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Economics Today
The Macro View
Roger LeRoy Miller
Research Professor of Economics, University of Texas-Arlington
New York, NY
Dedication To Albert Starr,
Your vigor, stamina, and intellectual curiosity continue to amaze me (and everyone else, too).
It’s an honor to know you.
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Cataloging-in-Publication Data is on file at the Library of Congress
1 16
ISBN 10: 0-13-447876-2
ISBN 13: 978-0-13-447876-0
BRIEF CONTENTS
PART 1
Preface xvi
Introduction
1 The Nature of Economics 1
2 Scarcity and the World of Trade-Offs 27
3 Demand and Supply 49
4 Extensions of Demand and Supply Analysis 75
5 Public Spending and Public Choice 100
6 Funding the Public Sector 124
PART 2 Introduction to Macroeconomics and Economic Growth
7 The Macroeconomy: Unemployment, Inflation, and Deflation 142
8 Measuring the Economy’s Performance 164
9 Global Economic Growth and Development 189
PART 3 Real GDP Determination and Fiscal Policy
10 Real GDP and the Price Level in the Long Run 212
11 Classical and Keynesian Macro Analyses 232
12 Consumption, Real GDP, and the Multiplier 253
13 Fiscal Policy 281
14 Deficit Spending and the Public Debt 303
PART 4 Money, Stabilization, and Growth
15 Money, Banking, and Central Banking 322
16 Domestic and International Dimensions of Monetary Policy 349
17 Stabilization in an Integrated World Economy 374
18 Policies and Prospects for Global Economic Growth 397
PART 8 Global Economics
32 Comparative Advantage and the Open Economy 710
33 Exchange Rates and the Balance of Payments 732
CONTENTS
Preface xvi
PART 1 Introduction
EXAMPLE
Microeconomic and Macroeconomic Implications of the Gig Economy 3
Getting Directions 8
INTERNATIONAL POLICY
EXAMPLE
Greece Discovers That Higher Tax Rates Encourage More Tax Evasion 6
BEHAVIORAL EXAMPLE
Why Doesn’t Higher Pay Persuade Some Women to Avoid Traditional Gender Roles? 7
1 The Nature of Economics 1
The Power of Economic Analysis 2 • The Three Basic Economic Questions and Two Opposing Sets of Answers 4
WHAT IF… the government increases pharmaceutical companies’ costs but prevents them from raising their prices? 5
The Economic Approach: Systematic Decisions 6 • Economics as a Science 7
• Positive versus Normative Economics 10
YOU ARE THERE The Incentive to Understand Chickens’ “Speech” 11
ISSUES & APPLICATIONS Why More Highly Educated Women Are Having More Children 12
Summary: What You Should Know/Where to Go to Practice 13 • Problems 14
• References 17
APPENDIX A Reading and Working with Graphs 18 Direct and Inverse Relationships 18 • Constructing a Graph 19 • Graphing Numbers in a Table 20 • The Slope of a Line (A Linear Curve) 22 • Summary: What You Should Know/Where to Go to Practice 25 • Problems 26
EXAMPLE
The Airline Industry Confronts the Law of Increasing Additional Cost 36 POLICY EXAMPLE
Why the “Free File” Tax Service Is Not Really “Free” 30
INTERNATIONAL EXAMPLE
The Substantial Trade-Off of Satisfying U.N. Development Goals 34
BEHAVIORAL EXAMPLE
An Economic Explanation for Monogamy 32
EXAMPLE
The Law of Demand in the Market for Cable TV Subscriptions 51 Altered Tastes and Preferences
Generate Lower Demand for Chewing Gum 57
Long Lines at Restaurants Specializing in Barbecued Brisket Signal a Shortage 67
POLICY EXAMPLE
Policies Generate Higher Water Input Costs and Cut Agricultural Commodity Supplies 64
Should Shortages in the Ticket Market Be Solved by Scalpers? 68
2 Scarcity and the World of Trade-Offs
27
Scarcity 28 • Opportunity Cost, Trade-Offs, and Choices 30 • The Economic Choices a Nation’s People Face 33 • Economic Growth, Production Possibilities, and the Trade-Off between Present and Future 37
WHAT IF… the U.S. government continues to ratchet up required production of health care services? 39
Specialization, Comparative Advantage, and Trade 39
YOU ARE THERE Reducing the Opportunity Cost of Waiting in Gridlocked Traffic, at a Price 42
ISSUES & APPLICATIONS The U.S. Navy Expands Production Possibilities via a New Technology 42
Summary: What You Should Know/Where to Go to Practice 44 • Problems 45 • References 48
3 Demand and Supply 49
Demand 50 • Shifts in Demand 55 • Supply 59 • Shifts in Supply 62 • Putting Demand and Supply Together 65
WHAT IF… the government requires buyers to pay a price that is above the equilibrium price? 68
YOU ARE THERE The Breakfast Cereal Industry Confronts Changing Tastes and Preferences 69
ISSUES & APPLICATIONS The U.S. Oil Gusher Produces Shortages of Oil Storage Space 70
INTERNATIONAL EXAMPLE
A Global Substitution from Coal to Natural Gas as an Energy Source 57
An Increase in the Supply of Automobiles in China 64
Looking for Hard-to-Find Items in Venezuela? Ask for the Bachaqueros 83
The European Union Decides That the Costs of Milk Quotas Outweigh the Benefits 89
BEHAVIORAL EXAMPLE
Online Dating Sites and Virtual Roses 77
EXAMPLE
Medicare’s “1 Percent” 112
POLICY EXAMPLE
That Noisy Drone Hovering by Your House? Your Property Rights Are Unclear 102
Mixed Public Choice Incentives and Policies for School Lunches 115
INTERNATIONAL POLICY EXAMPLE
Is Regulation the Solution for an Expanding Cloud of Orbital Pollution? 104
BEHAVIORAL EXAMPLE
Funding Public Goods: Differences in Valuations versus Competencies 108
EXAMPLE
The Progressive U.S. Income Tax System 126
POLICY EXAMPLE
Inducing Disability Insurance Recipients Not to Work Causes Payouts to Exceed Taxes 130
Are Vehicle User Fees an Inevitable Replacement for Gasoline Excise Taxes? 131
North Carolina Cuts Tax Rates and Expands a Tax Base, and Its Revenue Increase 133
Summary: What You Should Know/Where to Go to Practice 71 • Problems 72
• References 74
4 Extensions of Demand and Supply Analysis 75
The Price System and Markets 76 • Changes in Demand and Supply 77 • The Rationing Function of Prices 80 • Price Ceilings 82
WHAT IF… the government requires apartment owners to set rents based on tenants’ incomes? 85
Price Floors and Quantity Restrictions 85
YOU ARE THERE Price Rationing via Changes in the Number of Items Sold in a Package 90
ISSUES & APPLICATIONS Online Middlemen: Customer Sales Reps Move to the Web 90
Summary: What You Should Know/Where to Go to Practice 91 • Problems 92 • References 95
APPENDIX B Consumer Surplus, Producer Surplus, and Gains from Trade within a Price System 96
Consumer Surplus 96 • Producer Surplus 97 • Gains from Trade within a Price System 98 • Price Controls and Gains from Trade 99
5 Public Spending and Public Choice 100
Market Failures and Externalities 101
WHAT IF… the government engages in policies that force down the price of an item subject to external benefits while leaving its supply curve’s position unchanged? 105
The Other Economic Functions of Government 105 • The Political Functions of Government 108 • Public Spending and Transfer Programs 109 • Collective Decision Making: The Theory of Public Choice 114
YOU ARE THERE Addressing Rail-Freight Transportation Externalities 116
ISSUES & APPLICATIONS The U.S. Measles Threat––Once Nearly Eliminated but Less So Today 117
Summary: What You Should Know/Where to Go to Practice 118 • Problems 119 • References 122
6 Funding the Public Sector 124
Paying for the Public Sector: Systems of Taxation 125
WHAT IF… borrowing to fund public expenditures was illegal? 125
