Principles of Economics - 3e Chapter 1 Welcome to Economics!

Welcome to Economics ! FIGURE Do You Use Facebook ?

Economics is greatly impacted by how well information travels through society , Today , social media giants Twitter , Facebook , and Instagram are major forces on the information super highway . Credit of Social Media Mixed Icons Banner by , BY ) CHAPTER OBJECTIVES In this chapter , you will learn about What Is Economics , and Why Is It Important ?

ancl How Economists Use Theories and Models to Understand Economic Issues How Economies Can Be Organized An Overview of Economic Systems Introduction BRING IT HOME Information Overload in the Information Age To post or not to post ?

Every day we are faced a myriad of decisions , from what to have for breakfast , to which show to stream , to the more Should I double major and add possibly another semester of study to my education ?

Our response to these choices depends on the information we have available at any given moment . Economists call this imperfect because we rare have all the data we need to make perfect decisions , Despite the lack of perfect information , we still make of decisions a day , Streams , sponsors , and social media are altering the process by which we make choices , how we spend our time , which movies we see , which products we buy , and more . Whether they read the reviews orjust check the ratings , unlikely for Americans to make many significant without these information streams . As you will see in this course , what happens in economics is affected by how well and how fast information through a society , such as how ly information travels through Facebook . Economists love nothing better than when deep and liquid markets operate under conditions of perfect information , says Jessica , National Economics Editor for News Corp Australia , This leads us to the topic of this chapter , an to the world of making decisions , processing information ,

10 Welcome to Economics ! and understanding behavior in markets world of economics . Each chapter in this book will start with a discussion about current ( or sometimes past ) events and revisit it at chapter bring home the concepts in lay . What is economics and why should you spend your time learning it ?

After all , there are other disciplines you could be studying , and other ways you could be spending your time . As the Bring it Home feature just mentioned , making choices is at the heart of what economists study , and your decision to take this course is as much as economic decision as anything else . Economics is probably not what you think . It is not primarily about money or . It is not primarily about business . It is not mathematics . What is it then ?

It is both a subject area and a way the world . What Is Economics , and Why Is It Important ?

LEARNING OBJECTIVES By the end of this section , you will be able to Discuss the importance of studying economics Explain the relationship between production and division of labor Evaluate the of scarcity Economics is the study of how humans make decisions in the face of scarcity . These can be individual decisions , family decisions , business decisions or societal decisions . Ifyou look around carefully , you will see that scarcity is a fact of life . Scarcity means that human wants for goods , services and resources exceed what is available . Resources , such as labor , tools , land , and raw materials are necessary to produce the goods and services we want but they exist in limited supply . Of course , the ultimate scarce resource is everyone , rich or poor , has just 24 expendable hours in the day to earn income to acquire goods and services , for leisure time , or for sleep . At any point in time , there is only a amount of resources available . Think about it this way In 2015 the labor force in the United States contained over 158 million workers , according to the Bureau of Labor Statistics . The total land area was square miles . While these are certainly large numbers , they are not . Because these resources are limited , so are the numbers of goods and services we produce with them . Combine this with the fact that human wants seem to be virtually , and you can see why scarcity is a problem . Introduction to FRED Data is very important in economics because it describes and measures the issues and problems that economics seek to understand . A variety of government agencies publish economic and social data . For this course , we will generally use data from the Louis Federal Reserve Bank FRED database . FRED is very user friendly . It allows you to display data in tables or charts , and you can easily download it into spreadsheet form ifyou want to use the data for other purposes . The FRED website ( FRED ) includes data on nearly domestic and international variables overtime , in the following broad categories Money , Banking Finance Population , Employment , Labor Markets ( including Income Distribution ) National Accounts ( Gross Domestic Product its components ) Flow of Funds , and International Accounts Production Business Activity ( including Business Cycles ) Prices ( including the Consumer Price Index , the Producer Price Index , and the Employment Cost Index ) International Data from other nations . Regional Data Academic Data ( including Penn World Tables database ) For more information about how to use FRED , see the variety of videos FRED intro on Access for free at

What Is Economics , and Why Is It Important ?

11 YouTube starting with this introduction . FIGURE Scarcity of Resources People experiencing homelessness are a stark reminder that scarcity of resources is real . Credit Pittsburgh Homeless by Creative Commons , BY ) Ifyou still do not believe that scarcity is a problem , consider the following Does everyone require food to eat ?

Does everyone need a decent place to live ?

Does everyone have access to healthcare ?

