Lecture 1 Economic History Neolithic Period ? 12-13k years ago Created civilization ? Settled Life ? Mesopotamia First Agricultural Revolution ? Biological Revolution at the end of the last ice age Wheat Water ? Wheat came from cross breading of wild goat grasses which created a fertile hybrid ? Wheat is capable of being harvested ? Problem was that wheat had a loose ear and long whisker ? Mutation of one chromosome created another kind of wheat with a tighter ear ? Wheat became our food ? Plant can?t move by itself and needs to be tended by humans Another Reason for being nomadic is we followed the animals ? Once started settling we started domesticating animals ? Dogs, Sheep & Goats ? Dogs helped hunting ? Sheep and Goats were being herded. Lecture 2 Accumulation ? means a community has a stored surplus ? so instead of living day to day, we could prepare for the future and also sense they were settled they could defend the food supply and surplus Life for a Nomad is the same every day ? Have to take sheep and goats a certain distance every day ? Nomads still exist today ? every summer they have to take their sheep and goats up into the mountains to feed. Any tribe without a surplus as Nomads women try to space their children so that the youngest one can make a full day?s journey by itself because the woman cannot take care of two children at a time ? tribe cannot wait because then they will all die ? if the child cannot keep up then the child is left to die ? which is why surplus is important Tools ? Teeth of the jawbone of animal used to saw the wheat Emmer ? Bread Wheat we still have today ? one of the most important types of Wheat Surplus begins to accumulate which leads to a number of problems and improvements In a sense warfare is a direct result of accumulation ? warfare is organized theft Theft was not a problem with nomads due to not being able to take it with you If you do conquer someone then you must occupy that space and tend to the crops/land Water ? The Fertile Crescent ? Land that was fertile in Mesopotamia due to the water Mesopotamia ? Iraq, Turkey, Syria The Tigress & Euphrates River is the main source of water Accumulation ? Economic Surplus ? How is it used? If you need everything you grow then it?s obvious that you eat all of it ? when there is leftover that is the accumulation ? today accumulation is known as savings What did they do with their savings? They built pyramids in Egypt / Meso-America Alternative uses? They could have done something else with that entire surplus ? enough food to feed a population of people so those people wouldn?t have to grow food ? which is when people became workers, builders, artists, thinkers, etc. Medieval Era (500 ? 1400 AD) Feudalism ? North Western Europe Second Agricultural Revolution (900 ? 1500 AD) Stirrup ? first invented as a tow stirrup, made out of rope / hemp (500 bc) - Arrives in Western Europe around 600 ? 700 ad and some are now made of metal ? metal stirrup is important in cavalry and any time while riding a horse especially in warfare ? these big muscular heavy boned horses needed for these heavy metal stirrups help push along the second Agricultural Revolution Horse Collar invention ? Early rigging of a horse to a load ? An ox-type of yoke harness cuts into the horse?s wind pipe and jugular ? 2 horses could do the work of 6 to 8 oxen which was a huge economic revolution of enormous proportion ? with many less input can have the same output Horse Power ? Still related to today ? Horsepower especially in Western Europe surpasses oxen power; first in the northern part of Europe Mediterranean Scratch Plow only got the top layer of dirt European Heavy Plow cuts down into the soil and turns it over which is needed to farm a damp soil Northern Europe all damp and moist capable of producing small grains ? Oats included and Horses like Oats At this time we begin to see a redundancy in Human labor as they are not needed in agriculture which is when we start moving into cities and small towns 3 Field Crop Rotation is final part of the revolution ? Plow all Two Field Crop Rotation: Field one 300 Acres -- Wheat ? Year 1, Fallow ? Year 2 Field two 300 Acres -- Fallow ? Year 1, Wheat ? Year 2 Plowing 300 + (300 x 2) = 900 Acres ? Crop of 300 Acres ? Ratio 300/900 = .33 Three Field Crop Rotation: Field one 200 Acres ? Wheat ? Year 1, Legume ? Year 2, Fallow ? Year 3 Field two 200 Acres ? Legume ? Year 1, Fallow ? Year 2, Wheat ? Year 3 Plowing 200 + 200 + (200 x 2) = 800 Acres ? Crop of 400 Acres ? Ratio 400/800 = .50 75 Acres more land can be brought into production with the same amount of work with 3 field rotation The Legume returns nitrogen back into the soil, with a scratch plow the field needs to be plowed like a checkerboard Accumulation ? Economic Surplus What do they do with it? ? Built cathedrals, churches & castles ? Stone masons became very important, today they are the Free Masons Problem with everyone having their own cathedral ? each cathedral needed their own icons/saints. Popular night time activity was to go to another town/cathedral and steal icons Lecture 3 Scientific Revolution (1500 ? 1700 AD) ? Also a social revolution The revolutions of Heavenly Bodies ? Nicolaus Copernicus ? Earth not being the center of things Why should the government have its expenditures equal its revenue on a yearly basis? Made sense when we were an agricultural nation/civilization ? if the seeds are less than surplus then you are in a world of hurt Agriculture is not as big of a part of the economy ? -Astronomy, Physics and Mathematics Industrial Revolution (circa 1750AD) began in Great Brittan Steam engine is thought to be the beginning of the Industrial Revolution Lunar Society of Birmingham Wedgewood famous for inventing a more accurate thermometer, Bolton ? steam engine, Wilkinson ? Iron Soap, Cotton underwear, things that brought simple dignities to life British and Swiss mainly invented toys for amusement of upper classes The Marriage of Figaro ? Play ? Scandal, banned ? 3 years after which the French Revolution took place Third Agricultural Revolution (1794 ? Present) Iron plow allowed the prairies to be farmed Mechanical Reaper ? before which a Scythe and Cradle was used to harvest the crop ? McCormick and Hussie solved the problem by figuring out how a machine would have to do it ? Like the horse collar of the Second Agricultural Revolution Paris Exhibition 1854 - Wheat Thresher Contest Six men with flails ? 60 liters of wheat Belgian thresher ? 150 liters French thresher ? 250 liters English thresher ? 410 liters US thresher ? 740 liters Combine combines a mechanical reaper with a thresher and now they are self-propelled Right around 1900 in the United States the population of the US is half Urban industrial and half Rural agricultural prior to that time they were more than half agricultural & Presently we are 97% Urban industrial and 3% rural agricultural Newport Rhode Island mansions is an example of what some Americans have done with a surplus Tall buildings are another example of surplus Taipei 101 ? 1,671 feet high PETRONAS Tower 1 & 2 ? 1,483 feet high Sears Tower ? 1,450 feet high Jin Mao Tower ? 1,380 feet high Citic Plaza ? 1,283 feet high Empire State Building ? 1,250 feet high Expensive and fast cars are another example of surplus Industrial Revolution in the US Railroads ? What it takes to operate a major industry that is complex and involved - First big business Railroads invented in Great Brittan ? Gauge ? Railroad track width ? 4 ?8? gauge myth of appx two horses asses Baltimore Ohio is the first Railroad started in 1834 ? 