Induction

A RISING STAR IN THE NEW MILLENNIUM

INTRODUCTION• The Indus Valley civilization, one of the oldest in the world,

goes back at least 5,000 years.

• Aryan tribes from the northwest invaded about 1500 B.C.; their merger with the earlier inhabitants created classical Indian culture.

• Arab incursions starting in the 8th century and Turkish in 12th were followed by European traders beginning in the late 15th century.

• By the 19th century, Britain had assumed political control of virtually all Indian lands. Nonviolent resistance to British colonialism under Mohandas Gandhi and Jawaharlal Nehru led to independence in 1947. The subcontinent was divided into the secular state of India and the smaller Muslim state of Pakistan.

GeographyLocation:Southern Asia, bordering the Arabian Sea and the Bay of Bengal, between Burma and Pakistan Map references:Area: Total: 3,287,590 sq km Land: 2,973,190 sq km Water: 314,400 sq km Area - comparative: slightly more than one-third the size of the US Land boundaries: Total: 14,103 km Border countries: Bangladesh 4,053 km, Bhutan 605 km, Burma 1,463 km, China 3,380 km, Nepal 1,690 km, Pakistan 2,912 km Coastline: 7,000 km

Economy : Overview

• Economic development means growth plus progressive changes in certain crucial variables which determine the well being of the people.

• The economic development is much more than growth its typically refers to improvements in literacy rates, life expectancy and poverty rates.

• Where as the term economic development / growth of a specific measure such as real national income, GDP, Per capita income.

Literacy and economic development• The table below shows the position of literacy in India

at various yearsYear Literacy (%)

1881 3.2

1931 7.2

1947 12.2

1951 18.33

1961 28.3

1971 34.45

1981 43.57

1991 52.21

2001 64.83

2011 74.04

• According to the Senses data 2011, literates constitute 74% of the total population, aged seven and above, and illiterates form 26%.

• While female literacy in 2001 stood at 53.67%, it has gone up to 65.46% in 2011. The male literacy in comparison rose from 75.26 to 82.14%.

• Kerala with 93.91% continues to occupy the top position among states in the field of literacy

Poverty

• Poverty is widespread in India, with the nation estimated to have a third of the world's poor. According to a 2005 World Bank estimate, 41.6% of the total Indian population falls below the international poverty line of US$ 1.25 a day (PPP, in nominal terms 21.6 a day in urban areas and 14.3 in rural areas).

• According to a new UN Millennium Development Goals Report, as many as 320 million people in India and China are expected to come out of extreme poverty in the next four years, while India's poverty rate is projected to drop to 22% in 2015

Government schemes to reduce poverty

• The sarva siksha Abhiyan was launched in 2001 to ensure that all children in the age group 6 – 14 years attend school and complete eight years of schooling by 2010

• Government strategies to alleviate poverty To reduce poverty the government has given importance to education, reservation of seats in government jobs, and increasing empowerment of women

• Rural employment guarantee bill: in august 2005 by parliament of India promises 100 days of minimum wage employment to every rural household in India’s 600 districts.

• Pre Colonial: The economic history of India since Indus Valley Civilization to 1700 AD can be categorized under this phase. During Indus Valley Civilization Indian economy was very well developed. It had very good trade relations with other parts of world, which is evident from the coins of various civilizations found at the site of Indus valley.

• Before the advent of East India Company, each village in India was a self sufficient entity. Each village was economically independent as all the economic needs were fulfilled with in the village.

•

• Then came the phase of Colonization. The arrival of East India Company in India broke the Indian economy. There was a two-way depletion of resources. British used to buy raw materials from India at cheaper rates and finished goods were sold at higher than normal price in Indian markets. During this phase India's share of world income declined from 22.3% in 1700 AD to 3.8% in 1952.

• After India got independence from this colonial rule in 1947, the process of rebuilding the economy started. For this various policies and schemes were formulated. First five year plan for the development of Indian economy came into implementation in 1952.

Five year plans with their emphasis year 5 Year plan

First 1951-56 Agriculture Sector

Second 1956-61 Basic and heavy Industries

Third 1961-66 Export Promotion

Annual plan 1966-69

Fourth 1969-74 Self reliance and equality

Fifth 1974-79 Growth with social Justice

Annual plan 1979-80

Sixth 1980-85 Revised plan

Seventh 1985-90 Food, Work and productivity

Annual Plan 1990-92

Eighth 1992-97 Overall growth rate 5.8% per annum

Ninth 1997-02 Targeted annual GDP growth of 6.5%

Tenth 2002-07 Poverty reduction, primary education and rising of literacy.

Eleventh 2007-12 GDP rate is 8% to 10% and double per capita income by 2016-17

Twelth 2012-17 Restatement of the Eleventh Plan target of 9.0 per cent growth

Gross domestic product (GDP)

• Gross domestic product (GDP) refers to the market value of all final goods and services produced in a country in a given period.

• GDP (Y) is a sum of Consumption (C), Investment (I), Government Spending (G) and Net Exports (X – M).

• Y = C + I + G + (X − M)

Rank Country GDP $Million Population

World 74,264,080 712,56,83,003.

European Union 15,170,419

1 United States 14,657,800 31,50,79,000

2 People's Republic of China 10,085,708 134,73,50,000

3 Japan 4,309,532 12,75,20,000

4 India 4,060,392 1,210,193,422

5 Germany 2,940,434 8,19,03,000

6 Russia 2,222,957 14,33,00,000

7 United Kingdom 2,172,768 6,31,81,775

8 Brazil 2,172,058 19,39,46,886

9 France 2,145,487 6,56,35,000

10 Italy 1,773,547 6,08,70,745

INDIA’S FOREIGN TRADE• Our major exports now include manufacturing goods such as

Engineering goods, Petroleum products, chemicals & Related products, Textiles Electronic Goods, Gems & Jewellery, etc. which constitute over 80 percent of our export basket.

