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FINAL EXAM
Test Review
HAVE FUN!
Units Covered
• 1) Intro to Econ
• 2) Supply & Demand
• 3) Business & Market Structures
• 4) Government: Fiscal/Monetary Policy
• 5) Labor & Income Distribution & Globalization
Introduction to Econ Review
Why do we need Economics?
1) Resources are SCARCE
2) People have Unlimited Wants and Needs
FORCES:
3) Society to allocate resources
• The social science of how society allocates scarce resources.
Branches of Economics
• Microeconomics looks at individual parts of economy:– How households & firms make decisions and interact in
specific markets
• Macroeconomics looks at the entire economy:– Economy-wide phenomena including: inflation,
unemployment, interest rates & GDP (economic growth)
3 Types of Economic Systems
• MARKET
• COMMAND
• TRADITIONAL
Understand the difference between each one!
They have different goals: GEES
Adam Smith (1723-90)
• Founder of Free Market Economics
• Argued: Free markets best promote the social welfare
• Government should not interfere with the free market (invisible hand regulates the market)
What is an Economy?
• The way goods, services & money flow through an economic system
The Circular Flow describes how goods, services & money flow through a market economy
Circular FlowPRODUCERS CONSUMERS
Factors
Products
CIRCULAR FLOW CIRCULAR FLOW of a Market Economyof a Market Economy
Supply
DemandSupply
Demand
(Land, Labor & Capital)
GDP = G + C + I + (X-M)
Gross Domestic Product: - measures the % rate of economic growth
- released quarterly in USA- speed limit for USA is 4.0%
Business Cycle
PPF Summary• Line represents all efficient production points
– Assumes a country uses all of its scarce resources
• Points below are inefficient – wastes scarce resources
• Points above are not attainable in short run– With existing technology & resources
• Long Run goal is to shift the line outward
Qty
Food
Qty
Shelter
. B
. A
. C
(100, 0)
(0,100)
(50,50)
(100, 0)
(0,100)
(50,50)
Supply & Demand Review
Law of Diminishing Marginal Utility
• As more units are consumed => additional satisfaction declines
Marginal Utility: The amount of satisfaction a person gets from one additional unit of a product
Utility: means satisfaction
Price
Qty
D1
S1
-------------Q1
E1P1 --------------
T-Shirts
Equilibrium occurs when Demand = Supply
Changing Demand
• Know the difference between a:
• 1) Change in Demand (TIPSE)– A new demand curve is required when a determinant of demand
changes– Causes a shift in Demand curve
• 2) Change in Quantity demanded– Movement along existing curve
Changing Supply
• Know the difference between a:
• 1) Change in Supply (TIN)– A new demand curve is needed when a determinant of supply
changes– Causes a shift in Supply curve
• 2) Change in Quantity Supplied– Movement along existing curve
Change in Quantity Demanded
• ONLY price changes => Qty Demanded Changes
D1
Only Price Changes
Movement along an existing Demand Curve
TIPSE TIN
Determinants of Demand Determinants of Supply
[Tastes, income, population, price-complementsPrice substitutes, expectations] Technology, input prices
number-sellers
NEW Demand Curve NEW Supply Curve
This is what determines if youshould shift the Supply or Demand Curve
Sample Problem
Event: Economy starts to boom, jobs are easy to find
Price
Qty
Automobiles
D1
S1
-------------------
-------------
P1
Q1
E1
D2
--------------
------------------
P2
Q2
E2
TIPSE ↓Expectations ↑
↓ Demand ↑ (shifts right)
Elastic Goods
• Elastic demand curves are flat– Sensitive to price changes
• A ↑ Price leads to a greater ↓ in Qty Demanded
D1
Px
Qty
Elastic Demand Curve
Qty Dfalls more than price
.
Inelastic Goods
• Inelastic demand curves are steep– Not Sensitive to price changes
• A ↑ Price leads to a smaller ↓ in Qty DemandedD1
Px
Qty
What you need to know!
• More elastic demand curves are flat
• Elastic means Qty D is sensitive to Px Changes
• Total Revenue => Prices elastic goods
• Total Revenue => Prices inelastic goods
Market Structure Review
PerfectCompetition
MonopolyMonopolisticCompetition
Oligopoly
# Sellers
Ease of entry
Price Control
Importance:
unlimited One Many Several
Easy Impossible Somewhat easy
Difficult
Price Taker Price Setter Little Px control
Some Px control
Know the 4 market structures and their characteristics
• Tap water• Electricity
Monopoly
• Shoes• Restaurants
MonopolisticCompetition
• Soft Drinks• Automobiles
OligopolyPerfect
• Wheat• Milk
Competition
Type of Products?