In every country in the world , there are people who are hungry , homeless ( for example , those who call park benches their beds , as Figure shows ) and in need of healthcare , just to focus on a few critical goods and services . Why is this the case ?

It is because of scarcity . Let delve into the concept of scarcity a little deeper , because it is crucial to understanding economics . The Problem of Scarcity Think about all the things you consume food , shelter , clothing , transportation , healthcare , and entertainment . How do you acquire those items ?

You do not produce them yourself . You buy them . How do you afford the things you buy ?

You work for pay . Ifyou do not , someone else does on your behalf . Yet most of us never have enough income to buy all the things we want . This is because of scarcity . So how do we solve it ?

LINK IT Visit this website to read about how the United States is dealing with scarcity in resources . Every society , at every level , must make choices about how to use its resources . Families must decide whether to spend their money on a new car or a fancy vacation . Towns must choose whether to put more of the budget into police and protection or into the school system . Nations must decide whether to devote more funds to national defense or to protecting the environment . In most cases , is enough money in the budget to do everything . How do we use our limited resources the best way possible , that is , to obtain the most goods and services we can ?

There are a couple of options . First , we could each produce everything we each consume . Alternatively , we could each produce some of what we want to consume , and trade for the rest ofwhat we want . Let explore these options . Why do we not produce all of the things we consume ?

Think back to pioneer days , when individuals knew how to do so much more than we do today , from building their homes , to growing their crops , to hunting for food , to repairing their equipment . Most of us do not know how to do those things , but it is not because we could not learn . Rather , we do not have to . The reason why is something called the division and specialization of labor , a production innovation put forth by Adam Smith ( Figure in his book , The Wealth .

12 Welcome to Economics ! FIGURE Adam Smith Adam Smith introduced the idea of dividing labor into discrete tasks . Credit Adam Smith by and Davies ( 1811 ) John ( 1828 ) or . Bell ( 1872 ) Commons , Public Domain ) The Division of and Specialization of Labor The formal study of economics began when Adam Smith ( published his famous book The Wealth in 1776 . Many authors had written on economics in the centuries before Smith , but he was the to address the subject in a comprehensive way . In the chapter , Smith introduces the concept of division of labor , which means that the way one produces a good or service is divided into a number of tasks that different workers perform , instead of all the tasks being done by the same person . To illustrate division of labor , Smith counted how many tasks went into making a pin drawing out a piece of wire , cutting it to the right length , straightening it , putting a head on one end and a point on the other , and packaging pins for sale , to name just a few . Smith counted 18 distinct tasks that different people for a pin , believe it or not ! Modern businesses divide tasks as well . Even a relatively simple business like a restaurant divides the task of serving meals into a range ofjobs like top chef , sous chefs , kitchen help , servers to wait on the tables , a greeter at the door , janitors to clean up , and a business manager to handle paychecks and to mention the economic connections a restaurant has with suppliers of food , furniture , kitchen equipment , and the building where it is located . A complex business like a large manufacturing factory , such as the shoe factory ( Figure ) or a hospital can have hundreds ofjob . FIGURE Division of Labor Workers on an assembly line are an example of the divisions of labor . Credit Red Wing Shoe Factory Tour by Nina Creative Commons , BY ) Access for free at

What 15 Economics , and Why Is It Important ?

13 Why the Division of Labor Increases Production When we divide and subdivide the tasks involved with producing a good or service , workers and businesses can produce a greater quantity of output . In his observations factories , Smith noticed that one worker alone might make 20 pins in a day , but that a small business of 10 workers ( some would need to complete two or three of the 18 tasks involved with ) could make pins in a day . How can a group of workers , each specializing in certain tasks , produce so much more than the same number of workers who try to produce the entire good or service by themselves ?