The Most Important Federal Taxes 127 • Tax Rates and Tax Revenues 131 • Taxation from the Point of View of Producers and Consumers 134
YOU ARE THERE Mergers Move U.S. Firms Abroad and Reduce the U.S. Income Tax Base 136
ISSUES & APPLICATIONS Will Taxing “Remote Sales” Be a Salvation for Sinking State Budgets? 137
BEHAVIORAL EXAMPLE
Trying to Boost Government Tax Receipts by Making Tax Delinquents Feel Bad 134
Summary: What You Should Know/Where to Go to Practice 138 • Problems 139
• References 141
PART 2 Introduction to Macroeconomics and Economic Growth
EXAMPLE
An Increase in the Duration of Unemployment 146
Why a Drop in “Routine Jobs” Is Elevating the Natural Rate of Unemployment 148
POLICY EXAMPLE
How High One’s Price-Level-Adjusted Income Is Depends on Where One Lives 151
INTERNATIONAL EXAMPLE
How Variations in Prices of Imported Items Can Push Apart the PPI and CPI 152
BEHAVIORAL EXAMPLE
Animal Spirits and Business Fluctuations: Can Fear Cause Recessions? 157
EXAMPLE
Correcting GDP for Price Index Changes, 2007–2017 178
POLICY EXAMPLE
Accuracy versus Precision in Measuring Business Fixed Investment 172
INTERNATIONAL EXAMPLE
Complications in Assessing the GDP Effects of the “Free Web” 169
Purchasing Power Parity Comparisons of World Incomes 181
BEHAVIORAL EXAMPLE
Should an Economic “Dashboard” Supplement or Replace GDP? 170
POLICY EXAMPLE
An Annual Quota on Importing Human Capital Fills Up in a Hurry 198
INTERNATIONAL EXAMPLE
Growth Rates around the World 191
A Youth Shrinkage and Aging Capital
Contribute to Secular Stagnation in Japan 205
BEHAVIORAL EXAMPLE
Interpersonal Trust and Economic Growth 197
7 The Macroeconomy: Unemployment, Inflation, and Deflation 142
Unemployment 143 • The Major Types of Unemployment 147
WHAT IF… the government requires businesses to provide their employees with a wider range of benefits, such as broader health insurance and longer parental leaves? 147
Inflation and Deflation 149 • Anticipated Versus Unanticipated Inflation 153
• Changing Inflation and Unemployment: Business Fluctuations 155
YOU ARE THERE Is the Level of Prices Rising in Russia? Take a Look at the “Borscht Index” 157
ISSUES & APPLICATIONS Interpreting Employment Data as the Gig Economy Grows 158
Summary: What You Should Know/Where to Go to Practice 159 • Problems 161
• References 163
8
Measuring the Economy’s Performance 164
The Simple Circular Flow 165 • National Income Accounting 167 • Two Main Methods of Measuring GDP 171
WHAT IF… a nation’s measure of aggregate economic activity were based on production using inputs that its residents own and operate in other countries? 173
• Other Components of National Income Accounting 176 • Distinguishing Between Nominal and Real Values 178
YOU ARE THERE Redesigning GDP to Take into Account the Treatment of Natural Resources? 181
ISSUES & APPLICATIONS How Big Is the Underground Economy? 182
Summary: What You Should Know/Where to Go to Practice 183 • Problems 185
• References 188
9 Global Economic Growth and Development 189
How Do We Define Economic Growth? 190
WHAT IF… from the perspective of the rule of 70, China and India were able to maintain their high rates of per capita real GDP growth over the next couple of decades? 194
Productivity Growth, Saving, and New Technologies: Fundamental Determinants of Economic Growth 194 • Immigration, Property Rights, and Growth 199
• Economic Development 199 • Are Developed Nations Stuck with Stagnant Growth Prospects? 203
YOU ARE THERE Does More Income Inequality Necessarily Harm Economic Growth? 206
ISSUES & APPLICATIONS Both Quality and Quantity of Regulations Matter for Economic Growth 207
Summary: What You Should Know/Where to Go to Practice 208 • Problems 209
• References 211
PART 3
Real GDP Determination and Fiscal Policy
INTERNATIONAL EXAMPLE
China’s Long String of Rightward Shifts in the LRAS Curve 215
Inferring That South African Aggregate Demand Growth Dropped after 2008 224
BEHAVIORAL EXAMPLE
Does The “Sentiment” of Consumers Generate Aggregate Demand Shifts? 219
10 Real GDP and the Price Level in the Long Run 212
Output Growth and the Long-Run Aggregate Supply Curve 213 • Total Expenditures and Aggregate Demand 215 • Long-Run Equilibrium and the Price Level 220
WHAT IF… there are steady and susteined decreases in the prices of key inputs in the production of energy? 222
Causes of Inflation 222
YOU ARE THERE Watching a Crumbling U.S. River System Impede Growth of Aggregate Supply 225
ISSUES & APPLICATIONS The Implications of U.S. Secular Stagnation for Real GDP and the Price Level 225
Summary: What You Should Know/Where to Go to Practice 227 • Problems 228
• References 231
EXAMPLE
Why U.S. Nominal Wages Have Been Slow to Adjust 239
BEHAVIORAL EXAMPLE
Variations in Credit-Market Sentiment and Aggregate Demand Stocks 243
EXAMPLE
Why the U.S. Economy’s Saving Rate Rises During Recessions 260
INTERNATIONAL EXAMPLE
Diminished Rightward Shifts in Germany’s Investment Function 264
BEHAVIORAL EXAMPLE
Habit Formation in Consumption Spending and the Multiplier Effect 270
INTERNATIONAL POLICY EXAMPLE
Higher Government Research and Development Generates Offsetting Spending Cuts 288
BEHAVIORAL EXAMPLE
Bounded Rationality and Variations in the Effects of Fiscal Policy on Real GDP 291
11 Classical and Keynesian Macro Analyses 232
The Classical Model 233 • Keynesian Economics and the Keynesian ShortRun Aggregate Supply Curve 238 • Shifts in the Aggregate Supply Curve 241
• Consequences of Changes in Aggregate Demand 243 • Explaining Short-Run Variations in Inflation 245
WHAT IF… a nation’s economy were to experience demand-pull and cost-push inflation simultaneously? 246
YOU ARE THERE A Japanese Economist Tells His Government, “I Told You So!” 247
ISSUES & APPLICATIONS A Minimum Wage Boost Causes a Puerto Rican Aggregate Supply Shock 248
Summary: What You Should Know/Where to Go to Practice 249 • Problems 250
• References 252
12 Consumption,
Real GDP, and the Multiplier
253
Determinants of Planned Consumption and Planned Saving 254 • Determinants of Investment 260 • Determining Equilibrium Real GDP 262 • Keynesian Equilibrium with Government and the Foreign Sector Added 266
WHAT IF… real incomes earned by residents of other nations were to increase? 268 The Multiplier, Total Expenditures, and Aggregate Demand 268
YOU ARE THERE Inferring Low Real GDP Growth from “Restrained” Consumption Spending 273
ISSUES & APPLICATIONS An Investment Spending Slowdown Holds Down U.S. Real GDP 274
Summary: What You Should Know/Where to Go to Practice 275 • Problems 277 • References 279
APPENDIX C The Keynesian Model and the Multiplier 280
13 Fiscal Policy 281
Discretionary Fiscal Policy 282 • Possible Offsets to Fiscal Policy 284
WHAT IF… a nation’s government were to find itself to the right of the top of the Laffer curve? 289
Discretionary Fiscal Policy in Practice: Coping with Time Lags 289 • Automatic Stabilizers 291
YOU ARE THERE Why Are Several States Cutting the Duration of Unemployment Compensation? 292
ISSUES & APPLICATIONS Which Governments Conduct Fiscal Stabilization Most Effectively? 293
Summary: What You Should Know/Where to Go to Practice 294 • Problems 296 • References 299
POLICY EXAMPLE
Increasing Costs of Student Loan Forgiveness Are Raising Federal Budget Deficits 306