Sl.NO Year Export Import Total Trade Total Deficit

1 1991-92 44042 47851 91893 -3809

2 1992-93 53688 63375 117063 -9687

3 1993-94 69751 73101 142852 -3350

4 1994-95 82674 89971 172645 -7297

5 1995-96 106353 122678 229031 -16325

6 1996-97 118817 138920 257737 -20103

7 1997-98 130101 154176 284277 -24075

8 1998-99 139753 178332 318085 -38579

9 1999-00 159561 215236 374797 -55675

10 2000-01 203571 230873 434444 -27302

11 2001-02 209018 245200 454218 -36182

12 2002-03 255137 297206 552343 -42069

13 2003-04 293367 359108 652475 -65741

14 2004-05 375340 501065 876405 -125725

15 2005-06 456483 635013 1091496 -178530

16 2006-07 571779 840506 1412286 -268727

17 2007-08 655864 1012312 1668176 -356448

18 2008-09 766935 1385503 2072338 -538568

INDIA’S FOREIGN TRADE (amount in crore)

Women and Men in India• As per Census 2011, the population of India is 1210.19 million

comprising 586.47 million (48.5%) females and 623.72 million (51.5%) males. Females have a share of 48.1% in the urban population and of 48.6% in the rural population.

• The sex‐ratio (number of women per 1000 men) is 940 in 2011 which shows continued improvement over the sex ratios of 927 in 1991 and 933 in 2001. Among the States, in Census 2011, Kerala has the highest sex‐ratio of 1084 and Haryana has the lowest of 877.

• As per Census 2011, 74.0% of the population is literate comprising 65.5% females and 82.1% males. The incremental increase over Census 2001 of 11.8% for females is higher than 6.8% for males.

• Among the States/UTs, the female literacy rate is the highest in Kerala at 92.0% followed by Mizoram at 89.4%. The highest male literacy rate is observed in Lakshadweep at 96.1% followed by Kerala at 96.0% as per Census 2011.

Monetary Policy

• The Monetary and Credit Policy is the policy statement, traditionally announced twice a year, through which the Reserve Bank of India seeks to ensure price stability for the economy.

These factors include - money supply, interest rates and the inflation. In banking and economic terms money supply is referred to as M3 - which indicates the level (stock) of legal currency in the economy.

Besides, the RBI also announces norms for the banking and financial sector and the institutions which are governed by it.

How is the Monetary Policy different from the Fiscal Policy?

• The Monetary Policy regulates the supply of money and the cost and availability of credit in the economy. It deals with both the lending and borrowing rates of interest for commercial banks.

• The Monetary Policy aims to maintain price stability, full employment and economic growth.

• The Monetary Policy is different from Fiscal Policy as the former brings about a change in the economy by changing money supply and interest rate, whereas fiscal policy is a broader tool with the government.

• The Fiscal Policy can be used to overcome recession and control inflation. It may be defined as a deliberate change in government revenue and expenditure to influence the level of national output and prices.

What are the objectives of the Monetary Policy?

• The objectives are to maintain price stability and ensure adequate flow of credit to the productive sectors of the economy.

Stability for the national currency (after looking at prevailing economic conditions), growth in employment and income are also looked into. The monetary policy affects the real sector through long and variable periods while the financial markets are also impacted through short-term implications.

INSTRUMENTS OF MONETARY POLICY

1. Bank Rate of Interest

2. Cash Reserve Ratio

3. Statutory Liquidity Ratio

4. Open market Operations

5. Margin Requirements

6. Deficit Financing

7. Issue of New Currency

8. Credit Control

Bank Rate of Interest

It is the interest rate which is fixed by the RBI to control the lending capacity of Commercial banks . During Inflation , RBI increases the bank rate of interest due to which borrowing power of commercial banks reduces which thereby reduces the supply of money or credit in the economy .When Money supply Reduces it reduces the purchasing power and thereby curtailing Consumption and lowering Prices.

Cash Reserve RatioCRR, or cash reserve ratio, refers to a portion of deposits (as cash) which banks have to keep/maintain with the RBI. During Inflation RBI increases the CRR due to which commercial banks have to keep a greater portion of their deposits with the RBI . This serves two purposes. It ensures that a portion of bank deposits is totally risk-free and secondly it enables that RBI control liquidity in the system, and thereby, inflation.

Statutory Liquidity Ratio Banks are required to invest a portion of their deposits in

government securities as a part of their statutory liquidity ratio (SLR) requirements . If SLR increases the lending capacity of commercial banks decreases thereby regulating the supply of money in the economy.

Open market Operations

It refers to the buying and selling of Govt. securities in the open market . During inflation RBI sells securities in the open market which leads to transfer of money to RBI. Thus money supply is controlled in the economy.

Margin Requirements

• During Inflation RBI fixes a high rate of margin on the securities kept by the public for loans .If the margin increases the commercial banks will give less amount of credit on the securities kept by the public thereby controlling inflation.

Deficit Financing

• It means printing of new currency notes by Reserve Bank of India .If more new notes are printed it will increase the supply of money thereby increasing demand and prices.

• Thus during Inflation, RBI will stop printing new currency notes thereby controlling inflation.

Issue of New Currency

• During Inflation the RBI will issue new currency notes replacing many old notes.

This will reduce the supply of money in the economy.

Fiscal Policy• It refers to the Revenue and Expenditure policy of the Govt.

which is generally used to cure recession and maintain economic stability in the country.

Instruments of Fiscal Policy1. Reduction of Govt. Expenditure2. Increase in Taxation3. Imposition of new Taxes4. Wage Control5.Rationing6. Public Debt7. Increase in savings8. Maintaining Surplus Budget

Other Measures

1. Increase in Imports of Raw materials

2. Decrease in Exports

3. Increase in Productivity

4. Provision of Subsidies

5. Use of Latest Technology

6. Rational Industrial Policy

..

