economic$

 

preface

 

Henry Thompson

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Preface

Journalists with little insight in economics write on economic issues spreading confusion. College principles courses tend to be vast surveys. As a result, economics seems either obscure or obvious. This introduction to economics is meant to start you on the right foot toward understanding the depth and focus of economics.

The foundation of human life is production and consumption of goods and services that make it possible. The major theme of economics is that markets provide these goods and services. During the past century living standards rose remarkably worldwide due to increasing specialization and trade.

The role of government is to provide the legal structure for property rights, produce public goods when markets fail, and redistribute income. Political groups try to alter market outcomes in their favor supporting politicians who pass laws favorable to the group. The support is in the form of money and votes. Lobby groups try to short circuit market outcomes with government policy favoring their members.

There is plenty of room for disagreement over the role of government in economics. Grasping the scope of what the government can do is important for sound economic thinking.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

economic$

markets

input markets

international economics

economics of the future

government & business

environmental economics

macroeconomics

 

 Economics is the study of the production and distribution of goods and services through the market system. Economics studies the prices and outputs of goods and services. Sound economic thinking defines the role of government in the economy exposing the limits of government policy.

The basic lesson of economics is the benefits of free trade and free investment. Economics explains why people save and firms invest, and why the economy grows. Two issues for the economy are unemployment and inflation.

Economics will not make you rich but might help you make wise investments. Economics will help you understand why politicians pass laws favoring various groups. Economics will help you understand and predict market changes.

Economics can answer some puzzling questions. Why is gold mainly for jewelry expensive, while water essential for life is cheap? What will happen to the price of oil over the coming decades? How soon will there be a sale on that new car you want? Which industries will expand?

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

market basics

Markets produce and distribute goods and services. Goods are scarce physical objects such as cars, shirts, gas, and wine. Services include haircuts, doctor visits, and consulting provided directly between people. Goods and services are produced requiring payments for the inputs of labor, machines, and energy.

One side of a market is supply that sums up production at various prices. As the price rises, the quantity supplied increases. Higher wages decrease supply. Lower energy prices raise supply.

The other side of a market is demand for the amount purchased at various prices. As the price rises, the quantity demanded falls. Incomes and tastes of potential buyers shift demand. Everyone is a potential buyer of everything but many goods and services are beyond most consumers due to price, budgets, location, or timing.

Supply and demand are the two sides of a market together determining price and quantity. Changes in demand and supply affect price and output. Increased income raises demand leading to a higher price and more output. Improved technology increases supply leading to lower prices and more quantity. Higher wages reduce supply, raising price and lowering output.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

markets for productive factors

Labor, capital, and natural resources are the three general factors of production. Firms pay owners of these inputs. In the economy, firms are input buyers and households are sellers.

People sell their labor and receives a wage. Labor supply comes from individuals or households. While everyone would like a higher wage, the labor market determines wages. People with their own businesses pay themselves a wage.

Capital refers to the machinery, equipment, and structures in production. Capital has to be produced and is valuable because it contributes to firm revenue. Firms pay rent for capital input. Even if a firm owns a machine, it could rent it to another firm. People own most of the capital although the government also owns capital for production.

Natural resource inputs such as energy resources, lumber, and iron are derived from the earth. The foundation of natural resource inputs is land, air, and water. Natural resources are paid by the firms using them in their production. Owners of the natural resources sell them to firms for production. Either people or the government can own natural resources.

The factor markets distribute income. Payments to labor, capital, and natural resources are the components of household income. The government uses various schemes to redistribute income, a basic issue of political economy.

Markets for products and factors are the two sides of the economy. People are demanders in the product markets and suppliers in the factor markets. Firms are the opposite, suppliers in the product markets and demanders in factor markets.

Prices for products and factors are determined by markets. Markets are interrelated by price and output effects. For instance, an increase in the price of gas will raise demands for bicycles and mass transit. Prices send signals for what to produce, what can be afforded, which inputs to buy, where to invest, and how many hours to work.

The economic system is complicated with markets constantly distributing goods and services. The news is delivered, a hamburger served, the internet provided. Economics boils this down to supply and demand.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

international economics

Households, firms, and governments across countries trade with each other. When a scare good or service is cheaper in another country, arbitragers buy it in the cheap location and transport it to the expensive location. The arbitrage rule "buy low, sell high" results in profit. Trade leads to more goods and services for both trading partners. With trade, production becomes more efficient as countries do not waste valuable resources making products that other countries make at lower cost.

Industries competing with imports want protection with tariffs and quotas of the government. A tariff is a tax on imports, and a quota a limit on the quantity imported. These government policies help the protected industries but hurt consumers of the good or service. Protected industries are inefficient and cannot compete with politicians providing protection in exchange for money and votes.