Smith offered three reasons . First , specialization in a particular small job allows workers to focus on the parts of the production process where they have an advantage . In later chapters , we will develop this idea by discussing comparative advantage . People have different skills , talents , and interests , so they will be better at some jobs than at others . The particular advantages may be based on educational choices , which are in turn shaped by interests and talents . Only those with medical degrees qualify to become doctors , for instance . For some goods , geography affects specialization . For example , it is easier to be a wheat farmer in North Dakota than in Florida , but easier to run a tourist hotel in Florida than in North Dakota . If you live in or near a big city , it is easier to attract enough customers to operate a successful dry cleaning business or movie theater than if you live in a sparsely populated rural area . Whatever the reason , specialize in the production of what they do best , they will be more effective than if they produce a combination of things , some ofwhich they are good at and some of which they are not . Second , workers who specialize in certain tasks often learn to produce more quickly and with higher quality . This pattern holds true for many workers , including assembly line laborers who build cars , stylists who cut hair , and doctors who perform heart surgery . In fact , specialized workers often know theirjobs well enough to suggest innovative ways to do their work faster and better . A similar pattern often operates within businesses . In many cases , a business that focuses on one or a few products ( sometimes called its core competency ) is more successful than that try to make a wide range of products . Third , specialization allows businesses to take advantage of economies of scale , which means that for many goods , as the level of production increases , the average cost of producing each individual unit declines . For example , if a factory produces only 100 cars per year , each car will be quite expensive to make on average . However , if a factory produces cars each year , then it can set up an assembly line with huge machines and workers performing specialized tasks , and the average cost per car will be lower . The ultimate result who can focus on their preferences and talents , learn to do their better , and work in larger organizations is that society as a whole can produce consume far more than if each person tried to produce all of their own goods and services . The division an specialization of labor has been a force against the problem of scarcity . Trade and Markets Specialization only makes sense , though , can use the pay they receive or doing theirjobs to purchase the other goods and services that they need . In short , specialization re trade . You do not have to know anything about electronics or sound systems to play just buy an iPod or player , download the music , and listen . You do not have to know anything about or the construction of sewing machines ifyou need a just buy the jacket wear it . You do not need to know anything about internal combustion engines to operate a get in and drive . Instead of trying to acquire all the knowledge and skills involved in producing all of the goods and services that you wish to consume , the market allows you to learn a specialized set of skills and then use the pay you receive to buy the goods and services you need or want . This is how our modern society has into a strong economy .

14 Welcome to Economics ! Why Study Economics ?

FIGURE Esther , and Michael Esther , both from Massachusetts Institute of Technology ) and Michael ( University of Chicago ) were awarded the Nobel Prize for groundbreaking work in which they established experimental methods to understand poverty and outcomes of initiatives to address it . Credit of work by Embassy Commons , BY Financial Commons , BY Embassy Creative Commons , BY ) Now that you have an overview on what economics studies , let quickly discuss why you are right to study it . Economics is not primarily a collection of facts to memorize , although there are plenty of important concepts to learn . Instead , think of economics as a collection of questions to answer or puzzles to work . Most importantly , economics provides the tools to solve those puzzles . Consider the complex and critical issue of education barriers on national and regional levels , which affect millions of people and result in widespread poverty and inequality . Governments , aid organizations , and wealthy individuals spend billions of dollars each year trying to address these issues . Nations announce the revitalization of their education programs tech companies donate devices and infrastructure , and celebrities and charities build schools and sponsor students . Yet the problems remain , sometimes almost as pronounced as they were before the intervention . Why is that the case ?

In 2019 , three , and Michael awarded the Nobel Prize for their work to answer 1058 questions . They worked diligently to break the widespread problems into smaller pieces , and experimented with small interventions to test success . The award citation credited their work with giving the wor better tools and information to address poverty and improve education . Esther , who is the youngest person and second woman to win the Nobel Prize in Economics , said , We believed that like the war on cancer , the war on poverty was not going to be won in one major battle , but in a series of small triumphs . This work and the culture of learning that it fostered in governments has led to real improvement in the lives of reds of millions of poor As you can see , economics affects far more than business . For example Virtually every major problem facing the world today , from global warming , to poverty , to the in Syria , Afghanistan , and , has an economic dimension . Ifyou are going to be part of solving those problems , you need to be able to understand them . Economics is crucial . It is hard to overstate the importance of economics to good citizenship . You need to able to vote intelligently on budgets , regulations , and laws in general . When the US . government came close to a standstill at the end of 2012 due to the cliff , what were the issues ?

Did you know ?