Chapter ObjectivesChapter Objectives1. What are the 4 factors4 factors of of productionproduction? [land, labor, capital, & entrepreneurial ability]

2. What are the 3 basic questions3 basic questions that determine economic systems? [What, How, and For Whom]3. Compare and contrast the 4 types of economic systems4 types of economic systems. A. Market [“individuals rule”]Market [“individuals rule”] B. Command [“government rules”]Command [“government rules”] C. Traditional [“customs rule”]Traditional [“customs rule”] D. MixedMixed 1.) CapitalismCapitalism 2.) CommunismCommunism 3.) Democratic SocialismDemocratic Socialism4. Explain the 6 features of the free enterprise system6 features of the free enterprise system5. Know the eight goals of our economyeight goals of our economy.6. Explain the CCircular ircular FFlowlow & PProductionroduction P Possibilitiesossibilities C Curveurve ModelsModels.

Universities awarded 16,141 economics degrees16,141 economics degrees last year at 272 colleges & universities which is up 40% in up 40% in five yearsfive years. There has been a clear explosion of clear explosion of economics as a majoreconomics as a major, particularly at the top colleges.

““Econ, EconEcon, Econ,,I want to majorI want to majorin Econ.”in Econ.”

WSJ 2005WSJ 2005

EconomicsEconomics

At New York UniversityNew York University, the economics major has doubled in 10 yearseconomics major has doubled in 10 years. At 800800, it is now the most popularmost popular majormajor. Economics is also the number number one major at one major at HarvardHarvard (964 students), (964 students), ColumbiaColumbia (up 67% in 5 years) (up 67% in 5 years), StanfordStanford, PennPenn, PrincetonPrinceton, ChicagoChicago ( (24%24% of graduating class) of graduating class), & 22ndnd atat BrownBrown, YaleYale, and University of California at BerkeleyUniversity of California at Berkeley.

The increase in the numbers is the result of many students seeing students seeing economics as the best vehicle promising good pay and securityeconomics as the best vehicle promising good pay and security.

Students realize that understanding economics has becomeunderstanding economics has become a a fundamental fundamental necessity of lifenecessity of life. Economics rising popularity is even globalglobal. Econ majors in Poland have doubledPoland have doubled in 6 years in 6 years. In RussiaRussia, econ majors have jumped from 18%18% of students toto 31%31%. Also, the chairman of the economics department at London School of EconomicsLondon School of Economics says economics popularity is at an all time highall time high.

““No horn of plenty”No horn of plenty”

ScarcityScarcity ChoicesChoices

What is given upWhat is given up

ECONOMICSECONOMICS

Unlimited NeedsUnlimited Needs

and and WantsWantsDemandDemand

In other wordsIn other words““THISTHIS isis notnot the case”.the case”.

ChoiceChoicess

LLimited imited RResourcesesources

SupplySupply

EconomicsEconomics is the academic disciplineacademic discipline most discussedmost discussed by the general public.

It is also one of the least understoodleast understood. [“Language of graphs”][“Language of graphs”]

The economist’s lab is the real The economist’s lab is the real world.world. They don’t They don’t conduct controlledconduct controlled laboratory experiments. They laboratory experiments. They are predicting human behavior.are predicting human behavior.

PhysicistsPhysicists explore the explore the physical worldphysical world. . EconomicsEconomics as a social science looks as a social science looks

at theat the behaviorbehavior of of peoplepeople in the marketplace.in the marketplace.

Economics is Economics is notnotan “exact science”an “exact science”but it gives but it gives “likely “likely results”.results”.

SOCIETY HAS VIRTUALLYSOCIETY HAS VIRTUALLY UNLIMITED WANTS... UNLIMITED WANTS...

NECESSITIESNECESSITIES

FoodFood ClothingClothing ShelterShelter

LuxuriesLuxuries

V.V..

FoodFood, , clothingclothing, , sheltershelter,,Chrysler 300, mansion, Nintendo DS,Chrysler 300, mansion, Nintendo DS,

jewelry, iPod, projector, digital camera,jewelry, iPod, projector, digital camera,good health, children, camcorder, laptopgood health, children, camcorder, laptopwarmth, indoor plumbing, rollerblades,warmth, indoor plumbing, rollerblades,a sense of personal worth, Plasma TV,a sense of personal worth, Plasma TV,

literacy, high economics grade, cellliteracy, high economics grade, cellphone, compact discs, Wiiphone, compact discs, Wii

““Need”Need” those first those firstthree to survive.three to survive.

Unlimited Human WantsUnlimited Human Wants Limited ResourcesLimited Resources

LandLand,, LLaborabor,, CCapitalapital,, EEntrepreneurntrepreneur

RRent,ent, WWagesages, , IInterestnterest, , PProfitsrofits

Basic Economic ChoicesBasic Economic ChoicesWhat to produceWhat to produceHow to produceHow to produce

Who receivesWho receives

What, how, & What, how, & for whom.for whom.

Answers Determine TheAnswers Determine TheTypeType of of Economic SystemEconomic System

MarketMarketTraditional Traditional CommandCommand

.

Economics Economics – the study of the choices people make in an effort to satisfy their unlimited needs & wants from limited (scarce) resources.

GoodGood is a physical object (tangibletangible) that can be purchased. [These can be seen and feltseen and felt – car, book ]

ProductProduct ServiceService is useful laboruseful labor done for a fee (intangibleintangible).

[These are activities, not items – lawyer or doctor services]

Are the following a good or a service?Are the following a good or a service? Watch? Watch Repair? Hamburger? Education? Basketball? Clothing? Bicycle? Hair cut? Garbage pickup? Jumpdrive?

Producers (suppliers)Producers (suppliers) – people who make goods/svcsmake goods/svcs.

ConsumersConsumers – people who buybuy and and use goods/servicesuse goods/services.

SupplierSupplier ConsumerConsumer

33

44

11

22

EconEcon

ResourcesResources – anything used to satisfy wants or needs. [inputs]

Factors of productionFactors of production – building blocks (resources/inputs) used to produce products. They are inputs used when something is going to be made. There are thousands of inputs or factors of production, all of which can be

grouped under landland, laborlabor, or capitalcapital.

