Maclachlan, Macroeconomics, 9/13/04 1 Principles and Policies I: Macroeconomics Chapter 3: The Evolving U.S. Economy in Perspective

Maclachlan, Macroeconomics, 9/13/04 2 Chapter Three Learning Objectives You should be able to: Define market economy. Compare and contrast socialism with capitalism. Describe how businesses, households, and government interact in a market economy. Summarize briefly the advantages and disadvantages of various types of businesses. Distinguish the government’s role as an actor from its role as a referee. Explain how globalization has changed competition.

Maclachlan, Macroeconomics, 9/13/04 3 Market Economy Characterized by private property and free exchange.

Maclachlan, Macroeconomics, 9/13/04 4 The Invisible Hand "...[B]y directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention. Nor is it always the worse for the society that it was not part of it." Adam Smith, Wealth of Nations, 1776.

Maclachlan, Macroeconomics, 9/13/04 5 The U.S. Economy

Maclachlan, Macroeconomics, 9/13/04 6 The Circular Flow

Maclachlan, Macroeconomics, 9/13/04 7 Capitalism vs. Socialism

Maclachlan, Macroeconomics, 9/13/04 8 Capitalism – an economic system based upon the market and private ownership of the means of production. Allocation by an invisible hand. Socialism – an economic system based on individuals’ good will toward others, not on their own self-interest. Instead, “society” decides what, how, and for whom to produce.

Maclachlan, Macroeconomics, 9/13/04 9 At length, after much debate of things, the Governor (with the advice of the chiefest amongst them) gave way that they should set corn every man for his own particular, and in that regard trust to themselves; in all other things to go in the general way as before. And so assigned to every family a parcel of land, according to the proportion of their number. William Bradford, History of Plymouth Plantation ( )

Maclachlan, Macroeconomics, 9/13/04 10 Socialism vs. Capitalism

Maclachlan, Macroeconomics, 9/13/04 11 Consumer Sovereignty and Business Businesses produce what they believe will sell. Consumer sovereignty means that consumers’ wishes rule what is produced by businesses.

Maclachlan, Macroeconomics, 9/13/04 12 Forms of Business Sole proprietorships (72%) Corporations (86%) Corporations (20%) Partnerships (8%) Partnerships (9%) Sole proprietorships (5%) By Numbers By Receipts

Maclachlan, Macroeconomics, 9/13/04 13 Sole Proprietorship Advantages: –Minimum bureaucratic hassle. –Direct control by owner. Disadvantages: –Limited ability to get funds. –Unlimited personal liability.

Maclachlan, Macroeconomics, 9/13/04 14 Partnership Advantages: –Ability to share work and risks. –Relatively easy to form. Disadvantages: –Unlimited personal liability (even for partner's blunder). –Limited ability to get funds.

Maclachlan, Macroeconomics, 9/13/04 15 Corporation Advantages: –No personal liability. –Increasing ability to get funds. –Ability to shed personal income and gain added expenses. Disadvantages: –Legal hassle to organize. –Possible double taxation of income. –Monitoring problems.

Maclachlan, Macroeconomics, 9/13/04 16 Income of State and Local Government Intergovernmental (22%)Property tax (20%) Individual and corporate income tax (25%) Sales or gross receipts (26%) Other (7%)

Maclachlan, Macroeconomics, 9/13/04 17 Expenditures of State and Local Government Central government administration (10%) Transportation (7%) Civilian safety (14%) Education (37%) Public welfare (9%) Health and Hospitals (21%) Other (2%)

Maclachlan, Macroeconomics, 9/13/04 18 Income of the Federal Government Social security taxes and contributions (36%) Corporate income taxes (8%) Excise taxes and other (6%) Individual income taxes (50%)

Maclachlan, Macroeconomics, 9/13/04 19 National defense (18%) Expenditures of the Federal Government Interest (13%) Health and education (26%) Income security (33%) Other (11%)

Maclachlan, Macroeconomics, 9/13/04 20 Government as a Referee Government sets the rules of interaction between households and business. It acts as a referee, changing the rules when it sees fit. It decides whether the invisible hand will be allowed to operate freely.

Maclachlan, Macroeconomics, 9/13/04 21 The U.S. Economy and Globalization

Maclachlan, Macroeconomics, 9/13/04 22 Global Corporations Global corporations – corporations with substantial operations on both the production and sales sides in more than one country.

Maclachlan, Macroeconomics, 9/13/04 23 The World Trade Organization (WTO) is committed to getting nations to agree not to impose new tariffs or other trade restrictions except under certain limited conditions.

Maclachlan, Macroeconomics, 9/13/04 24 Global Markets The global economy gives firms a lot more places to search for business. The internet reduces the cost of that search significantly. Globalization increases the number of potential competitors for business

Maclachlan, Macroeconomics, 9/13/04 25 Does Globalization Eliminate Jobs? Global trade increases total production. Globalization eliminates some jobs, but it also creates jobs.

Maclachlan, Macroeconomics, 9/13/04 26 Problem 3-5 Reasons to produce in high wage country: 1.Transportation costs. 2.Productivity may be higher. 3.Tariffs and quotas. Will workers from low wage countries in the EU move to high wage countries. If Germany already has high unemployment movement will be limited. Minimum wage laws may mean a shortage of jobs. Comparing two countries in which to locate a factory, one needs to look at productivity, infrastructure, political stability, taxes.