A basic understanding of economics makes you a thinker . When you read articles about economic issues , you will understand and be able to evaluate the writer argument . When you hear Access for free at and 15 classmates , or political candidates talking about economics , you will be able to distinguish between common sense and nonsense . You will new ways of thinking about current events and about personal and business decisions , as well as current events and politics . The study of economics does not dictate the answers , but it can illuminate the different choices . and LEARNING OBJECTIVES By the end of this section , you will be able to Describe Describe Contrast monetary policy and policy Economics is concerned with the of all people , including those and those without jobs , as well as those with high incomes and those with low incomes . Economics acknowledges that production of useful goods and services can create problems of environmental pollution . It explores the question of how investing in education helps to develop workers skills . It probes questions like how to tell when big businesses or big labor unions are operating in a way that society as a whole and when they are operating in a way that their owners or members at the expense of others . It looks at how government spending , taxes , and regulations affect decisions about production and consumption . It should be clear by now that economics covers considerable ground . We can divide that ground into two parts focuses on the actions of individual agents within the economy , like households , workers , and businesses . looks at the economy as a whole . It focuses on broad issues such as growth of production , the number of unemployed people , the increase in prices , government , and levels of exports and imports . and are not separate subjects , but rather complementary perspectives on the overall subject of the economy . To understand why both and perspectives are useful , consider the problem of studying a biological ecosystem like a lake . One person who sets out to study the lake might focus on topics certain kinds of algae or plant life the characteristics of particular or snails or the trees surrounding the lake . Another person might take an overall view and instead consider the lake ecosystem from top to bottom what eats what , how the system stays in a rough balance , and what environmental stresses affect this balance . Both approaches are useful , and both examine the same lake , but the viewpoints are different . In a similar way , both and study the same economy , but each has a different viewpoint . Whether you are scrutinizing lakes or economics , the micro and the macro insights should blend with each other . In studying a lake , the micro insights about particular plants and animals help to understand the overall food chain , while the macro insights about the overall food chain help to explain the environment in which individual plants and animals live . In economics , the micro decisions of individual businesses are by whether the is healthy . For example , will be more likely to hire workers if the overall economy is growing . In turn , performance ultimately depends on the decisions that individual households and businesses make . What determines how households and individuals spend their budgets ?

What combination of goods and services will best their needs and wants , given the budget they have to spend ?

How do people decide whether to work , and if so , whether to work full time or part time ?

How do people decide how much to save for the future , or whether they should borrow to spend beyond their current means ?

What determines the products , and how many of each , a will produce and sell ?

What determines the 16 Welcome to Economics ! prices a will charge ?

What determines how a will produce its products ?

What determines how many workers it will hire ?

How will a its business ?

When will a decide to expand , downsize , or even close ?

In the part of this book , we will learn about the theory of consumer behavior , the theory of the , how markets for labor and other resources work , and how markets sometimes fail to work properly . What determines the level of economic activity in a society ?

In other words , what determines how many goods and services a nation actually produces ?

What determines how are available in an economy ?

What determines a nation standard of living ?

What causes the economy to speed up or slow down ?

What causes to hire more workers or to lay them off ?

Finally , what causes the economy to grow over the long term ?

We can determine an economy health by examining a number of goals growth in the standard of living , low unemployment , and low , to name the most important . How can we use government policy to pursue these goals ?

A nation central bank conducts monetary policy , which involves policies that affect bank lending , interest rates , and capital markets . For the United States , this is the Federal Reserve . A nation legislative body determines policy , which involves government spending and taxes . For the United States , this is the Congress and the executive branch , which originates the federal budget . These are the government main tools . Americans tend to expect that government can whatever economic problems we encounter , but to what extent is that expectation realistic ?

These are just some of the issues that we will explore in the chapters of this book . How Economists Use Theories and Models to Understand Economic Issues LEARNING OBJECTIVES By the end of this section , you will be able to Interpret a circular diagram Explain the importance theories and models Describe goods and services markets and labor markets FIGURE John Maynard Keynes One of the most influential economists in modern times was John Maynard Keynes . Credit John Maynard Keynes by Commons , Public Domain ) John Maynard Keynes ( one of the greatest economists of the twentieth century , pointed out that economics is notjust a subject area but also a way of thinking . Keynes ( Figure famously wrote in the introduction to a fellow economist book Economics is a method rather than a doctrine , an apparatus of the mind , a technique of thinking , which helps its possessor to draw correct conclusions . In other words , economics teaches you how to think , not what to think . LINK IT Watch this video Keynes about John Maynard Keynes and his on economics . Access for free at

How Economists Use Theories and Models to Understand Economic Issues ' Economists see the world through a different lens than anthropologists , biologists , or practitioners of any other discipline . They analyze issues and problems using economic theories that are based on particular assumptions about human behavior . These assumptions tend to be different than the assumptions an anthropologist or psychologist might use . A theory is a representation of how two or more variables interact with each other . The purpose of a theory is to take a complex , issue and simplify it down to its essentials . If done well , this enables the analyst to understand the issue and any problems around it . A good theory is simple enough to understand , while complex enough to capture the key features of the object or situation you are studying . Sometimes economists use the term model instead of theory . Strictly speaking , a theory is a more abstract representation , while a model is a more applied or empirical representation . We use models to test theories , but for this course we will use the terms interchangeably . For example , an architect who is planning a major building will often build a physical model that sits on a tabletop to show how the entire city block will look after the new building is constructed . Companies often build models of their new products , which are more rough and than the product , but can still demonstrate how the new product will work . A good model to start with in economics is the circular diagram ( Figure . It pictures the economy as consisting of two and interact in two markets the goods and services market in which sell and households buy and the labor market in which households sell labor to business or other employees . Circular Flow Diagram ?

