Transcript Econ unit 3

The Circular Flow Model
and the Market System
Circular Flow

You decide to by a car so you go to the dealer
and exchange money for the car. The dealer has
rented land and buildings while also hiring
workers to produce the cars. The employees
earn income for their labor and use that income
to buy food from the grocery store. This
transaction generates revenue for the grocery
store, which also hires workers and pays them
income that they then use to purchase goods
and services. Your expenditure for the car is
part of a circular flow.
Circular Flow continued
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Now, complicating the prior story is the
fact that some car's are made in Japan
and then shipped to the U.S. Your
purchase also creates revenue for the
manufacturer in Japan, who pays
Japanese workers to produce car's. Also,
when you buy a car, you must pay a tax to
the government, which uses tax revenues
to pay for police protection, national
defense, and other services
The Market System
Consumer Sovereignty- the authority of
consumers to determine what is produced
through the purchases of good and
services
 Consumers exercise so much power b/c
the name of the game for businesses is
profit and the only way they achieve this
is by satisfying consumer wants

Consumer Power
In the 1950’s and 1960’s people were eating out
more then ever. They wanted more restaurants
and fast-food outlets.
 As a result McDonalds, Wendy’s, White Castle,
Pizza Hut, Godfathers Pizza, Big Boy’s and other
fast-food outlets flourished.
 By the 1970’s the average number of meals per
person eaten out daily exceeded one (excluding
meals prepared at home and eaten elsewhere)

Profit and Allocation of Resources
When a good or service has profit potential
someone with entrepreneurial ability will put
together the resources needed to produce that
gizmo
 Hopefully they sell their gizmos for more then
they paid for land, labor, capital. (that's profit)
 If the entrepreneur loses money they may opt to
stop producing that good
 The resources then used in the losing operation
are available for an activity of possible higher
value (see book pages 74 and 75)
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The Flow of Resources
Resources naturally flow from an activity where
they have a relatively low value to and an
activity with a higher value (ex, rubber sole
shoes go out of style and the rubber is now used
to produce a new popular brand of tires)
 Adam Smith described this phenomenon in his
1776 treatise (essay) “The Wealth of Nations,”
saying it was as if an invisible hand reached out
and guided resources to their most valued use
(more on Adam Smith page 77)
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Adam Smith
The Flow of Resources
Firms produce goods and services and use
the resources that enable them to
generate the highest profits
 Firms often mimic other firms who are
generating a higher profit
 If a firm cannot compete with others firms
in the same industry it will go out of
business and possibly move to another
area line of business
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McDonalds Dollar Menu
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Many other fast food chains copied
McDonalds
The Flow of Resources
*Competitive firms produce in a manner
that minimizes costs and maximizes
profits*
 Because goods are produced in the least
costly manner, consumers will more often
pay a low price for the goods that they
desire
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The Determination of Income
Consumers dictate what is produced and the
search for profit defines how goods and services
are produced.
 Now, for whom are goods and services
produced?
 *Ownership of resources determines who gets
what goods and services in a market system*
 Income is obtained by selling the services of
resources
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The Determination of Income
Labor= salaries/wages
 land= rent
 Capital= interest
 Entrepreneurs= profit
 This shows us that buyers and sellers of
goods and services and resource owners
are linked in the economy
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Linkage of Sectors
Household sector= buyers and resource
owners
 Business sector= sellers and business
firms
 International sector= households and
firms in other countries
 * These three sectors constitute the
private sector of our economy*
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Public Sector
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Government Consumption and Spending
Factors of Prod.
Goods and Services
Payment for Factors
Households
Government
Govt. Services
Taxes
Payment for Goods
Govt. Services
Taxes
Firms
Households
One or more persons who occupy a unit of
housing
 A unit of housing may be a house, an
apartment, even a single living room as long as
it constitutes separate living quarters
 Can consist of family members or college
students sharing an apartment
 Householder- person whose name the household
is owned or rented under
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Households
Households
There are more than 100 million households in
the U.S.
 The largest number of householders fall
between the ages of 35 and 44
 Householders between the ages of 45 and 54
have the largest median income (roughly $
60,000)
 Median is the middle value- half of the
households make more than $60,000 and half
make less
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Size Distribution of Households
Size Distribution of Households in the U.S.
2 1
7
26
14
One Person
Two Persons
Three Persons
Four Persons
Five Persons
Six Persons
Seven or More
17
33
Size Distribution of Households
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In the U.S. the average number of people per household
is 2.2
Worldwide, average household size in high-income
countries (those with an average per capita income over
$9,000 per year) is near that of the U.S; that of middle
and low income countries is more than twice as large
Per capita income- means how much each individual
receives, in monetary terms, of the yearly income
generated in the country. This is what each citizen is to
receive if the yearly national income is divided equally
among everyone.
Household Spending
Household spending is called
consumption or consumer spending
 Spending in the household sector is the
largest component of spending in the
economy (roughly $6.7 trillion in 2000)
 We consume housing, transportation,
food, entertainment, and other goods and
services
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Consumer Spending
Business Firms
A business organization controlled by a
single management
 May be conducted at more than one
location
 The terms company, enterprise, and
business are used interchangeably with

