.S. EconomyThe Evolving U.S. Economyin Perspectivein Perspective

E nd of Chapter 3

evolution of us

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