How Economics affects business Chapter 2

Learning Objectives Understand the basics of economics. Explain supply and demand. Describe free market capitalism and degrees of competition. Understand the differences between socialism and communism. Discuss the three major indicators of economic conditions.

Understanding Economics Every time we buy something we are applying economics When we go to work economics is involved If we choose not to buy something because the price is too high economics is involved Economics has an effect on every business, large and small Everyone in business, large or small, must be aware of the effect of economics Business operates in economic systems

Economics This is the study of how society chooses to employ resources to produce goods and services and distribute them for consumption among various competing groups and individuals Ch 1 told us these resources were land, labour, capital, entrepreneurship and knowledge – the factors of production

Microeconomics and Macroeconomics Macro means very large in scale – this looks at the operation of a nation’s economy as a whole Microeconomics , examines the behavior of people and organizations in particular markets Some economists define economics as the allocation of “scarce” resources

Resource Development There is the belief that resources (such as food, water, land) are scarce and need to be carefully divided among people, usually by the government They believe there is no way to maintain peace and prosperity in the world by merely dividing the resources we have today among existing nations

Mixed economies These exist when some allocation of resources is made by the market and some by the government This is a blend or mixture between capitalism and socialism as found in many countries

Supply and Demand Supply – the quantity of products that manufacturers or owners are willing to sell at different prices at a specific time Demand – The quantity of goods that buyers will purchase at a particular price Generally speaking, the quantity demanded will increase as the price, decreases Supply and demand are very much related to each other – eg the oil industry, cars, weather, etc

Supply and Demand The Equilibrium Point – the place where quantity demanded and supplied meet is called equilibrium point. In the long run, the market place will tend toward the equilibrium point. Business cycle The periodic rises and falls that occur in all economies over time

Business cycle The business cycle denotes a common pattern where there is a period of rapid growth in the economy when supply and demand stimulate each other; alternating with a period of decline with diminishing supply and demand.

Free Market Capitalism Free market – a system in which decisions about what to produce and in what quantities are made by the market – that is, by buyers and sellers negotiating prices for goods and services In a free market system, consumers ultimately decide what should be produced In a free market system, competition is a major force

Four Types of Competition Four common types: Perfect (Agriculture) Monopolistic (Fast food burger companies) Oligopoly (Tobacco, automobiles) Monopoly (Cable companies)

Perfect competition Exists when there are many sellers in a market, no seller is large enough to dictate the price of a product, and the products are similar Under perfect competition, sellers produce products that appear to be identical

Monopolistic competition Exists when a large number of sellers produce products that are very similar but are perceived by buyers as different Through tactics such as advertising, branding, and packaging, sellers try to signal to buyers that their products are different from those of competitors, eg McDonald’s and Burger King Under monopolistic competition product differentiation is a key to success

Oligopoly This is a form of competition in which just a few sellers dominate a market. Oligopolies exist in industries that produce products such as breakfast cereal, tobacco, automobiles, soft drinks, aluminum and aircraft One reason some industries remain in the hands of just a few sellers is that the initial investment required to enter the business is tremendous Intense price competition would lower profits for all the competitors, since a price war on the part of one producer would most likely be matched by another producer As in monopolistic competition, product differentiation, rather than price, is usually the major factor in market success under oligopoly – advertising is a major factor in determining which of the few available Brands consumers buy because it is advertising that calls attention to or even creates the perceived differences.

Monopoly A monopoly occurs when there is only one seller for a product or service This seller controls the total supply of a product and its price In the United States, laws prohibit the creation of monopolies, which is one reason Microsoft got into trouble with the law: It appeared to have monopoly power in the market for computer operating systems.

Socialism This is an economic system based on the belief that some, if not most, basic businesses such as steel mills, coal mines, and utilities should be owned by the government so that profits can be evenly distributed among the people Such distribution of profits among everyone may come through health care benefits and retirement benefits. As you can imagine, private businesses and individuals are taxed relatively steeply to pay for such social programs. Which is why government owns many of the factors of production High taxation can discourage entrepreneurship in a country.

