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2 Economics: The Framework for Business

Define economics and discuss the evolving global economic crisis

Analyze the impact of fiscal and monetary policy on the economy

Explain and evaluate the free market system and supply and demand

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2 Economics: The Framework for Business

Explain and evaluate planned market systems

Describe the trend toward mixed market systems

Discuss key terms and tools to evaluate economic performance

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2-5

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Economics

￭ Study of the choices that people, companies, and governments make in allocating society’s resources Guide decision-making Help understand broad forces that

affect business and personal life

￭ Economy: Financial and social system of how resources flow through society

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Macro and Micro Economics

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￭ Macroeconomics: Study of a country’s overall economic dynamics Employment rate, gross domestic

product, and taxation policies

￭ Microeconomics: Study of smaller economic units

Individual consumers, families, and individual businesses

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Global Economic Crisis

￭ Started with slump in dot-com business followed by the 9/11 terrorist attacks Stock market dropped Unemployment rose Economic experts feared that the

U.S. was on the edge of a full-blown recession

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Global Economic Crisis

￭ Subprime mortgage loans - Loans to borrowers with: Low credit scores High debt-to-income ratios Other signs of a reduced ability to

repay the money they borrow

￭ Financial institutions suffered when mortgage-backed funds lost value

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Steps Taken by the Federal Government and the Federal Reserve

￭ Troubled Assets Relief Program (TARP) - $700 billion economic bailout plan￭ American Recovery and

Reinvestment Act Designed to turn the economy

around over the next two years

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Managing the Economy: Fiscal & Monetary Policy

￭ Help achieve the goal of controlled sustained economic growth￭ Fiscal policy: Government efforts

to influence the economy through taxation and spending￭ Monetary policy: Federal reserve

decisions that shape the economy by influencing interest rates and supply of money

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Debt Ceiling and Fiscal Cliff

￭ Debt Ceiling - Maximum amount Congress lets the government borrow Limits amount that government can borrow

￭ Fiscal cliff - Package of across-the-board spending cuts and sharp tax hikes Aimed to decrease the U.S. budget deficit Not beneficial if the U.S. economy goes over

the fiscal cliff

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Budget

Outlines expected revenue from taxes and fees, and expected spending

• Revenue is higher than expenses over a given period

Budget surplus

• Expenses are higher than revenue over a given period

Budget deficit

• Sum of all the money borrowed and not yet repaid by they federal government

Federal debt

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Federal Reserve Banks

￭ Execute Fed policies￭ Perform banking services for

commercial banks in their districts Commercial banks: Privately owned

financial institutions • Accept demand deposits • Make loans • Provide other services for the public

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Money Supply

￭ Total amount of money within the overall economy￭ Money: Medium of exchange, a

measure of value, or a means of payment￭ Commonly used definitions

M1: All currency plus checking accounts and traveler’s checks

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Money Supply

M2: M1 money supply plus most savings accounts, money market accounts, and certificates of deposit

￭ When economy contracts, Fed increases the money supply￭ When prices rise, Fed reduces the

money supply

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Open Market Operations

￭ Federal Reserve function of buying and selling government securities Includes treasury bonds, notes, and bills

￭ Federal Deposit Insurance Corporation (FDIC): Federal agency that insures deposits in banks and thrift institutions for up to $250,000 per customer, per bank

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Discount Rate and Reserve Requirement

￭ Discount rate: Rate of interest that the Federal Reserve charges when it loans funds to banks￭ Reserve requirement: Rule set

by the Fed which specifies minimum amount of reserves a bank must hold Expressed as a percentage of the

bank’s deposits

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Capitalism: Free Market System

￭ Economic system based on private ownership, economic freedom, and fair competition Known as the private enterprise or

free market system Economic system: Structure for

allocating limited resources

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Fundamental Rights of Capitalism