77 , Goods ' FIGURE The Circular Flow Diagram The circular flow diagram shows how households and interact in the goods and services market , and in the labor market . The direction of the arrows shows that in the goods and services market , households receive goods and services and pay for them . In the labor market , households provide labor and receive payment from firms through wages , salaries , and . Firms produce and sell goods and services to households in the market for goods and services ( or product market ) Arrow A indicates this . Households pay for goods and services , which becomes the revenues to . Arrow indicates this . Arrows A and represent the two sides of the product market . Where do households obtain the income to buy goods and services ?

They provide the labor and other resources ( land , capital , raw materials ) need to produce goods and services in the market for inputs ( or factors of production ) Arrow indicates this . In return , pay for the inputs ( or resources ) they use in the form of wages and other factor payments . Arrow indicates this . Arrows and represent the two sides of the factor market . Of course , in the real world , there are many different markets for goods and services and markets for many different types of labor . The circular diagram this to make the picture easier to grasp . In the diagram , produce goods and services , which they sell to households in return for revenues . The outer circle shows this , and represents the two sides of the product market ( for example , the market for goods and

18 Welcome to Economics ! services ) in which households demand and supply . Households sell their labor as workers to in return for wages , salaries , and . The inner circle shows this and represents the two sides of the labor market in which households supply and demand . This version of the circular model is stripped down to the essentials , but it has enough features to explain how the product and labor markets work in the economy . We could easily add details to this basic model ifwe wanted to introduce more elements , like markets , governments , and interactions with the rest of the globe ( imports and exports ) Economists carry a set of theories in their heads like a carpenter carries around a toolkit . When they see an economic issue or problem , they go through the theories they know to see if they can one that . Then they use the theory to derive insights about the issue or problem . Economists express theories as diagrams , graphs , or even as mathematical equations . Do not worry . In this course , we will mostly use graphs . Economists do not out the answer to the problem and then draw the graph to illustrate . Rather , they use the graph of the theory to help them out the answer . Although at the introductory level , you can sometimes out the right answer without applying a model , ifyou keep studying economics , before too long you will run into issues and problems that you will need to graph to solve . We explain both micro and in terms of theories and models . The most theories are probably those of supply and demand , but you will learn a number . How To Organize Economies An Overview of Economic Systems LEARNING OBJECTIVES By the end of this section , you will be able to Contrast traditional economies , command economies , and market economies Explain gross domestic product ( Assess the importance and effects of globalization Think about what a complex system a modern economy is . It includes all production of goods and services , all buying and selling , all employment . The economic life of every individual is interrelated , at least to a small extent , with the economic lives of thousands or even millions of other individuals . Who organizes and coordinates this system ?

Who ensures that , for example , the number of televisions a society provides is the same as the amount it needs and wants ?

Who ensures that the right number work in the electronics industry ?

Who ensures that televisions are produced in the best way possible ?

How does it all get done ?

There are at least three ways that societies organize an economy . The is the traditional economy , which is the oldest economic system and is used in parts of Asia , Africa , and South America . Traditional economies organize their economic affairs the way they have always done ( tradition ) Occupations stay in the family . Most families are farmers who grow the crops using traditional methods . What you produce is what you consume . Because tradition drives the way of life , there is little economic progress or development . Access for free at

How To Organize Economies An Overview of Economic Systems FIGURE A Command Economy Ancient Egypt was an example of a command economy . Credit Pyramids at by Jay Creative Commons , BY ) Command economies are very different . In a command economy , economic effort is devoted to goals passed down from a ruler or ruling class . Ancient Egypt was a good example a large part of economic life was devoted to building pyramids , like those in Figure , for the pharaohs . Medieval manor life is another example the lord provided the land for growing crops and protection in the event of war . In return , vassals provided labor and soldiers to do the lords bidding . In the last century , communism emphasized command economies . In a command economy , the government decides what goods and services will be produced and what prices it will charge for them . The government decides what methods of production to use and sets wages for workers . The government provides many necessities like healthcare and education for free . Currently , Cuba and North Korea have command economies . FIGURE A Market Economy Nothing says market more than The New York Stock Exchange . Credit work by Erik Creative Commons , BY ) Although command economies have a very centralized structure for economic decisions , market economies have a very decentralized structure . A market is an institution that brings together buyers and sellers of goods or services , who may be either individuals or businesses . The New York Stock Exchange ( Figure is a prime example of a market which brings buyers and sellers together . In a market economy , is decentralized . Market economies are based on private enterprise the private individuals or groups of private individuals own and operate the means ( resources and businesses ) Businesses supply goods and services based on demand . In a command economy , by contrast , the government owns resources and businesses . Supply of goods and services depends on what the demands are . A person income is based on their ability to convert resources ( especially labor ) into something that society values . The more society values the person output , the higher the income ( think Lady Gaga or LeBron James ) In this scenario , market forces , not governments , determine economic decisions . Most economies in the real world are mixed . They combine elements of command and market ( and even traditional ) systems . The economy is positioned toward the end of the spectrum . Many countries in Europe and Latin America , while primarily , have a greater degree of government 19

