Transcript Macro01

Introduction to Macroeconomics
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What is Economics
Economics is concerned with the
way resources are allocated among
alternative uses to satisfy human
wants.
Economics
An economy face many decisions:
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Who will work?
What goods and how many of them
should be produced?
What resources should be used in
production?
At what price should the goods be sold?
Economics
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What caused the financial crisis in
2008?
Why did the market fail in the
financial market and health care
market?
Why does the recession last so
stubbornly long?
Is the economy recovering from
recession?
Learn economic reasoning
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Should the government be required
to balance budget each year?
Supporters’ argument: Just like an
individual household, when the
government income falls in
recession, they should also cut
spending to balance the budget.
Economic reasoning is often against
conventional wisdom
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What is true for a household may
not be true for the entire economy
If the government cuts in spending
in recession, it makes bad situation
worse.
Lesson in the Great Depression
“Paradox of Thrift”
Economics is useful
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Required by many disciplines,
including Business Administration,
Pharmacy, Industrial Engineering,
etc.
Makes you intelligent and think
economically
Help planning your career
What does economics do?
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Economics is concerned with the way
resources are allocated among alternative
uses to satisfy human wants.
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Human wants are unlimited
But the productive sources, such as land, labor
and capital, at any moment, are limited.
Hence, we need economics to help to
efficiently allocate resources to satisfy human
wants.
Scarcity and choice
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“There is no such thing as a free
lunch!”
What does Economics study?
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What (and how much) are to be
produced?
Issue of Consumption
How to produce?
Issue of Production
For whom to be produced?
Issue of Distribution.
What (and how much) are to be
produced
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Issue of Consumption
In a market system, we use dollars to
vote. Then the firms, motivated by
making profits, respond to produce goods
that can bring them more dollars.
Consumers want more computers, they
will spend more money on computers,
and firms observing more demand for
computers, they produce more.
What (and how much) are to be
produced
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Issue of Consumption
In a planning system, the central
planers makes the decision.
They never can follow the
consumers preferences closely.
Hence, there are often shortages
and surpluses in the markets
That is why the Soviet system
collapsed.
How to produce
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In a market system where the
private ownership prevails, the
production decision is made by
private firms.
They are motivated by making
profits.
Incentive compatible.
How to produce
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In the centrally planning system, like the
former Soviet Union, Cuba, the planners
issue orders to firms to produce
The plan is a comprehensive table that
requires firms to produce the quantities,
assortments, etc.
But the planners never know if the firms
can produce the right amount of each
product and at right cost.
That is why the planning system, the
communism, fails.
For whom to produce
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Issue of distribution
After the goods produced, who can
receive how much?
Bill Gates? Carty Finkbeiner or
Michael Bell? Plumber Joe Smith?
For whom to produce
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In a market system, it depends how
many dollars you have. Income
and wealth.
This raised the equity issue.
This may also cause the economy
unproductive
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If the income gap causes the society
unstable.
For whom to produce
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A large income gap may also lower
the aggregate utility of the society
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If the a luxury mansion is just behind a
slum in the same block.
It makes the rich residents in the
mansion also uncomfortable
Urban slum
Do you like to live in this mansion?
For whom to produce
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The market system can efficiently
solve the problems of consumption
and production but not the
distribution problem
The government is needed to make
transfer payment to reduce the
inequality in income distribution
Transfer payment
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Transfer payment include
progressive tax for rich, and
subsidy, welfare payment for the
very poor.
This will raise the aggregate utility
(welfare) of the entire community.
This is justified by the marginal
utility theory.
Income distribution and transfer
payment
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It will bring the issue of the:
Efficiency v. Equity
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Efficiency means society gets the most
that it can from its scarce resources.
Equity means the benefits of those
resources are distributed fairly among
the members of society.
Income distribution
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Two extremes: perfect egalitarian
and absolute inequality
In a perfect egalitarian society,
every one receives the same
income, regardless what his
contribution is
This will hurt the incentive system,
and people won’t work hard.
Income distribution
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In an extreme inequality, where is
the overwhelm wealth of the society
goes to a very small fraction of the
population, the society is in a
danger of social unrest.
Income distribution
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So, a society should choose
something between. While the
government should keep the
incentive system and award those
who contribute more to the
economy, the government should
also help the poor and
disadvantaged, to improve their
living conditions.
Conclusion: Markets Are Usually a Good
Way to Organize Economic Activity.
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A market economy is an economy
that allocates resources through the
decentralized decisions of many
firms and households as they
interact in markets for goods and
services.
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Households decide what to buy and
who to work for.
Firms decide who to hire and what to
produce.
Conclusion: Markets Are Usually a Good
Way to Organize Economic Activity.
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Adam Smith made the observation that
households and firms interacting in markets
act as if guided by an “invisible hand.”
 Because households and firms look at
prices when deciding what to buy and
sell, they unknowingly take into account
the social costs of their actions.
 As a result, prices guide decision makers
to reach outcomes that tend to maximize
the welfare of society as a whole.
Governments Can Sometimes
Improve Market Outcomes.
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Markets work only if property rights are
enforced.
 Property rights are the ability of an
individual to own and exercise control
over a scarce resource
Market failure occurs when the market fails
to allocate resources efficiently.
When the market fails (breaks down)
government can intervene to promote
efficiency and equity.