INTERNATIONAL EXAMPLE
What Nations’ Residents Have the Largest Holdings of the U.S. Public Debt? 311
BEHAVIORAL EXAMPLE
Will Taxpayers Eventually Force Government Spending Cuts? 307
PART 4
EXAMPLE
APPENDIX D Fiscal Policy: A Keynesian Perspective 300 Changes in Government Spending 300 • Changes in Taxes 301 • The BalancedBudget Multiplier 301 • The Fixed Price Level Assumption 302 • Problems 302
14 Deficit Spending and the Public Debt 303
Public Deficits and Debts 304 • Evaluating the Rising Public Debt 307
Growing U.S. Government Deficits: Implications for U.S. Economic Performance 311 • How Could the Government Reduce All of Its Red Ink? 313
WHAT IF… the rich were to respond to higher average and marginal income tax rates by engaging in fewer activities subject to taxation? 314
YOU ARE THERE Want a Balanced Budget? Sell Some Government Assets 316
ISSUES & APPLICATIONS Is Fiscal Policy Drowning in Accumulated Budgetary Red Ink? 316
Summary: What You Should Know/Where to Go to Practice 318 • Problems 319 • References 321
Money, Stabilization, and Growth
Customers Pay Fees to Hold Hundreds of Billions in Deposits at Banks 330
INTERNATIONAL EXAMPLE
Why Bother with a Debit Card When Payments Can Accompany “Tweets”? 332
INTERNATIONAL POLICY
EXAMPLE
What Does Zimbabwe Now Use as Money, and Why? 326
BEHAVIORAL EXAMPLE
Is Money Really Just for “Record Keeping”? 324
EXAMPLE
Interest Rate Movements and U.S. Companies’ Cash Holdings 352
BEHAVIORAL EXAMPLE
Can Behavioral Economics Explain the Federal Reserve’s Bad Forecasts? 359
15 Money, Banking, and Central Banking 322 Functions and Measures of Money 323
WHAT IF… a type of asset that previously had been regularly exchanged in active trading suddenly experiences a long period of hardly any transactions? 325
• Financial Intermediation and Banks 328 • The Federal Reserve System: The U.S. Central Bank 332 • Fractional Reserve Banking, the Federal Reserve, and the Money Supply 335 • Federal Deposit Insurance 339
YOU ARE THERE In Europe, Some Borrowers Receive Bank Interest Payments on Their Loans 342
ISSUES & APPLICATIONS Why U.S. Taxpayers are Last-Resort Funders of Much of the Financial Industry 343
Summary: What You Should Know/Where to Go to Practice 344 • Problems 346 • References 348
16 Domestic and International Dimensions of Monetary Policy 349
The Demand for Money 350 • How the Fed Influences Interest Rates 352 • Effects of an Increase in the Money Supply 354
WHAT IF… Federal Reserve policies generate a higher level of interest rates intended in part to influence bank lending? 356
Monetary Policy and Inflation 357 • Monetary Policy Transmission and Credit Policy at Today’s Fed 359
YOU ARE THERE A Member of Congress Seeks a Fed Policy Rule, Irrespective of the Rule’s Name 365
ISSUES & APPLICATIONS Do Federal Open Market Committee “Dot Plots” Chart Confusion? 365
Summary: What You Should Know/Where to Go to Practice 366 • Problems 368
• References 370
APPENDIX E Monetary Policy: A Keynesian Perspective 371 Increasing the Money Supply 372 • Decreasing the Money Supply 372 • Arguments against Monetary Policy 372 • Problems 372
POLICY EXAMPLE
Policy Uncertainty and Reduced Total Planned Expenditures 378
What Policy-Relevant Inflation Rate Should the Public Try to Predict? 388
BEHAVIORAL EXAMPLE
Do Distorted Beliefs Influence Real GDP and the Unemployment Rate? 389
17
Stabilization in an Integrated World Economy 374
Active Versus Passive Policymaking and the Natural Rate of Unemployment 375 The Phillips Curve: A Rationale for Active Policymaking? 379 • Rational Expectations, the Policy Irrelevance Proposition, and Real Business Cycles 382
WHAT IF… the Federal Reserve were to engage in a policy action that the public is unable to anticipate and therefore surprises all firms and households? 383
Modern Approaches to Justifying Active Policymaking 384 • Behavioral Economics and Macroeconomic Policymaking 388
YOU ARE THERE Are National Inflation Rates Mysteriously “Too Low”? 390
ISSUES & APPLICATIONS Does the Usual Phillips Curve Consider the Wrong Unemployment Rate? 391
Summary: What You Should Know/Where to Go to Practice 393 • Problems 394 • References 396
INTERNATIONAL POLICY EXAMPLE
Indian Farmers Confront “Dead Land” Problems 401
INTERNATIONAL EXAMPLE
Myanmar Ends Monopolies’ Control of Financial Information to Spur Foreign Investment 405
BEHAVIORAL EXAMPLE
Nudging the World’s Poor to Make Different Choices 399
18 Policies and Prospects for Global Economic Growth 397 Labor Resources and Economic Growth 398 • Capital Goods and Economic Growth 400 • A Recent Shift in Global Growth Trends 401 • Private International Financial Flows as a Source of Global Growth 404 • International Institutions and Policies for Global Growth 406
WHAT IF… the World Bank and the IMF were to face competition from new international lending institutions? 408
YOU ARE THERE Will Renewable Energy “Leapfrog” African Nations to Higher Economic Growth? 409
Summary: What You Should Know/Where to Go to Practice 410 • Problems 412 • References 415
PART 8 Global Economics
POLICY EXAMPLE
Ending the U.S. Oil Export Ban 722
INTERNATIONAL EXAMPLE
How African Nations Are Developing Comparative Advantages in Agriculture 716
Why European Firms View Chinese Tourists’ Parallel Imports as a Threat 719
BEHAVIORAL EXAMPLE
Has Greater Financial Uncertainty Become an Impediment to Trade? 721
EXAMPLE
Harley-Davidson’s Sales of Motorcycles Are Reduced by the Strong Dollar 742
BEHAVIORAL EXAMPLE
Can Behavioral Economics Help Nations Achieve Balanced Trade? 746
32 Comparative Advantage and the Open Economy 710
Why We Trade: Comparative Advantage and Mutual Gains from Exchange 711
• Arguments Against Free Trade 718 • Ways to Restrict Foreign Trade 721
• International Trade Organizations 724
WHAT IF… joining a new regional trade bloc shifts existing trade to countries within that bloc and away from countries in another regional trade bloc? 725
YOU ARE THERE Argentina Specializes in Oil Production to Protect Domestic Jobs 726
ISSUES & APPLICATIONS Drought Induces California Farmers to Double Down on a Comparative Advantage 726
Summary: What You Should Know/Where to Go to Practice 728 • Problems 729
• References 731
33 Exchange Rates and the Balance of Payments
732
The Balance of Payments and International Financial Flows 733 • Deriving the Demand for and Supply of Foreign Exchange 738 • Determining Foreign Exchange Rates 742 • Fixed Versus Floating Exchange Rates 745
WHAT IF… a central bank that fixes its nation’s exchange rate runs out of foreign exchange reserves? 748
YOU ARE THERE Nigeria’s Central Bank Forces a Reduction in the Demand for Foreign Exchange 749
ISSUES & APPLICATIONS A Year of an Appreciation, Lower Import Prices, and Higher Quantity of Foreign Exchange Demanded 750
Summary: What You Should Know/Where to Go to Practice 751 • Problems 752
• References 754
Glossary G-1
Index I-1
PREFACE
How do we motivate students in economics? I believe that we should present them with economic explanations for what is happening around them and throughout the world. Theory may be the backbone of our discipline, but its application is the only way we can help our students understand the importance of economics in their daily lives and for their futures.
