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Understanding Economic Mechanisms

The key players in an economy are buyers and sellers who exchange goods, services, and financial assets for money or credit in free markets. This exchange is called capital formation. Productivity is measured by comparing the amount of goods and services produced with the inputs used. The short-term debt cycle is controlled by central banks that tighten or ease monetary policy based on inflation levels. The long-term debt cycle has three phases - leveraging, depression, and reflation - and is driven by rising and unsustainable debt levels over decades. Firms produce and sell goods to generate revenue, while households buy goods and provide factors of production to earn income, demonstrating how economic activity flows between these groups.

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31 views7 pages

Understanding Economic Mechanisms

The key players in an economy are buyers and sellers who exchange goods, services, and financial assets for money or credit in free markets. This exchange is called capital formation. Productivity is measured by comparing the amount of goods and services produced with the inputs used. The short-term debt cycle is controlled by central banks that tighten or ease monetary policy based on inflation levels. The long-term debt cycle has three phases - leveraging, depression, and reflation - and is driven by rising and unsustainable debt levels over decades. Firms produce and sell goods to generate revenue, while households buy goods and provide factors of production to earn income, demonstrating how economic activity flows between these groups.

Uploaded by

bhavya mishra
Copyright
© All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PPTX, PDF, TXT or read online on Scribd

HOW ECONOMY WORKS

ECONOMIC PLAYER’S
 The key players of economy are the BUYER & SELLER.
 BOTH the players buy and sell –
1) goods and services,
2) financial assets, and they can pay for them with either-
a) money or b) credit.
In a market-based system, this exchange takes place through free choice – i.e., there are
“free markets” in which buyers and sellers of goods, services and financial assets make
their transactions in pursuit of their own interests. The production and purchases of
financial assets (i.e., lending and investing) is called “capital formation’’
PRODUCTIVITY GROWTH
 Physical productivity
 Is the quantity of output produced by one unit of production input in a unit of time. For
example, a certain equipment can produce 10 tons of output per hour.

  Economic productivity is the value of output obtained with one unit of input.
 Productivity is measured by comparing the amount of goods and services produced
with the inputs which were used in production.
 Labor productivity is the ratio of the output of goods and services to the labor hours
devoted to the production of that output.
SHORT TERM DEBT CYCLE
 The short-term debt cycle, also known as the business cycle, is primarily controlled by
central banks that –
a) Tighten economy when inflation is too high and/or rising uncomfortably.
b) Ease when the reverse conditions exist.
PHASES OF STDC
EXPANSION PHASE- In this phase, actual or anticipated acceleration of inflation
prompts the Fed to turn restrictive.
RECESSION PHASE- In this phase central bank eases monetary policy as inflation
concerns subside and recession concerns grow. So interest rates decline and the lower
interest rates cause stock prices to rise while commodity prices and inflation-hedge assets
continue to be weak. The lower interest rates and higher stock prices set the stage for the
expansion part of the cycle to begin.
LONG TERM DEBT CYCLE
 When debts and spending rise faster than money and income, the process is self reinforcing on
the upside because rising spending generates rising incomes and rising net worth ,which raise
borrowers’ capacity to borrow, which allows more buying and spending.
According to Dalio, the long-term debt cycle has three phases.
 1. Leveraging- This phase takes about 50 years. The economy sees debt and incomes
rising. .
 2. Depression- This phase lasts about two to three years. The economy’s total debt burden
becomes unsustainable, leading to a crash. This crash usually occurs when the rise in debt
repayment outpaces the rise in income, forcing a cutback on spending. Where- Stock
markets crash, Asset prices drop, Credit disappears, Banks are squeezed, Incomes fall,
People cut spending.
 3. Reflation- This phase lasts about seven to ten years.
In a recession, the economy can be revived by lowering interest rates. This means debt would
rise.
 However, in deleveraging, interest rates are already at (or near) zero, and the economy’s
debt is already huge. So the economy looks to deleverage rather than generate more debt.
Revenue generated
MARKET FOR G&S Spending
*Firm sells
* Households buys
Goods &
Goods & services services are
sold. brought.

How economy HOUSEHOLDS


FIRMS *Buy & Consume G & S
*Produce & sell G & S works *Own and Sell Factors of
*Hire & Use factors of production. production.

Factors of MARKET FOR FACTORS


Land labor &
production OF PROUCTION capital.
*Households sells.
*Firms Buy
Wages and rent Income.
NOTE-

 When household intends to SPEND, goods & services are brought out from market.
 When firm produces and sell, it generates REVENUE FOR BUSINESS.
 When factors of production are sell, leased or hire in return business/ firms pay rent
,wages or salary.
 When people owns factors of production it generate INCOME for them.

This is how the economy cycle goes on ..


PREPARED BY-
BHAVYA MISHRA
MBA-I SEM

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