Answering the Three Economic Questions - nazaretheconomics by pptfiles


									“Introduction to Economic Systems”
        Critical Questions

• What key economic questions must
  every society answer?
• What basic economic goals do societies
• What types of economic systems exist
What is an economic system?

 The method used by a
 society to produce and
  distribute goods and
The Three Questions that Determine
   a Societies Economic System
Because ALL economic resources are scarce,
  every society must answer three questions:
   – What goods and services should be
      • Guns or butter?
   – How should these goods and services be
      • What combination of factor resources
        should we use?
   – Who consumes these goods and
      • How will income be distributed?
                    Economic Goals
Societies answer the three economic questions based on their goals
                             and values.
      Economic Goals
                   Economic Goals
      Economic efficiency   Making the most of resources

       Economic freedom       Freedom from government intervention in
                              the production and distribution of goods
                              and services

      Economic security       Assurance a safety net will protect
      and predictability      individuals in times of economic disaster

      Economic equity        Fair distribution of wealth
      Economic growth        Innovation leads to economic growth, and
      and innovation         economic growth leads to a higher
                             standard of living.

      Other goals             Environmental protection, variety
         Four Economic Systems
  An economic system is the method used by a society
     to produce and distribute goods and services.
Traditional economies rely
on habit, custom, or ritual to   In a market economy
decide what to produce,          economic decisions are
how to produce it, and to        made by individuals and
whom to distribute it.           are based on exchange, or
In a centrally planned
economy the central              Mixed economies are
government makes all             systems that combine the
decisions about the              free market with limited
production and                   government intervention.
consumption of goods and
    Comparing Economic Systems
Economic System         Who answers the 3 ?’s

•   Traditional         •   Custom
•   Market              •   Individuals
•   Centrally Planned   •   Central Government
•   Mixed               •   Individuals with some
Traditional System
The Free Market System (a.k.a. Capitalism)
              Why do markets exist?
   Markets exist because none of us produces
    all the goods and services we require to
           satisfy our needs and wants.
A market is an arrangement that allows
buyers and sellers to exchange goods and
Specialization is the concentration of the
productive efforts of individuals and firms on a
limited number of activities.
                      Free Markets
                 Circular Flow Diagram of a Market Economy

• In a free market                             monetary flow

  economy, households                          physical flow

  and business firms use
  markets to exchange
  money and
  products.       Households                                   Firms

• Households
  own the factors
  of production
  and consume goods and                        physical flow
  services.                                    monetary flow
    Adam Smith (1723-90)
• Scottish social philosopher and professor
• “An Inquiry into the Nature and Causes of
  the Wealth of Nations” (1776)
  – 10 years to write
  – 5 volumes
• “Laissez faire”
• The Invisible Hand
  – Self Interest (Motivating Force)
  – Competition (Regulating Force)
       Advantages of the
Economic Efficiency Free Market
As a self-regulating
    system, a free      Economic Freedom
    market economy is   Free market economies have
    efficient.            the highest degree of
Economic Growth           economic freedom of any
                          economic system.
Because competition
    encourages          Additional Goals, i.e. variety
    innovation, free    Free markets offer a wider
    markets encourage     variety of goods and services
    growth.               than any other economic
Centrally Planned Economies

  The government,or
  central authority
      controls the
Organization of Centrally Planned Economies
 In a centrally planned economy, the government
   owns both land and capital. The government
 decides what to produce, how much to produce,
             and how much to charge.

Socialism is a social      Communism is a political
and political philosophy   system characterized by a
based on the belief        centrally planned economy
that democratic means      with all economic and
should be used to          political power resting in the
distribute wealth          hands of the government.
evenly throughout a        Communist governments are
society.                   authoritarian in nature.
 • German philosopher
 • Radical approach to fix the problems in free
   market systems
 • Communist Manifesto (1848) with Frederick
 • Argued that history is a series of class struggles
   between the rich capitalists and the working
   class “proletariat”.
 • He believed that eventually workers needed to
   unite and revolt against the capitalists. This
   revolution would create a classless society.