There is concern that other countries have lower wages or weak environmental regulations with unfair trade. China might be better than Japan at making appliances while Japan might be better at making cars. There will always be plenty of goods and services for every country to produce. Relative efficiency is all that is required to gain from trade. Comparative advantage is the relative efficiency that determines efficient production.

International investment is vital for economic growth naturally flowing across borders as industries look for better locations for production. Some countries become international lenders, and others borrowers. Governments limit international investment due to political pressure from firms competing with the foreign investment. General Motors, for instance, is hurt when Hyundai locates a new automobile plant in the country.

The exchange rate translates prices from one currency to another. The level of the exchange rate determines the direction of international trade, tourism, and investment. High variation in the exchange rate discourages international trade and investment.

The exchange rate sets domestic prices of imports and foreign investments. Governments may fix their exchange rate to please bankers or investors. Governments can undervalue a fixed exchange rate to help their export industry, essentially transferring purchasing power to foreign consumers. The exchange rate is best determined in a free market.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

economics of the future

Households save now so they can spend later. People save for college, a new car, retirement, or for their descendants. Saving is money not spent on present consumption.

Firms invest in capital to become more productive. Funds for investment are from retained earnings, borrowing, or the sale of new stock ownership in the firm. Investing this year helps produce more revenue next year.

Saving and investing determine the future of the economy interacting in the credit market. The two sides of the credit market are saving and investment as demand. Together saving and investment determine the price and quantity of credit.

The price of credit is the interest rate that is the return to saving and the cost of borrowing. The credit market, not the government, determines the interest rate. The government only sets the federal funds rate that it charges banks that might want to borrow.

The government also controls the money supply. The growth rate of the money supply determines inflation. Higher inflation translates into a higher nominal interest rate for lending and borrowing. The real interest rate is the nominal rate less inflation. If the nominal interest rate of is 6% and the inflation rate 5%, the real rate is 1%.

The economy as a whole might save or lend internationally. One country might be a lender and the other a borrower. Reasons for lending and borrowing internationally are the same as in the domestic credit market. Countries grow through international saving and investment.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

government & business

The government provides some services and perhaps goods, redistributes income, and enforces property rights. If anyone could drive your car there would be little incentive to buy on. Without property rights, the economy would collapse.

Governments use taxes and subsidies to influence economic activities. A tax involves paying the government leading to less of the taxed good or service. With a subsidy, the government pays leading to more of the subsidized product. Politicians accept cash and votes to enact taxes and subsidies.

Governments create monopoly power with franchises. A legal monopoly is the only firm able to produce a particular good or service. A monopoly sets price to maximize profit with no competitors. Electric utilities are franchise monopolies. The government regulates the utilities receiving taxes and political support in exchange for the franchise.

Taxis, doctors, electricians, airport landing slots, cable service, and beauticians are other examples of government franchised licensing. Monopoly power restricts competition. The value of a license or franchise can be high leading firms to pay lawmakers for the favor.

Some industries that were franchised and regulated by the government have been deregulated. These include banking, trucking, airlines, and telecommunications. As a rule, deregulated industries produce better services at more competitive prices than regulated franchises.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

environmental economics

Pollution is a negative spillover produced along with some outputs. Most pollution is attached to mining of minerals and energy sources including coal, oil, and gas. Pollution cost is external to the producing firm short of liability for damage. The cost of pollution is paid by others outside the firm.

Controlling pollution is costly. Pollution from generating electricity could be totally eliminated but monthly bills would at least double. Firms can be taxed according to the pollution externality. The political process of environmental laws determines who pays how much.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

macromanagers

Macroeconomics concerned with managing the entire economy is described like a vehicle with accelerators, brakes, fine tuning, takeoff, and soft landing. The desired illusion is that the macromanagers are in control. Economic recovery packages try to recover from previous recovery packages.

The ultimate macroeconomic plan was the series of Five Year Plans in the Soviet Union. While the plans sounded good on paper, the socialist system collapsed due to inefficiency leading to continued poverty.

People have different ideas about how much the government should manage the economy but two things are certain. First, any plan should stress market incentives. Second, the government requires tax revenue.

Free markets provide adjustment mechanisms for imbalances such as unemployment, recession, bad weather, energy crises, financial crises, pandemics, and so on.

Out of a sense of fair play, the government redistributes some income. The iron law of economics is that whatever you do to help somebody hurts due to the lost incentive to help themselves. Welfare systems create a permanent underclass as the safety net becomes a hammock.

Maromanagers are government bureaucrats perpetuating themselves. Politicians are elected by making you think they can do something for you.