4?8? gauge ? Ohio gauge was 5? ? no standardized gauge ? Standardized gauge 4?8.5? ? cheaper to go from broad to narrow ? crews of people could convert 2000 miles of track in 24 hours Gauge commission in Europe determined in 1844 that the broader gauge is safer and faster Government subsidized the railroad ? every mile of track will be paid $16k per mile on flat land and $32k a mile on more hilly land and $48k per mile in even more mountainous land ? builders exploited labor enormously ? Vanderbilt = railroad tycoon- created the Breakers Manufacture steel ? series of inventions starting with the Bessimer/English process which was patented but we stole the blueprints and brought them back to the US Bessimer/English, Simons Martin process & Thomas Gilcret method ? three inventions allowed us to make cheap uniformed steel ? price in steel reduced in cost by a factor of 7 1873 have in place the inventions for cheap uniform steel Lecture 4 Railroads Vanderbilt built a monopoly with the New York Central Railroad ? wanted access to the Midwest and the best way to do this was through the Great Leaks Eerie Railroad available ? controlled by three or the more notorious characters of Railroading ? Daniel Drew, Jim Fisk, and Jay Gould ? Jay Gould was an experienced Larcenist Vanderbilt begins to buy stock in Eerie Railroad ? Eerie gang was in possession of corporate offices which was in possession of printing presses in which were used to continue printing up stock for the Eerie Railroad - $79 million worth of stock ? no new track built Vanderbilt then bought one of the judges in the Supreme Court of the State of NY and the Judge then proceeded to deem the stock from the Eerie Railroad illegal and had the Judge issue a temporary injunction to prevent ? pass a state law of issuance of stock subject to review Eerie gang picked up the books of the Railroad and moved to New Jersey and continued to issue more stock, then bought out the Judge that Vanderbilt bought, then the judge made a ruling saying all the stock was legal ? Able to fight off the takeover bid by Vanderbilt Vanderbilt famous for his comment ? ?let the public be damned? ? made his money by robbing consumers 1887 ? Interstate commerce commission designed to regulate the railroads Steel Andrew Carnegie ? One of the first big Steel manufacturers ? very shrewd business man - $25 million a year at the selling of the steel business at the turn of the century Carnegie was a problem ? much more order and organization was needed JP Morgan buys up steel companies and consolidates ? bought Carnegie steel works for $300 million ? could have been built up from ground for $75 million ? Had to get Carnegie out of the business - Consolidates 720 smaller firms into the United States Steel Company 1950s-60s the steel industry fell on hard times ? today much less important 1880s-1960s the steel industry considered to be the back bone of America Uniform quality steel is important because we were beginning to machine it more and more ? important due to Interchangeable Parts 1880s is when interchangeable parts becomes very important due to Mass Production Electric Motor ? requires electricity ? inventor of Electricity in United States was Ben Franklin who was a Free Mason ? ambassador to France Internal Combustion Engine ? The precursor to the horseless carriage, automobile ? revolutionizes the energy industry as well Prior to the automobile the use of oil was for kerosene ? used for lighting lamps First automobile invented in the 1870s Modern Business Organization Trust ? invented by lawyer working for Rockefeller ? early form of corporate organization ? trustees manage company and manage stock 1890 the Sherman Anti-Trust Act was passed Holding Company ? Trust by another name ? might have multiple companies Business Corporation ? mostly a joint stock company ? stock as means of ownership and control board of directors oversee the company ? stock holders actually have possession of the stock Ownership was being separated from control ? 1932 famous book Drop in the bucket problem ? few votes against many will not get anything done Economic Systems ? ownership, control - production Capitalism ? Individual ownership of private property for the means of production ? Structure of Ownership and Control - Means of Production What is Unique? Individual Ownership, Individual Control of the Means of Production Socialism ? Collective ownership, Collective Control over the means of Production, not of all Wealth Collective ownership, Collective Control of the major means of Production Fascism ? Individual ownership, Collective control of the means of production Communism - History of Economics Economic history has to do with what we have done to make a living History of Economics how we have gone about studying how we make a living 42 min in? Adam Smith ? ?An Inquiry into the Nature and Causes of the Wealth of Nations? ? 1776 can be interpreted as just about any point of view Adam Smith ? most famous for the idea that the economy is best organized by leaving it to its own forces ? French Term, Laissez Faire (to leave alone) - mechanism he believed would organize the economy is the Self-adjusting market ? market consisting of supply of goods and demand for those goods regulates itself according to Smith ? Many Economists point to Smith as supporting business interests ? opposite is supported also ?People of the same trade seldom meet together even for merriment and diversion but it results in a conspiracy against the public or some contrivance to raise prices? ? Adam Smith Smith favored competitive markets as well as self-regulating ? necessary to compete to work Lecture 5 Classical ? Capitalist Adam Smith ? Famous for the thought of the Self Regulating Market and concept of Division of Labor Division of Labor ? true source of economic Wealth ? argument ? more specialization ? as each of us is more specialized each would be more productive ? the problem being, wide extensive market ? market would have to expand for the division of labor to expand ? emphasis on self-regulating market Mercantilism ? Colonialism ? the economic time at which Adam Smith lived 1650 ? The Allens decided to try to produce playing cards ? the Darcies held the exclusive right to produce these cards given to them by the King ? Darcies sued the Allens ? ruled as a monopoly in court Mercantile system that Adam Smith was trying to get rid of Middle Class in Smith?s period ? class between nobility and the working class ? rising merchant manufacturing class Middle class frustrated with the mercantile restrictions because many of them restricted their ability to produce ? Smith wanted to see the restrictions on compeitiion dropped so the market could widen the division of labor which would in turn increase the wealth of the nation Wealth of the Nation ? British liberal political thought ? Wealth of the crown - Smith?s idea of the wealth of the nations was how the wealth of the public is not how rich the monarchy is Smith understood that the division of labor could have a disastrous effect ? when a person does labor intensive repetitive tasks Smith was afraid of those people becoming ignorant ? Smith knew this and thought that the government should take steps to prevent this ? Adam Smith was an advocate of public education due to this Glasgow, Scotland had an experiment going on ? utopian socialist ?Dale (Robert Owen?s Father in Law)? used orphan children at his mills where he put them to work Robert Owen created an institute for education and culture ? each person was required to go 2 hours a week twice a week Owen changed the working conditions ? Work day was reduced to 12 hours ? Children fewer than 10 years old were forbidden from working ? considered to be an extraordinarily humane situation ? not thought to last Adam Smith was seeking a much more humanitarian sort of system ? simple and obvious system of natural liberty with self-regulating markets with a broad division of labor regulated by competition Mercantilism took over from Feudalism Neoclassical ? Capitalist Alfred Marshall ? important economist who developed microeconomic theories consumer behavior , demand schedule, supply schedule, costs, ideas, notions of elasticity ? published in book of 1890 ? ?Principles of Economics? Alfred Marshall was a Cambridge economists after the retirement of John Stewart Mill ? Marshall started out as a Mathematician and Philosopher ? in his childhood he was unaware of the poverty Marshall believed that businesses needed to behave properly ? economic chivalry ? then wealth of the nation would be enhanced and poverty would be reduced Genuinely competitive behavior is impersonal and it means there is no reason for anyone to try and take advantage of someone else because the market would make it impossible Marshall developed the demand and supply curve ? Marshall in 1890 Adam Smith believed in the Labor theory of value ? price was determined by how much labor it took to produce it - objectively add the amount of labor in an item Carl Marx ? finds out that laborers are exploited under the Labor theory of value Marginalists ? how much somebody wants it determines the value ? the utility Alfred Marshall tries to argue that it isn?t the cost of production or utility that determines the value ? scissors analogy ? which blade of scissors cuts the paper ? both cut the paper ? both cost of production and utility determine the value of the product Marshall - Supply is the cost of producing and Demand is the utility (the want) of the product Marxian ? Socialist Marx ? scientific socialism ? believed socialism was inevitable ? set out to prove it by examining the laws of motion of the system that was present at the time ? capitalism Marx believed that the logical end is capitalism would lead to socialism and then to communism Marx went out to prove that there is no way you can have a capitalist system unless there was exploitation ? only two groups could be exploited ? either consumers or laborers - argued it would be impossible for a laborer to exploit the consumer Rule of Market/Capitalist system - No business can stay in business unless their costs are less than the product it sells Labor is paid less than the amount it contributes ? Marx says its exploitation ? Laborers don?t get anything as their property ? just their wage which is less of a value of which they produce John Lox - Natural right for that which they create After the things Smith got implemented ? 