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 services.
Specialization is the concentration
of the productive efforts of
individuals and firms on a limited
number of activities.
The Rise of Mixed Economies
Market economies, with all their advantages,
have certain drawbacks.
Limits of Laissez Faire
Laissez faire is the doctrine that
government generally should not
interfere in the marketplace.
Governments create laws
protecting property rights and
enforcing contracts. They also
encourage innovation through
patent laws.
Comparing Mixed Economies
•
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.
Continuum of Mixed Economies
Centrally planned
Free market
Iran
North Korea
Cuba
South Africa
China
Russia
France
Botswana
Greece
United Kingdom
Canada
Peru
Source: 1999 Index of Economic Freedom, Bryan T. Johnson, Kim R. Holmes, and Melanie Kirkpatrick
Hong Kong
Singapore
United States
What is the role of the
government in the economy?
Governments in the US Play Many
Roles in the Economy
• Protects property rights & contracts
• Regulates economic activity:
- Promotes competition
- Protects consumers & regulates businesses to promote
the public interest
- Establish public disclosure laws
• Provides public goods
• Provides safety net
• Promotes economic growth & stability—
Federal govt
How does the government
pay for all it does?
Tax Bases & Tax Structure
• Tax base = the income, property, good or
property subject to taxation
Proportional Constant % of
income taken
Progressive As income rises,
tax rate
increases
Regressive Smaller % of
income taken in
taxes as income
increases
FEDERAL BUDGET
FEDERAL TAX REVENUES
Individual Federal Income Taxes
• Accounts for almost 50% of US
government revenue
• How does the tax work?
• It’s Progressive/graduated:
- The more you make, the higher the tax
rate
• Federal tax rates = 10%, 15%, 25%,28%,
33% & 35%
• Your entire income is not taxed at this rate
though.
Alternatives to the current
system of taxation?
Flat tax?
Everyone pays the same rate
regardless of income.
THE BUSINESS CYCLE
Business Cycle Terms
• Recession: Decline in Real GDP for 2
consecutive quarters (6 months)
• Depression: Prolonged period of
recession
• Inflation: general rise in price levels
• Stagflation: decline in real GDP combined
with a rise in the price level
Govt. Intervention in the Economy
Brief History
• Classical Economists- Based on work of
Adam Smith. Emphasized laissez-fare
• Great Depression changed perceptions og
govt’s role. Many govt’s adopted policies
based on works of John Maynard Keynes.
• Keynes: Govt. can help promote
economic stability & growth by
manipulating aggregate demand
Macroeconomic Goals of
Government
• Economic Growth
- Increases in Real GDP & Real GDP per capita
• Low unemployment
- Typically between 4 and 6%
• Economic Stability
- Prevent sudden shifts in general price
levels (high inflation or deflation)
- Monitor and maintain healthy financial
institutions
Economic Indicators—Used to
monitor the economy’s progress
•
•
•
•
•
•
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Stock Market
Housing Starts
Consumer Confidence Index
Retail Sales
Real GDP
Unemployment rate
Consumer Price Index (CPI)
Inflation
• Measured by variety of price indexes
• Most used is Consumer Price Index (CPI)
• CPI looks at prices of a typical “market
basket”: a representative collection of
goods and services
• CPI establishes a base period to compare
other months or years against. It’s
assigned a value of 100.
Government Tools to Promote
Economic Stability
• Fiscal Policy:
- Govt. use of taxation and spending to stabilize
the economy
• Monetary Policy:
- Regulation of money supply and interest rates
to stabilize the economy. Controlled by the
Federal Reserve System (a privately owned,
publicly controlled central bank of the US).
Ben Bernanke chairman of the “Fed.”
Dr. Ben Bernanke: Chair of the Federal Reserve (2/06 ---)
Former Chair Alan Greenspan
August 1987 – January 2006
Federal Reserve Districts
Major Roles of the FED
• 1. Banker for the US Government: maintains
account for Treasury Dept., Issues currency,
sells & redeems govt. securities
• 2. Serves Banks: facilitates check clearing,
examines banks, lender of last resort
• 3. Regulates Banking System*
• 4. Regulates Money Supply & Promotes
Economic Stability *
Creation of $: Related tools
• Required Reserve Ratio (RRR): The percent of $
banks are required to keep on
reserve.
• Federal Funds Rate: Rate of interest banks
charge each other to borrow $
• Discount Rate: Rate of interest Fed charges
banks to borrow from the Fed.