New and Increased Emphasis on Behavioral Economics
The theory of bounded rationality forms the basis of behavioral economics. This theory is expanded upon in the introductory chapter, and in many other chapters. More importantly, in keeping with the desire to show the applicability of theory, every single chapter in the 19th edition has a behavioral economics example.
New Additional End-of-Chapter Problems
In this 19th edition, you will find six to eight new problems at the end of each chapter. Many are based on the interactive graphs within the chapter. They require students to apply their critical thinking skills learned from the chapter.
New Questions in MyEconLab
With the 19th edition, we have added close to 500 new assignable questions in MyEconLab, expanding the database of questions to an average of over 100 questions per chapter.
MyEconLab—Getting Better with Each Edition
• Figure Animations: Figure animations provide a step-by-step walk-through of select figures. Seventy percent of all figures are animated. Figure animations have been updated to reflect changes to the 19th edition.
• Concept Checks: Each section of each learning objective concludes with an online Concept Check that contains one or two multiple-choice, true/false, or fill-in questions. These checks act as “speed bumps” that encourage students to stop and check their understanding of fundamental terms and concepts before moving on to the next section. The goal of this digital resource is to help students assess their progress on a section-by-section basis, so they can be better prepared for homework, quizzes, and exams.
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Assessments using current macro data help students understand changes in economic variables and their impact on the economy. Real-time data analysis exercises in MyEconLab also communicate directly with the Federal Reserve Bank of St. Louis’s FRED® site and automatically update as new data are available.
These exercises allow students to practice with data to better understand the current economic environment.
• Self Checks: Self Checks appear at the end of every Learning Objective section. Self Check questions allow students to check their understanding of the key concepts they just read before moving on. All questions and answers are available in MyEconLab.
somewhere else in the country, U.S. employment would decline. That has never happened and never will.
• Dynamic Study Modules: Dynamic Study Modules, available within MyEconLab, continuously assess student performance on key topics in real time, and provide additional and personalized practice content. Dynamic Study Modules exist for every chapter and are available on all mobile devices for on-the-go studying.
SELF CHECK
Visit MyEconLab to practice problems and to get instant feedback in your Study Plan.
When nations specialize in an area of comparative advantage and then trade with the rest of the world, the average standard of living in the world rises. In effect, international trade allows the world to move from inside the global production possibilities curve toward the curve itself, thereby improving worldwide economic efficiency. Thus, all countries that engage in trade can benefit from comparative advantage, just as regions in the United States benefit from interregional trade. MyEconLab Concept Check MyEconLab Study Plan
• Digital Interactives: Digital Interactives are dynamic and engaging assessment activities that promote critical thinking and application of key economic principles. Each Digital Interactive has 3–5 progressive levels and requires approximately 20 minutes to explore, apply, compare, and analyze each topic. Many Digital Interactives include real-time data from FRED®, allowing professors and students to display, in graph and table form, up-to-the-minute data on key macro variables. Digital Interactives can be assigned and graded within MyEconLab, or used as a lecture tool to encourage engagement, classroom conversation, and group work.
Reducing the Opportunity Cost of Waiting in Gridlocked Traffic, at a Price
Four decades ago, Howard Becker, founder of Becker Automotive, Inc., started a Los Angeles business installing sound systems in homes and vehicles. His company is still based in that area, but now it specializes in reducing the opportunity cost of the hours that people spend traversing congested highways and surface roads. Becker’s customers are individuals who had previously been among U.S. commuters who devote a combined 7 billion hours per year self-driving their vehicles slowly through nearly gridlocked traffic instead of pursuing other activities.
including clients, personal assistants, or secretarial support staff. Thus, buyers of Becker’s converted vans and limos can, while paying chauffeurs to traverse the thick traffic, avoid sacrificing time that they could devote to activities they otherwise would pursue at home or in an office setting.
• Learning Catalytics®: Learning Catalytics® generates classroom discussion, guides lectures, and promotes peer-to-peer learning with real-time analytics. Now students can use any device to interact in the classroom, engage with content, and even draw and share graphs.
CRITICAL THINKING QUESTIONS
• Enhanced eText for MyEconLab: The Pearson eText for MyEconLab gives students access to their textbook anytime, anywhere. In addition to note-taking, highlighting, and bookmarking, the Pearson eText offers interactive and sharing features.
Continuing Emphasis on Public Policy
At prices that typically start at $150,000, Becker’s firm converts chauffeur-driven vans and limos into mobile offices or custom-built homes away from home. Becker’s converted vehicles provide amenities that include built-in touchscreen devices with remote access to cloudbased information networks and home-film library systems, bathrooms, and even exercise bicycles. Many vehicles provide sufficient seating— and, if desired, accessories and equipment—for several passengers,
Sources are listed at the end of this chapter. YOU ARE THERE
1. How must the dollar values of the opportunity costs of time compare for a typical purchaser of a vehicle converted by Becker Automotive, Inc., versus commuters who do not purchase them? Explain briefly.
2. Why do you suppose that economists have estimated the dollar value of the combined opportunity costs of time that U.S. commuters spend in gridlocked traffic to be in excess of $150 billion per year? Explain your reasoning.
Public policy issues concern your students just as they concern everyone else. Much of the theory throughout this text relates to exactly how changing public policies affect all of us.
• In Chapter 2, readers will find out why “free” tax-filing services from the IRS really aren’t free.
• When water becomes scarcer because of droughts, how politicians respond affects everyone, as your students will read in Chapter 4.
• Poorly defined property rights to airspace occupied by drones is an issue addressed in Chapter 5
ISSUES & APPLICATIONS
The U.S. Navy Expands Production Possibilities via
a New Technology
CONCEPTS APPLIED
Production Possibilities
Production Possibilities
Curve Technology
The U.S. Navy faces an on-going task of producing ship-borne weapons that deliver explosive forces to remote targets. At the same time, the Navy is seeking to expand its fleet of ships afloat. Consequently, the Navy faces an economic problem involving production possibilities.
THE CONTINUING QUEST TO KEEP STUDENT INTEREST HIGH
From the very beginning, Economics Today was created to maintain high interest by its readers. Many of the pedagogical devices developed in earlier editions have been perfected and the content for this 19th edition is completely new. They include:
• A chapter-opening vignette about a serious application of each chapter’s theory with a continuing Issues & Applications feature at the end of every chapter. All of these are new to this edition.
• Learning Objectives accompany each major chapter section to help focus student reading comprehension and allow for self-assessment to ensure that students have grasped key concepts.
• A “grabber” Did You Know That … feature starts off every chapter. All of these are new.
Will Taxing “Remote Sales” Be a Salvation for Sinking State Budgets?
CONCEPTS APPLIED
the Midwestern U.S. states are endowed with 80 percent of the fresh water available in the United States and with 20 percent of the fresh water in existence on the planet? In recent years, residents of these states have been developing techniques for transferring some of this water to people residing in other U.S. states and even to residents of other nations. By specializing in waterredistribution technologies, these Midwestern residents hope to engage in trade of fresh water for other goods and services with people living in locations hundreds and even thousands of miles away.