1830s many of the mercantile laws were repealed ? anti monopoly laws being enforced as well as others to allow the capitalist system to take place Economic growth ? all live in poverty due to the population will expand geometrically and the food supply will grow arithmetically Capitalists are supposed to exploit labor take that exploitation ? revolution 38:00 Social processes that are involved in the processes of economics Institutional ? Pragmatist Smith, Marshall, Marx were preceded by a major development of human thinking of the Scientific Revolution and imparticular Isaac Newton Newton believed the world was like a big mechanical clock Smith, Marshall, Marx believed that if there were laws of the physical universe that governed it then there should be laws that governed economic laws as well Darwin?s thought revolutionized the way people looked at the biological world ? as well as everything else ? perhaps as great as Newton?s influence Thorsten Veblen ? born in Wisconsin ? grew up in Minnesota ? economics shouldn?t be so heavily based in Newton but more evolutionary like Darwin Veblen argued that if there is one thing about an economy is that it will always change Economists have to figure out what is bringing around the change ? we don?t know where the change is going and what shapes where it will go ? Veblen states it?s the institutions that shapes it Pragmatism ? consequences of what we did and it?s from those consequences that we will understand our actions ? can?t understand what an action will bring in advance of actually doing it Pragmatism ? need a habit of thinking, not just reacting, be more deliberative Lecture 6 October 1929 the United States started the experience of the Great Depression ? in the farm belt it started almost a decade earlier ? national unemployment was at 25% and in major production states it was as high as 50% The economy is changing and we need to learn to deal with it Keynesian ? Activist school ? active rule for public policy in the economy ? John Maynard Keynes John Maynard Keynes ? one of the negotiators of the Treaty of Versailles ? very unhappy ? allies were acting very badly - resigned and published ?The Economic Consequences of the Peace? Keynes argued that WW1 ended too soon because the causes of the war had not been resolved and there would be another war to resolve this 1926 the chancellor of GB decides to return Great Brittan to the Gold Standard at pre WW1 rate - $4.86 exchange rate between US & GB ? British prices were above world prices ? only two ways for that to resolve itself ? unemployment or the reduction of wages Coal miners got their wages cut and went out on strike ? other workers went out on sympathy strike ? lasted 9 days ? coal miners were out for a year and were defeated and when they went back they had to settle with lower wages and unemployment British economy goes into a recession/depression even before the US economy does Answer came to the Great Depression by reducing the supply in the US When the war was over then the crop prices went down so the farmers increased their amount of crop ? had disastrous consequences ? pushed prices down ? ended dramatically with the great dust storms Keynes tries persuading the policy makers to do something ? failure of internal coordination ? spend more money than they took in ? known as deficit spending ? not successful Keynes published another book ?General Theory of Employment Interest and Money? Keynesian Revolution in which the Government should play more of a part in the economy ? not put into practice until WW2 Roosevelt went to balance the budget in ?36 and ?37 and the economy went back into a recession Instead of bringing back the surplus of war they dumped it all into the ocean ? thinking that if they brought it all back what would the producers produce Orange growers in Florida ? Orange prices at rock bottom ? surplus oranges ? dump the oranges into the ocean or sell them to the Russians ? Dumped tons of oranges into the Gulf of Mexico Office of Price Administration ? first person in that office was Economist John Kenneth Galbraith - Price controls ? conventional wisdom John Kenneth Galbraith wrote ? ?Life in our times? his autobiography, ?The Fluent Society? ? conventional wisdom was coined in this book Galbraith thought you don?t have to control all prices just the price of some - as controlling corn to control the price of pigs because pigs eat corn ? found out quickly this wouldn?t work so they tried controlling all prices. 28 min 43 seconds Galbraith relates that it is almost always the firms with the weakest case to increase prices they would always have the best arguments - After WW2 price controls were repealed Feudalism ? an economic system based on tradition ? dominated the Western world from the 8th to the 15th century Mercantilism ? an economic system in which the government doles out the rights to undertake economic activities ? much more trading, significant amount of activist government involved Industrial Revolution ? technology and machines rapidly modernized industrial production All of which lead to Capitalism ? Dominant form in US and other countries ? each a bit different Main Elements in Economy - Circular Flow Model Household Consumers -> Factors of Production ->Firms/Producers -> Goods -> Consumers -> Government -> Firms -> Exports ->International Trade -> Imports -> Goods Factors = Land, Labor, Capital ? Government = Local, State, National Import things that we are not as good as producing ? better made product or at a lower price Export things that we are good at producing ? better made or at a lower price Government is itself a producer / consumer Lecture 7 Economic Thinking - Alternatives Cost and Production Economic Cost ? Cost of doing one thing is foregoing doing something else Alternatives foregone = Opportunity Cost Sunk Cost ? Already Spent ? nothing can be done to retrieve it Utility and Consumption - Almost impossible to measure it Usefulness ? Utility from things that are useful ? Utility is satisfaction Functional ? What will this do for me ? Giving me the ability to do what I want Conspicuous Consumption ? Not for usefulness/for display ? ie big diamond and nice clothes / pyramids Some Tools, Concepts & Language Demand ? A human want, need or desire ? why? It has utility ? how? By price Supply ? The existence of a good or service ? Cost- Price US Exports by Region, 2004 26% go to Pacific Rim countries ? Asian and S. Asian countries & Australia 23% go to Canada 21% go to European Union 14% go to Mexico 7% go to Central and South America 3% go to OPEC countries ? Africa / Middle East 6% go to the rest of the countries Total Exports = $819 Billion US Imports by Region, 204 33% Import from Pacific Rim Countries ? China & Japan most important 19% Import from European Union ? Mainly Cars and Electronics 17% Import from Canada ? Cars (Ford) 11% Import from Mexico 7% Import from Central and South American countries 6% Import from OPEC ? Significant amount in Oil 6% Import from the rest of the countries Total Imports = $1,470 Billion Trade Balance = US has a Deficit Trade Balance Mercantilist is where the idea of more exports than imports is the way to go ? on gold standard A problem may occur when the country we are exporting to refuses our money If we have more exports we have more jobs here If we have more imports it isn?t being made here International Trade ? trade amongst nations ?flow of goods Group of 8 - Meetings that decide policies ? G8 ? US, Japan, Germany, France, UK, Italy, Canada, Russia - Agriculture is always a difficult issue in these meetings ? structure of industry is different ? different market conditions ? if the conflicts are resolved we may go to war Exports and Imports of Selected Countries Country Total Output Export Ratio Import Ratio Netherlands $ 461 Billion 