20 Welcome to Economics ! involvement in economic decisions than the economy . China and Russia , while over the past several decades have moved more in the direction of having a system , remain closer to the command economy end of the spectrum . The Heritage Foundation provides perspective on countries economic freedom , as the following Clear It Up feature discusses . CLEAR IT UP What countries are considered economically free ?

Who is in control of economic decisions ?

Are people free to do what they want and to work where they want ?

Are businesses free to produce when they want and what they choose , and to hire and as they wish ?

Are banks free to choose who will receive loans , or does the government control these kinds of choices ?

Each year , researchers at the Heritage Foundation and the Wall Street Journal look at 50 different categories of economic freedom for countries around the world . They give each nation a score based on the extent of economic freedom in each category . Note that while the Heritage index is widely cited by an array of scholars and publications , it should be regarded as only one viewpoint . Some experts indicate that the index category choices and scores are politically biased . However , the index and others like it provide a useful resource for critical discussion of economic freedom . The 2016 Heritage Foundation Index of Economic Freedom report ranked 178 countries around the world ) le lists some examples of the most free and the least free countries . Although technically not a separate country , Hong Kong has been granted a degree of autonomy such that , for purposes of measuring economic statistics , it is often treated as a separate country . Several additional countries were not ranked because of extreme instability that made judgments about economic freedom impossible . These countries include Afghanistan , Iraq , Libya , Syria , and Yemen . The assigned rankings are inevitably based on estimates , yet even these rough measures can be useful for . In of the 178 included countries shifted toward greater economic freedom , although 77 of the countries shifted toward less economic freedom . In recent decades , the overall trend has been a higher level of economic freedom around the world . Most Economic Freedom Least Economic Freedom . Hong Kong 167 . Singapore 168 . Democratic Republic of Congo . New Zealand 169 . Argentina . Switzerland 170 . Equatorial Guinea . Australia 171 . Iran . Canada 172 . Republic of Congo . Chile 173 . Ireland 174 . 175 . Zimbabwe TABLE Economic Freedoms , 2016 ( Source The Heritage Foundation , 2016 Index of Economic Freedom , Country Access for free at

How To Organize Economies An Overview of Economic Systems Most Economic Freedom Least Economic Freedom 10 . United Kingdom 176 . Venezuela 11 . United States 177 . Cuba 12 . Denmark 178 . North Korea TABLE Economic Freedoms , 2016 ( Source The Heritage Foundation , 2016 Index of Economic Freedom , Country Rankings , Regulations The Rules of the Game Markets and government regulations are always entangled . There is no such thing as an absolutely free market . Regulations always the rules of the game in the economy . Economies that are primarily have fewer just enough to maintain an even playing for participants . At a minimum , these laws govern matters like safeguarding private property against theft , protecting people from violence , enforcing legal contracts , preventing fraud , and collecting taxes . Conversely , even the most economies operate using markets . How else would buying and selling occur ?

The government heavily regulates decisions of what to produce and prices to charge . Heavily regulated economies often have underground economies ( or black markets ) which are markets where the buyers and sellers make transactions without the government approval . The question of how to organize economic institutions is typically not a straightforward choice between all market or all government , but instead involves a balancing act over the appropriate combination of market freedom and government rules . FIGURE Globalization Cargo ships are one mode of transportation for shipping goods in the global economy . Credit Cargo Ship by Raul Creative Commons , BY ) The Rise of Globalization Recent decades have seen a trend toward globalization , which is the expanding cultural , political , and economic connections between people around the world . One measure of this is the increased buying and selling of goods , services , and assets across national other words , international trade and capital . Globalization has occurred for a number of reasons . Improvements in shipping , as illustrated by the container ship in Figure , and air cargo have driven down transportation costs . Innovations in computing and 21

