Transcript The U.S. Economy in a Global Setting

The U.S. Economy in a
Global Setting
Chapter 3
McGraw-Hill/Irwin
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3-2
Laugher Curve
Frank: According to this economist,
Ernie, it’s all very simple.
In an endogenous business cycle
where variable-span diffusion
indices are neither rising nor
falling and the capital-to-output
ratio is low, then the interplay of
liquidity preferences and reserve
ratios escalates and interest rates
rise, causing the yield ratio to drop
on common stocks.
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3-3
Laugher Curve
Ernie: I get it!
In other words, when the economy
goes higgledy-piggledy, the Dow
goes blooey!
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3-4
The U.S. Economy
Ultimately the U.S. economy’s strength
is its people and its other resources.
 The U.S. economy is far from perfect.

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Diagram of the U.S. Economy

The U.S. economy is divided into three
groups: business, households, and
government.
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3-6
Diagram of the U.S. Economy

Households supply factors of production
to business and are paid by business
for doing so. The place where this
takes place is called the factor market.
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Diagram of the U.S. Economy

Business produces goods and services
and sells them to households and
government. The place where this
takes place is called the goods market.
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3-8
Diagram of the U.S. Economy

Government engages in the following
activities:
It buys goods and services from business and buys labor
services from households.
It provides services to both business and households.
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Diagram of the U.S. Economy

Government engages in the following
activities:
It gives some of its tax revenues directly back to
individuals (income redistribution).
It oversees the interaction of business and households in
the goods and factor markets.
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Diagram of the U.S. Economy
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3 - 11
Business

Business is the name given to private
producing units in our society.
 Businesses
decide what to produce, how
much to produce, and for whom to
produce it.
 Business is responsible for over 80 percent
of U.S. production.
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3 - 12
Entrepreneurship and
Business
Entrepreneurship is the ability to
organize and get something done.
 It is an important part of business, and
an important ingredient in the economy.

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Consumer Sovereignty and
Business
Although businesses decide what to
produce, they are guided by consumer
sovereignty.
 Consumer sovereignty means that
consumers’ wishes rule what is
produced by businesses.

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3 - 14
Consumer Sovereignty and
Business

Before deciding to start a business, the
key question is: "Can I make a profit?"
Profit is what’s left over from total revenues after all the
appropriate costs have been subtracted.
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Consumer Sovereignty and
Business

By channeling the desire to make a
profit for the general good of society, the
U.S. economic system allows the
invisible hand to work.
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Forms of Business

There are three major types of
businesses: sole proprietorships,
partnerships, and corporations.
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Forms of Business
By Numbers
Sole
proprietorships
(73%)
Partnerships (7%)
Corporations (20%)
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By Receipts
Corporations (89%)
Sole proprietorships (5%)
Partnerships (6%)
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Sole Proprietorship
Businesses that have only one owner.
 Advantages:

 Minimum
bureaucratic hassle.
 Direct control by owner.

Disadvantages:
 Limited
ability to get funds.
 Unlimited personal liability.
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Partnership
Businesses with two or more owners.
 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.
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Corporation

Businesses that are treated as a person
and are legally owned by their
stockholders who are not liable for the
actions of the corporate "person."
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Corporation

Advantages:
No personal liability.
Increasing ability to get funds.
Ability to shed personal income and gain added expenses.
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Corporation

Disadvantages:
Legal hassle to organize.
Possible double taxation of income.
Monitoring problems.
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3 - 23
Finance and Business
The dynamic stock market allows initial
public offerings (IPOs) to quickly amass
capital and to make their owners rich.
 It is difficult to over emphasize the
importance of e-commerce and the
digital economy.

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3 - 24
Households
Households are a single person or
groups of related or unrelated persons
living together and making decisions.
 In the economy, households vote with
their dollars.

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The Power of Households

Households ultimately control the other
two economic institutions – government
and business.
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The Power of Households

In many spheres of the economy
households are not active producers of
output but merely passive recipients of
income.
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Households as Suppliers of
Labor
The largest source of household income
is wages and salaries.
 Households supply the labor with which
businesses produce and government
governs.

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Households as Suppliers of
Labor

The jobs trend toward more servicerelated jobs away from manufacturing is
continuing.
The fastest gains are in services while the fastest declining are
in manufacturing and agriculture.
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Government

Two general roles of government are:
 An
actor – collects money in taxes and
spends that money on its own projects,
such as defense and education.
 A referee – sets the rules that determine
relations between businesses and
households.
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Government as an Actor

All levels of government consume about
20 percent of the nation’s total output
and employ about 21 million persons.
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State and Local Government
State and local government employ 18
million workers and spend about $1
trillion per year.
 They spend their tax revenues on
administration, education, and roads.

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Income of State and Local
Government
18%
14%
Insurance trust
revenue
Sales or gross
receipts
18%
21%
Individual and
corporation income
tax
Property tax
Intergovernmental
14%
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15%
Other
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Expenditures of State and
Local Government
2%
11%
Central government
administration
6%
12%
Transportation
Civilian safety
23%
10%
Education
Public welfare
Health and hospitals
36%
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Other
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3 - 34
Federal Government
Income taxes make up 53 percent of the
federal government’s revenue, while
payroll taxes make up about 40 percent.
 The two largest categories of spending
are income maintenance and defense.

