© Goodheart-Willcox Co., Inc. 1 What Is Economics? © Goodheart-Willcox Co., Inc. Chapter Objectives • Distinguish between needs and wants. • Compare different types of economic systems. • Define scarcity in terms of needs and wants. • Analyze a decision in terms of trade-offs and opportunity cost. • Explain the role of profit motive in the economic system of the U.S. © Goodheart-Willcox Co., Inc. continued Chapter Objectives • Evaluate how competition among producers influences the price of goods in a market economy. • Interpret the relationship between supply and demand. © Goodheart-Willcox Co., Inc. Economic Systems • In earliest times families were the basic economic unit • Self-sufficient families – grew their own food – provided for members’ needs and wants – only consumed what they produced © Goodheart-Willcox Co., Inc. continued Economic Systems • The family lost its role as the basic economic unit as – people moved away from agricultural base – new ways of organizing production through specialization and technology emerged – larger quantity and wider variety of goods and services became available © Goodheart-Willcox Co., Inc. Types of Economic Systems • Four types of economic systems: – Traditional – Market or free enterprise – Command – Mixed © Goodheart-Willcox Co., Inc. Traditional Economy • Found mostly in underdeveloped countries • Change comes slowly • People tend to stick with what they know and do as they always did • People are governed by strong cultural, religious, or tribal leadership © Goodheart-Willcox Co., Inc. Market Economy • Decisions and activities of consumers impact businesses • Businesses react to consumers’ needs • Businesses have the opportunity to grow and profit • Individuals are given incentives to succeed © Goodheart-Willcox Co., Inc. continued Market Economy • A marketplace brings consumers and producers together to exchange goods, services, and money © Goodheart-Willcox Co., Inc. continued Market Economy • Examples: – Market for all goods and services in an economy – Market for cars – Market for a certain brand of sneakers © Goodheart-Willcox Co., Inc. Command Economy • Commonly found in socialist and communist countries • A central authority, usually government, – decides how resources are allocated – decides who will produce what – sets prices and decides how much to produce © Goodheart-Willcox Co., Inc. In Your Opinion • Why might some people choose to live under a command economy? © Goodheart-Willcox Co., Inc. Mixed Economy • Combines features of command and market economies • Exists in the U.S., China, Great Britain, Japan, and many other nations • Most economies are mixed • Though mixed, the U.S. economy has minimal government involvement © Goodheart-Willcox Co., Inc. The Challenge of Scarcity • Needs and wants are unlimited • Resources are limited • Economic systems attempt to resolve the problem of scarcity • Scarcity is a problem for individuals, families, companies, and nations © Goodheart-Willcox Co., Inc. continued The Challenge of Scarcity • Nonhuman resource – Examples: natural resources, capital, or physical things used to make and distribute other goods and services • Human resource – Examples: human labor, good health, skills, knowledge, education, entrepreneurship © Goodheart-Willcox Co., Inc. Trade-Offs and Opportunity Cost • Scarcity forces everyone to make choices, which involve – trade-offs – opportunity costs © Goodheart-Willcox Co., Inc. Scarcity and Economic Systems • Three problems for all societies: – What and how much to produce – How to allocate resources in producing goods and services – How to divide the goods and services produced © Goodheart-Willcox Co., Inc. How the U.S. Economy Works • Flows of goods, services, and resources between producers/sellers and consumers/workers © Goodheart-Willcox Co., Inc. continued How the U.S. Economy Works • Flows of payments for goods, services, and resources between consumers/workers and producers/sellers © Goodheart-Willcox Co., Inc. Four Qualities of a Market Economy • Private ownership and control of productive resources • Profit motive • Free economic choice • Competition © Goodheart-Willcox Co., Inc. Private Ownership and Control of Productive Resources • Individuals and businesses have – the right to own property such as possessions, real estate, business enterprises – freedom to decide how to use resources © Goodheart-Willcox Co., Inc. Profit Motive • Provides incentives for – entrepreneurs to take risks to start new businesses – businesses to produce goods and services – investors to buy stocks, bonds, and other investments – people to sell their resources: labor, land, ideas, capital © Goodheart-Willcox Co., Inc. Free Economic Choice • Consumers can choose – how they earn income – what to do with their money: spend, save, or invest – what, where, and how much to buy © Goodheart-Willcox Co., Inc. continued Free Economic Choice • Businesses can choose – what they produce – how and where to produce it – how and where to sell what they produce – what to do with their profits © Goodheart-Willcox Co., Inc. Competition • Competition among businesses and individuals affects – prices – wages – quality of goods and services – features of goods and services – quality of customer service – innovation © Goodheart-Willcox Co., Inc. continued Competition • Businesses must innovate to be competitive and successful by investing in research and development (R&D) • Advances in technology drive innovation • U.S. invests more money in research and development than any other country in the world © Goodheart-Willcox Co., Inc. continued Competition • Market economies can provide the best products and services at the lowest prices © Goodheart-Willcox Co., Inc. Laws of Supply and Demand • Supply is closely connected to price • Businesses produce more of something when they can sell it at higher prices • When price rises, supply rises • When price falls, supply falls © Goodheart-Willcox Co., Inc. continued Laws of Supply and Demand • Price and supply move in same direction in the supply curve Supply Curve Price per pair $80 $60 $40 $20 $0 1,000 2,000 3,000 4,000 Number of pairs produced © Goodheart-Willcox Co., Inc. continued Laws of Supply and Demand • Demand is closely connected to price • When price rises, demand falls • Consumers buy more of something at a lower price than at a higher price • When price falls, demand rises © Goodheart-Willcox Co., Inc. continued Laws of Supply and Demand • Price and demand move in same direction, opposite the supply curve Price per pair Demand Curve $80 $60 $40 $20 $0 1,000 2,000 3,000 Number of pairs sold © Goodheart-Willcox Co., Inc. 4,000 Equilibrium • Laws of supply and demand work together • When demand and supply are relatively balanced, the market is in equilibrium • Equilibrium is an ideal © Goodheart-Willcox Co., Inc. continued Equilibrium • Equilibrium price is when quantity supplied equals quantity demanded Price per pair $80 $60 $40 $20 $0 1,000 2,000 3,000 Number of pairs © Goodheart-Willcox Co., Inc. 4,000 Supply Demand Changes in Demand Trigger Price Adjustments • Price rises when – demand is greater than supply – demand rises and supply stays the same • Example: airline ticket prices are highest during peak travel times © Goodheart-Willcox Co., Inc. continued Changes in Supply Trigger Price Adjustments • Price falls when – supply is greater than demand – supply rises and demand stays the same • Example: stores drop prices for winter coats and hats at end-of-season clearance sales © Goodheart-Willcox Co., Inc. The Market’s Answer to Scarcity • Demand in the marketplace determines what and how much to produce • Businesses decide how to allocate resources in producing goods and services • Forces of supply and demand in the job market determine how to divide goods and services produced © Goodheart-Willcox Co., Inc. In Your Opinion • Is understanding the free enterprise system important to the study of personal finance? © Goodheart-Willcox Co., Inc. Central Ideas of the Chapter • Economics is the study of how people use scarce resources to satisfy their unlimited needs and wants. • In a free enterprise system, market forces allocate the resources. © Goodheart-Willcox Co., Inc.