*Chapter Two

**
Understanding
How
Economics
Affects
Business

McGraw-Hill/Irwin Copyright © 2010 by the McGraw-Hill Companies, Inc. All rights reserved.
 *
MUHAMMAD YUNUS Profile
Grameen Bank
*

• Offers microcredits
(very small loans) to
the poor to start their
own businesses.

• Won the Nobel Peace

Prize in 2006.
 *
The MAJOR BRANCHES of What Is
Economics?
ECONOMICS
LG1
*
• Economics -- The study of how society employs
resources to produce goods and services for
consumption among various groups and individuals.
• Macroeconomics -- Concentrates on the
operation of a nation’s economy as a whole.
• Microeconomics -- Concentrates on the behavior
of people and organizations in markets for particular
products or services.
 *
What Is
RESOURCE DEVELOPMENT Economics?

LG1
*
• Resource Development -- The study of how to
increase resources and create conditions that will
make better use of them.
 *
EXAMPLES of WAYS to What Is
Economics?
INCREASE RESOURCES LG1
*
• New energy sources
– Hydrogen fuel
• New ways of growing
foods
– Hydroponics
• New ways of creating
goods and services
– Mariculture
– Nanotechnology
 *
MORE PROFITS FROM the
GREEN REVOLUTION
(Thinking Green) *
• The public’s concern with
global warming contributed to
the success of the Toyota
Prius.
• Farmers are growing more corn
and other crops to use for
biofuels.
• What can you do to help lower
carbon emissions?
 Video-Chapter 2
• Opportunity International
• 1. Why is there a need for organizations like
Opportunity International? Can’t poor people
get loans from banks and other sources?
• 2. What role could you play in helping less
developed countries grow and prosper? Would
you be interested in donating money or time
to Opportunity International or some other
nonprofit organization? Where would you find
more information?
 *The Secret to
THOMAS MALTHUS and Creating a
Wealthy
the DISMAL SCIENCE Economy
LG1
*
• Malthus believed that if the rich had most of the
wealth and the poor had most of the population,
resources would run out.
• This belief led the writer Thomas Carlyle to call
economics “The Dismal Science.”
• Neo-Malthusians believe there are too many
people in the world and believe the answer is
radical birth control.
 *The Secret to
Creating a
POPULATION as a RESOURCE Wealthy
Economy
LG1
*
• Contrary to Malthus, some economists believe a
large population can be a resource.
- An educated population is a highly valuable.
- Business owners provide jobs and economic
growth for their employees and communities as
well as for themselves.
 *
ADAM SMITH the Adam Smith &
the Creation of
FATHER of ECONOMICS Wealth
LG1
*
Smith believed that:
• Freedom was vital to any
economy’s survival.
• Freedom to own land or
property and the right to
keep the profits of a
business is essential.
• People will work hard if they
believe they will be
rewarded.
 *
How Businesses
The INVISIBLE HAND THEORY Benefit the
Community
LG1
*

• As people improve their own situation in life,

they help the economy prosper through the
production of goods, services and ideas.
• Invisible Hand -- When self-directed gain leads to
social and economic benefits for the whole
community.
 *
UNDERSTANDING the How Businesses
Benefit the
Community
INVISIBLE HAND THEORY LG1
*
• A farmer earns money by
selling his crops.
• To earn more, the farmer hires
farmhands to produce more
crops.
• When the farmer produces
more, there is plenty of food
for the community.
• The farmer helped his
employees and his community
while helping himself.
 *
CORRUPTION DESTROYS
ECONOMIES
(Making Ethical Decisions) *
• In many countries, a businessperson must bribe
the government to gain permission to own land,
build and conduct business operations.

• Imagine you are a restaurant owner in need of a

liquor license, but have been unable to get one. You
know people in government. Would you be tempted
to make large contributions to their re-election
campaign to receive that license?
 *Understanding
CAPITALISM Free-Market
Capitalism
LG2
*
• Capitalism -- All or most of the land, factories and
stores are owned by individuals, not the
government, and operated for profit.

• Countries with capitalist foundations:

- United States
- England
- Australia
- Canada
 *
The KEY to CAPITALISM
is CAPITAL
(Spotlight on Small Business) *
• FINCA lent Pros Magaga, a shop owner in
Uganda, $50 to buy supplies that increased her
store’s profits.
• Magaga was able to pay the $50 back so can now
borrow more money.
• FINCA has loaned more than $447 million to over
600,000 micro-entrepreneurs in some of the
world’s poorest countries.
• Its borrowers have a 97.6 percent loan repayment
rate.
 *
CAPITALISM’S The Foundations
of Capitalism
FOUR BASIC RIGHTS
LG2
*
1. The right to own private property.
2. The right to own a business and keep all that
business’ profits.
3. The right to freedom of competition.
4. The right to freedom of choice.
 *
ROOSEVELT’S FOUR The Foundations
of Capitalism
ADDITIONAL RIGHTS LG2
*
1. Freedom of speech and
expression.
2. Freedom to worship in your
own way.
3. Freedom from want.
4. Freedom from fear.
 *
FREE MARKETS How Free
Markets Work

LG2
*
• Free Market -- Decisions about what and how
much to produce are made by the market.
• Consumers send signals about what they like
and how they like it.