Needs – goods/services necessary for survival. [food, clothing, and shelter ] Wants – Goods/services consumed not necessary for survival. [car, soccer ball ]Scarcity – when resources do not satisfy wants and needs. [Wants are greater than resources.] [Scarcity makes decisions necessary & opportunity costs unavoidable.]

55

66

77

88

.

1. Land Land [natural resourcesnatural resources] – Nature’s itemsNature’s items [“gifts of nature“gifts of nature”] A. In the earthIn the earth - coal, oil, fossil fuels, etc. B. On the earthOn the earth – vegetation and water C. In the atmosphereIn the atmosphere – sun, wind, and rain

The Four Factors of ProductionThe Four Factors of ProductionResources beget Resources beget productionproduction, which beget , which beget incomeincome, which beget , which beget wealthwealth..

““Gifts of Nature”Gifts of Nature”

[Land is the starting pointstarting point of all production.” “ “Stuff”Stuff” from which everything is made.

WaterWater WindWind

SunSun Fossil fuelsFossil fuels

99

.

2. LaborLabor [human resourceshuman resources] {“effort”“effort”} anyone who works [“paid work”“paid work”] [Labor is the “brain-power”“brain-power” and ““muscle-power”muscle-power” of human beings] A. PhysicalPhysical – pro athletes & lumberjacks B. IntellectualIntellectual – ministers, doctors & lawyers

““Hired Help”Hired Help”

1010

*Most important resource – 70% of input cost*Most important resource – 70% of input cost

.

Real CapitalReal Capital v.v. FinancialFinancial CapitalCapital

FINANCIALFINANCIAL CAPITALCAPITAL[stocks, bonds, and money][stocks, bonds, and money]

REALREAL CAPITALCAPITAL[tools, machinery, & factories]

CanCan produce something produce something

directly with thesedirectly with these

Can’tCan’t produce anything produce anythingdirectly with thesedirectly with these

.

A product can be both a consumer good and a capital goodcan be both a consumer good and a capital good –depends on use. Ex: Jet aircraftJet aircraft used by a movie star [like Jim Carey] to visit friends (consumer good). The same aircraft used by a business manager to serve customers [capital good]. Ex: F150 pick-upF150 pick-up to deliver produce [capital good]

or take family to church [consumer good]

3. CapitalCapital Resources Resources – all “man-made inputs”“man-made inputs” used in the production process (tools, machinery, and physical plants)(tools, machinery, and physical plants). A. Capital goodsCapital goods – goods [machinery, buildings, & tools] used to produce other goodsproduce other goods. [crane, Ford plant, hammer] [products meant for “future consumption”“future consumption”] B. Consumer goodsConsumer goods – products meant for “immediate consumption”“immediate consumption”.

““man-made inputs”man-made inputs”

1111

12121313

.

4.4. EntrepreneurshipEntrepreneurship – starting a new businessstarting a new business or introducing a introducing a new productnew product. “Sparkplugs”“Sparkplugs” who introduce the product or start the new business. He combines land, labor, and capital to combines land, labor, and capital to produceproduce productsproducts.

Resource paymentsResource payments. The resource owners receive rent rent [for

the use of their land; wageswages [for their labor]; interestinterest [payment

for financial capital], and profits profits [for their entrepreneurial ability].

Rent Wages Interest ProfitsRent Wages Interest ProfitsLand Labor Capital EntrepreneurLand Labor Capital Entrepreneur

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SScarcitycarcity ChoicesChoices Opportunity CostsOpportunity Costs

OOpportunity pportunity BenefitBenefitOpportunity SetOpportunity Set[“what is possible for $10,000”][“what is possible for $10,000”]

OOpportunity Costpportunity Cost

..

Do the Benefits outweigh the cost?Do the Benefits outweigh the cost?

Scales of EconomicsScales of Economics

Expected marginal benefits Expected marginal costsExpected marginal costs

Choices are primarily marginal – not all or nothing.Choices are primarily marginal – not all or nothing.

2020. The Three Basic Questions...Three Basic Questions...

WhatWhat, howhow, & for whomfor whom1. What will be produced?1. What will be produced?

The Three Basic Questions...The Three Basic Questions...

2. How will the goods be produced?2. How will the goods be produced?

1. What will be produced?

The Three Basic Questions...The Three Basic Questions...

2. How will the goods be produced? 1. What will be produced?

3. Who will get the goods & services?3. Who will get the goods & services?

The Case for the Market SystemThe Case for the Market System Efficiency, Incentives, and FreedomEfficiency, Incentives, and FreedomAdam Smith said the “invisible hand”“invisible hand” determines what gets produced, how, & for whom. It is the invisible handthat moves us along the PPCmoves us along the PPC. The invisible hand is now called the market mechanismmarket mechanism. Its essential feature is the price signalprice signal.

Most needy or most moneyMost needy or most money

LimitedLimitedResourcesResources

UnlimitedUnlimitedWantsWants ChoicesChoices

WHATWHAT G/S G/Sto produce?to produce?

WHOWHO will receive will receivethe G/S produced?the G/S produced?

[Eskimo/pygmy][Eskimo/pygmy]

Answers to the above determine:Answers to the above determine:ECONOMIC SYSTEMSECONOMIC SYSTEMS

3 BASIC 3 BASIC ECONOMICECONOMICQUESTIONSQUESTIONS

TRADITIONALTRADITIONAL FREE MARKETFREE MARKETCOMMANDCOMMAND

HOWHOW will the will the G/S be produced?G/S be produced?

1. Traditional2. Pure Command3. Pure Market4. Mixed a. Capitalism[28.28. closest to pure marketpure market but has some pure commandpure command]

b. Democratic Socialism[29.29. G owns somesome ofof resources.

c. Authoritarian Socialism [Communism]

The way the 3 basic questions are answered determines aneconomic system.