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Degrees of Competition

• Market structure with many competitors selling virtually identical

products

• Barriers to entry are quite low

Pure competition

• Market structure with many competitors selling differentiated

products

• Barriers to entry are low

Monopolistic competition

• Market structure with only a handful of competitors selling

products that can be similar or different

• Barriers to entry are typically high

Oligopoly

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Monopoly

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One producer completely dominates the industry, leaving no room for any significant competitors

• Barriers to entry tend to be virtually insurmountable

Natural monopoly: Market structure with one company as the supplier of a product

• Reason - Nature of that product makes a single supplier more efficient

• Government sanctioned and regulated

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Capitalism: Supply & Demand

Explains the dynamic interaction between buyers and sellers that directly affects:

• Range of products • Prices

Supply

• Quantity of products that producers are willing to offer for sale at different market price

Demand

• Quantity of products that consumers are willing to buy at different market prices

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Supply

￭ To make profits, businesses produce: More of a product that commands a

higher market price Less of a product that commands a

lower price

￭ Supply curve: Graphed relationship between price and quantity from a supplier standpoint

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Exhibit 2.3 - Supply Curve

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Demand

￭ To get the products at the lowest possible prices consumers buy: More products with lower prices Fewer products with higher prices

￭ Demand curve: Graphed relationship between price and quantity from a demand standpoint

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Exhibit 2.4 - Demand Curve

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Equilibrium Price

￭ Associated with the point at which the quantity demanded equals the quantity supplied￭ Constant interaction between

supply and demand determines the market price

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Exhibit 2.5 - Equilibrium

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Socialism

￭ Economic system based on the principle that the government owns and operates key enterprises that directly affect public welfare￭ Has higher taxes, designed to

distribute wealth more evenly through society￭ Cause of slump in socialist economies

High taxes and lavish social programs

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Communism

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￭ System that calls for public ownership of all enterprises, under a strong central government￭ Did not thrive due to following

reasons Authoritarian governments suspended

individual rights and choices Developed crippling shortages and

surpluses Corruption at every level of government

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Mixed Economies

￭ Embody elements of both planned and market-based economic systems￭ Federal government partly owns

number of financial institutions￭ Government intervenes in the free

market by creating regulations ￭ Privatization: Converting

government-owned businesses to private ownership

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Evaluating Economic Performance

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Gross Domestic Product (GDP)

￭ Total value of all final goods and services produced within a nation’s physical boundaries over a given period of time￭ Used to:

Measure the economic performance of individual nations

Compare the growth among nations

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Employment Level

￭ Tracked through unemployment rate Unemployment rate: Percentage of

people in the labor force over age 16 who do not have jobs and are actively seeking

￭ Categories of unemployment Frictional - Temporary unemployment Structural - Long term unemployment Cyclical - Layoffs during recessions Seasonal - Job loss related to the time of

year

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Business Cycle

Periodic contraction and expansion that occur over time in every economy

•Recession: Decrease in the GDP for two consecutive quarters

•Depression: Long and deep recession

Contraction: Period of brief economic downturn

Recovery: Period of rising economic growth and employment

Expansion: Period of robust economic growth and high employment

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Price Levels

￭ Inflation: Period of rising average prices across the economy￭ Hyperinflation: Average monthly

inflation rate of more than 50 percent

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Price Levels

￭ Disinflation: Period of slowing average price increases across the economy￭ Deflation: Period of falling

average prices across the economy

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Price Indexes to Evaluate Inflation

￭ Consumer price index (CPI): Evaluates the change in the weighted-average price of goods and services that the average consumer buys each month￭ Producer price index (PPI):

Evaluates the change over time in the weighted-average wholesale prices

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Productivity

￭ Relationship between: Output - Production of goods or

services Input - Resources required to produce

goods or services

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Productivity = Output/Input

©2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Define economics and discuss the evolving global economic crisis

Analyze the impact of fiscal and monetary policy on the economy

Explain and evaluate the free market system and supply and demand

39

2-1

2-2

2-3

©2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Explain and evaluate planned market systems

Describe the trend toward mixed market systems

Discuss key terms and tools to evaluate economic performance

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2-5

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