ECO 2013 Macroeconomics
The U.S. Economy
Chapter 5
The Functional Distribution of Income
Indicates how the nation’s earned income is apportioned
among wages, rents, interest, and profits.
 Wages – paid to labor
o Largest source to households
 Rents and interest – paid to owners of property
resources
 Profits – paid to the owners of corporations and
unincorporated businesses.
The Personal Distribution of Income
Indicates how the nation’s money income is divided among
individual households.
It is divided by:
 Personal taxes – 16% of total income
 Personal saving – 5% of total income
o Part of income that is not spent
o Done for security or speculation
 Personal Consumption Expenditures –
o Durable goods – 12% of income is spent on
products that have expected lives of 3 years or
more.
o Nondurable goods – 30% of income is spent on
products that have lives of less than three years
o Services – 58% of income is spent on this.
The Business
 Plant – physical establishment
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 Firm – business organization which owns and operates plants
o Vertical combination – company owns its major supplier or
buyer
o Horizontal combination – company owns similar firms
o Conglomerate – company owns other industries
o Industry – a group of firms producing the same or similar
product
Legal forms
Legal Forms of
Business
Sole proprietorship
Advantages
Easy to organize
Boss is owner
Partnership
Easy to organize
Specialization
Larger financial
resources
Corporation
Most efficient
High financial
resources
Limited liability
Unlimited life
Easy to expand
Disadvantages
Limited financial
resources
Owner does everything
Unlimited liability
Inconsistent policies
Limited financial
resources
Continuity is precarious
Unlimited liability
Legal red tape
Double taxation
The Public Sector: Government’s Role:
Federal, state, and local government
 Government provides the legal framework and the services
needed for a market economy to operate effectively.
 The legal framework sets the legal status of business
enterprises, ensures the rights of private ownership, and allows
the making and enforcement of contracts.
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 Government intervention is presumed to improve the allocation
of resources.
o Ensures product quality, defining ownership rights, and
enforcing contracts.
o Maintaining competition
o Redistributing income
 Transfer payments – in the form of welfare checks
and food stamps, provide relief to the destitute, the
dependent, the disabled, and older citizens.
 Market intervention – government also alters the
distribution of income through market
intervention, that is, by acting modify the prices
that are or would be established by market forces.
 Taxation – government has used the personal
income tax to take a larger proportion of the
income of the rich than of the poor.
o Reallocating resources
 Market failure occurs when the competitive market
systems
 Produces the wrong amounts of certain
goods and services
 Fails to allocate any resources whatsoever to
the production of certain goods and services
who’s output is economically.
 Spillovers – occurs when some of the costs
or the benefits of a good are passed on to or
spill over to someone other than the
immediate buyer or seller.
o Spillover costs – production or
consumption costs inflicted on a third
party without compensation
o Corrected through legislation, specific
taxes
o Spillover benefits – the production of
consumption of certain goods and
services may confer spillover or
external benefits on third parties or on
the community at large without
compensating payment.
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o Corrected through subsidizing or
government providing the goods
 Public goods are indivisible, they must be produced in such
large units that they cannot ordinarily be sold to individuals.
Such as lighthouse, library, police or fire protection
o Private goods are also subject to the exclusion principle.
But it does not apply to public goods
o Quasi public goods are those that can be charged to some
individuals but not the full cost. Such as museums or
highways.
Government finance:
Government outlays:
 Government purchases - $1740 billion
 Transfer payments - $1039 billion
 28% of total production
 Federal Expenditure:
o Pensions and income security – 39%
o National defense – 16%
o Health – 19%
o Interest on the public debt – 14%
Federal Revenues:
Personal income tax – based on personal taxable income
 Progressive tax – people with higher income pay
a larger percentage of their incomes as taxes than
do people with lower income.
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Total taxable
income
Marginal tax
rate
Total tax on
highest income
in bracket
$1 – 43,850
43,851 – 105,950
$105,951 –
161,450
161,451 –
288,350
Over 288, 350
15%
28%
31%
$6,578
23,966
41,171
Average tax rate
on highest
income in
bracket
15%
22.6
25.50
36%
86,855
30.1
39.6
 Average tax rate – is the total tax paid divided by
total taxable income
Payroll Taxes – taxes based on wages and salaries used to
finance two compulsory Federal programs – social security and
Medicare.
Social security –6.2% of the first $76,200 of income. Used
to finance the social security pension
Medicare – 1.45% of all income. Used to finance the
Medicare system.
Corporate Income Taxes – is levied on a corporation’s profit – the
difference between the total revenue and its total expenditures. 35%
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Excise taxes - taxes on specific goods such as alcohol, gasoline, and
tobacco.
State and Local Finance:
 State revenue comes from
o Sales and excise taxes
o Personal income taxes
o Grants from federal government
 Used to finance
o Education
o Public welfare
o Health and hospitals
o Highway maintenance and construction
 Local revenues comes from
o Property taxes
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