Identicalproducts
Differentiatedproducts
Onefirm
Fewfirms
Manyfirms
Number of Firms
Perfect Competition Characteristics
• Many Firms
• Homogenous products
• Complete freedom to enter or leave industry
• Perfect information
• No price control—sell at Market Price– Price Takers
Smith’s two primary laws
• 1) Self-Interest:• People act in their own self-interest • Profits or greed motivate individuals
• 2) Competition:• Lots of producers—you “fear” competition• Assures goods are produced at the lowest possible
price: economic efficiency
PRICE DISCRIMINATION
• Price discrimination is the business practice of selling the same good at different prices to different customers
• For a Firm to price discriminate it must:– have some market power (some price control)
– be able to identify & separate groups of consumers– be able to prevent resale between consumers
Unit Wrap Up: 3 Market Failures
• Predatory Pricing– Is Wal-Mart guilty?
• Negative Externalities– Pollution
• Price Fixing– Collusion- do you trust corporations?
Government Review
Gov’t Budget &
Fiscal & Monetary Policy
Deficit & Debt relative to GDP
• Current Deficit = 425 Billion• Current Debt = 9.4 Trillion• Current GDP = 13.5 Trillion
• Deficit as % of GDP = 3.1% of GDP– Highest ever (1983) was 6% of GDP
• Debt as % of GDP = 70% of GDP– Highest ever (1946) was 120% of GDP
2 Types of Fiscal Policy
• Expansionary Goal: Increase AD (*)
• Restrictive Goal: Decrease AD
Increase Gov’t SpendingDecrease Taxes
Decrease Gov’t SpendingIncrease Taxes
(*) AD = Aggregate Demand which is demand for the entire economy fromIndividuals, businesses & Government
FISCAL POLICY
PriceLevel
RealGDP
AS1
Fiscal Policy will shift AD curve
AD1 AD2
Economy in recession
Expansionary fiscal policy needed
Lower Taxes & ↑ Gov’t spending
AD shifts right
End result: higher GDP, moreJobs & slightly higher inflation
2 Types of Monetary Policy
• LOOSE Monetary Policy Goal: AD
– 1) Lower Discount Rate & Use Open Market Operations:
• TIGHT Monetary policy Goal: AD
Buy Securities => Increase MS => lower interest rates
Sell Securities => Decrease MS => raises interest rates
1) Raise Discount Rate & Use Open Market Operations
Loose Monetary Policy in action
Affects AD
PriceLevel
RealGDP
AD1
Recession: GDP growth at -2.0%, Unemployment 7%
AS1MS2
MD
InterestRate
Qty of $
MS1
---------------i2---------i1
Lower interest rates will shift AD to the right
AD2
Labor & Income Distribution
Lorenz Curve
Gini Coefficient between0 and 1
Line of Income equality
Wealth vs. Income
• Top 20% has 84% of Wealth
• Top 20% has 47% of Income
• Top 1% has 39% of Wealth
• Top 1% has 15% of Income
Numbers YOU should know
Trend in U.S. Immigration
• 1910 15% (of population)
• 1950 7% “ “
• 1970 5.0% “ “
• 2004 11.0% “ “– 24 million people– 11 million illegal (estimate)
Trends in Labor Unions
• Union membership has declined significantly
• 1953 peak of 36% of labor force
• 2004 dropped to 12% of labor force
Trade & Globalization
Trade Theory
• Understand the theory of Free Trade
• Why trade, in theory, is mutually beneficial
• Understand why Globalization is occurring today
Countries should produce (specialize) in goods where they have a comparative advantage
Trade benefits both parties (each country gets “more”)
Free Trade promotes a more “efficient” world economy
Absolute Advantage is not relevant in trade analysis
Ricardo’s TheoryHere is my great
theory!
BRAZIL MEXICO
1 Coffee = ____Wheat 1 Coffee = _____ Wheat
1 Wheat = ____ Coffee 1 Wheat = ____Coffee
1/2
2
1
1
Wheat : BRAZIL has comparative advantage---produce only WHEAT
Coffee : MEXICO has comparative advantage---produce only COFFEE
coffee
wheat
1000
500
1000
1000 Wheat
Coffee
Wheat
BRAZIL
MEXICO
Determining Comparative Advantage
Globalization: Why Now?
1) Fall of Soviet Union
2) Rise of Technology
This combination has made it possible for the world to become one global Economy:
•The Fall of the Soviet Union meant the end to a purely communistEconomic system.
•The rise of Technology meant it was now possible for information to be sharedaround the globe. This has allowed jobs to move more freely between countries
Event: Globalization Increases
Price
Qty
Skilled Workers
D1
S1
-------------
P1
Q1
E1--------------
Q2
-------------------
D2
------------------
P2 E2
TIPSE ↓Tastes ↑
↓ Demand ↑ (shifts right)
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