• Price tells companies how much of a product

they should produce. If something is wanted but
hard to get, the price will rise until more products
are available.
 *
CIRCULAR FLOW MODEL How Free
Markets Work

LG2
*
 *
PRICING How Prices are
Determined

LG2
*
• A seller may want to sell
shirts for $50, but only a few
people may buy them at that
price.
• If the seller lowers the price to
$30, more people buy the
shirts.
• The seller establishes a price
of $30 based on what
consumers are willing to pay.
 *The Economic
SUPPLY CURVES Concept of
Supply
LG2
*
• Supply -- The quantities of products businesses are
willing to sell at different prices.
 *The Economic
DEMAND CURVES Concept of
Demand
LG2
*
• Demand -- The quantities of products consumers
are willing to buy at different prices.
 *The Equilibrium
EQUILIBRIUM Point or Market
Price
LG2
*
• Market Price (Equilibrium Point) -- Determined
by supply and demand, this is the negotiated price.
 *Competition
FOUR DEGREES Within Free
of COMPETITION Markets
LG2
*
1. Perfect Competition
2. Monopolistic Competition Someone
3. Oligopoly define
4. Monopoly these?
 *Benefits and
FREE MARKET BENEFITS and Limitations of
LIMITATIONS Free Markets
LG2
*
Benefits:
• It allows for open competition among companies.
• Provides opportunities for poor people to work
their way out of poverty.

Limitations:
• People may start to let greed drive them.
 *Benefits and
The GOVERNMENT NEEDS… Limitations of
Individual Tax Rates from Industrial Nations Free Markets
LG2
*

Source: The Economist, [Link] July 5, 2008.

 *
SOCIALISM Understanding
Socialism

LG3
*
• Socialism -- An economic system based on the
premise that some basic businesses, like utilities,
should be owned by the government in order to more
evenly distribute profits among the people.
• Entrepreneurs run smaller businesses
• Citizens are highly taxed
• Government is more involved in protecting the
environment and the poor
 *
SOCIALISM BENEFITS The Benefits of
Socialism

LG3
*
• Social equality
• Free education
• Free healthcare
• Free childcare
• Longer vacations
• Shorter work weeks
• Generous sick leave
 *The Negative
The NEGATIVES of SOCIALISM Consequences
of Socialism
LG3
*
• Few incentives for businesspeople to take risks.

• Brain Drain: Some of a countries best and brightest

workers (i.e. doctors, lawyers and business owners)
move to capitalistic countries.

• Fewer inventions and innovations because the

reward is not as great as in capitalistic countries.
 *
COMMUNISM Understanding
Communism

LG3
*
• Communism -- An economic and political system in
which the government makes almost all economic
decisions and owns almost all the major factors of
production.
• Prices don’t reflect demand which may lead to
shortages of items, including food and clothing.

• Most communist countries today suffer severe

economic depression and citizens fear the
government.
 *The Trend
TWO MAJOR Toward Mixed
ECONOMIC SYSTEMS Economies
LG4
*
• Free-Market Economies -- The market largely
determines what goods and services are
produced, who gets them, and how the economy
grows.

• Command Economies -- The government

largely determines what goods and services are
produced, who gets them, and how the economy
will grow.
 *The Trend
MIXED ECONOMIES Toward Mixed
Economies
LG4
*
• Mixed Economies -- Some allocation of resources
is made by the market and some by the government.

• Neither free-market nor command economies

have created sound economic conditions so
countries use a mix of the two economic systems.
 *The Trend
TRENDING TOWARD MIXED Toward Mixed
Economies
ECONOMIES LG4
*
• Communist governments are disappearing.

• Mostly socialist governments are cutting back on

social programs, lowering taxes and moving
toward capitalism.

• Mostly capitalist countries are increasing social

programs and moving toward more socialism.
 Activity
• Education Handout
 *
PROSPERING in
FOREIGN LANDS
(Reaching Beyond Our Borders)
*
• Yum Brands earns so much in
China that it reports its
Chinese earning separately.
• Yum is opening Taco Bell
stores in Mexico, calling its
fare “Es otra cosa” (It’s
something else).
• What issues might Yum
encounter while trying to sell
American products abroad?
 *
GROSS DOMESTIC PRODUCT Gross Domestic
Product

LG5
*
• Gross Domestic Product (GDP) -- Total value of
final goods and services produced in a country in a
given year. As long as a company is within a
country’s border, their numbers go into the country’s
GDP (even if they are foreign-owned).