Socialism Socialists acknowledge the major benefit of capitalism-wealth creation-but believe that wealth should be more evenly distributed than occurs in free market capitalism. Socialism has become the guiding economic platform for many countries in Europe, Africa, India, and in much of the rest of the world. Some countries, such as France, are moving slightly away from socialism, however, and leaning more to the center to get their economies moving faster.

The Benefits of Socialism The major benefit of socialism is supposed to be social equality. There is more equality of outcome in socialism than in capitalism because income is taken from the wealthier people,. In the form of taxes, and redistributed to the poorer members of the population through various government programs. Free education, free health care, and free child care are some of the benefits socialist governments distribute to their people using the money from taxes. Workers in socialist countries usually get longer vacations than workers in capitalist countries. They also tend to work fewer hours per week and have more employee benefits, such as generous sick leave.

Disadvantages of Socialism Socialism may create more equality than capitalism, but it takes away some of business people's incentives and enthusiasm to start work early and leave work late. It can also take away the incentive to start new businesses or market new ideas. As a consequence, many people leave socialist countries for more capitalistic countries with lower taxes, such as the United States. This loss of the best and brightest people to other countries is called brain drain. Capitalism results in freedom of opportunity, which is the freedom to keep whatever you earn. In contrast, socialism strives for equality of outcomes. Socialist systems, therefore, tend to discourage the best from working as hard as they can. As a result, people may or may not be motivated to try new ideas. Takes away incentives for businesses Brain drain

Communism This is an economic and political system in which the state (the government) makes almost all economic decisions and own almost all the major factors of production Karl Marx, the 19th century German political philosopher was the father of communism. He saw the wealth created by capitalism and noted the poor living

Communism Conditions of labourers. He thought that workers should take over ownership of businesses and share the wealth Communism goes farther into the life of citizens than socialism does. Sometimes it does not allow citizens to practice certain religions, change jobs or move to the town of their choice This has not worked in many countries, eg North Korea and Cuba Some people are starving

Trend towards mixed economies The nations of the world have largely divided historically between those that have followed the concepts of capitalism and those that have adopted concepts of communism or socialism. Free market economies exist when the market largely determines what goods and services get produced, who gets them, and how the economy grows. Capitalism is the popular term used to describe this economic system. Command economies exist when the government largely decides what goods and services get produced, who gets them, and how the economy grows. Socialism and Capitalism are the popular terms used to describe variations of this economic system.

Trend towards mixed economies The experience of the world, however, has been that neither free market nor command economies have resulted in optimum economic conditions. Free market economies haven't been responsive enough to the needs of individuals who are poor, elderly, and disabled. On the other hand, socialism and communism, or command economies, haven't always created enough jobs or wealth to keep growing fast enough. The trend has been for traditionally capitalist countries to move towards a more socialist system, that is, to provide programs to take care of poor or disadvantaged people and to safeguard the environment, while some of the socialist and communist countries have adopted elements of capitalism to a greater or lesser degree.

Trend towards mixed economies Mixed economies exist where some allocation of resources is made by the market and some by the government. Most countries with mixed economies don’t refer to themselves by such a name, however. Like most other nations of the world, the United States has a mixed economy. Many people believe the government should be more involved, many believe it should be less involved, while other believe the government should not be involved in these issues at all.

Economic indicators These help to show a government how the economy is performing. They are: GDP – gross domestic product unemployment rate

Gross Domestic Product The GDP shows the final amount of goods produced by all people of all nationalities within a country during a given time Either a domestic company or a foreign-owned company may produce the goods and services included in the GDP as long as the companies are located within the country’s boundaries. GNP – this shows the amount of goods produced by people of that country, eg Bahrain, within a given period of time

Unemployment rate It refers to the number of civilians at least 16 years old who are unemployed and who have tried to find a job within the prior four weeks. The United States tries to protect those who are unemployed because of recession, industry shifts, and other cyclical factors.