LOs
1. Explain the role of the
household in the economic
system.
2. Identify the different types of
firms and describe their roles in
the economy.
3. Outline the ways governments
affect their economies.
4. Outline the international
influences on the economy.
• Suppliers of economic
resources.
• Buyers of goods and services.
• Producers of goods and
services (household
production).
Where U.S. personal income comes from and where it goes
(a) Over two-thirds of personal income
in 2006 was from wages, salaries, and
proprietors income
(b) Half of U.S. personal income
in 2006 was spent on services
3
Cash or in-kind benefits given to individuals
as outright grants from the government
Cash transfers: Social security, disability,
unemployment compensation, TANF.
In-kind transfers: Medicare, Medicaid, food
stamps, school lunch program, subsidized
housing.
Gardening, cooking, ironing,
childcare, car repair, painting—many
people do these things “in-house.”
Household production makes sense if
the opportunity cost is less than market
price.
The Firm
• Firms
– Hire and combine resources
– Produce goods and services
– Maximize profit
6
Types of Firms
• Sole proprietorship
– Single owner
• Partnership
– Two or more owners
• Corporation
– Legal entity
– Shares of stock
– Limited liability
7
Number and sales of each type of firm
(a) Most firms are sole
proprietorships
(b) Corporations account for most sales
8
The Government
•
•
•
•
•
•
•
•
•
9
Establish & enforce rules of the game
Promote competition
Regulate natural monopolies
Provide public goods
Deal with externalities
More equal distribution of income
Full employment
Price stability
Economic growth
Private production and
consumption can impose
costs on parties “outside
the market.” Some costs of
production or consumption
are thus externalized.
Examples:
Air, water, noise pollution; cigarette smoke; acid rain;
mosquitoes.
In a world where externalities
occur, market forces cannot
always be relied upon to allocate
resources efficiently. This creates a
legitimate reason for government
regulation.
Examples of government policy aimed at externalities:
•Effluent taxes
•Pollution “permits”
•Subsidized vaccinations
•Auto emission standards
•Open burning ordinances
•Smoke free workplaces
A good that, once produced, is available for all to
consume regardless of who pays and who
doesn’t; such a good is nonrival and
nonexclusive.
•Public goods are subject to a free-rider problem.
•Examples include lighthouses, flood control, and
national defense.
Components of Federal Spending
Since 1960
13
Federal Revenues by Source since 1960
14
Tax Principles and Tax Incidence
• Ability-to-pay tax principle
• Benefits-received tax principle
• Tax incidence
– Proportional taxation: Flat tax (as % of income)
– Progressive taxation: marginal tax rate
– Top 1% of tax filers – paid 36.9% of taxes
– Top 10% of tax filers – paid 68.2% of taxes
– Bottom 50% of tax fillers – paid 3% of taxes
– Regressive taxation
17
Needy
By making the tax structure
“progressive,” governments
can make the after-tax
distribution of income more
equitable (or even).
Affluent
Assume a 7.13 percent excise tax on groceries, gasoline,
cigarettes, and liquor
(1)
Family
Income
(2)
Spending for
items subject
to excise tax
(3)
=
(2)/(1)
(4)
(5)=
(4)/(1)
Greens
$27,000
$16,200
.60
$1,188
4.4%
Jones
64,000
25,600
.40
1,871
2.9
Lemons
270,000
40,500
.15
2,961
1.0
Excise Tax
Paid
ATR
Moral of the story: Low income families tend to spend a
greater proportion of their income on items subject to excise
taxes. Hence excise taxes tend to be regressive.
Top marginal rate on federal personal income
tax since 1913
20
•Consists of households, firms, and government
units in roughly 200 sovereign foreign countries.
•Foreign agents buy domestically produced goods
and services.
•Domestic agents buy goods and services from
foreign producers.
The Global Economy
The world is more
“integrated” than ever
before, as measured by
the movement of
resources, goods and
services between
countries
Distribution of global production
Energy Sources in the World Economy
Energy Sources in the World Economy
Energy Sources in the World Economy
An exchange is a price of
one (national) currency
expressed in terms of
another currency.
If the dollar price of the British pound is:
1.45 dollars = 1 pound
Then the pound price of the dollar is given by the
reciprocal of the dollar-pound exchange rate.
That is:
1
 0.69 pounds
Pounds per dollar =
1.45