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Chapter 3

Economic Decision Makers

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The Household

Demand goods and servicesWhat gets produced

Supply resourcesProduce output

Choices (e.g.: what to buy, how much to save,etc)

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The Evolution of the Household

F arm householdSelf-sufficient

B etter technology

Increased productivity (less workers needed)Workers Move to F actories

Specialization; workers less self-sufficient

Women in labor force1950: 15%2 007: 70% (Malaysia: 46%)

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The Household

Maximize utilitySupply resources

To satisfy unlimited wants

Earn incomeDemand goods and services

Durable goods (goods expected to last three or more years)

N ondurable goodsServices

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Exhibit 1Where U.S. personal income comes from and where it goes

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(a) Over two-thirds of personal incomein 2 006 was from wages, salaries, andproprietors income

(b) Half of U.S. personal incomein 2 006 was spent on services

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The Evolution of the Firm

Specialization and Comparative advantageexplain why households no longer self sufficient

Transaction costs if consumer negotiates with each specialistConsumer buys from entrepreneurs who hirethe resources to produce the goodsStarted with the cottage industry system

Technological developments6

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The Evolution of Firm

F actoriesEfficient division of labor

Direct supervision of productionReduce transportation costsB igger machines

Industrial Revolution (development of large-scale factory production) began in GreatB ritain around year 1750

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The Firm

F irmsEconomic units formed by entrepreneurs

Combine resources to produce goods andservicesMaximize profit

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Ty pes of FirmsSole proprietorship

Single owner (face unlimited liability)

PartnershipTwo or more owners (face unlimited liability)

CorporationLegal entityShares of stockLimited liability to value of stock

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Ty pes of FirmsS corporation

do not pay any income taxescorporation's income are divided among and passedthrough to its shareholders who must then report theincome on their own individual income tax returnsLimited liabilityMaximum: 100 stockholders

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Ty pes of Firms in Mala ysia

Sole proprietorshipSingle owner

Partnership

Two or more owners (maximum:2

0)Corporations

Public Limited CompaniesShares of stock

Private Limited CompaniesLimited to 50 membersCannot sell shares to the public

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Exhibit 2N umber and sales of each type of firm (U.S.)

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(a) Most firms are soleproprietorships

(b) Corporations account for most sales

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Ty pes of Firms

Cooperatives A group of people who cooperate by poolingresources to buy and sell more efficientlyConsumer cooperativesProducer cooperatives

N ot-for-profit organizationsCharitable

EducationalHumanitarianCulturalProfessional

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User generated products

Computer programming: open sourceLinux; Apache; MySQL; F irefox; OpenOfficeWikipedia;

MySpace;F acebook;YouTube

Radio call-in showsInternet increases opportunities to createnew products and improve existingproducts

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Household Production

Opportunity costB elow market price

N o skills or special resources are required

Avoid taxesReduce transaction costsTechnological advance

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The Electronic Cottage

Information revolution Telecommute

Doubled in the last decade

Videoconference Online database Virtual offices

Cell phones; B lackberries

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The Government

Establish & enforce rules of the gamePromote competition, prohibiting collusion

Regulate natural monopolies ( P; Q)Provide public goods (nonrival, nonexclusive)Deal with externalities (taxes, subsidies,regulations to discourage negativeexternalities and encourage positiveexternalities)

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The Government

More equal distribution of income (transfer payments)

Attempts to promoteF ull employmentPrice stabilityEconomic growth

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Governments Structure, Objectives(U.S.)

N ational/federal governmentN ational security, economic stability, marketcompetition

State governmentPublic higher education, prisons, highways,welfare

Local governmentPrimary and secondary education, police, fireprotection

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Governments Structure, ObjectivesU.S.

Difficulty87,600 jurisdictions

1 nation50 states3,034 counties35,933 cities and towns13,506 school districts

35,05 2 special districtsN ot a single decision maker

Vote maximization

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Governments Structure, Objectives

Voluntary exchange vs. coercion

Market transactions : voluntary exchange

Some government coercion used to ensurecompliance of lawEnforced by the police (e.g. if refuse to pay tax,could go to jail)

N o market pricesPublic output (e.g. in-state tuition)

Zero price or below the production cost

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Governments Structure, Mala ysia

F ederal Parliamentary Monarchy

F ederal GovernmentSenate (Dewan N egara)House of Representatives (Dewan Rakyat)

F ederalism is highly centralisedState government

excluded from the revenues of income tax, export,import and excise dutiesdepends on revenue from forests, lands, mines,petroleum, the entertainment industry, andtransfer payments from the centralgovernment.

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The Size and Growth of Government(U.S)

Government outlays relative to GDP19 2 9 (Great Depression): 10% of GDP

Mostly state and local2 007: 37% of GDP

Mostly federalDefense spending since 1960

Decreased

Redistribution expenses- social security, medicare,welfare programs etc since 1960

Increased

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Exhibit 3Redistribution has grown and defense has declined

as share of federal outlays since 1960

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Government Expenditure in Mala ysia

Percent of GDP2 006: 2 4% ; 2 007: 2 5%; 2 008 (est): 2 4. 2 %Development Expenditure 2 008 (est): RM 40billion

Economic services 44.7%Transport 16.9%

Social Services 33.7%Education 18.4%

Security 15. 2 %General Administration 6.3%

Operating Expenditure 2 008 (est): RM 1 2 9 billion

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Sources of Government Revenue

TaxesIndividual income tax (federal)Income tax; sales tax (state)Property tax (local)

User charges (eg tolls: payments for the costof collective services; primarily used as afinancing device by local authorities)

B orrowingMonopolize certain markets e.g lottery tickets

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Exhibit 4Payroll taxes have grown as a share of federal

revenue since 1960

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Government Revenue in Mala ysia

2 008: RM 147 billion ( 2 1.6% of GDP)Tax Revenue: RM 10 2 billion (69.3%)

Direct Tax: Companies: 2 3.7%, Petroleum IncomeTax: 15.1%, individuals: 9.1%

Indirect Tax (excise duties, sales tax): 18.4%N on Tax Revenue (e.g. licences, permits): 30.7%

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Tax Principles and Tax Incidence

Ability-to-pay tax principleB enefits-received tax principle

Tax incidenceProportional taxation : F lat tax (as % of income)Progressive taxation : marginal tax rate

Top 1% of tax filers paid 36.9% of taxesTop 10% of tax filers paid 68. 2 % of taxesB ottom 50% of tax fillers paid 3% of taxes

Regressive taxation

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Exhibit 5Top marginal rate on federal personal income tax

since 1913

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Marginal Tax Rate on Income in Mala ysia

Top marginal tax rate: 2 8%11 categories ranging from 0% to 2 8%

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The Rest of the WorldF oreign households, firms, governmentsInternational trade - different opportunity costsacross countries

Merchandise trade balanceB alance of payments (record of all economic transactionsbetween nations residents with residents of the rest of the world

Exchange ratesF oreign exchange markets

Trade restrictions Although gains from trade, nations restrict trade to someextentTariffs; quotas; other trade restrictions

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