Why We Trade: Comparative Advantage and Mutual Gains from Exchange
• A variety of examples are provided:
You have already been introduced to the concept of specialization and mutual gains from trade in Chapter 2. These concepts are worth repeating because they are essential to understanding why the world is better off on net because of more international trade. First, however, let’s take a look at the growing volumes of international trade undertaken by the world’s peoples in recent years.
the extra revenues. Recently, however, a number of states have changed course and begun trying to collect sales taxes on the “remote sales” that out-ofstate firms make to residents of their states.
The law of demand is supported by millions of observations of people’s behavior in the marketplace. Theoretically, it can be derived from an economic model based on rational behavior, as was discussed in Chapter 1. Basically, if nothing else changes and the price of a good falls, the lower price induces us to buy more because we can enjoy additional net gains that were unavailable at the higher price. If you examine your own behavior, you will see that it generally follows the law of demand.
The Trend Toward More State Taxation of Remote Sales In recent years, state governments in California, Massachusetts, Michigan, New Jersey, and New York have moved aggressively to tax remote sales that out-of-state companies make to their residents. A few states have even gone a step further by claiming that when an out-of-state firm makes any sales to their states’ residents, it is subject to other forms of taxation that the states impose on businesses located within their states. Tennessee, for example, recently decided to subject outof-state companies that make sales of $500,000 or more to Tennessee residents to the state’s corporate-franchise tax.
DOMESTIC TOPICS AND EVENTS are presented through thought-provoking discussions, such as:
The Worldwide Importance of International Trade
• The Law of Demand in the Market for Cable TV Subscriptions
Look at panel (a) of Figure 32-1. Since 1960, world output of goods and services (world real gross domestic product, or world real GDP) has increased almost every year. It is now about 7 times what it was then. Look at the top line in panel (a) of Figure 32-1. Even taking into account its recent dip, world trade has increased to more than 16 times its level in 1960.
32.1 Explain why nations can gain from specializing in production and engaging in international trade
Hence, such firms must pay a tax rate of 0.25 percent on their net worth, even if none of that net worth is located or owned within Tennessee. The state of Washington has even imposed its business and occupation tax on a trucking firm simply because it has trucks that have stopped at its highway weigh stations while making delivery trips that have crossed through the state.
• Analyzing Tweets to Predict Stock Market Swings
Will Taxing Remote Sales Boost Revenues as Much as States Hope?
The United States has figured prominently in this expansion of world trade relative to GDP. In panel (b) of Figure 32-1, you see annual U.S. imports and exports expressed as a percentage of the nation’s total annual yearly income (GDP). Whereas imports amounted to barely 4 percent of annual U.S. GDP in 1950, today they account for more than 15 percent. International trade has become more important to the U.S. economy, and it may become even more so as other countries loosen their trade restrictions.
The Output Gains from Specialization
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IMPORTANT POLICY QUESTIONS help students understand public debates, such as:
• That Noisy Drone Hovering by Your House? Your Property Rights Are Unclear
• Ending the U.S. Oil Export Ban
The best way to understand the gains from trade among nations is first to understand the output gains from specialization between individuals. Suppose that a creative advertising specialist can come up with two pages of ad copy (written words) an hour or generate one computerized art rendering per hour. At the same time, a computer art specialist can write one page of ad copy per hour or complete one computerized art rendering per hour. Here the ad specialist can come up with more pages of ad copy per hour than the computer specialist and seemingly is just as good as the computer specialist at doing computerized art renderings. Is there any reason for the ad specialist and the computer specialist to “trade”? The answer is yes because such trading will lead to higher output.
BEHAVIORAL EXAMPLES introduce behavioral economics examples with provocative questions such as:
THE SITUATION WITH NO TRADE Consider the scenario of no trading. Assume that during each eight-hour day, the ad specialist and the computer whiz devote half of their day to writing ad copy and half to computerized art rendering. The ad specialist would create eight pages of ad copy (4 hours * 2) and four computerized art renderings (4 * 1).
• Tips and Quality-Adjusted Prices
• Why Doesn’t Higher Pay Persuade Some Women to Avoid Traditional Gender Roles?
During that same period, the computer specialist would create four pages of ad copy (4 hours * 1) and four computerized art renderings (4 * 1). Each day, the combined output for the ad specialist and the computer specialist would be 12 pages of ad copy and eight computerized art renderings.
How has a change in the quantity of cable TV subscriptions in response to a change in the price of these subscriptions accorded with the law of demand?
Courts are in the process of sorting out whether all of the jurisdictional claims of Tennessee, Washington, and other states are legally justifiable. A fundamental economic issue, however, is whether all of these efforts to collect taxes related to remote sales of out-of-state firms really will enable states to collect as many additional tax dollars as they anticipate.
A key inducement for states to initiate efforts to tax remote sales has been estimates of revenues “lost” from failure to do so in the past. The National Council of State Legislatures (NCSL), for instance, has estimated that not taxing remote sales has caused the fifty U.S. states to forgo an inflation-adjusted $25 billion per year in lost revenues. The NCSL estimate, however, is based mainly on static tax analysis that presumes minuscule tax-base reductions for states if consumers respond to the imposition of tax rates on remote sales by cutting their out-ofstate purchases. In fact, Yu Jeffrey Hu and Zhulei Tang of the Georgia Institute of Technology have found evidence that the imposition of even a relatively low 4 percent sales tax rate on previously untaxed remote sales induces consumers to decrease out-of-state purchases by at least 15 percent. This fact helps to explain why other dynamicanalysis estimates of the potential annual revenue gains to all fifty states from taxing remote sales have ranged from one-half to one-sixth of the NCSL estimate.
Is there an inverse relationship between the price of cable TV subscriptions and the number of subscriptions that people purchase? Explain.
For Critical Thinking
1. How could the legal expenses incurred in establishing rights to assess remote taxes and the costs that states incur in collecting such taxes cut further into dynamic-analysis estimates of the net revenue gains to states from implementing the taxes?
Sources are listed at the end of this chapter.
MyEconLab Concept Check
Relative Prices versus Money Prices
2. Why might pressures to satisfy government budget constraints give state governments incentives to seek to tax remote sales even if they were to determine that actual net revenues collected likely would be
The relative price of any commodity is its price in terms of another commodity. The price that you pay in dollars and cents for any good or service at any point in time is called its money price.
THE RELATIVE PRICE OF A HOUSE You might hear from your grandparents, “My first new car cost only thirty-two hundred dollars.” The implication, of course, is that the price of cars today is outrageously high because the average new car may cost $32,000. That, however, is not an accurate comparison.
What was the price of the average house during that same year? Perhaps it was only $19,000. By comparison, then, given that the average price of houses today is close to $190,000, the current price of a new car doesn’t sound so far out of line, does it?
COMPARING RELATIVE PRICES OF DIGITAL STORAGE DRIVES The point is that money prices during different time periods don’t tell you much. You have to calculate relative prices. Consider an example of the price of 6-terabyte cloud servers versus the price of 6-terabyte external hard drives from last year and this year. In Table 3-1, we show the money prices of cloud servers and external hard drives for two years during which they have both gone down.
PRICE EXPECTATIONS A change in the expectation of a future relative price of a product can affect a producer’s current willingness to supply, just as price expectations affect a consumer’s current willingness to purchase. For example, suppliers of portable power banks may withhold from the market part of their current supply if they anticipate higher prices in the future. The current amount supplied at each and every price will decrease.
This means that in today’s dollars we have to pay out less for both cloud servers and external hard drives. If we look, though, at the relative prices of cloud servers and external hard drives, we find that last year, cloud servers were twice as expensive as external hard drives, whereas this year they are only one and a half times as expensive. Conversely, if we compare external hard drives to cloud servers, last year the price of external hard drives was 50 percent of the price of cloud servers, but today the price of external hard drives is about 67 percent of the price of cloud servers. In the one-year period, although both prices have declined in money terms, the relative price of external hard drives has risen in relation to that of cloud servers.
