Chapter 2: Understanding Basic Economics Business Studies Chapter 2: Understanding Basic Economics

The economy The sum total of all the economic activity within a given region For example, a city, province, country, region (EU)

Economics Economics is the study of how individuals, companies, and governments use scarce resources to produce the goods and services that meet the society’s needs Scarcity is a key concept in economics because it creates competition and forces everyone to make trade-offs (decisions about what alternative to choose) in the use of resources Scarcity means that a resource has a finite (limited) supply In economics, scarcity does not mean a shortage Opportunity cost – the value of the most appealing alternative not taken

The 2 main divisions of economics Microeconomics – the study of how small units (individuals, businesses, etc.) collectively determine the quantity of gods and services demanded and supplied at different prices. Macroeconomics – the study of the “big picture” issues in the economy, including: competitive behavior among firms Effect of government policies Overall resource allocation issues

Factors of production How societies deal with scarce resources Key divisions: Natural resources – land, forests, minerals, water and other tangible assets usable in their natural state Human resources – all the people who work in an organization Capital – the physical, human-made elements used to produce goods and services (factories, machines) Also refers to funds needed to finance the operations of an organization

Factors of production Entrepreneurship – the combination of innovation, initiative, and willingness to take the risks required to create and operate a new business Knowledge – expertise gained through experience or association

Economic systems The means by which a society distributes its resources to satisfy its people’s needs Free-market system – decisions about what to produce and in what quantities are decided by the market’s buyers and sellers Success or failure are left to your own efforts Capitalism or free enterprise – a system based on economic freedom and competition Mixed economy High risk, but high rewards

Economic systems Planned system – the government controls most of the factors of production and regulates their allocation Socialism – public ownership and operation of key industries combined with private ownership and operation of less vital industries. A system that lies between capitalism and communism

Nationalization & Privatization Nationalizing—government takeover of selected companies or industries U.S. takeover of GM 2009 U.K. takeover of the Royal Bank of Scotland Privatization—turning over services by government to private businesses U.S. prisons, some infrastructure projects, military support The belief that private firms motivated by profit will operate the projects more efficiently

The forces of supply & demand Demand—buyers’ willingness and ability to purchase products Supply—specific quantity of a product that the seller is able and willing to provide

What effects demand? Customer income Customer preferences The price of substitute products – what can be purchased instead of a particular product Airplane ticket Train ticket Automobile Bus ticket

What effects demand? The price for complementary products – what can be purchased along with the product Airline ticket + hotel reservation iPhone 4 + Apps HP printer + ink cartridges Marketing expenses Customer expectations about future prices and their own well-being

When supply = demand Equilibrium point—the point at which quantity supplied equals quantity demanded The equilibrium price is established when the amount of a product that suppliers are willing to sell at a given price equals the amount that consumers are willing to buy at that price.

The interaction of demand & supply How demand and supply affects price When the price goes up, demand goes down, but the suppliers incentive to produce more goes up When the price goes down, demand goes up, but the quantity supplied may or may not go down When point at which demand and supply are equal is the equilibrium point. Can a manager predict supply, demand, and equilibrium price?

Competition in a free-market Competition—rivalry among businesses for the same customers Pure competition—there are so many buyers and sellers that no single buyer or seller can individually influence market prices (toothpaste) Monopoly—one company dominates a market so that it controls prices (Xerox) Monopolistic competition—many sellers compete in at least a small way (Google Chrome)

Business cycle Business cycle—fluctuations in the growth of an economy over the period of several years Recession—two consecutive quarters of decline in GDP (2007) Depression—collapse of the financial markets (1920’s) Recovery—rise in employment, income, production, spending

Business cycle indicators Inflation—prices rise steadily throughout the economy Deflation—prices fall steadily throughout the economy

Government’s role in the business cycle Regulation and deregulation to foster competition and protect stakeholders Stabilize and stimulate the economy through monetary and fiscal policy Monetary policy—regulation of the money supply Fiscal policy--use of taxation and spending to influence the business cycle