I. TraditionalI. Traditional-[where “CUSTOM RULES”“CUSTOM RULES”]2121.. looks to pastpast A. What, how, and for whom are answered by tradition B. Change is resisted, no technology [clashes with tradition] C. Heredity and caste system limit the economic role of individuals. D. 35,000 Pygmies in the Ituri Forest are an example. E. Men hunt & women/children gather/prepare food. F. Wear loincloths from bark of fig trees [“PYGLER” or “PYBUGLE Boy”] G. Eat mushrooms, berries, roasted grasshoppers, monkeys, & plantain H. Eat bone marrow & everything else in an elephant. I. Used to be “PYGACHE”“PYGACHE”,, big Pygmies, have to wear “LARDACHE.”“LARDACHE.”

II. PURE COMMANDPURE COMMAND - where the “GOVERNMENT RULES”.“GOVERNMENT RULES”. 22.22. The governmentgovernment controlscontrols all all resourcesresources. What, How, and For Whom answered by the government.

III. PURE MARKETPURE MARKET – where “INDIVIDUALS RULE.” 23.23. IndividualsIndividuals and firmsfirms control all control all resourcesresources. The government has no say. WHAT, HOW and FOR WHOM are decided by individuals.

4. MIXEDMIXED – all countries have mixed economic systems27.27. Mixed combines elements of marketmarket & & commandcommand.How are these words used in everyday life?

1. Traditional2. Command3. Market

30.30. Authoritarian Socialism (communismcommunism)-closest topure commandpure command. The G owns most ofmost of the factorsof production. Communism was born in RussiaRussia. Father was Karl MarxKarl Marx. Marx called owners bourgeoisiebourgeoisie & he called workers proletariatproletariat..

1723-17901723-1790Adam SmithAdam Smith

Karl MarxKarl Marx

2424

The “role of government” [“[“LAISSEZ-FAIRELAISSEZ-FAIRE”–“HANDS OFF”]”–“HANDS OFF”]is limited to national defense, public education, maintaining theinfrastructure, and enforcing contracts. Smith said the marketsystem was best because it encouraged specialization, resulting inincreased output & more economic growth.Government was like an “INVISIBLE FOOT”“INVISIBLE FOOT” – government action to benefit particular groups. KeynesKeynes will say the GG can act as a pressurepressuregaugegauge, letting off excess steam or building it up as needed. [activeactive-not all inclusive role]

WEALTH OFWEALTH OF NATIONSNATIONS – 1776 – 1776

[explained the free market concept][explained the free market concept]

The ““INVISIBLE HANDINVISIBLE HAND”” – when individual consumers/producers compete to achieve their own private self-interest.

Smith’s book was an attack attack onon mercantilismmercantilism. Wealth doesn’t come from an accumulation of gold and silver butfrom more productive peoplemore productive people. A nation is wealthier if its citizensAre more productive. It is the ability of people to produce productsproduce products and trade in free markets that creates a nation’strade in free markets that creates a nation’s wealthwealth.

MercantilismMercantilism

So mercantilism died So mercantilism died as economic theoryas economic theory.

My name is mercantilism.

NoNo “G” “G”

In loving memoryIn loving memoryof mercantilismof mercantilism

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One man could do maybe 1 pin per day [1 man = 1 pin][1 man = 1 pin]Now if there is specializationspecialization1 man draws the wire out1 man straightens the wire1 man cuts the wire1 man sharpens the point1 man flattens the head

There are 18 distinct operations18 distinct operations - some perform 2 or 3 operations10 people10 people do 48,00048,000 pins per dayday1 man = 4,800 pins per day1 man = 4,800 pins per day

Three circumstances come from this specializationThree circumstances come from this specialization.1. Increased dexteritydexterity (learning by doing)2. Saving timeSaving time (lose time when you move to different operations)3. Invention of machines (fosters inventivenessinventiveness)

1. Economic GrowthEconomic Growth [Increase in GDP or per capita GDP]

3%3% annual growth will increase our standard of living.1929-Per capita=$1929-Per capita=$792792; 1933-Per capita=1933-Per capita=$$430430; 2007-per capita= $2007-per capita= $45,60045,600

2. Full EmploymentFull Employment – about 95-9695-96%% employment is full employment. In 19821982, unemployment was 10.8%10.8% [12 M unempl.]

““Doing the best with what we have.”Doing the best with what we have.”

3. Economic EfficiencyEconomic Efficiency – “obtaining the maximum outputfrom available resources” or “maximum benefits at minimum cost from our limited resources.”

..

4. Price Level StabilityPrice Level Stability – sizable inflation or deflation should be avoided. We had over 10% in 73, 79, & 80. Inflationwas 2% in the 1950s2% in the 1950s, 2.3% in 1960s2.3% in 1960s and 7.4% in 80s7.4% in 80s.A person making $25,000 a year at age 30 would need (withaverage inflation of 5%) $125,000 a year at age 65 to have the same standard of living.

1972 --------82; 1982-------20081972 --------82; 1982-------2008

In 1945, $1.50 bought what $1.00 did in 1860.In 1945, $1.50 bought what $1.00 did in 1860.Today, it takes $11 to buy what $1 bought in 1945.Today, it takes $11 to buy what $1 bought in 1945.

In In 19821982, it , it took $2 to took $2 to buybuy what what $1$1 bought in bought in 19721972..In In 20072007, it took , it took $2.14 to $2.14 to buy what buy what $1 $1 bought in bought in 19821982..

5. An Equitable Distribution of IncomeAn Equitable Distribution of Income. One groupshouldn’t have extreme luxury while another is in stark poverty. The richest 1%(3 mil.) have as much total income after taxes [average $400,000 a year as the bottom 40% [100 million people]. The richest 1% have greater wealth than the bottom 90% of the population.

..

.

7. Economic SecurityEconomic Security – provision should be made for those not able to take care of themselves – handicapped, disabled, old age, chronically ill, orphans. Protection from lay-offs [unemployment insurance]. Also no discrimination. 43 million Americans have some type of disability43 million Americans have some type of disability..