22 Welcome to Economics ! telecommunications have made it easier and cheaper to manage economic connections of production and sales . Many valuable products and services in the modern economy can take the form of example computer software advice travel planning music , books and movies and blueprints for designing a building . These products and many others can be transported over telephones and computer networks at costs . Finally , international agreements and treaties between countries have encouraged greater trade . Table presents one measure of globalization . It shows the percentage of domestic economic production that was exported for a selection of countries from 2010 to 2015 , according to an entity known as The World Bank . Exports are the goods and services that one produces domestically and sells abroad . Imports are the goods and services that one produces abroad and then sells domestically . Gross domestic product ( measures the size of total production in an economy . Thus , the ratio of exports divided by measures what share of a country total economic production is sold in other countries . Country 2010 2011 2012 2013 2014 2015 Higher Income Countries Belgium Canada France Middle Income Countries Brazil Mexico Lower Income Countries Chad China India TABLE The Extent of Globalization ( Source ) In recent decades , the ratio has generally risen , both worldwide and for the US . economy . Interestingly , the share of exports in proportion to economy is well below the global average , in part because large economies like the United States can contain more of the division of labor inside their national borders . However , smaller economies like Belgium , Korea , and Canada need to trade across their borders with other countries to take full advantage of division of labor , specialization , and economies of scale . In this sense , the enormous economy is less affected by globalization than most other countries . Table indicates that many medium and low income countries around the world , like Mexico and China , Access for free at

How To Organize Economies An Overview of Economic Systems 23 have also experienced a surge of globalization in recent decades . astronaut in orbit could put on special glasses that make all economic transactions visible as brightly colored lines and look down at Earth , the astronaut would see the planet covered with connections . Despite the rise in globalization over the last few decades , in recent years we seen pushback against globalization from people across the world concerned about loss ofjobs , loss of political sovereignty , and increased economic inequality . Prominent examples of this pushback include the 2016 vote in Great Britain to exit the European Union ( and the election of Donald Trump for President of the United States . Hopefully , you now have an idea about economics . Before you move to any other chapter of study , be sure to read the very important appendix to this chapter called The Use of Mathematics in Principles of Economics . It is essential that you learn more about how to read and use models in economics . BRING IT HOME Information Overload in the Information Age The world provides nearly instant access to a wealth of information . Consider that as recently as the late , the Farmers Almanac , along with the Weather Bureau of the Department of Agriculture , were the primary sources American farmers used to determine when to plant and harvest their crops . Today , these decisions are driven by data . Farmers access detailed data streams driven by global positioning systems , historical rainfall patterns , and complex weather monitoring services . They combine this information with crop yield data and soil quality measurements from prior years . Maximizing production efficiently can mean the difference between a farm that remains and one that may need to sell its land , and data helps eliminate guesswork . Information helps us make decisions as simple as what to wear today to how many reporters the media should send to cover an event . Each of these decisions is an economic decision . After all , resources are scarce . If the media send ten reporters to cover an announcement , they are not available to cover other stories or complete other tasks . Information provides the necessary knowledge to make the best possible decisions on how to utilize scarce resources . Welcome to the world of economics !

24 Key Terms Key Terms circular diagram a diagram that views the economy as consisting of households and interacting in a goods and services market and a labor market command economy an economy where economic decisions are passed down from government authority and where the government owns the resources division of labor the way in which different workers divide required tasks to produce a good or service economics the study of how humans make choices under conditions of scarcity economies of scale when the average cost each individual unit declines as total output increases exports products ( goods and services ) made domestically and sold abroad policy economic policies that involve government spending and taxes globalization the trend in which buying and selling in markets have increasingly crossed national borders goods and services market a market in which are sellers ofwhat they produce and households are buyers gross domestic product ( measure of the size of total production in an economy imports products ( goods and services ) made abroad and then sold domestically labor market the market in which households sell their labor as workers to business or other employers the branch of economics that focuses on broad issues such as growth , unemployment , and trade balance market interaction between potential buyers and sellers a combination and supply market economy an economy where economic decisions are decentralized , private individuals own resources , and businesses supply goods and services based on demand the branch of economics that focuses on actions agents within the economy , like households , workers , and business model see theory monetary policy policy that involves altering the level of interest rates , the availability of credit in the economy , and the extent private enterprise system where private individuals or groups of private individuals own and operate the means ( resources and businesses ) scarcity when human wants for goods and services exceed the available supply specialization when workers or focus on particular tasks for which they are within the overall production process theory a representation of an object or situation that is while including enough of the key features to help us understand the object or situation traditional economy typically an agricultural economy where things are done the same as they have always been done underground economy a market where the buyers and sellers make transactions in violation of one or more government regulations Key Concepts and Summary What Is Economics , and Why Is It Important ?