TAXES AND SUBSIDIES Certain taxes, such as a per-unit tax, are effectively an addition to production costs and therefore reduce supply. If the supply curve is S1 in Figure 3-8, a per-unit tax increase would shift it to S3. A per-unit subsidy would do the opposite. Every producer would get a “gift” from the government for each unit produced. This per-unit subsidy would shift the curve to S2
Sometimes relative price changes occur because the quality of a product improves, thereby bringing about a decrease in the item’s effective price per constant-quality unit
NUMBER OF FIRMS IN THE INDUSTRY In the short run, when firms can change only the number of employees they use, we hold the number of firms in the industry constant. In the long run, the number of firms may change. If the number of firms increases, supply will increase, and the supply curve will shift outward to the right. If the number of firms decreases, supply will decrease, and the supply curve will shift inward to the left.
How has a change in the number of firms in China’s automobile industry
INTERNATIONAL EXAMPLE
How African Nations Are Developing Comparative Advantages in Agriculture
FOR CRITICAL THINKING
The African continent contains about half of the uncultivated but arable land in the world. It also contains many people who could, in principle, farm much of this land. Nevertheless, for many years, African countries have imported most agricultural products. During the past decade, a number of African nations have developed comparative advantages in several varieties of corn and coffee. The continent’s comparative-advantage turnaround has been assisted by adoption of drought-resistant crop varieties. The key change, however, has been the widespread acquisition of additional physical and human capital. African farmers are using more machinery to plant and harvest their crops. Furthermore, they are acquiring training in how to apply modern farming techniques. These developments have enabled African farmers to reduce considerably the opportunity cost of agricultural products in terms of other goods and services. As the opportunity costs of African agricultural goods have declined, new comparative advantages in producing these goods and gains from specialization and trade have followed.
Regional Trade Agreements
Why do you think that increased specialization in specific agricultural products has accompanied growth in African exports of those products? Sources are listed at the end of this chapter.
Numerous other international trade organizations exist alongside the WTO. Sometimes known as regional trade blocs, these organizations are created by special deals among groups of countries that grant trade preferences only to countries within their groups. Currently, more than 475 bilateral or regional trade agreements are in effect around the globe. Examples include groups of industrial powerhouses, such as the European Union, the North American Free Trade Agreement, and the Association of Southeast Asian Nations. Nations in South America with per capita real GDP nearer the world average have also formed regional trade blocs called Mercosur and the Andean Community. In addition, less developed nations have formed regional trade blocs, such as the Economic Community of West African States and the Community of East and Southern Africa.
DO REGIONAL TRADE BLOCS SIMPLY DIVERT TRADE?
INTERNATIONAL EXAMPLES AND INTERNATIONAL POLICY EXAMPLES emphasize the continued importance of international perspectives and policy, such as:
• Looking for Hard-to-Find Items in Venezuela? Ask for the Bachaqueros
• How African Nations Are Developing Comparative Advantages in Agriculture
Figure 32-6 shows that the formation of regional trade blocs, in which the European Union and the United States are often key participants, is on an upswing. An average African nation participates in four separate regional trading agreements. A typical Latin American country belongs to eight different regional trade blocs.
All of these are new to this edition and each has three references from which the information was obtained (these references can be found at the back of each chapter).
In the past, economists worried that the formation of regional trade blocs could mainly result in trade diversion, or the shifting of trade from countries outside a regional trade bloc to nations within a bloc. Indeed, a study by Jeffrey Frankel of Harvard University found evidence that some trade diversion does take place. Nevertheless, Frankel and other economists have concluded that the net effect of regional trade agreements has been to boost overall international trade, in some cases considerably.
we cannot determine how much service we pay for during any one year.
WHAT IF? FEATURES in each chapter aim to help students think critically about important real-world questions through the eyes of an economist. All of these are new.
• What If…the government engages in policies that force down the price of an item subject to external benefits while leaving its supply curve’s position unchanged?
• What If… joining a new regional trade bloc shifts existing trade to countries within that bloc and away from countries in another regional trade bloc?
YOU ARE THERE FEATURES demonstrate to students how real people in the real world react to changes in our economic environment and to policy changes. All of these are new.
• Reducing the Opportunity Cost of Waiting in Gridlocked Traffic, at a Price
VOTING VERSUS SPENDING In the private market sector, a dollar voting system is in effect. This dollar voting system is not equivalent to the voting system in the public sector. There are at least three differences:
1. In a political system, one person gets one vote, whereas in the market system, each dollar a person spends counts separately.
2. The political system is run by majority rule whereas the market system is run by proportional rule
3. The spending of dollars can indicate intensity of want, whereas because of the all-or-nothing nature of political voting, a vote cannot.
Political outcomes often differ from economic outcomes. Remember that economic efficiency is a situation in which, given the prevailing distribution of income, consumers obtain the economic goods they want. There is no corresponding situation when political voting determines economic outcomes. Thus, a political voting process is unlikely to lead to the same decisions that a dollar voting process would yield in the marketplace. Indeed, consider the dilemma every voter faces. Usually, a voter is not asked to decide on a single issue (although this happens). Rather, a voter is asked to choose among candidates who present a large number of issues and state a position on each of them. Just consider the average U.S. senator, who has to vote on several thousand different issues during a six-year term. When you vote for that senator, you are voting for a person who must make thousands of decisions during the next six years.
MyEconLab Concept Check MyEconLab Study Plan
Noble Boykin, Jr., an attorney in Savannah, Georgia, is at his wit’s end. Each day, about eight freight trains pass along a three-mile stretch through the city near his law firm’s location. Locomotive operators blast their horns at each of the 24 rail crossings along the
MYECONLAB: PRACTICE, ENGAGE, AND ASSESS
MyEconLab is a powerful assessment and tutorial system that works hand-in-hand with Economics Today. MyEconLab includes comprehensive homework, quiz, test, and tutorial options, allowing instructors to manage all assessment needs in one program.
For the Instructor
• Instructors can select a prebuilt course option, which creates a ready-to-go course with homework and quizzes already set up. Instructors can also choose to create their own assignments and add them to the preloaded course. Or, instructors can start from a blank course.
• All end-of-chapter problems are assignable and automatically graded in MyEconLab and, for most chapters, additional algorithmic, draw-graph, and numerical exercises are available to choose among.
• Instructors can also choose questions from the Test Bank and use the Custom Exercise Builder to create their own problems for assignment.
• The powerful Gradebook records each student’s performance and time spent on the Tests and Study Plan, and generates reports by student or by chapter.
• Math Review Exercises in MyEconLab. MyEconLab now offers a rich array of assignable and auto-graded exercises covering fundamental math concepts geared for economics students. Aimed at increasing student confidence and success, the new math skills review Chapter R is accessible from the assignment manager and contains over 150 graphing, algebra, and calculus exercises for homework, quiz, and test use.
• Real-Time Data Analysis Exercises are marked with and allow instructors to assign problems that use up-to-the-minute data. Each RTDA exercise loads the appropriate and most currently available data from FRED®, a comprehensive and up-to-date data set maintained by the Federal Reserve Bank of St. Louis. Exercises are graded based on that instance of data, and feedback is provided.
• In the eText available in MyEconLab , select figures labeled Real-Time Data now include a pop-up graph updated with real-time data from FRED®.
• Current News Exercises provide a turn-key way to assign gradable news-based exercises in MyEconLab. Every week, Pearson scours the news and finds micro- and macroeconomic news stories (articles and videos), creates an accompanying exercise, and then posts it all to MyEconLab courses for possible assignment. Assigning and grading current news-based exercises that deal with the latest micro and macro events and policy issues has never been more convenient.
• Experiments in MyEconLab are a fun and engaging way to promote active learning and mastery of important economic concepts. Pearson’s experiments program is flexible and easy for instructors and students to use.