62% 57% Surplus Trade Canada 959 Billion 44% 40% Germany 2,271 Billion 36% 32% Italy 1,550 Billion 27% 26% France 1,661 Billion 27% 25% United Kingdom 1,666 Billion 26% 28% Japan 3,582 Billion 11% 10% United States 11,000 Billion 10% 14% Deficit Trade Balance of Trade ? the difference between the value of exports and the value of imports Trade deficit ? imports > exports Trade Surplus ? exports > imports The US has a significant trade deficit of approximately 5% of GDP The US is financing its trade deficit by selling off financial assets, stocks, and bonds, and real assets, corporations and real estates Capital Goods can be sold in international trade such as the things are used to build another good Lecture 8 No way to become a citizen of Japan without being born in Japan. Turkish people who were born in Germany due to Turks who worked in Germany after the rebuilding of WW2 - Turkish ghetto next to the wall which used to be a shopping mall ? when the wall came down the land was valuable again The US is going to have to figure out new policies for immigration to deal with the Mexicans, etc. ? lower income families are more likely to immigrate US Immigration, Number and Rate1900 to 20001 by Decade ? first part immigrants were mainly Europeans and Asians ? when the boundaries changed the flow of immigrants changed ? last couple of decades more immigrants are coming from South and Latin America Period Number Rate 1901 to 1910 8,795,000 10.4 1911 to 1920 5,736,000 5.7 1921 to 1930 4,107,000 3.5 1931 to 1940 528,000 0.4 1941 to 1950 1,035,000 0.7 1951 to 1960 2,515,000 1.5 1961 to 1970 3,322,000 1.7 1971 to 1980 4,493,000 2.1 1981 to 1990 7,338,000 3.1 1991 to 2000 9,095,000 3.4 What types of Businesses and What do they do? Forms of Businesses in the US in 2004 By Numbers: By Receipts: 72% Sole proprietorships 86% Corporations 20% Corporations 9% Partnerships 8% Partnerships 5% Sole proprietorships Most economists believe the market is a good way to coordinate economic activity The primary debate among economists is about how markets should be structured Whether markets should be modified and adjusted by government regulation Not all businesses are publically traded ? ex: Hallmark is a privately held corporation The more complex the products the more likely it is you will be a corporation ? more money put in to get it started ? have a certain set of rules to follow being a corporation There are rules for sole proprietorships but there are not as many Rules also for a partnership as in agreeing to who owns what and does what With a sole proprietorship if the sole proprietor dies the business goes under or is sold/given to family As a sole proprietor ? total liability ? Corporation ? limited liability The form of debt in a corporation is called a bond ? a bond is sold usually in $1,000 denominations ? usually done to build a new plant ? securities market is informed and then sells the bonds ? then the corporations issues a contracted issue rate for however long - until the bond is retired. Most corporations issue bonds that are considered callable which means that the corp. can retire the bond at any time Is the bond any good? How credit worthy is the company? Government ? local, state, federal Buys goods and services from business and buys labor services from households ? Ex: policeman, fireman, military personnel Provides services to both business and households ? Ex: police, fire protection, streets, sidewalks Gives some tax revenues directly back to individuals (income redistribution) ? recent votes in KC to add a small amount of sales tax to give to the royals and chiefs to improve stadiums Oversees the interaction of business and households in the goods and factor markets Stable Institutions and Rules ? provide stability Promote competition ? competition results in more wealth ? an example of the Government stepping in and not promoting competition was with the railroads - no more privately owned water companies in Chicago Externalities ? pollution/negative ? positive Public Goods ? water fire depts., roads, schools, parks How to pay for them? Income and Expenditures of the Federal Government Income: Expenditures 50% Individual Income Taxes 33% Income security 36% Social Security taxes and Contributions 26% Health and Education Individual and Employer pay 7 5/8% each 18% National Defense 8% Corporate Income taxes 13% Interest - Bond owners 6% Excise taxes and other 11% other Lecture 9 Demand and Supply Graphs ? think of them as pictures A relationship between two things, price & quantity How are they correlated, how closely are they correlated Causal relationship ? How strongly causal is it ? is it always that way? Inverse or Negative Relationship Direct or Positive Relationship Demand Schedule / Demand Curve ? slope down Relationship between price and quantity (quantity demanded) Utility ? ability to satisfy a want, need or desire ? satisfaction, useful ? have to have it Elasticity ? how responsive is it to the change Price is always on vertical axis and Quantity on Horizontal Axis The higher the price the less of the quantity demanded is Demand for Goods & Services ? One Variable ? change in price ? other variables constant Another variable changes (not price) Shift in Demand Price of other goods ? substitutes Income may have a huge impact or a negligible impact Tastes or preferences change ? could be correlated with your income Wealth ? how much money you have in the bank ? owned items Expectations ? I expect something to happen in the future What Affects Demand for Goods & Services Price Changes ? Quantity demanded changes ? something else changes we get a shift Market Demand Sum of all Individual Demands of one specific thing Add up demand for each individual consumer?s demand for a specific product Supply Schedule Price change ? quantity supplied changes ? slope upward Elasticity ? how responsive to a change Lecture 10 Supply Schedule ? One variable ? Change in Price ? Other variables constant More than one ? Shift in Supply Curve ? what might change? Price of inputs ? coal prices go up -> electricity prices go up Land, rent goes up Capital ? interest rates go up Technology may change ? easier to produce Taxes Expectations Market Supply ? Sum of Individual Supply of one specific product ? Add up supply for each producer of a specific product - Elasticity ? how responsive to a change Cost ? factors of production ? a small change in price may bring a lot more in output Demand & Supply Equilibrium is where the Market Supply and Market Demand intersect ? stable and steady The cost which includes profit of bringing to market is equal to the satisfaction/utility that consumers are getting out of it If the Supply is shifted upward there is a lower amount being supplied and a higher price when demand doesn?t change If the Supply is shifted down there is a higher amount being supplied and a lower price when demand doesn?t change The prices is above or lower than the equilibrium price ? that means there is an excess of something ? When the excess is above the equilibrium price the excess is in Supply - When the excess is below the equilibrium price the excess is of Demand Events and Shifts Study Figure 5.3 a-c & 5.1 What happens if there is a drought in Kansas ? Tax on SUVs Drought shifts the Supply schedule up which means that there is less Supply and the Price increased which leads to a quantity demanded > quantity supplied ? Price rose until the quantity demanded equaled the quantity supplied The concept of Elasticity Alfred Marshall is the one who came up with Supply and Demand schedules and the idea of Elasticity Elasticity is a measure of the responsiveness of one variable to another Inelastic ? takes more of a change for a response The greater the elasticity the more responsive the price is Price elasticity of Demand (ED} ED = Percentage change in quantity demanded Percentage change in price ?????????Q2 - Q1 ??????Q = ˝(Q1 + Q2) ??P P2 ? P1 ˝(P1 + P2) Elasticity is NOT the Same as Slope The steeper the curve at any given point, the less elastic is supply or demand Perfectly elastic supply or demand schedule ? the curves are flat - the quantity responds enormously to a change in price (E = ?), undefined number in the denominator Perfectly inelastic supply or demand ? the curves are vertical ? the quantity does not respond to a change in price (E-0) Elasticity measures between to 0 and ?, the more inelastic the closer it is to 0 the more elastic the closer it is to ? Short-Run and Long-Run Elasticities of Demand ? Short-Run = amount of time too short to change anything, Long-Run= amount of time to be able to change anything