Transcript Ch04 -- The Market System and the Private Sector

Circular
Flow
Model
:
:
Lets
Simplify
It
1
Private Sector Circular Flow
2
Private and Public Sectors
Private sector: households,
businesses, & the international sector.
Household spending “consumption”.
Business spending on capital goods
and inventories  “investment”.
Sales of goods and services to
foreigners “exports.”
Purchases from foreigners  “imports.”
Public sector: government activities.
3
Income Distribution in Market Economy
What you own  What you get
Firms pay the factors of production
according to their marginal products
– Workers get wages equal to the marginal
product of labor.
– Capitalists get interest equal to the
marginal product of capital.
– Landlords get rents equal to the marginal
product of land.
– Entrepreneurs get profits equal to the
excess of revenues over costs (payments
to other factors).
4
Household
Spending
and
Income
5
Private Sector Circular Flow
Y = Income earned from contributing to production
= Wages + Interest + Rents + Profits = Receipts of Firms
Y = Receipts = C + I + NX = Hshld Spending + Saving
C + S = C + I + NX  S = I + NX
6
Direction of U.S. Trade
7
Open
Economy
Circular
Flow
8
The Government’s Role
Correct for:





Imperfect Information
Externalities
Public Goods
Lack of Competition
Business Cycles
9
Public Goods

Consumption by one person does not
diminish the quantity or quality available to
others.
Public goods can be jointly consumed
Public goods are non-excludable
No one has a private property right to a
public good.
• Everybody has incentive to be a free rider
• When everyone free rides, too little (or
none) is produced.
10
Macroeconomic Policy
Macro Stability: A Public Good
Monetary Policy
– Policies that influence money and credit
(money supply and interest rates).
– In the U.S., the Federal Reserve Board
(“the Fed”) is responsible for this.
Fiscal Policy
– Policies that control government
spending and taxation.
– In the U.S. federal government,
Congress enacts these policies and the
President signs them into law.
11
Federal, State, and
Local Government
Expenditures for
Goods and
Services
12
U.S.
Federal
Budget
Deficits
13