KARL MARX(1818-1883)
Frederick Engels   Karl Marx
The Soviet Union
The Soviet Experiment
• Factors of production controlled by the state
• Resources= armed forces, space program, capital
• Government committees decided the quantity,
  process and distribution of products
• The government created large state-owned farms
  and collectives
• Little incentive to produce, decline in the
  production of goods.
Problems in Centrally Planned Economies

  • Poor-quality goods, shortages, and
    diminished production
  • Fail to meet consumer needs and wants
  • Little individual incentives to work
  • Lack of innovation
  • Expensive and inflexible government
  • Sacrifice of individual freedoms
  Mixed Economies

• It is doubtful that any
  nation can exist
  successfully under a pure
  centrally planned economy or a
  pure market economy.
• Most economies mix features of
  both systems.
 An economic system that permits the conduct of business with minimal
  government intervention is called free enterprise. The degree of
    government involvement in the economy varies among nations.
 Nations are placed on a continuum (a range with no clear divisions) of
 mixed economies. On one end are centrally planned economies and
          on the opposite end are free markets economies.
 Continuum of Mixed Economies

 Centrally planned                                                                                                         Free market
                   Iran                          South Africa                France                United Kingdom       Hong Kong

         North Korea               China                   Botswana                            Canada                   Singapore
                 Cuba                   Russia           Greece               Peru                      United States

Source: 1999 Index of Economic Freedom, Bryan T. Johnson, Kim R. Holmes, and Melanie Kirkpatrick

             Comparing Mixed Economies
Chapter 3 and 13
 American Free
Understanding America’s
  Economic Structure
       Tradition of Free Enterprise

The Economic Trade-off (Freedom
 vs. Protection):
 Rights and Roles of the American Consumer

• Rights
• Property Rights
• Contracts
• Taxation

• Roles
• Consumer
• Voter
The Role of Government
     1. Protect the Public Interest
         2.Provide Information
   3. Promote Growth and Stability
Key Indicators



             Gross Domestic Product
      Gross Domestic Product
The main indicator used to determine overall
 health of the economy is gross domestic
 product (GDP) which is the dollar value of
 all final goods and services produced within
 a country’s borders in a given year.
This will allow them to better determine
 upcoming business cycles to determine
 prosperity, recession or depression.
Limitation of GDP
• Non-market activities
• Underground economy
• Quality of life

                     GDP vs. GNP
                 Annual income earned by
                US owned firms and citizens.
         Types of Unemployment
1.   Frictional Unemployment- Occurs when people change jobs,
     get laid off from their current jobs, take some time to find the
     right job after they finish their schooling, or take time off from
     working for a variety of other reasons
2.   Structural Unemployment- Occurs when workers' skills do not
     match the jobs that are available. Technological advances are
     one cause of structural unemployment
3.   Seasonal Unemployment- Occurs when industries slow or shut
     down for a season or make seasonal shifts in their production
4.   Cyclical Unemployment- Unemployment that rises during
     economic downturns and falls when the economy improves
        Unemployment Rates
The Bureau of Labor Statistics
determines the unemployment rate (% of
the labor force that is unemployed) each
  Getting Everyone To Work!!!!
• Economists generally agree that in an economy
  that is working properly, an unemployment
  rate of around 4 to 6 percent is normal.
• Sometimes people are underemployed, that is
  working a job for which they are over-
  qualified, or working part-time when they
  desire full-time work.
• Discouraged workers are people who want a
  job, but have given up looking for one.
Full employment is the level of employment reached
       when there is no cyclical unemployment.

• Inflation is a general increase in
• Inflation limits purchasing
  power (the ability to purchase
  goods and services).
        To Market, To Market

• The consumer price index (CPI) is
  computed each month by the Bureau of
  Labor Statistics.
• This is a measure of the price of a typical
  consumers “market basket”.
        What is in the basket?
There are over two hundred categories of products that are
    included in the basket. These categories fall under 8
                       major groups:
                 FOOD AND BEVERAGES
                     MEDICAL CARE
   Inflation Theory
1. Quantity
2. Demand-Pull
3. Cost-Push
         What’s the big deal?
 The three main problems caused by inflation are:

–Reduced Purchasing Power

–Erosion of Interest Income

–Erosion of Wages/Income
The Poverty Problem

     Although the free market is the most
     successful economic system at producing
     wealth—distribution is HIGHLY uneven.

     The poverty threshold is an income level
     below what is needed to support families or
     households. What is the current

Who does the government provide
       a safety net for?

                     Redistribution Programs
Type of Program       Description                             Example       Example
Cash Transfers        Direct payment of cash to qualifying Temporary        Unemployment
                      individuals                          Assistance to    Compensation
In-Kind Benefits      Goods and services for free or          Food Stamps   Subsidized
                      reduced prices                                        housing

Medical Benefits      Health insurance to those that cannot Medicare        Medicaid
                      provide it for themselves

Education Benefits    Federal, state, and local government    Pell Grants   Head Start
                      all provide money for the poor and
                      disabled to ensure all people receive
                      educational opportunities.

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