A. Hearing impaired: 22 million (including 2 million deaf)A. Hearing impaired: 22 million (including 2 million deaf)B. Totally blind: 120,000 (Legally blind: 60,000)B. Totally blind: 120,000 (Legally blind: 60,000)C. Epileptic: 2 millionC. Epileptic: 2 million

D. Paralyzed: 1.2 millionD. Paralyzed: 1.2 millionE. Developmentally disabled; 9.2 millionE. Developmentally disabled; 9.2 millionF. Speech impaired: 2.1 millionF. Speech impaired: 2.1 millionG. Mentally retarded: up to 2.5 millionG. Mentally retarded: up to 2.5 millionH. HIV infected: 900,000H. HIV infected: 900,000

6. Economic FreedomEconomic Freedom – guarantee that businesses , workers, and consumers have a high degree of economic freedom.

8. Balance of TradeBalance of Trade. Over $400 billion a year$400 billion a year the last few years.Some of these goals are complementarycomplementary [economiceconomic growthgrowth & F.E.F.E.]] and some conflictconflict [F.E.F.E. and price level price level stabilitystability].

FREEDOM OFFREEDOM OFENTERPRISEENTERPRISE

& CHOICE& CHOICE

PRIVATEPRIVATEPROPERTYPROPERTY

ROLE OFROLE OFSELF-INTERESTSELF-INTEREST

COMPETITIONCOMPETITION

MARKETSMARKETS& PRICES& PRICES

FREEDOM OFENTERPRISE

& CHOICE

ACTIVE, BUTACTIVE, BUTLIMITED,LIMITED,

GOVERNMENTGOVERNMENT

ROLE OFROLE OFSELF-INTERESTSELF-INTEREST

COMPETITIONCOMPETITION

PRIVATEPRIVATEPROPERTYPROPERTY

2. Freedom of EnterpriseFreedom of Enterprise (business)(business) & & ChoiceChoice Can move within the economy to any job, to buy or sell property, or start a business. The consumer is “sovereign”consumer is “sovereign” (kingking) in the economy. His dollars vote as it is he who decides what gets produced. The U.S. has over 100,000 business failures100,000 business failures each year.

1. Private PropertyPrivate Property – the right of individuals to exercise control over things owned. Freedom to negotiate binding legal contracts. Contracts are legally bindinglegally binding in oral or writtenoral or written form. [A verbal agreement is binding only if it involves a small sum of money over a short period of time and does not involve real estate purchases.]

3. Role of Self-InterestRole of Self-Interest–each producer or consumer tries to do what is best for themselvesbest for themselves. Self interest is the main force driving the economy. ProducersProducers aim for maximum profitsmaximum profits. ConsumersConsumers seek the lowest prices & highest qualitylowest prices & highest quality.

K-Mart?K-Mart?

3434

3333

And – an appendageto be named later,like a -

““Competition”Competition” and ““self-interest”self-interest” are like an “invisible hand”“invisible hand”..

Monopolies can charge

an arm and a leg.

So, the “invisible hand”“invisible hand” refers to the way a marketeconomy manages to harness the power of self-interestpower of self-interestfor the good of society.

A monopoly’s attitude is:A monopoly’s attitude is:

““WWe e ddon’t on’t care.care.We don’t have to.We don’t have to.We’re a monopoly!”We’re a monopoly!”

4. CompetitionCompetition – economic rivalry of a large number ofbuyers & sellers. [central mechanism of market economy]Monopolies become fat & unresponsive Monopolies become fat & unresponsive to consumers(higher prices & fewer choiceshigher prices & fewer choices). Competition preventsone seller from controlling the market. Monopolies are

““price makers”price makers”. It is better to have “price takers”“price takers”who are at the “mercy of the market.”“mercy of the market.”

5. MarketsMarkets & & pricesprices. Markets bring the buyers and sellers into contact.

Prices send signals. High pricesHigh prices send signals to increase increase production production and for other producers to enter the marketenter the market.

Low pricesLow prices send signals to decrease productiondecrease production and for producers to exit the marketexit the market.

6. Limited Government InterventionLimited Government Intervention in the economy.The role of government was one of “laissez faire.”“laissez faire.” [“hands off”“hands off”]In the words of Adam Smith, the government should not interfere withgovernment should not interfere withthe operation of the economy except serve as an arbitrator in settlingthe operation of the economy except serve as an arbitrator in settlingdisputesdisputes. The government’s rolegovernment’s role: (according to Smith) a. provide defense, b. administer justice, and c. maintain certain public institutions.The ggovernmentovernment controls about 1/3 controls about 1/3 of allof all economic activity economic activity.

ArbitratorArbitrator[settling disputes][settling disputes]

We have “Market Inventors”We have “Market Inventors”

like like AL GORE!!!AL GORE!!!

http://politicalhumor.about.com/library/images/blpic-bluesbros.htm

DevelopedDeveloped and and DevelopingDeveloping Nations Nations Developed NationsDeveloped Nations – they have access to advanced technologyadvanced technology,

natural resources & a way of life based on large industrieslarge industries. 1.6 of the world’s 6.6 billion live in developed nations. These 23 nations include the U.S, Canada, Australia, Switzerland, Denmark, Hong Kong, Sweden, Singapore, Germany and Britain. DevelopingDeveloping NationsNations (Third World Countries) (Third World Countries) – poorer, lesspoorer, less industrially industrially nations of the world. They are just beginning to develop industrially and are extremely poorextremely poor. They have very high rates if illiteracy, higher unemployment rates, extensive underemploy-ment, and rapid population growth. Over half still work in agriculture.About 5 billion of the world’s 6.6 billion live in developing nations.

There are more than 150 150 developing nationsdeveloping nations, most located inAfrica, Latin America, and Southeast Asia.

21% of the worlds 6 billion people live on less than $1 a day.

3636

3737

AABB

CC

CConsumer onsumer Good Good [iPhones][iPhones]

Graphical representation of the opportunity costopportunity cost of using scarce resources to produce one good [or service] instead of another good [or service].