firm
Forms of Business Organizations
Sole Proprietorship- a business owned by
one person, who receives all the profits
and is responsible for all the debts
incurred by the business (can be a one
person operation or a large enterprise with
many employees)
 Partnership- a business with two or more
owners who share the firms profits and
losses

Forms of Business Organizations
Corporation- a legal entity (body) owned
by shareholders whose liability for the
firm’s losses is limited to the value of stock
they own
 Multinational Business- a firm that owns
and operates producing units in foreign
countries (first start by selling to foreign
countries and then locate subsidiaries in
these countries

Big Business
Very important in the U.S.
 There are many small firms, but large
firms and corporations account for the
greatest share of business revenue
 Many more sole proprietorships than
corporations, but corporations make 15x’s
the revenue
 (see handout and book statistics page 81)
 Big Business is a global phenomenon
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Worlds Ten Largest Public
Corporations (2008)
1) Royal Dutch Shell (Netherlands)
2) Exxon Mobil (U.S.)
 3) Wal-Mart Stores (U.S.)
 4) BP= British Petroleum (Britain)
 5) Chevron (U.S.)
 6) Total (France)
 7) Conoco Phillips (U.S.)
 8) ING Group (Netherlands)
 9) Sinopec (China)
 10) Toyota Motor (Japan)
 http://money.cnn.com/magazines/fortune/global500/200
9/snapshots/6388.html
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Top Ten Corporations (oil)
Top Ten (not oil)
Business Spending
Investment- spending by business firms on
capital goods (machines, tools, buildings, etc.)
that will be used in producing goods and
services
 Economics definition of investment is different
then the everyday definition (financial
transaction such a buying bonds or stocks)
 Investment spending in 2002 reached $1,588
billion (equal to ¼ of consumption or household
spending)
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International Sector
Foreign buyers and sellers have a
significant impact on economic conditions
in the U.S. (example, foreign exchange
rates can affect the demand for U.S.
goods)
 Current Exchange Rates
 http://www.x-rates.com/

Types of Countries
Industrial and Developing
 Developing countries greatly outnumber
industrial countries
 World Bank- an international organization
that makes loans to developing countries
 The World Bank groups countries
according to their per capita income
(income per person)
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Types of Countries (cont.)
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Low income economies (per capita income less
than $755.00) heavily concentrated in Asia and
Africa
Middle income economies (per capita income of
$756.00 to $9,265.00)
High income economies such as oil exporters or
market industrial economies (per capita income
$9,266.00 or higher)
Some countries are not members of the world
bank so they are not categorized
Page 86-87 in textbook outline global income
“Industrial Market Economies”
Page 88 shows the 23 industrial market
countries as of 2003 (per capita income)
 1) Switzerland $36,970
 2) Japan $35,990
 3) Norway $35,530
 4) United States $34,870
 5) Denmark $31,090
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“Industrial Market Economies”
These countries are highly interdependent
(economic conditions in one country
spread to others)
 As a result these countries must pay close
attention to each others economic policies
 Not on the list are high income oil
exporting countries like Libya, Saudi
Arabia, Kuwait (World Bank considers
these countries to still be developing