Economics seeks to solve the problem of scarcity , which is when human wants for goods and services exceed the available supply . A modern economy displays a division of labor , in which people earn income by specializing in what they produce and then use that income to purchase the products they need or want . The division of labor allows individuals and to specialize and to produce more for several reasons a ) It allows the agents to focus on areas of advantage due to natural factors and skill levels ) It encourages the agents to learn and invent ) It allows agents to take advantage of economies of scale . Division and specialization of labor only work when individuals can purchase what they do not produce in markets . Learning about economics helps you understand the major problems facing the world today , prepares you to be a good citizen , and helps you become a thinker . Access for free at

Questions 25 and and are two different perspectives on the economy . The perspective focuses on parts of the economy individuals , and industries . The perspective looks at the economy as a whole , focusing on goals like growth in the standard of living , unemployment , and . has two types for pursuing these goals monetary policy and policy . How Economists Use Theories and Models to Understand Economic Issues Economists analyze problems differently than do other disciplinary experts . The main tools economists use are economic theories or models . A theory is not an illustration of the answer to a problem . Rather , a theory is a tool for determining the answer . How To Organize Economies An Overview of Economic Systems We can organize societies as traditional , command , or economies . Most societies are a mix . The last few decades have seen globalization evolve as a result of growth in commercial and networks that cross national borders , making businesses and workers from different economies increasingly interdependent . Questions . What is scarcity ?

Can you think of two causes of scarcity ?

Residents of the town of like to consume hams , but each ham requires 10 people to produce it and takes a month . Ifthe town has a total of 100 people , what is the maximum amount of ham the residents can consume in a month ?

A consultant works for 200 per hour . She likes to eat vegetables , but is not very good at growing them . Why does it make more economic sense for her to spend her time at the and shop for her vegetables ?

A computer systems engineer could paint her house , but it makes more sense for her to hire a painter to do it . Explain why . What would be another example of a system in the real world that could serve as a metaphor for micro and ?

Suppose we extend the circular model to add imports and exports . Copy the circular diagram onto a sheet of paper and then add a foreign country as a third agent . Draw a rough sketch of the of imports , exports , and the payments for each on your diagram . What is an example of a problem in the world today , not mentioned in the chapter , that has an economic dimension ?

The chapter private enterprise as a characteristic of economies . What would public enterprise be ?

Hint It is a characteristic of command economies . Why might Belgium , France , Italy , and Sweden have a higher export to ratio than the United States ?

Review Questions 10 . Give the three reasons that explain why the division of labor increases an economy level of production . 11 . What are three reasons to study economics ?

12 . What is the difference between and ?

13 . What are examples of individual economic agents ?

26 Critical Thinking Questions 14 . 15 . 16 . 17 . 18 . 19 . What are the three main goals of ?

How did John Maynard Keynes economics ?

Are households primarily buyers or sellers in the goods and services market ?

In the labor market ?

Are primarily buyers or sellers in the goods and services market ?

In the labor market ?

What are the three ways that societies can organize themselves economically ?

What is globalization ?

How do you think it might have affected the economy over the past decade ?

Critical Thinking Questions 20 . 21 . 22 . 23 . 24 . 25 . 26 . 27 . 28 . Suppose you have a team of two workers one is a baker and one is a chef . Explain why the kitchen can produce more meals in a given period of time if each worker specializes in what they do best than worker tries to do everything from appetizer to dessert . Why would division of labor without trade not work ?

Can you think of any examples of free goods , that is , goods or services that are not scarce ?

A balanced federal budget and a balance of trade are secondary goals of , while growth in the standard of living ( for example ) is a primary goal . Why do you think that is so ?

is an aggregate of what happens at the level . Would it be possible for what happens at the macro level to differ from how economic agents would react to some stimulus at the micro level ?

Hint Think about the behavior of crowds . Why is it unfair or meaningless to criticize a theory as unrealistic ?

Suppose , as an economist , you are asked to analyze an issue unlike anything you have ever done before . Also , suppose you do not have a model for analyzing that issue . What should you do ?

Hint What would a carpenter do in a similar situation ?

Why do you think that most modern countries economies are a mix of command and market types ?

Can you think that globalization has helped you economically ?

Can you think of ways that it has not ?

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