I want Long-Run elasticities will be more elastic ? The more urgent something is the less responsive it is likely to be to price change Income elasticity of Demand ? has important is income ? how responsive is it Cross elasticity of Demand ? how responsive the quantity demanded of one thing is to a change in the price on something else Price elasticity of Supply (ED} ES = Percentage change in quantity supplied Percentage change in price Lecture 11 Demand and Supply ? responsiveness No alternatives ? completely inelastic Substitution Time ?ability to change Contrary to the more standard approach ? history makes a difference Urgency ? Luxury or Necessity More inelastic is a necessity ? if it?s a luxury it can be substituted ? even though food is a necessity it can be substituted ? if the machine costs twice as much to build something; just hire twice the labor ? sub What else can be used ? Market boundary = and get nearly the same result Difference between a market boundary in beer in bottles to beer in cans ? if the price of bottles goes up will I switch to cans ? How much of a price change is it going to take to get me to switch Importance in budget ? Alternatives or Substitutes Almost anything is a substitute for something else The Price System ? Resource Allocation ? alternative ways of allocating resources (main stream thinking) Fundamental Idea in the text: The price system operating through markets which are a fundamental allocator of resources and under certain condition under certain structures of those markets those price systems are said to deliver a certain result. Efficiency ? Allocation If you meet all the assumptions of the theory ? most efficient allocation of resources ? any other way is less efficient What is Efficiency? Least cost ? isn?t always the most efficient Where are we going? Private or Social? Tension ? always alternatives ? may be good for some people and bad for others ? what?s good for society is the job for economists. Adam Smith suggested we should all look out for our own private interest which turns out to be best for the society. In 1843 there were around 9 million Irish and the potato crop went bad. Sold the small grains (cash crops) ? Government shouldn?t involve itself ? English didn?t send food. 1845 same problem ? so many immigrated. Conflict Fallacies and Myths: Beyond the Tools ? as we reduce buying from lost jobs ? producer needs less labor ? bad cycle Fallacy of Composition Economic Laws ? Law of Demand & Law of Supply Law of One Price Law of Diminishing Returns ? as we add more inputs we get less out of it Do Demand Curves Really Exist? Do supply cures really exist? Free Markets ? Institutions ? No such thing as a free market ? every activity of buying and selling takes place within rules and institutions Free Trade ? No such thing ? maybe free movement of goods but everything carries with it a rule or interest etc. If there was free trade why would we have all these organizations meeting about it? Patents ? all the software in China is pirated Lecture 12 ? start of Test 2 Consumption Theory ? Why? Growth and maintenance of life process; Comfort; Satisfaction ? utility; Pleasure ? utility; Thorsten Veblen talked about: Display ? Advertise status or perception of status; Emulation Pecuniary ? Money matters/Affairs of money ? Pecuniary emulation (I wanna be like Mike) Utility Theory and Individual Choice According to economists, our behavior is motivated by rational self interest Pleasure comes from consuming ? Pain comes from producing them ? more pleasure less pain Adam Smith used the term Enlightened Self Interest ? not talking about greed, self-interest to cooperate According to this theory, two things determine what people do: The pleasure people get from doing or consuming something The price of doing or consuming that something Total Utility from consuming a good Marginal Utility ? (amount of utility I would get from the ?Next unit?) ? Change in total utility from next unit of consumption Diminishing Marginal Utility ? decline in the amount of utility with the consumption of more Time, More consumption in less (15 lbs of crab in 2 hours ? diminishing taste of crab legs) The principle of diminishing marginal utility ? after some point, the marginal utility received from each additional unit of a good decreases with each additional unit consumed As additional units are consumed, marginal utility decreases, but total utility continues increasing When total utility is at a maximum, marginal utility is zero Beyond this point, total utility decreases and marginal utility is negative Maximizing Utility ? How to get the most for your Money Maximizing Utility ? relationship of utility to price ? a) MU/P = b) MU/P Consume another unit of Good A if MUa/Pa > MUb/Pb Consume more of B if MUa/Pa < MUb/Pb Consumer Surplus ? the triangle above the equilibrium on the left ? Producers Surplus the triangle on the bottom right Marshall?s idea - Any time the price of a good changes something else changes (income) More to it than just price: Income, Needs to live, Preferences, Budget Lecture 13 Applying the Theory of Choice to the Real World There are limits on the assumptions underlying the theory of rational decision making The assumptions are: Decision making is costless; Tastes are given; Individuals maximize utility When price changes ? so does income - - Some other things might change too Example: The ?Paradox? of Giffen - - When the price of something goes up consumers will consume more of it and not less Suppose the Irish is poor, must meet a certain caloric intake, have a budget, two goods available for eating (meat and potatoes) ? they eat potatoes and meat ? if the price of potatoes goes up the Irish would buy more potatoes and less meat (the price of calories per lb. of potatoes is still cheaper than the price of calories per lb. of meat) Put objective function first ? the demand for the product whose price went up will go up in consumption in every case / if they stick to their preferences ? the demand for the product whose price went up will go down in consumption Consumption Theory ? Dynamic Perception of Reality ? Important fact at how people adjust their consumption when things change ? Relationship of ones perception to reality - Preferences vs. Objectives Heterodox Consumption Theory Attributes ? when a car is bought you?re not just buying a car, you are buying radio, sunroof, breaks, tires, seats, power windows, air conditioning, etc. Types of Attributes that is important: Instrumental ? Tires, Bumpers, Seat Belts, Air Bags ? Objective Functionality Ceremonial ? radio, leather, moon roof, power windows ? preferred Bundles of Attributes: the fewer the attributes the easier it is to buy Not single ? homogeneous product Automobile ? won?t buy based on JUST how much can I afford Go shopping for XYZ (Instrumental Requirements) in a car ? the lowest priced car I can find with these attributes is the most valuable Patters of Consumption-Production: we don?t always get to choose what we want (QWERTY) Most people don?t buy as individuals but we buy as Families (Joint Utility Function) Andros Beers defined a cat as a furry automaton used for kicking when a family deals with strife Lecture 14 Production Theory and Concepts The Role and Purpose of Firms (Producers) Economic profit vs. Accounting profit Long-run and Short-run production The law of diminishing marginal productivity / The law of increasing marginal productivity Alfred Marshall in 1890s tried figuring out a theory of increasing returns Concepts of Cost ? Fixed Costs, Variable Costs, Total Costs, Average Fixed Costs, Average Variable Costs, Average Total Costs, Marginal Costs The Production ? Supply Process In the supply process, people first bring factors of production to the market Firms transform the factors into goods that consumers ?want? (advertising) Production is the transformation of factors into goods The Role of Producers The firm is an economic institution that transforms factors of production into consumer goods. It: Organizes factors of production (brings labor and machines in ? organizes them) A firm is an organization that produces and sells goods and/or services A firm is an organization that knows how to do something (can be a problem if they are stuck doing something in a certain way which it will then find itself at a disadvantage) A virtual firm only organizes products and subcontracts out all the work One goal of Firms is to Maximize Profit Profit = total revenue (price x quantity) ? total cost [(price x quantities (labor/rent/supplies/etc)] Firms / Accountants focus on explicit costs and revenues