Learning Plan 4

1. Learning Plan 4 Government’s Role In An Economic System Chapter 5

2. Government’s Role In An Economic System Objectives: • Evaluate the five current government’s role in an economy (legal, promotes competition, corrects externalities, provides public goods and economic stability). • Evaluate the role the government plays in each of the five roles. • Evaluate and analyses the cost/benefit of government’s role in each of the five roles.

3. Government’s Role In An Economic System • Evaluate and draw conclusions about the government’s role in each of the five roles. • Evaluate and explain how the GDP is derived. • Evaluate and outline a personal position describing the role government should play in an economy and defends the position.

4. Government’s Role In An Economic System • Economic and political functions of government can and do overlap.

5. Functions of Government Functions of Government 1. Provides a legal system Legal rules of the “game” a. Recognizes legal status of businesses b. The rights of private ownership. c. Method for the enforcement of contracts.

6. Functions of Government 2. Promotes Competition Protector of an competitive economic system a. Antitrust legislation Laws that restrict the formation of monopolies and regulate certain anti-competitive practices.

7. Functions of Government Monopoly is a firm that has great control over the price of a good.In the extreme case, a monopoly is the only seller of a good or service.

8. Functions of Government 3. Corrects for externalities • Market Failure is a situation in which the operation of supply and demand fails to produce a solution that truly reflects all of the costs and benefits that go into producing and consuming a good or service. • Spillover, or externality is a situation in which a benefit or a cost associated with an economic activity affects third parties.

9. Functions of Government • Third Parties are parties who are external to negotiations and activities between buyers and sellers. • Correcting Negative Externalities A. Special taxes through legislation. • Effluent fee is a charge to a polluter that gives the right to discharge into the air or water a certain amount of pollution.

10. Functions of Government B. Regulation. Limit or eliminate by laws, regulations and other documents. • Correcting Positive Externalities • Positive externalities result in an under allocation of resources to a specific activity. a. Financing the production of the activity. b. Subsidizing private firms. c. Consumers to engage in the activity. d. Regulations

11. Functions of Government 4. Providing Public Goods Private versus Public Goods • Private goods are goods that can be consumed by only one individual at a time. Private goods are subject to the principle of rival consumption. • Public goods are goods which can be jointly consumed by many individuals simultaneously at no additional cost and with no reduction in the quality or quantity of the good.

12. Functions of Government • Principle of rival consumption states that individuals are rivals in consuming private goods because one person’s consumption reduces the amount available for others to consume.

13. Functions of Government Characteristics of public goods. A. They are indivisible; B. Once they are produced, there is no opportunity cost when additional consumers use them. C. Your use of a public good does not deprive others of its simultaneous use. D. Consumers cannot conveniently be charged on the basis of use.

14. Functions of Government Exclusion principle states that no one can be excluded from the benefits of a public good, even if that person hasn’t paid for it. Free-rider problem • A problem associated with public goods when individuals presume that others will pay for the public goods so that individually, they can escape paying for their portion without causing a reduction in production.

15. Functions of Government 5. Ensuring Economy-wide Stability A. Government attempts to stabilize the economy by smoothing out the ups and downs in overall business activity. B. Unemployment C. Inflation

16. Political Functions of Government 1. Merit and Demerit Goods • Merit good A good that has been deemed socially desirable via the political process. Museums are an example • Demerit good. A good that is deemed socially undesirable. Heroin and gambling are examples. Role in taxing, regulating or prohibiting their manufacturing, sale and use.

17. Political Functions of Government 2. Income Redistribution Two types of redistribution • Transfer payments. Money payments made by governments to individuals for which no services are concurrently rendered. Examples are welfare, social security, unemployment insurance.

18. Political Functions of Government • Transfers in kind are payments that are in the form of actual goods and services, such as food stamps, low cost public housing, and medical care, for which no goods or services are rendered concurrently.

19. Collective Decision Making:The Theory of Public Choice Economic model up to this point has explained the behavior of the private sector-firms and households. Incentives for those in government. Collective decision making is how voters, politicians, and other interested parties act and how these actions influence non market decisions.

20. Collective Decision Making:The Theory of Public Choice Theory of Public Choice. The analysis of collective decision making. Similarities in Market and Public Sector Decision Making Self interest. Individuals will act within the political process to maximize their individual well being. Same as the market economy.