Developing Countries
U.S. imports agricultural produce and
minerals from developing countries
 Imports- products that a country buys
from other countries
 U.S. exports many manufactured goods to
these countries
 Exports- products that a country sells to
other countries

U.S. Imports
Imports from China have grown 665 percent
since 1992. Imports from Mexico have grown
343 percent over the same period.
 The U.S. is the world's largest market for
exporting countries. In 2004, it imported more
than $1.3 trillion worth of merchandise. Of the
total 2004 U.S. imports, half came from the four
top trading partners: Canada (17 percent),
China (13 percent), Mexico (11 percent), and
Japan (9 percent).

U.S. Imports
U.S. Exports
International Sector Spending
U.S. activity with the rest of the world
includes U.S. spending on foreign goods
and foreign spending on U.S. goods
 As of 2003 Canada and Japan played a
huge role in U.S. trade (roughly 1/3 of
exports and more than 1/3 of imports)
 U.S. trade with industrial countries is
approximately twice as large as trade with
developing countries

International Sector Spending
Trade Surplus- the situation that exists when
imports are less than exports
 Trade Deficit- the situation that exists when
imports exceed exports
 Net Exports- the difference between the value of
exports and the value of imports
 Prior to the 1960’s the U.S. exported more than
it imported, but since 1976 net exports have
been negative (U.S. has been in a trade deficit)

Linking the Sectors
See page 124 circular flow diagram and/or
handout
 Financial Intermediaries- intuitions that
accept deposits from savers and make
loans to borrowers (banks, credit unions,
savings and loan firms)
 Circular Flow-Diagram- a model showing
the flow of output and income from one
sector of the economy to another