Economists focus on both explicit (the number in the books) and implicit (labor of the owner) costs and revenues If an entrepreneur owns a building in which he runs a business from he should charge the business rent to be there as an ?IMPLICIT COST? because he could charge another business to rent Maximizing Profit - when do you know where profit maximization occurs? Economic Profit = explicit and implicit revenue ? explicit and implicit revenues Total revenue is the amount a firm receives for selling its good or service plus any increase in the value of its assets Total cost is explicit payments to resources plus the opportunity cost of resources produced by the owners of the firm Productivity Production function ? a relationship between inputs and outputs Also want to know marginal output ? product Stages of production Increasing, Diminishing, Highest, Diminishing absolute production Both average and marginal productivities initially increase, but eventually they both decrease The production function exhibits: Increasing marginal productivity Then diminishing marginal productivity Finally negative marginal productivity Lecture 15 Relationship of Marginal Product & Average Product Consider the Height of Students in a class Average Height = Total height / number of students A long-run decision is a decision in which the firm can choose among ALL possible production techniques In the long-run, all inputs are variable A short-term decision is one in which the firm is constrained in regard to what production decision it can make In the short run, some inputs are variable Production ? Economies of Scale What is the scale? Plant size (cost of production going down ? enjoying economies of scale) What is the scope (producing more than one product in the same facility) - More than one product in a plant ? interdependent production that reduces cost Alfred Marshall has symmetrical mind - came up with Economies of scale and Diseconomies of Scale Technological Change Production Costs Types of Cost Total Cost ? Factor costs (prices) (TC), Wages, Interest, Rent, Entrepreneurial labor profit Fixed Cost ? cannot change ? in short run only Variable Cost ? can change ? all can change in long run Marginal Cost ? cost of next unit of output Average Total Cost ? TC/Q Average Fixed Cost ? FC/Q Average Variable Cost ? VC/Q Fixed Costs, Variable Costs, and Total Costs Fixed costs are those that are spent and cannot be changed in the period of time under consideration In the long run, there are no fixed costs all inputs (and therefore their costs) are variable In the short run, a number of inputs costs will be fixed Relationship between average and marginal costs The more is produced the more the variable cost increases Add fixed cost to variable cost to get Total cost Average Variable Cost first goes down then increases ? total cost goes up but average cost goes down The U shape of the average and marginal cost curves When output is increased in the short run, it can only be done by increasing the variable output The law of diminishing productivity causes marginal and average productivities to fall As average and marginal productivities fall, the average and marginal costs rise Profit Maximizing Output As we produce more the TR will increase by the price of the units we produce Marginal Revenue = Marginal Cost ? is where a firm Maximizes its profit output Firm Behavior How much to produce ? Short term vs. Long term In the short term if a Firm can cover its variable cost it should continue to produce The marginal cost curve, above AVC, is short run supply curve The marginal cost curve, above ATC, is long run supply curve Lecture 16 Demand Schedule: Consumer surplus ? the total accumulated utility that producers got and didn?t have to pay for Producer Surplus If there is a supply schedule beneath the equilibrium price then it must be the case that there are some producers that are willing to sell at those prices; however, choose to sell it at the equilibrium price. This means that their costs are cheaper in one way or another than another producers cost to make the product Inside the ?Black? Box of the Firm A firm must be Profit Maximizing ? how is the firm?s structural behavior Not just inputs and outputs Q = Labor + Production/Capital (which is highest) Agents/Factors of Production? (Land, Labor, Capital, Entrepreneurs) Land (removed - can?t be changed without labor), Labor, Capital, Ads, Entrepreneur (involves labor) How did production increase ? if the factors of production accounted for 10%... 90% residual Veblen & other economists at the turn of the century ? interested in what is going on inside the box Production How do labor and capital become more productive? Knowledge and Technology ? Veblen interested in the ?machine process? ? technology Invested more in Human Capital ? people does this by going to school longer ? smarter can produce more ? not just as individuals Ownership and Control begin to separate ? a managerial class manages the firms unlike before ? changes the nature of the firm ? maximizing sales ? organization of the firm in a more complicated way Frederick Taylor ? Scientific Management ? Taylorism ? Each person should be studied / each job should be studied and reduce that job to its most efficient time and motion ? each person should perform a specific job in which they are best at with little training and easily replaced? with layers of supervision above that all the way to the top of the Firm ? doesn?t require much investment in human capital ? many leading industries ? automobiles ? Henry FORD one of the first to use this approach The theory of the firm is more complicated the mixing the correct inputs and outputs ? people shouldn?t be treated as inputs but as part of the process 1980s-1990s Taylorism was problematic ? managers in firms abused their power to maintain position Just in time system ? where inventory arrives just in time Locked machine tools (Until recent all US plants did this)- operator does not have access to change the code to adjust what the machine is doing and must communicate with a foreman then contacts IT, adjusts code then its corrected ? takes 45 minutes in automobile plant ? $750,000 loss Unlocked machine tools (All Japanese and Germans did this) ? has certain level access to adjust the code to fix the machine to do what it?s supposed to do ? takes 5 minutes Edward Deming System ? offered to show the US how to make better cars in the 1950s- refused; so he went to Japan GM refurbished plant with a bank for 500 cars ? a place where cars didn?t pass inspection ? goes back through and gets fixed ? The Honda Plant in the US does not have a Bank because they don?t plan on having defects because it is supposed to be corrected as it goes through assembly line Lecture 17 Edward Demming?s process ? statistician- manage by knowing exactly what was going on, and not by guessing or imagining the information you have is correct- work very closely with your vendors Behavioral customs are hard to change In an owner operated firm the hierarchical structure is fairly simple, the owner hires people and tells them what to do ? the bigger the firm gets the more complex the management structure gets Ford Motor Company for 16 years has been trying to implement the Demming management process ? working as a cooperative team with their vendors Ford did not believe in banks or like accountants ? measured bills by how tall a stack was Joyce Hall created Hallmark and created greeting cards ? approved every detail that went on in the company ? create a new line of cards (contemporary) a humorous way ? didn?t want to produce these cards because they were morally suspect and didn?t want to deal with the drama incorporated with ?em Started producing these cards when Joyce got sick and made a bunch of money on them and when Joyce came back he didn?t like the idea but he liked the money more ? so they kept doing it Firms behave differently and each firm?s history makes a difference ? hard to do Ricardo Simler wrote a book called Maverick ? first story he tells about how he attempted to create a new managerial style for his company called Simco Market Structures Competition (many producers) ------------------------------------------- Monopoly (one producer) Monopolistic Competition / \Oligopoly Competitive and Monopolistic Market Structure was developed in part by Adam Smith ? only had some of the elements of it without having a theoretical structure behind it By the last quarter of the 19th century there weren?t very many markets that were competitive and there weren?t many markets that were monopolistic ? Main stream theoretical breakthrough came in 1933; an American economist Edward Chamberlin published a book called The Theory of Monopolistic Competition and a British economist; Joan Robinson, published a book called The Economics of Imperfect Competition ? 