CConsumer onsumer GGood [iPods]ood [iPods]

Cap

ital

Go

od

C

apit

al G

oo

d 1010

44

77

55 66

33 Cap

ital

Go

od

[R

ob

ots

] C

apit

al G

oo

d [

Ro

bo

ts]

Demonstration of Demonstration of economic growtheconomic growth

Budget LineBudget LineNumberNumber of of hamburgers & pizzas that can be bought hamburgers & pizzas that can be bought for $for $30.30.

MoviesMovies

T-shirtsT-shirts

OpportunityOpportunityCostCost

Opportunity Opportunity

BenefitBenefit

11 2 2 3 3

66

55

44

33

22

11

Constant Opportunity CostConstant Opportunity Cost 1 T-shirt 1 T-shirt = = 2 movies; 2 movies;

½ T-shirt ½ T-shirt = = 1 movie1 movie

Constant Opportunity Cost1 Bus=4 Cars; ¼ Bus=1 Car

00

Constant Opportunity CostConstant Opportunity Cost1 Corn = 1 Tomato1 Corn = 1 Tomato

The STRAIGHT LINESTRAIGHT LINE shows the two products

Are ““equallyequally substitutablesubstitutable””,, that is, they areare

not specialized innot specialized in particular usesparticular uses, so the

opportunity costsopportunity costs will remain constantremain constant.

PPossibilitiesossibilities-A, B, C, D, & E-A, B, C, D, & E

ImpossibilityImpossibility[more/better resources, better technology]

Economic resources are not completely adaptable to alternative uses.The “curve”“curve” indicates a “changing trade-off.”“changing trade-off.”Obtaining more of one goodmore of one good requires giving upgiving up larger amounts of the alternative goodlarger amounts of the alternative good..

These alternatives are unrealistic extremesas an economy typically produces bothcapital and consumer goods.

PizzasPizzas

Ind

ust

rial

Ro

bo

tsIn

du

stri

al R

ob

ots

Attainable

0 1 2 3 4 5 6 7 8 9

1414

1313

1212

1111

1010

99

88

77

66

55

44

33

22

11

UnattainableUnattainable

AABB

CC

DD

EE

Economic GrowthEconomic Growth1.1. More/better More/better

resourcesresources2.2. Better technologyBetter technology

Now Attainable

A’A’

B’B’

C’C’

D’D’

E’E’

Production Possibilities CurveProduction Possibilities Curve

e

- ability to produce a larger total output over time.- ability to produce a larger total output over time.

Cap

ital

Go

od

s [R

ob

ots

]

C

0 Consumer Goods [Pizza]

a

d

f

b

The straight linestraight line shows the two products are “equally substitutable”two products are “equally substitutable”, that is they are not specialized in particular uses, so the opportunity costs willopportunity costs willremain the sameremain the same.

Increasing CostIncreasing Cost

Constant CostConstant Cost

Decreasing CostDecreasing Cost

A convex curve (bowed-inconvex curve (bowed-in) shows the Law of Decreasing CostLaw of Decreasing Cost – for each additional bread – decreasing amounts of robots decreasing amounts of robots are given up.are given up.

EE

AABB

CC

DDThis PPC LineThis PPC Line means we are operatingmeans we are operatingat full capacity with best available resources/technology & producing at its full potential.

FF[More/better Resources, Technology][More/better Resources, Technology]UnattainableUnattainable

*Shows opportunity cost *Shows opportunity cost more than anythingmore than anything

InefficientInefficient[Under or unemployment][Under or unemployment]

Boom BoxesBoom Boxes

Ro

bo

tsR

ob

ots

3838 FullFull Employment FixedFixed Resources

FixedFixed Technology TwoTwo Products

1. Resources Resources are are fixedfixed. There is no way to increase the availability of land, labor, capital or entrepreneurship. However, reallocation of these resources is possible.

2. All resources are fully employedAll resources are fully employed. No unused land, labor, capital, or entrepreneurship exists. The economy is running at full production and producing goods and services at the least cost (productive efficiency].3. Technology is fixedTechnology is fixed. No new technological breakthroughs. PPC represents one specific time period.

4. Only two things can be produced[2-good model]Only two things can be produced[2-good model] “There is no free pizza.There is no free pizza.”[We are freezing the economy in time to focus on the economy’s productive alternatives based on researchand technology of today.]

..

1.1. SScarcitycarcity is represented by the frontier line.

2. ChoicesChoices - represented by pts A, B. or C.

3. Opportunity CostOpportunity Cost is illustrated in terms of moving from one point to another when resources are utilized to their full potential. [must make choices]

4. EfficiencyEfficiency - producing maximum output with available resources and technology. We can’t increase production of one good without decreasing that of another.

5. Economic growthEconomic growth occurs for one of two reasons. A. More resources [land, labor, or capital] become available.

B. Technology improves. [more outputs from same inputs]

D

41. At what letter is there unemployment [recessionrecession]?42. What letters represent resources being used in their most productive manner? [full employment, full production, and best available technology]43. What letter represents an improvement in technology, therefore a new PPC frontier line?44. The (straight line/curve) illustrates the “line of increasing cost”?45. The (straight line/curve) illustrates the “law of constant cost.”“law of constant cost.”46. At what letter would there be the most economic growth in the future if a country were producing there now? What is the opportunity cost when moving from “C” to “A”; B to C; & do we have to give anything up when moving from D to B?

D

A, B, or C

E

AConsumptionConsumption

CapitalCapital nono

Consumption GoodsConsumption Goods

Ca

pit

al G

oo

ds

Ca

pit

al G

oo

ds E

C

BA More or better resources or better technologyMore or better resources or better technology

The The Circular FlowCircular Flow is an abstract, is an abstract, oversimplified model, showing how oversimplified model, showing how economic economic transactions transactions [ [resourcesresources, , productsproducts (g/s), (g/s), and and moneymoney] take place.] take place.