– Single-player experiments allow your students to play an experiment against virtual players from anywhere at any time with an Internet connection.
– Multiplayer experiments allow you to assign and manage a real-time experiment with your class. In both cases, pre- and post-questions for each experiment are available for assignment in MyEconLab.
Digital Interactives help to facilitate experiential learning through a set of interactives focused on core economic concepts. Fueled by data, decision-making, and personal relevance, each interactive progresses through a series of levels that build on foundational concepts, enabling a new immersive learning experience. The flexible and modular set-up of each interactive makes digital interactives suitable for classroom presentation, auto-graded homework, or both.
Learning Catalytics™ is a technology that has grown out of twenty years of cutting-edge research, innovation, and implementation of interactive teaching and peer instruction. Learning Catalytics is a “bring your own device” student engagement and classroom intelligence system. With Learning Catalytics you can:
• Engage students in real time, using open-ended tasks to probe student understanding.
– Students use any modern Web-enabled device they already have — laptop, smartphone, or tablet.
– Eighteen different question types include: word clouds; graphing; short answer; matching; multiple choice; highlighting; and image upload.
– Address misconceptions before students leave the classroom.
– Understand immediately where students are and adjust your lecture accordingly.
• Improve your students’ critical-thinking skills.
• Engage with and record the participation of every student in your classroom.
• Learning Catalytics gives you the flexibility to create your own questions to fit your course exactly or choose from a library of Pearson-created questions.
For more information, visit learningcatalytics.com
Dynamic Study Modules: Dynamic Study Modules continuously assess student performance on key topics in real time. Dynamic Study Modules exist for every chapter to provide additional practice for students around key concepts.
For the Student
Students are in control of their own learning through a collection of tests, practice, and study tools. Highlights include:
• Two Sample Tests per chapter are preloaded in MyEconLab, enabling students to practice what they have learned, to test their understanding, and to identify areas for further work.
• Based on each student’s performance on homework, quizzes, and tests, MyEconLab generates a Study Plan that shows where the student needs further study.
• Learning Aids, such as step-by-step guided solutions, a graphing tool, content-specific links to the eText, animated graphs, and glossary flashcards, help students master the material.
To learn more, and for a complete list of digital interactives, visit www.myeconlab.com
SUPPLEMENTAL RESOURCES
Student and instructor materials provide tools for success.
Test Bank (Parts 1, 2, and 3) offer more than 10,000 multiple-choice and short answer questions, all of which are available in computerized format in the TestGen software. The significant revision process by author Jim Lee of Texas A&M University–Corpus Christi and accuracy reviewer Conor Molloy of Suffolk County Community College ensure the accuracy of problems and solutions in these revised and updated Test Banks. The Test Bank author has connected the questions to the general knowledge and skill guidelines found in the Association to Advance Collegiate Schools of Business (AACSB) assurance of learning standards.
The Instructor’s Manual, prepared by Jim Lee of Texas A&M University–Corpus Christi, includes lectureready examples; chapter overviews; objectives; outlines; points to emphasize; answers to all critical analysis questions; answers to all end-of-chapter problems; suggested answers to “You Are There” questions; and selected references.
PowerPoint lecture presentations for each chapter, revised by Jim Lee of Texas A&M University—Corpus Christi, include figures, key terms, and concepts from the text.
Clicker PowerPoint slides allow professors to instantly quiz students in class and receive immediate feedback through Clicker Response System technology.
The Instructor Resource Center puts supplements right at instructors’ fingertips. Visit www.pearsonhighered.com/irc to register.
Economics Today, 19th edition, is available as an eBook and can be purchased at most eBook retailers.
ACKNOWLEDGMENTS
I have been blessed for many years with a continuing set of suggestions sent to me by adopters of Economics Today To those of you who have sent me ideas, comments, and criticisms, I hope you will be satisfied with this revision. In addition, my publisher has asked some professors to participate in a more detailed reviewing process. I list them below. To all of you, please accept my appreciation for the great work that you have done.
Austin Boyle, Pennsylvania State University, University Park
William Burrows, Lane Community College
Steven Capolarello, West Chester University
David Ching, University of Hawaii, Honolulu
Richard Croxdale, Austin Community College
Aref Hervani, Chicago State University
Scott Hunt, Columbus State Community College
Michael Kaluya, Tarrant County College
Michele Kegley, University of Cincinnati
I also thank the reviewers of previous editions:
William Kent Lutz, University of Cincinnati Blue Ash
Brian Lynch, Lake Land College
Brian Macfie, Arizona State University
Kenneth Rebeck, St. Cloud State University
Annette Redmon, University of Cincinnati
Patricia Turco, Milwaukee Area Technical College
Jacqueline Ward, Northeastern Illinois University
Michael Youngblood, Rock Valley College
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For this 19th Edition of Economics Today , I was fortunate to have production management undertaken by Kathy Smith for our production house, Cenveo® Publisher Services. Her thoroughness went beyond the call of duty and I do thank her for that. At Pearson, Michelle Zeng oversaw management of this project. I greatly appreciated her professionalism.
The revised design was created by Cenveo® Publisher Services. They were able to keep it tasteful and clear. Copyediting was expertly handled by Bonnie Boehme. Thank you, Bonnie, for catching some inadvertent slips. Sheila Joyce was my great proofreader on this edition; I appreciate her thorough work. Tricia Murphy has been responsible for a superb job of product marketing for this edition. My appreciation goes out to her.
The continuing improvements to MyEconLab were accomplished by Melissa Honig and Courtney Kamouf. It remains the industry leader in online learning and instruction.
Jim Lee continued to revise and improve the three test banks. As always, the Instructor’s Manual was fully revised by Jim Lee. My faithful, long-standing, and amazingly accurate “super reviewer,” is Professor Dan Benjamin of Clemson University. He knows how much I appreciate his great work. My assistant, Sue Jasin, was responsible for the many drafts of all of the updated and revisions, particularly the new Issues and Applications, other features, and examples. Thank you for “burning the midnight oil.”
I do welcome ideas and criticisms from professors and students alike and hope that you enjoy the latest edition of Economics Today
R.L.M.
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The Nature of Economics
Just two decades ago, about a third of women with medical or doctoral degrees and aged 40 to 44 were childless, but today this fraction has fallen to a fifth. In addition, twenty years ago less than half of women holding a master’s degree had two or more children, whereas now 60 percent are rearing multiple children. What accounts for the increased willingness of women with higher levels of education to bear children? In this chapter, you will learn that the answer lies in altered incentives to bear and raise children. Incentives, you will discover, play a crucial role in influencing all of the economic choices that people make, including decisions about whether to become parents.
LEARNING OBJECTIVES
After reading this chapter, you should be able to:
1.1 Define economics and discuss the difference between microeconomics and macroeconomics
1.2 Identify the three basic economic questions and the two opposing sets of answers
1.3 Evaluate the role that rational self-interest plays in economic analysis
1.4 Explain why economics is a science
1.5 Distinguish between positive and normative economics
MyEconLab helps you master each objective and study more efficiently. See the end of the chapter for details.
Incentives
Rewards or penalties for engaging in a particular activity.
married people typically are healthier individuals? Careful study of the relationship between marriage and health indicates that for young people, better health raises the probability of getting hitched. Individuals who experience good health are more likely to meet, fall in love, and marry. Researchers have found that for people over the age of 39, however, married couples benefit from a “protective effect,” in which the state of being married generates better health than that experienced by unmarried people. As a consequence, the probability of a married person living to the next year is higher than an unmarried individual’s probability of surviving another year. This survival-probability differential rises as people age. The main reason for this protective effect is that marriage alters a couple’s behavior. A caring marital partner whose self-interested goal is to maintain a long-term relationship with another individual naturally desires to promote a lengthy lifespan for that person. Thus, the partner encourages that person to make more healthful choices regarding eating habits, monitors the individual’s health for signs of problems that might require care, and offers reminders for the individual to obtain regular physician checkups.