21. Similarities in Market and Public Sector Decision Making Scarcity Resources are fixed and therefore scarce. Opportunity cost exists in both sectors. Competition Given scarcity constraints, individuals in government will be competing for government funding. Similarity of Individuals Individuals are the same if in a similar position, but…….

22. Similarities in Market and Public Sector Decision Making Individuals in government face a different incentive structure than those in the private sector. Stakeholders: Shareholders Taxpayers

23. Dissimilarities in Market and Public Sector Decision Making Government goods at zero price Use of force Voting versus spending

24. Paying For The Public Sector • Taxes • Marginal • Average • Proportional • Progressive • Regressive

25. Federal Taxes • Personal Income Tax • Capital Gains • Corporate Income Tax • Social Security • Unemployment Tax

26. Spending, Government Size, and Tax Receipts Please Turn to Page 113 Please Turn to Page 115

27. Government’s Role In An Economic System Chapter 8

28. National Income Accounting Gross Domestic Product • The total market value of all final goods and services produced by factors of production located within a nation’s borders. • One year time frame • GDP versus GNP

29. GDP Intermediate goods • Goods used up entirely in the production of final goods. Value added • Value added is the amount of dollar value contributed to a product at each stage of its production.

30. Measuring GDP Price times the quantity of everything produced. Two methods: • Expenditure approach • Income approach

31. Measuring GDP • Expenditure approach A way of computing national income by adding up the dollar value at current market prices of all final goods and services. Consumption (C) Government expenditures investment (G) Investment (I) Net exports (X)

32. Measuring GDP Consumption (C) • a. Durable consumer goods • last three years or more • b. Non durable consumer goods • c. Services Government (G) • The value of government goods is considered equal to their cost.

33. Measuring GDP Gross private domestic investment (I) • The creation of capital goods such as factories and machines, that can yield production and hence consumption in the future. Also included in this definition are changes in business inventories and repairs made to machines or buildings.

34. Measuring GDP • Investment (I) Any use of today’s resources to expand tomorrow’s production or consumption. Producer durable, or capital goods Durable goods having an expected service life of more than three years that are used by businesses to produce other goods and services.

35. Expenditure Approach

36. Measuring GDP • Mathematical Representation For GDP Using The Expenditure Approach • GDP= C + I + G + X

37. Measuring GDP Income Approach GDI=GDP Four payments • Wages • Interest • Rent • Profits

38. Income Approach

39. Aggregate Demand And Aggregate Supply • Aggregate Demand • The sum of all planned expenditures for the entire economy. • Aggregate Supply • The sum of all planned production for the entire economy.

40. Aggregate Demand And Aggregate Supply Aggregate Demand Curve • A curve showing planned purchase rates for all goods and services in the economy at various price levels. • Real domestic income consists of the output of final goods and services in the economy-everything produced for final use by either businesses or households.

41. Aggregate Demand And Aggregate Supply Price Level 130 • A • • AD 4 Real GDP (per year) ($ trillions)

42. Aggregate Demand Economy-wide Reasons For Downward Sloping Demand Curve • Direct-Effect: The Real Balance Effect • Indirect-Effect: The Interest Rate Effect • Open-Economy Effect: The Substitution of Foreign Goods

43. Aggregate Demand Real-balance effect • The change in the real value of money balances when the price changes, all other things held constant. Also called the wealth effect.

44. Aggregate Demand Interest Rate Effect • The effect on desired spending caused by a change in the price level, said effect that works through resulting changes in the rate of interest. An indirect effect on desired demand due to a change in the price levels.

45. Aggregate Demand Open-economy effect • The effect on desired spending caused by a change in the price level, said effect that works though resulting changes in the relative price of imports and exports and in their relative quantities demanded.

46. Aggregate Demand Aggregate Demand versus Individual Demand

47. Aggregate Demand Shifts In The Aggregate Demand Curve • Any non-price level change that increases aggregate spending (on domestic goods) shifts AD to the right. Any non-price level change that decreases aggregate spending (on domestic goods) shifts AD to the left.

48. Aggregate Demand Non-price determinants • Government spending • Taxes • Population • Expected Future Profits • Etc.

49. Aggregate Supply Long-run Supply Curve Short-run Supply Curve

50. Aggregate Supply Long-run aggregate supply curve • A vertical line representing real output of goods and services based on full information and after full adjustment has occurred. Endowments • The various resources in an economy, including both physical resources and such human resources as ingenuity and management skills.