BusinessesBusinesses HouseholdersHouseholders

ProductsProducts[goods/services][goods/services]

RResourcesesources[Land, labor, cap., ent.][Land, labor, cap., ent.]

a.a. Goods and services Goods and services

b.b. Consumer expenditures Consumer expenditures

c.c. Land, labor, cap., entrepreneurLand, labor, cap., entrepreneur

d.d. Rent, wages, interest, & profits Rent, wages, interest, & profits

11

22

33

44

1122

44

33

BusinessesBusinesses HouseholdersHouseholders

ProductsProducts[goods/services][goods/services]

RResourcesesources[Land, labor, cap., ent.][Land, labor, cap., ent.]

a.a. Goods and services Goods and services

b.b. Consumer expenditures Consumer expenditures

c.c. Land, labor, cap., entrepreneurLand, labor, cap., entrepreneur

d.d. Rent, wages, interest, & profits Rent, wages, interest, & profits

11

22

33

44

3344

22

11

DD SS

Product MarketProduct Market Resource MarketResource Market

DD SS

BUSINESSESBUSINESSES HOUSEHOLDSHOUSEHOLDS

PRODUCT MARKETPRODUCT MARKET

Mechanic

RESOURCE MARKETRESOURCE MARKET11

22

33

44

4433

A.A. PProducts roducts [Goods/services][Goods/services]

B.B. CConsumeronsumer expenditures expenditures

C.C. LLand, and, Labor, Capital, EntrepreneurLabor, Capital, Entrepreneur

D.D. RRent, Wages, Interest Profitsent, Wages, Interest Profits


PRODUCT MARKETPRODUCT MARKET

Mechanic

RESOURCE MARKETRESOURCE MARKET11

22

33

44

A.A. PProducts roducts [Goods/services][Goods/services]

B.B. CConsumeronsumer expenditures expenditures

C.C. LLand, and, Labor, Capital, EntrepreneurLabor, Capital, Entrepreneur

D.D. RRent, Wages, Interest Profitsent, Wages, Interest Profits

44331122


RESOURCEMARKET

RESOURCESRESOURCES INPUTSINPUTS

$ COSTS$ COSTS $ INCOMES$ INCOMES

PRODUCTMARKET

GOODS &GOODS &SERVICESSERVICES


$ CONSUMPTION$ CONSUMPTION$ REVENUE$ REVENUE

GDP

11

Product MarketProduct Market

BusinessesBusinessesBusinesses

BusinessesBusinesses

Resource MarketResource Market

HouseholdsHouseholds

22

33LaborLabor

What flow are the following?What flow are the following?A. Consumer expenditures?A. Consumer expenditures?B. Goods and services?B. Goods and services?C. Land, labor, capital, C. Land, labor, capital, and entrepreneurs?and entrepreneurs?D. Rent, wages, interest, D. Rent, wages, interest, and profits?and profits?

221144

33

44


1


Product MarketProduct Market

Resource MarketResource Market

2

3

4

What flow are the following?What flow are the following?A. Goods/services?A. Goods/services?B. Consumer expenditures?B. Consumer expenditures?C. Land, labor, capital andC. Land, labor, capital and entrepreneurial ability?entrepreneurial ability?D.D. Rent, wages, interest, Rent, wages, interest, and profits?and profits? BusinessesBusinesses

443311

22

LaborLabor

OuthouseOuthouse

BUSINESSESBUSINESSES

HOUSEHOLDSHOUSEHOLDS

RESOURCES INPUTS

$ COSTS $ INCOMES

PRODUCTPRODUCTMARKETMARKET

GOODS &SERVICES

GOODS &SERVICES



RESOURCEMARKET

NET TAXES FLOWTO GOVERNMENTFROM BUSINESSES

GOVERNMENTGOODS & SERVICES

FLOW TO BUSINESSES

TaxesTaxes

GG/S/S

BUSINESSESBUSINESSES HOUSEHOLDS

RESOURCES INPUTS

$ COSTS $ INCOMES





GOVERNMENT

RESOURCEMARKET

NET TAXES FLOWTO GOVERNMENT

FROM HOUSEHOLDSGOODS & SERVICES

FLOW TO HOUSEHOLDSFROM GOVERNMENT

TaxesTaxes

GG//SS

National DefenseNational Defense


RESOURCESRESOURCES INPUTSINPUTS

$ COSTS$ COSTS $ INCOMES$ INCOMES

PRODUCTMARKET


GOODS &SERVICES

$ CONSUMPTION$ CONSUMPTION$ REVENUE

GOVERNMENT

EXPENDITURESFLOW TO

ACQUIRE RESOURCES

RESOURCEMARKET

RESOURCESFLOW TO

GOVERNMENT

L,L,C,EL,L,C,E


RESOURCESRESOURCESINPUTSINPUTS

$ COSTS $ INCOMES





GOVERNMENT

RESOURCEMARKET

GOVERNMENTGOVERNMENTEXPENDITURESEXPENDITURES

FLOW TOFLOW TOPRODUCT MARKETPRODUCT MARKET

GOODS & SERVICESGOODS & SERVICESFLOW TOFLOW TO


BB--2 Bombers2 Bombers

NS 56-59NS 56-59

1. In the product marketproduct market (householders/businesses) are the demandersdemanders and (householders/businesses) are the supplierssuppliers.2. In the resource marketresource market (householders/businesses) are the demandersdemanders and (householders/businesses) are the supplierssuppliers.3. In the resource marketresource market, (householders/businesses) sell resourcessell resources to (householders/businesses).4. In the product marketproduct market, (householders/businesses) sellsell productsproducts [goods/services] to (householders/businesses).

Fuzzy WuzzyFuzzy Wuzzy

Note Sheet Questions 47-50Note Sheet Questions 47-50


Which Flow RepresentsWhich Flow Represents??A. Consumer expenditures?A. Consumer expenditures?B. Good/Services being sold?B. Good/Services being sold?C. Land, labor, capital andC. Land, labor, capital and entrepreneurial ability?entrepreneurial ability?D. Rent, wages, interest, D. Rent, wages, interest, and profits?and profits?BusinessesBusinesses

LaborLabor

Fuzzy WuzzyFuzzy Wuzzy

443322

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1

4

2

3

The EndThe End

Induction

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