In this chapter, you will learn why contemplating the nature of self-interested responses to incentives is the starting point for analyzing choices people make in all walks of life. After all, how much time you devote to studying economics in this introductory course depends in part on the incentives established by your instructor’s grading system. As you will see, self-interest and incentives are the underpinnings for all the decisions you and others around you make each day.
1.1 Define economics and discuss the difference between microeconomics and macroeconomics
The Power of Economic Analysis
Simply knowing that self-interest and incentives are central to any decision-making process is not sufficient for predicting the choices that people will actually make. You also have to develop a framework that will allow you to analyze solutions to each economic problem—whether you are trying to decide how much to study, which courses to take, whether to finish school, or whether the U.S. government should provide more grants to universities or raise taxes. The framework that you will learn in this text is the economic way of thinking
This framework gives you power—the power to reach informed judgments about what is happening in the world. You can, of course, live your life without the power of economic analysis as part of your analytical framework. Indeed, most people do. Economists believe, though, that economic analysis can help you make better decisions concerning your career, your education, financing your home, and other important matters.
In the business world, the power of economic analysis can help increase your competitive edge as an employee or as the owner of a business. As a voter, for the rest of your life you will be asked to make judgments about policies that are advocated by political parties. Many of these policies will deal with questions related to international economics, such as whether the U.S. government should encourage or discourage immigration or restrict other countries from selling their goods here.
Defining Economics
Economics
The study of how people allocate their limited resources to satisfy their unlimited wants.
Resources
Things used to produce goods and services to satisfy people’s wants.
Wants
What people would buy if their incomes were unlimited.
Economics is part of the social sciences and, as such, seeks explanations of real events. All social sciences analyze human behavior, as opposed to the physical sciences, which generally analyze the behavior of electrons, atoms, and other nonhuman phenomena.
Economics is the study of how people allocate their limited resources in an attempt to satisfy their unlimited wants. As such, economics is the study of how people make choices.
To understand this definition fully, two other words need explaining: resources and wants Resources are things that have value and, more specifically, are used to produce goods and services that satisfy people’s wants. Wants are all of the items that people would purchase if they had unlimited income.
Whenever an individual, a business, or a nation faces alternatives, a choice must be made, and economics helps us study how those choices are made. For example, you have to choose how to spend your limited income. You also have to choose how to spend your limited time. You may have to choose how many of your company’s limited resources to allocate to advertising and how many to allocate to new-product research. In economics, we examine situations in which individuals choose how to do things, when to do things, and with whom to do them. Ultimately, the purpose of economics is to explain choices.
Microeconomics versus Macroeconomics
MyEconLab Concept Check
Economics is typically divided into two types of analysis: microeconomics and macroeconomics.
Microeconomics is the part of economic analysis that studies decision making undertaken by individuals (or households) and by firms. It is like looking through a microscope to focus on the small parts of our economy.
Macroeconomics is the part of economic analysis that studies the behavior of the economy as a whole. It deals with economywide phenomena such as changes in unemployment, in the general price level, and in national income.
Microeconomic analysis, for example, is concerned with the effects of changes in the price of gasoline relative to that of other energy sources. It examines the effects of new taxes on a specific product or industry. If the government establishes new health care regulations, how individual firms and consumers would react to those regulations would be in the realm of microeconomics. The effects of higher wages brought about by an effective union strike would also be analyzed using the tools of microeconomics.
In contrast, issues such as the rate of inflation, the amount of economywide unemployment, and the yearly growth in the output of goods and services in the nation all fall into the realm of macroeconomic analysis. In other words, macroeconomics deals with aggregates, or totals—such as total output in an economy.
Be aware, however, of the blending of microeconomics and macroeconomics in modern economic theory. Modern economists are increasingly using microeconomic analysis—the study of decision making by individuals and by firms—as the basis of macroeconomic analysis. They do this because even though macroeconomic analysis focuses on aggregates, those aggregates are the result of choices made by individuals and firms.
What change in the world of work has both microeconomic and macroeconomic effects?
Microeconomic and Macroeconomic Implications of the Gig Economy
In years past, most people seeking income-generating labor employment applied for positions with firms that offered on-going wages and benefits such as employer-provided pension or health care plans. Today, however, about one-third of the nearly 160 million people deemed to be “employed” participate in what many observers call the gig economy—a setting in which people receive fixed payments for performing specific short-term tasks, or “gigs.”
From a microeconomic perspective, the development of this gig economy has altered the decision-making process for many individuals and firms. Rather than receiving hourly wages and on-going
Microeconomics
The study of decision making undertaken by individuals (or households) and by firms.
Macroeconomics
The study of the behavior of the economy as a whole, including such economywide phenomena as changes in unemployment, the general price level, and national income.
Aggregates
Total amounts or quantities. Aggregate demand, for example, is total planned expenditures throughout a nation.
SELF CHECK
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benefits, gig workers receive multiple contractual payments. Then these workers must choose how to allocate their income to any items they wish to buy, including pension or health care services. Instead of allocating funds for wage or salary payments, firms now devote resources to staffing short-term projects. Resources that previously had been devoted to managing full-time employees have been shifted to the coordination of tasks provided by a wide range of freelancers providing services under terms of short-horizon contracts.
From a macroeconomic viewpoint, expansion of the gig economy during the past decade has contributed to a rise in the part-time share (continued )
of employment from less than 17 percent less than a decade ago to above 20 percent today. As a consequence, economists now debate whether the overall U.S. economy has really moved closer to being “fully employed” given that many of the new “jobs” that people recently have acquired are held by part-time freelance workers.
1.2 Identify the three basic economic questions and the two opposing sets of answers
Economic system
A society’s institutional mechanism for determining the way in which scarce resources are used to satisfy human desires.
FOR CRITICAL THINKING
Why do you suppose that economists sometimes disagree about whether to classify freelancers who provide paid consulting services to businesses as “workers” or “firms”?
Sources are listed at the end of this chapter.
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The Three Basic Economic Questions and Two Opposing Sets of Answers
In every nation, three fundamental questions must be addressed irrespective of the form of its government or who heads that government, how rich or how poor the nation may be, or what type of economic system—the institutional mechanism through which resources are utilized to satisfy human wants—has been chosen.
The Three Basic Questions
The three fundamental questions of economics concern the problem of how to allocate society’s scarce resources:
1. What and how much will be produced? Some mechanism must exist for determining which items will be produced while others remain inventors’ pipe dreams or individuals’ unfulfilled desires.
2. How will items be produced? There are many ways to produce a desired item. It is possible to use more labor and fewer machines, or vice versa. It is possible, for instance, to produce an item with an aim to maximize the number of people employed. Alternatively, an item may be produced with an aim to minimize the total expenses that members of society incur. Somehow, a decision must be made about the mix of resources used in production, the way in which they are organized, and how they are brought together at a particular location.
3. For whom will items be produced? Once an item is produced, who should be able to obtain it? People use scarce resources to produce any item, so typically people value access to that item. Thus, determining a mechanism for distributing produced items is a crucial issue for any society.
Now that you know the questions an economic system must answer, how do current systems actually answer them? MyEconLab Concept Check
Two Opposing Sets of Answers
At any point in time, every nation has its own economic system. How a nation’s residents go about answering the three basic economic questions depends on that nation’s economic system.
CENTRALIZED COMMAND AND CONTROL Throughout history, one common type of economic system has been command and control (also called central planning) by a centralized authority, such as a king or queen, a dictator, a central government, or some other type of authority. Such an entity assumes responsibility for addressing fundamental economic issues. Under command and control, this authority decides what items to produce and how many, determines how the scarce resources will be organized in the items’ production, and identifies who will be able to obtain the items.