2 new theories with new market structures Competitive Market Many Firms ? enough so that no one of them has an influence or ?effect? on the market ? sufficiently small (size distribution) so that each one could not affect the market ? can?t demand a certain price Homogeneous Product- they all have to be producing the same thing, nobody cares about the difference of the product (no difference in the variety) No barriers to entry ? no limitations/restrictions on who can start producing the product ? cost can?t be too high that any one particular person can be higher than another (patent or license refusal) Mobil Resources ? if somebody wants to start producing the product there can?t be something that prevents the mobility of resources (international labor markets) ? resources free to move to make more profit Complete information ? the buyers and sellers have to have all the information Main stream theory claim is that you can?t do better than this, no way to have more efficient allocation of resources ? completely horizontal market demand (can?t sell any if you raise the price, also means the price = the marginal revenue is the same) Price = Marginal Cost = Average Total Cost = Demand = Marginal Revenue Profit Maximizing Output - Marginal Cost = Marginal Revenue ? always occur below demand curve Efficiency condition - Price = Marginal Cost Lecture 18 Competition (many producers) ------------------------------------------- Monopoly (one producer) Monopolistic Competition / \Oligopoly Monopoly - Understand Market curve of a Monopoly- increases prices and decreases quantities One Producer of the same product ? a single producer producing one product (Pharmaceutical Industry) Significant entry barriers ? a patent, license, entry cost, access to raw materials Market demand = Firm demand - facing a downward sloping demand curve ? Marginal revenue (change in revenue from selling one more product) is downward sloping and always below demand curve ? Marginal Cost is increasing Price Discrimination ? sell people the same good at different prices - A competitive firm cannot discriminate prices because their demand curve is flat ? a monopolist cannot price discriminate unless they can prevent the product from being resold in what is called an arbitrage Monopoly Profit ? Monopolies will not always earn a monopolist profit ? the Monopoly Profit depends upon where the ATC curve comes in ? Price > Marginal Cost Marginal Cost = Marginal Revenue ? determines output, efficient allocation of resources Average Total Cost strikes the Marginal cost curve determines Profit If the Average Total Cost curve falls anywhere under the demand curve the Monopoly will make a profit If the Average Total Cost curve is anywhere above the demand curve the Monopoly will not make profit If the Average Total Cost curve is on the demand curve the Monopoly will make a regular profit The dead weight welfare loss due to a monopoly ? the area of the demand curve that is lost ? inefficient allocation of resources Mike Sheerer ? argued that the Dead weight loss in the 1970s and 80s was somewhere between 3 ? 6% of the Gross Domestic Product of the US Josh Billings/Mark Twain ? famous humorist: It?s better to know nothing then to know what aint so Lecture 19 Natural Monopoly Technical aspects of production that brings upon a natural monopoly (water company) Louisiana Governor ? Huey Long ?he was told that a company was going to build a bridge across a big river and charge a toll and he told them if you do I will build a state bridge right next to it free of a toll which took place and the toll bridge went out of business and took over the bridge With a natural monopoly you want to have an efficient allocation of resources ? you cant have price equal to marginal cost if the monopolist gets to set the price, the will set the price where marginal cost equals marginal revenue and this restriction is unwanted ? the solution in the US was to impose regulations ? the price and quantity is controlled Monopoly with long distance telephones was challenged by the advent of satellites with microwaves which brought on the first major company to come into competition with AT&T was MCI ? so the natural monopoly was settled with technology to bring to part a natural oligopoly Boundary of a Market: 2 things have to be considered when we say something is a product Market Boundaries - of the product market itself ? Attributes & Substitutes Geographic Region ? World Market (not natural monopoly); US (natural monopoly) DuPont Chemical Cooperation created cellophane and was sued by the Federal Government for being a monopoly in restraint of trade ? substitute was wax paper ? Government argument was that cellophane was sufficiently different ? DuPont could win if they could show it was just another wrapping paper because it will substitute ? the courts ruled that DuPont was correct ? economists looked at it and thought that they were wrong because DuPont was earning a much higher earning than all substitutes Defining Markets by this example is not a clear cut case Secondary Monopoly Bought a Chevrolet and get into an accident; take to an auto body shop and get a replacement fender; there is only one company who makes Chevrolet fenders (Automobile Crash Parts); so you have to buy that fender from Chevrolet ? when you bought the Chevy you didn?t buy parts you bought an entire car When Chevy sells the car they sell it under competitive oligopolistic conditions; however, when they sell the fender it is sold under monopolistic conditions which will depend on their demand curve (Variables: when the shape (model) of the fender changes and when the price changes) ? limits secondary market ? much more expensive to change the engineering then the shape/model Difficult for a company to come in and build replacement parts ? too expensive ? Economies of Scale Lecture 20 Monopolistic Competition ? Shift the Demand Curve to the right and make it a little more inealstic Next to oligopoly the second most common Market Structure Real or imagined (created differences) Brand Names, Advertising Selling Costs Information, Persuasion Excess Capacity Monopoly Prices and Monopoly Profits Competitive Price: MC = ATC = MR Monopoly Profits ? When the ATC curve goes up the Monopoly Profits are gone; they have been eroded by selling costs ? monopoly prices without monopoly profits ? all out of the interest of selling something that doesn?t exist (no real difference between the product and its substitute) In the extreme Monopolies can be economically very inefficient - excess capacity is a guarantee to have whether you have monopoly profits or not Monopolistically Competitive markets can be a good thing economically if the monopoly is selling genuinely different products and if they really are different then we would assume a reasonable consumer would figure this out and not need continuous advertisement If the advertising is necessary that means that the products aren?t really that different so the selling costs are going to continue to escalate ? if the products are really that much different you will not need to advertise but then we would assume that the product is more along the lines of a monopoly because it has an attribute or set of attributes that clearly distinguishes it Any good that is capable of setting a standard would not need to advertise Oligopoly The most common Market structure Few Sellers ? Instead of the firms being independent of each other and having no impact on the market or there being lots of firms producing basically the same generic product How concentrated are the few buyers (Concentration) ? The most common way of looking at concentration is named Concentration Ratios ? A concentration ratio simply means, what percentage of the market do certain number of firms have If we were looking at a 4 firm concentration ratio; what we would want to know is, how much of the total output of this product do the largest four firms produce in percentage? if there are only 4 firms in the market the concentration ratio would be 100%; if there are 20 firms in the market and the largest four produced 80% then the concentration ratio for the 4 firms, concentration ratio would be 80%, suppose we were looking at 8 firms and they produced an additional 10% then it would be a CR or 90% The Herfindahl Index is an index of market concentration calculated by adding the squared value