Financial Intermediaries
Savings
Investments
Goods and Services
Payment for Goods and Services
Factors of Prod.
Goods and Services
Payment for Factors
Households
Government
Govt. Services
Payment for Goods
Firms
Govt. Services
Taxes
Taxes
Factors of Production
Payment for Factors
Foreign
Markets
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Capstone Unit 3 Lesson 15
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People often complain, sometimes bitterly, about why
some people earn more income than others. They
complain that "the rich get richer“ and "the poor get
poorer." They suggest that the system is unfair. It must
be. How else could it be that professional golfers earn
more income than professional nurses?
VISUAL 1
VISUAL 2
F,F,F
Some Differences in income come from investment in
Human Capital
VISUAL 3
Activity 1
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A. Higher levels of formal education are associated with higher
median incomes.
B. ($16,736 more)
C. ($669,440 more)
D. People make choices regarding their occupations. These choices
are influenced by several factors including natural abilities ,levels of
education, training, health, and interests. Businesses, to earn
profits, must attract people to produce goods and services.
Businesses must offer wages, salaries, and benefits sufficient to
attract workers willing to work for them The wage or salary paid to
a worker is a reflection of the market price for labor in that market.
E. The market for celebrities is influenced by many of the same
factors that influence other markets, including the laws of supply
and demand. However, technological changes [in television, movies,
and other medial now permit entertainers to provide millions of fans
with entertainment services at relatively low prices. For a few
successful celebrities, this results in large incomes. The same can be
said of large, successful businesses that earn high profits by selling
millions of products.)
Capstone Unit 3 Lesson 16
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VISUAL 1
All False
When people buy U.S. Savings Bonds with their extra
income, they are making an economic investment.
A. Personal investing means placing savings in
instruments such as U.S. Savings Bonds or savings
accounts, or purchasing stocks. Economic investing
refers to the purchase of capital that is used to increase
the production of goods and services. Then businesses
buy trucks or buildings, for example, they are investing
dollars they have obtained from savers.
True/False Results
Money does not have a price.
B. The price of money is the interest rate.
 Overall, it is always beneficial to save.
 C. Savers should weigh the expected benefits and costs
of saving. There may be times when saving is not worth
the sacrifice. In periods of high inflation, for example, it
is expensive to save.
 Overall price-level changes do not relate to saving or
investment decisions.
 D. Inflation influences the value of money over time.
 People should choose to save when the interest rate on
savings is 3 percent and the cost of living is rising by 4.5
percent.
 E. False. ln such a case, inflation exceeds the return on
savings, making it unwise to save.
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True/False Results
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The rule of 72 refers to the amount of time it takes to
save enough money to buy a1972 Corvette.
F. The rule of 72 provides a method for calculating how
long it takes for savings to double.
The more money people save, the less money there is
available for investments.
G. When people save, they make more money
available in the loan able funds market. This means
more dollars will be available for borrowing and
Lending.)
Value
In deciding whether to save or consume, people
ought to weigh the expected costs against
expected benefits. It is important to consider
real numbers - adjusted for price-level changes in making such decisions.
 $5, Paper, Tissue
 There must be some interesting differences
between one piece of paper and another.
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Value
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Why are some pieces of paper more valuable than
others?
(The $5 bill is more than a piece of paper; it represents
purchasing power - the ability to obtain valuable goods
and services in the marketplace. It is this purchasing
power that gives the $5 bill its value.)
Do dollars ever lose their purchasing power? How might
inflation influence the value of money?
(Inflation - a sustained period of rising price levels
erodes, the value of money. Inflation therefore has an
important bearing on decisions about whether to save or
spend.)
Activity 1
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Imagine that they have a friend named Jackie
who is thinking about buying a used car for
$3,500.
$105, $3605
$175, $3675
What do you think Jackie should do?
(She should buy the car now. lf she waits, she
will lose money on purchasing the car because
inflation is growing faster than the interest she
can earn on her savings.)
Part 2
Read and complete part 2
 36, 14.40,12, 7.20
 Individuals‘ decisions to save or not to
save can have widespread implications.
What is good (or bad) for the individual
might also be good (or bad) for the
economy generally.
 Read Part 3
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Loanable funds Market
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A. What is the loanable funds market?
(The loanable funds market is the market that brings
together the people who want to supply funds (savers)
and the people who want to demand funds [borrowers].)
B. How does increasing savings cause interest rates to
decrease?
(Adding money into the loanable funds market increases
the supply of savings dollars. This shifts the supply curve
for dollars to the right, causing the price [interest rate]
to fall.)
C. How does reducing savings cause interest rates to
increase?
(Reducing the amount of money in the loanable funds
market decreases the supply of savings dollars and shifts
the supply curve for dollars to the left)
VISUAL 2
Capstone Unit 3 Lesson 17