• When the GDP changes, businesses feel the

effect.
• The high U.S. GDP (about $14 trillion) is what
enables us to enjoy a high standard of living.
 *
Gross Domestic
WHO’S RUNNING the WORLD Product
Share of Global GDP, %
LG5
*

Source: The Economist, [Link] July 5, 2008.

 *
The UNITED STATES GDP Gross Domestic
Product

LG5
*

Source: U.S. Bureau of Economic Analysis, [Link], March 2009.

 *
PLAYING CATCH UP Gross Domestic
Product
Countries Challenging the U.S. in GDP
LG5
*

Source: Fortune Magazine, [Link] July21, 2008.

 *The
UNEMPLOYMENT Unemployment
Rate
LG5
*
• Unemployment Rate -- The percentage of
civilians at least 16-years-old who are unemployed
and tried to find a job within the prior four weeks.
• Four Types of Unemployment
1. Frictional
2. Structural
3. Cyclical
4. Seasonal
 *The
UNEMPLOYMENT RATE of the U.S. Unemployment
Rate
LG5
*

Source: U.S. Bureau of Labor Statistics, [Link], March 2009.

 *
INFLATION Inflation and
Price Indexes

LG5
*
• Inflation -- The general rise in the prices of goods
and services over time.
• Disinflation -- When the price increases are slowing
(inflation rate declining).
• Deflation -- Prices are declining because too few
dollars are chasing too many goods.
• Stagflation -- Economy is slowing but prices are
going up.
 *
Inflation and
PRICE INDEX Price Indexes

LG5
*
• Consumer Price Index (CPI) -- Monthly statistics
that measure the pace of inflation or deflation.

• The government computes the costs of goods

and services (housing, food, apparel, medical
care, etc.) to see if they are going up or down.

• The wages, rent/leases, tax brackets,

government benefits and interest rates of some
citizens are based upon the CPI.
 *
Productivity in
PRODUCTIVITY the United States

LG5
*
• Productivity in the service sector grows slowly
because of less new technology.
• Productivity in the U.S. has risen due to the
technological advances that have made
production faster and easier.
 *
PRODUCTIVITY in the Productivity in
the Service
SERVICE SECTOR Sector
LG5
*
• The higher the productivity, the lower the costs of
producing goods and services. This helps lower
prices.
• New technology adds to the quality of the
services provided but not to the worker’s output.
• A new form of measurement needs to be created
to account for the quality as well as the quantity
of output.
 *
BUSINESS CYCLES The Business
Cycle

LG5
*
• Business Cycles -- Periodic rises and falls that
occur in economies over time.
• Four Phases of Long-Term Business Cycles:
1. Economic Boom
2. Recession – Two or more consecutive quarters
of decline in the GDP.
3. Depression – A severe recession.
4. Recovery – When the economy stabilizes and
starts to grow. This leads to an Economic Boom.
 *Stabilizing the
FISCAL POLICY Economy Through
Fiscal Policy

LG6
*
• Fiscal Policy -- The federal government’s efforts to
keep the economy stable by increasing or decreasing
taxes or government spending.

• Tools of Fiscal Policy:

- Taxation
- Government Spending
 *Stabilizing the
NATIONAL DEFICITS, DEBT Economy Through
Fiscal Policy
and SURPLUS LG6
*
• National Deficit -- The amount of money the
federal government spends beyond what it gathers
in taxes.
• National Debt -- The sum of government deficits
over time.
• National Surplus -- When government takes in
more than it spends.
 * Stabilizing the
WHAT’S OUR NATIONAL DEBT? Economy Through
Fiscal Policy

LG6
*
• The National Debt has reached over $11 trillion
(March 2009)

• If $1 bills were stacked, the National Debt would

would equal over 750,000 miles. The moon is
only 238,857 miles away.

• Follow the U.S. National Debt Clock here.

 *Stabilizing the
Economy Through
WHAT CAN a ____ DOLLARS BUY? Fiscal Policy

LG6
*
• A million dollars can buy an Egg McMuffin and a
large coffee for President Obama and 2,000
Secret Service members every day for six
months.

• A billion dollars can buy Egg McMuffins and large

coffees for them for 489 years.

• A trillion dollars can buy Egg McMuffins and

large coffees for them for 488,992 years.
 Want to…
• Balance the Budget?
Let’s see if you can 
 *Using Monetary
MONETARY POLICY Policy to Keep the
Economy Growing

LG6
*
• Monetary Policy -- The management of the
money supply and interest rates by the Federal
Reserve Bank (the Fed).

• The Fed’s most visible role is increasing and

lowering interest rates.
- When the economy is booming, the Fed tends to
increase interest rates.
- When the economy is in a recession, the Fed
tends to decrease the interest rates.
 Chapter 3 Worksheet
• Don’t forget…go to
• [Link]/robinargo if you don’t come
to class or can’t find your copy