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Income of the Federal
Government
8%
11%
Individual income
taxes
Social insurance taxes
and contributions
48%
33%
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Corporate income
taxes
Excise taxes and
other
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Expenditures of the Federal
Government
14%
13%
4%
Interest
Health and education
19%
Income security
National defense
Other
50%
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Government as a Referee
Government controls the interaction of
households and business
 It sets the rules of interaction and acts
as a referee, changing the rules when it
sees fit.
 It decides whether the invisible hand will
be allowed to operate freely.

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The Global Setting

International issues must now be taken
into account in just about any economic
decision a country or a firm faces.
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Global Corporations

Those with substantial operations on
both the production and sales sides in
more than one country are becoming
increasingly important.
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Global Corporations

Global corporations offer great benefits
for nations.
Global corporations create jobs, bring new ideas and new
technologies to a country, and provide competition for
domestic companies, keeping them on their toes.
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Global Corporations

Global corporations pose a number of
problems for governments.
Because a global corporation exists in a number of
nations, no single government regulates or controls it.
If they don’t like the policies of the host nation, they can
simply leave taking their jobs with them.
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Global Corporations

Global corporations sometimes act as
governments unto themselves – they
can dominate the economy of a small
nation.
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International Trade
Sometimes international trade has
grown rapidly
 Other times it has grown slowly.

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International Trade

Fluctuations in world trade result in part
from fluctuations in world output.
Fluctuations are also explained in part by trade restrictions
that nations have imposed from time to time.
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Differences in the
Importance of Trade
The importance of international trade to
countries’ economies differs widely.
 For most nations, imports and exports
roughly correspond.

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What and With Whom the
U.S. Trades
The primary trading partners of the U.S.
are Canada, Mexico, the European
Union, and Pacific Rim countries.
 The majority of U.S. exports and
imports involve manufactured goods.

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What and With Whom the
U.S. Trades

U.S. imports have exceeded exports in
recent years leading the balance of
trade to show a trade deficit rather than
a trade surplus.
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What and With Whom the
U.S. Trades

Balance of trade – the difference
between the value of exports and the
value of imports
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What and With Whom the
U.S. Trades

Trade deficit – an excess of imports
over exports.
Trade surplus – an excess of exports over imports.
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U.S. Exports by Region, 1999
21%
6%
Mexico
12%
Canada
OPEC
Central and South
America
27%
23%
8%
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3%
Pacific Rim
Other Europe
European Union
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U.S. Imports by Region, 1999
6%
19%
Mexico
11%
Canada
OPEC
Central and South
America
35%
19%
6%
4%
Pacific Rim
Other Europe
European Union
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Debtor and Creditor Nations
Following World War II, the U.S. ran
trade surpluses.
 In recent years, the U.S. has run a
significant trade deficit.

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How International Trade
Differs From Domestic Trade

International trade involves potential
barriers to trade.
 Quotas
are limitations on how much of a
good can be shipped into a country.
 Tariffs are taxes on imports.
 Nontariff barriers are indirect regulatory
restrictions on imports and exports.
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How International Trade
Differs From Domestic Trade

International trade involves multiple
currencies that are bought and sold in
foreign exchange markets.
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How International Trade
Differs From Domestic Trade

The exchange rate determines how
much various goods will likely cost in
different countries.
The exchange rate is the rate at which one currency is
traded for another.
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Institutions Supporting Free
Trade

Most economists, liberal and
conservative alike, generally oppose
trade restrictions.
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Free Trade Organizations
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Free Trade Organizations

Despite political pressures to restrict
trade, nations have entered into a
variety of international agreements and
organizations.
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Free Trade Organizations

The World Trade Organization (WTO)
is committed to getting nations to agree
not to impost new tariffs or other trade
restrictions except under certain limited
conditions.
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Free Trade Organizations

The WTO is the successor to the
General Agreement on Tariffs and
Trade (GATT) – an agreement among
many subscribing nations on certain
conditions of international trade.
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Free Trade Organizations

The push for free trade has a
geographic dimension.
Groups of nations have formed free trade associations –
groups of nations that have reduced or eliminated trade
barriers among themselves.
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Free Trade Organizations

The leading example of this are the
European Union (EU) and the North
American Free Trade Agreement
(NAFTA).
NAFTA – U.S.-Canada-Mexico free trade zone that is
phasing in reductions in tariffs.
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International Economic
Policy Organizations
There is no international counterpart to
the U.S. federal government.
 Any meeting of a group of nations to
discuss trade policy is voluntary.
 There is no international body that has
powers of compulsion.

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International Economic
Policy Organizations

Governmental international
organizations that encourage
international cooperation include:
The United Nations (UN)
The World Bank – a multinational, international financial
institution that works with developing countries to secure
low-interest loans.
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International Economic
Policy Organizations

Governmental international
organizations that encourage
international cooperation include:
The International Monetary Fund (IMF) – a
multinational, international financial institution concerned
primarily with monetary issues.
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International Economic
Policy Organizations

There are also informal organizations
such as:
The Group of Five (Japan, Germany, Britain, France, and
the U.S.) which meets to promote negotiations and
coordinate economic relations among nations.
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International Economic
Policy Organizations

There are also informal organizations
such as:
The Group of Seven, which includes the Group of Five
plus Canada and Italy, and does much the same work as
the Group of Five
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The U.S. Economy in a
Global Setting
End of Chapter 3
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