Creating a budget
 People who often benefit the most from a
financial plan are those who believe they
don’t need one.
 Main ingredients of a good financial plan
have: 1. Gathering Information about
goals, income and expenditures and 2.
Organizing this information.
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Financial Planning Document
Activity 1
 Visual 1
 Three Activities
 1. Role Play
 2. Revision
 3. Your own Financial Plan
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Role Play
Develop a plan for your character.
 Add information as necessary.
 Income is before taxes.
 Tax rates vary between 15 to 36 percent.
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What determines how people value things?
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How is income related to expenditure decisions?
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If income is a constraint for everyone, how does one make the hard
choices about how much to spend and what to spend it on?
the influence of family, friends, and religion. These influences often
shape people's goals and the value judgments they make about
careers, family life, other relationships, and what they do for fun
income acts as a constraint on expenditure decisions. Each students
who assume the role of upper-income persons will find that they
cannot have it all: choices have to be made
they sought to make expenditure choices that would provide them
with the greatest satisfaction at the lowest cost, given the
alternatives available. They may have started by planning to buy
items they needed to survive; then, if they could afford to do so,
they may have turned to the luxury items that are most consistent
with their stated goals and lifestyle
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What are the pros and cons of completing a financial planning
document?
This process encourages a thoughtful weighing of expected costs
and benefits. It is frustrating to realize that you can't have it all, but
knowing what you value and what you want out of life makes
foolish expenditures less likely.
Changing Events Strip
Plan 2
Redo plan with changing event in place
Do you consider your change to be positive or
negative?
 Explain how a price increase for a particular item
changed your plan.
 When financial plans are changed to account for
income or price changes, are the changes of an
all-or-nothing type?
 Why do most people make small adjustments to
their budget when a price changes?
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Own Plan
Use Current information or future
 Complete full plan
 Changing event strip
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Capstone Unit 3 Lesson 18
Credit Management
 Visual 1 Reveal only Advantages and
Disadvantages
 Visual 2
 Activity 1
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Case One
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Katie has a difficult choice to make. As is so often the
case, the benefits of looking good don't come without
costs. Even at 50 percent off, the skirt will cost $137.50.
This translates into $62.50 coming out of Katie's savings.
Remember that she is saving for college - the source,
potentially, of a huge long term benefit. If Katie opens a
credit-card account at the store, she will reduce her outof-pocket expenditure to $123.75 minus $75.00, or
$48.75. She would have to pay this amount out of her
savings when the bill arrives - or pay s minimum
payment plus an interest charge. The usual 5 percent
minimum payment or $10 (whichever is larger) would
mean that next month she will have a 68 cent interest
charge. lf she misses the payment deadline, she will also
incur a $35 late fee.
Case two
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Willie's situation would probably be familiar to many new college
graduates. Being close to graduation is very much like being
graduated, and few college grads believe they will fail to find
employment. Walking away from the situation would certainly solve
the efficiency issue for the moment, but remember that Willie
expects to buy a car very soon anyway. lf he waits, he might forfeit
a good deal and have to pay more later. If he buys the expensive
Honda, he gains the benefits of the rebate and will have a smaller
out-of-pocket cost in the long run. A major issue is whether he will
get a job that pays enough to cover the new car - plus his student
loans and his basic living expenses. The more expensive car's real
cost is calculated by subtracting the rebate of $2,500 and the $500
discount (leaving $26,500) and adding 6 percent, or $1,590, plus an
average $150 license fee. The total is $28,240. The cheaper car
would cost $20,66L. Note that these figures do not include effects
related to the duration of the loan selected. Real interest needs to
be considered as a benefit, since inflation allows purchasers to use
cheaper dollars in paying off their debts. The real interest rate for
the first year of the 48-month contract is -1.1percent;for the 60month contract it is +3.9 percent,
Case three
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With a new child, Mr. and Mrs. Jones will find it very
helpful to have a washer and dryer. But the new child
also will cause a reduction in income for a period of
time. If Mrs. Jones goes back to work outside the home,
child-care expenses will add to the financial burden. If
Mr. and Mrs. Jones buy the $579 combo, their first
payment will be approximately $29; after that they will
pay 21 percent interest on the unpaid balance. The first
payment on the $849 combo will be approximately $43,
and the interest rate on the unpaid balance will be 21
percent. The extended warranty may reduce future
repair costs, but that is an unknown. The silver service
sounds like a nice extra, but Mr. and Mrs. Jones need to
decide whether they would ever really use it.
Closure
Visual 3
 Look back at the recommendations
 they made in Activity 1. In arriving at
those recommendations, did you use some
or all of these guidelines? Will you be able
to use the guidelines in future decisions of
their own? Why or why not?
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