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-Economic subjects: families (consumers), firms (producers) and government.
THE CIRCULAR- FLOW DIAGRAM:
-Families/Households buy and consume goods and services, paying a price for them. Own and sell factors of production and receive an income (wage) for them.
-Firms produce and sell goods and services (receiving a price for them) and hire factors of production (paying a price for them).
-In the markets for goods and services, the families buy and the firms sell.
-In the markets for factors of production, the families sell and the firms buy.
-The factors of production are the inputs used to produce goods and services (land, labour, capital and entrepreneurship).
FAMILIES AND FIRMS:
-Free markets allocate the goods to the families who value them most highly
(measured by their willingness to pay).
-Free markets allocate the production of the goods to the firms that can produce at
minimum costs.
-Free markets produce the quantity of goods that maximize the social benefit (= consumer benefit + producer benefit).
-The interaction of families and firms in the market benefits both. (win-win,efficient)
-The families obtain the consumer benefit (=value to buyers – amount paid by buyers).
-The firms obtain the producer benefit (=amount received by firms – costs of
production).
GOVERNMENT:
-The market outcome is an efficient allocation of resources and the government could leave it as it is found (laissez faire policy).
-Sometimes markets fail (externalities, public goods …) and the government can try to improve the situation. The market outcome can be considered without equity and
government steps in to correct it (interventionism).
FACTORS OF PRODUCTION:
-Production of any good or service requires resources. These resources are divided into four categories: land, labour, capital and entrepreneurship (known as the factors of production).
LAND:
-Refers to the natural resources required in the production process (such as oil, coal, water, wood, metal ores and agricultural products).
LABOUR:
-Refers to the human resources required in the production process (such as skilled and unskilled labour).
CAPITAL:
-Refers to the manufactured resources required in the production process (such as machinery, tools, equipment and vehicles).
ENTREPRENEURSHIP:
Refers to the skills a business person requires to combine and manage successfully the other three factors of production and the ability to undertake risk.
ECONOMY SYSTEM:
Three Types of Economies:
Market Economies (capitalism):
Resources are owned and controlled by individuals.
Economic decisions are made by individuals competing to earn profits.
Individual freedom is considered very important.
Economic decisions are made by the basic principles of supply and demand.
Profit is the motive that guides firms in their attempts to serve the consumers.
Also called capitalist economies.
There is a lot of economic freedom.
There is competition among businesses.
Competition determines price which increase the quality of the product.
Planned Economies(communism)/Command Economies:
The government or other central authority makes decisions and determines how resources will be used (planned economies).
There is no private property, nor markets, nor supply and demand, nor prices.
There is little individual freedom.
There is no competition.
Businesses are not run to create a profit.Command Economies.
Consumers have few choices in the marketplace.
Factories are concerned with quotas.
Shortages are common because of poorly run factories and farms (scarcity).
The government dictates the job in which you work.
The government sets the prices of goods and services.
Examples of command economies: Cuba and North Korea.
Mixed Economies (welfare state):
Private property is allowed, but the government takes an active role in society.
It does mean that the ratio public spending / GDP is high (31% USA, more than 40% Spain, 50% Germany, 55% France, 57% Sweden …).
It involves that the government commits itself to provide public education, public health, public pensions … (Welfare state).
In monetary terms, the Central Bank fixes interest rates, monetary supply and takes control of commercial banks in orchestrating credit expansion.
FUNDAMENTAL ECONOMIC QUESTIONS:
What production should take place?
This question is about deciding which goods and services should be provided in the economy.
How should production take place?
This question is about the methods and processes used to produce the desired goods and services. (Combination of factors of production)
For whom should production take place?
This question is about which economic agents receive goods and services.
KARL MARX:
Karl Marx is the author of “Das Kapital” (1867) and is the father of planned economy or communism. He claimed that the labour was the unique source of value and that capitalists took it away from workers (theory of class struggle). In a planned economy there is no private property and all belongs to the state, that decides for you what to study, where to work and whether you have a right to life.
JOHN MAYNARD KEYNES:
Keynes was the author of the “General Theory” (1936) and the father of mixed economy. He mistrust free market for reaching full employment and supported the role of government to interfere society both fiscal and monetary. The former involves public spending, deficits and huge debts and the latter the creation of money, and fixing interest rates artificially low and the expansion of credit.
RICHARD CANTILLON:
Recent research has discovered that Richard Cantillon (1680-1734) can be considered the “father” of the free market economy with his work “Essay sur la nature du commerce en général”. He was the first to understand the effects of the increment in the quantity of money (inflation) and the process involving changes in the relative prices and distributing the income unfairly.