Chapter 2Decisions

These slides supplement the textbook, but should not replace reading the textbook

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Opinion? Ethanol in gasoline? Interest rates? Coal? Constitution? Equality? Safety?

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What isabsolute advantage?

The ability to produce something with fewer resources than other producers use.

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What iscomparative advantage?

The ability to produce something at a lower opportunity cost than other producers face.

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Should you paint your bedroom yourself or

hire someone?That depends on your

opportunity cost. Compare what you would have to pay someone and how much you are giving up if you paint the room yourself.

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The Big Picture

Is it cheaper for a company to move to Mexico and pay a worker $2 an hour or stay in America and pay $20.00 an hour?

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Who are the decision makers?

Consumers Investors Foreign Government

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What is a characteristic of the

consumption sector?Very stable because people

are habitual and reluctant to give up what they have been accustomed to having.

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What is a characteristic of the investment sector?

Very unstable because investors make decisions based on their expectations of the future and compare it with anticipated costs.

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What is a characteristic of the

foreign sector?The foreign sector can add

to the economy if exports are greater than imports, a subtraction if imports are greater than exports.

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Is the foreign sector a stabilizing or

destabilizing force?Both. It can stabilize the

economy if foreign demand remains high in a declining economy. Destabilizing if foreign markets decline.

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What is a characteristic of the government sector?The U.S. is a democracy in

a republic. A democracy is ruled by majority votes, a republic is ruled by law.

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What is a danger in a pure democracy?

The majority can take everything away from the minority.

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What is a republic?

A system based on law whereby the minority is protected from the majority.

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What are the main ideas of the

Declaration of Independence 1776?

Our rights come from God and that liberty is fragile

Declaration of Independence

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What is the biggest threat to

our freedom?Centralized power

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How does our constitution protect

our freedom?It spreads the allocation of power among several agencies, it decentralizes the power base

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What are the three branches of

government? President Congress (house/senate) Supreme Court

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What is the unofficial fourth branch of our

political system?

A free press

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What is an economic system?

A set of social institutions and mechanisms organized to answer the three economic questions.

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What are the three basic questions?

1) What?2) For whom?3) How?

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What is acommand economy?

An economic system characterized by public ownership of resources and centralized economic planning.

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What ispure capitalism?

An economic system characterized by private ownership of resources and the use of prices to coordinate economic activity in unregulated markets.

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What is an oligarchy?Power by a group dictates the rule of man in oligarchy, decisions are centralized.

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What iscrony capitalism?

A system where success in business depends on close relationships between big business and government.

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What is rent seeking?Businesses financially

support politicians for the purpose of influencing legislation.

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What is moral hazard?

Occurs when businesses are insulated from risk and therefore are encouraged to take undo risks.

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Who was Adam Smith?Father of modern day

economics who wrote The Wealth of Nations in 1776 about the invisible hand of the free market.

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What role do prices play in a free

market system? Convey information. Give incentives. Allow for profit.

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What is amixed capitalist economy?An economic system

characterized by private ownership of some resources and public ownership of others; some markets are regulated, others are not.

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Why have we modified the free market system?

• A free market cannot provide us with everything we need.

• Satisfy political goals.• Fairness.

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8 basic goals?Growth.Full employment.Stable prices.Economic efficiency.Fairness.Reduce negative externalities.Economic freedom.Economic security.

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What is the most important goal?

Because we live in a physical world things deteriorate over time. Therefore, if we do not continually replace what we have, we experience less and less. All other goals depend on sufficient growth.

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What leads to growth?

• Decrease costs.• Decrease price.• Increase sales.• Increase profits.• Increase jobs.

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What two opinions concerning growth?

Keynesians believe in macroeconomic policies of stimulating demand.

Austrians believe in microeconomic policies to encourage saving and private investing to promote growth.

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What is the Full Employment Act of 1946?

The federal government was mandated to do everything in its authority to achieve full employment, it set goals

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What were the objections to the Full Employment

Act of 1946? Business cycles are natural. Lag effects. Difficulty in forecasting.

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What is the Full Employment and Balanced

Growth Act of 1978?Among other things the Federal

Reserve was mandated to do everything in its authority to achieve full employment and stable prices.

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Downside of inflation?

• Diminishes buying power.• Distorts price signals.• Destroys confidence.• Leads to economic decline.

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Why is efficiency important?

• High costs lead to higher prices.

• Higher prices lead to decline in demand.

• Lower demand leads to unemployment.

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What is the downside of fairness?

An emphasis on fairness detracts from economic efficiency – it is a goal that can lead to economic decline.

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Why can’t the free market reduce negative

externalities?

Businesses with a social conscience would be at an economic disadvantage.

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What is the danger in too much government

involvement?Government agencies

can overreach their influence and can cause economic stagnation.

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What iseconomic freedom?

You reach economic freedom when you have money to do what you want, when you want, and with whom.

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What are limitations to economic

freedom?• Personal debt.• National debt.• Lack of jobs.• Fewer opportunities.

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Student LoansStudents owe more on their

loans than all credit card debt, over one trillion dollars, the average per student graduate is $24,000 while 93% is owed to the federal government.

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Economic SecurityGovernments cannot create jobs, growth, or economic security. Governments can only take what the economy produces and redistribute it.

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Conflicting goals?

Money is scarce, the more for government the less for private use, we always have opportunity costs

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Where does the money come from to pay for

business losses?The government gets money from three sources: taxes, borrow, or it creates the money.

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If the government borrows money do we pay for it now or later ?

A dollar spent today is paid for today regardless of where the money comes from.

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What does it mean that the U.S. Dollar is the world’s

standard currency?

Other nations convert their currencies to the American dollar when buying from foreign countries.

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What happens when we modify the system

too much?Communication between

its different parts become blurred and the system falters.

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What does private gains but social losses mean?

When big business is bailed out of a bad situation the tax payer picks up the tab.

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How much has the national debt increased?

Much of the money has been borrowed, our national debt increased 40% in 2010!

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What happens with a more intrusive government and

higher taxes?The free market system breaks down.

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What happens when we chose between

less government and more government?

We incur an opportunity cost.

END