of the individual market shares of all the firms in the industry, so economists can classify how competitive an industry is and help tease out the Size Distribution Tight Oligopoly means if the top 8 firms have a concentration ratio of above 50% Loose Oligopoly means if the top 8 firms have a concentration ratio of less than 50% The tighter the Oligopoly the more likely it is that the top firms will be able to cooperate and extract a monopoly profit Mutual Interdependence ? Can?t sell all you want at the market price because if you do so you will be driving prices down ? If one firms sales (market share) goes up then another firms sales will go down Size relative to the market ? one firm is aware of another firm and pays attention to what each other do Have influence on the market outcome ? these firms will influence on how much is produced and at what price and they will do so aggressively and actively knowing they are interdependent unlike a competitive market because in a competitive market each firm is too small to effect the market Loss by one is a gain by the rival - *rival is used instead of competitor (a competitor doesn?t influence the market), this is done because it is more of an impersonal instead of personal in Adam Smith?s terms Reactions of Rivals ? Following (how does each firm behave relative to another); Don?t Follow as in terms of the Kinked Demand Curve Model as its purpose is to explain why we see more stability in prices in concentrated markets than what we see in non-concentrated markets ? Kink occurs at the existing price where we are assuming there is an equilibrium and if firms follow and raise their prices than you have one demand curve, if firms lower prices and don?t follow then you have another demand curve ? so what it shows is that firms don?t follow price increases and will follow decreases ? means that there is a tendency for prices to stay stable at the existing price Focal Point ? How does a firm decide to follow or not to follow ? mechanisms by which firms may seek to not allow competition to affect them ? Lets meet in New York City, knowing a lot about NYC but we cannot talk to each other, the task is to figure out a day time and place, need a strategy, January 1st, Noon, Grand Central Station ? now assume its companies competing which leads to? Game Theory ? strategic interaction ? the prisoners dilemma ? two prisoners have been captured and each are in a separate room worrying about if the other confesses to get a lighter sentence; however, if neither one confesses than they will not receive any kind of sentence ? Non cooperative games ? picking what to do without knowing what the other firm intends on doing Lecture 21 Oligopoly Dominant Firm Model ?where one firm in the industry is the dominant firm (Microsoft, US Steel) US Steel was a price leader and if they increased their price than other firms usually followed because if they raised their price and other firms didn?t follow than US Steel would lower their price lower than it had been in attempt to discipline the other firm for not following the leader Shared Monopoly ? Cartel Model (petroleum exporting countries is a cartel and has been since the 1960s) ? Cartels fall apart more frequently due to technological change than cheating on the producers as economists falsely assume Price fixing scheme that was discovered in the 1950s ? Electrical equipment industry ? in the 50s a couple of clerks at the Tennessee Valley Authority figured out there was a regular pattern with how contracts were won to sell equipment to the government, so some Senate hearings were started and Estes Kefauver asked some questions ? the price fixing scheme was related to phases of the moon ? there are 4 phases of the moon and 4 major firms in the industry, so all they had to do was set a rotation in which each one of them would be the low bidder - Price Fixing is one of the only Sherman Anti-Trust laws that you can actually go to jail (no Sr. members spent jail time) and or receive a fine and in this case both were done ? IRS actually allowed the companies to deduct the fines under the category of ?ordinary business expense? Fixing quantity is a legal way of fixing prices Breakfast Cereals in the 1970s ? Ready to Eat Cereals (RTE) ? genuine product market, all breakfast food The big four (Kellogg?s, General Foods, General Mills, Quaker) produced 90% of the RTE Cereals ? Kellogg Plan was discovered, a shelf space allocation plan, they persuaded grocery store to place all firms next to each other, in order, and a certain amount of feet devoted ? perfect market share monitoring mechanism ? market shares is how many boxes of cereal sold ? number of feet of shelf space you have multiplied by the number of stores where you have that is in fact the size of your distribution outlet; so all you need to know is how many grocery stores are there and how many feet are allocated in each one then you know what the market share is The trouble is some boxes of cereal sell better than others ? how to keep my firms space ? brand proliferation is what then happened ? Brand names, advertising characteristics, prizes, etc ? sell enough to justify the cost you can?t just sell them to rational consumers but most of it needs to go to irrational consumers due to advertising ? shelf space monitoring Sometimes the generic is a price discriminating mechanism ? instead of selling all in a one box put some in another box call them something else, sell them a bit cheaper Return on Equity ? percentage return you got from your own money you put in Economies of scale ? in the cereal industry is somewhere between 3 and 6% - at 3% it should be able to hold about 33 firms; at 6% it should be able to hold about 15 firms of sufficient size ? a new firm cannot really enter because of the long standing Kellogg plan taking up the shelf space OPEC (Organization of Petroleum Exporting Countries) which was started in the late 60s ? OPEC countries are not the owners of it but they are the producers of it ? Saudi Arabia; a major player in OPEC, has never produced any oil as a country ? all of it has been produced by the Arabian American oil company which is a joint venture of US firms; Exxon and Texaco ? Saudi?s set the price at which they sell the price to these companies ? has been willing to adjust its supply to hit its price targets ? Saudi Arabia has acted as a buffer and a bully - Price Leader ? Leaned how to set prices from the United States from the Texas Model ? Marginal Cost per barrel of oil in Saudi Arabia is $0.07 ? in the US in the 30s a barrel of oil was $0.10 to produce ? created a pricing mechanism using Texas Railroad commission as the price setter ? every producer in the state of Texas would request a certain amount of production ? each month the commission determined an Allowable quantity of oil for each firm to produce to keep the price at $3.50 ? If you cheated you were producing ?Hot Oil? meaning it was stolen, produced above allowable ? Texas played the price leader that Saudi Arabia does now ? Fixing the Quantity Lecture 22 Oligopolistic Cooperation Structural characteristics Board of Directors Stock Ownership Debt understanding and holding Mutually Intra-dependent Howard Hughes needed to borrow $350 million to improve his fleet of airplanes to jets ? Chase had a few stipulations to the loan which was to add a couple of its board of directors to TWAs board of directors and to have Hughes place his stock in a trust department of their bank ? Hughes didn?t like the idea but he did not have the money to say no? Six months later at the first stockholders meeting the bank voted its stock because it was in its trust department and elected a new CEO and Hughes was out and then a year later Hughes was voted out of the company completely! Oil Industry Joint Ownership ? legally binding contract; Mergers; Board Directors Not really rivals because legally they are bound together ? and they own their business together Computer Software Operating System ? Windows (proprietary), Apple OS (proprietary), Linux (Open Source) With proprietary software you cannot fix the bug ? Linux owners can fix the bug Frequently need the OS to be standard ? CPM & DOS 90% of the computers in the US operate on Windows Programs ? software makers make for the majority Internet ? MS tied the internet to their internet browser If we allow markets to be self-regulating we have to have some rules and regulations and as new things come along we need to get rid of the old rules and bring in new rules Antitrust & Regulations There are three ways to have Social Control of a business Pro-competition ? antitrust or anti-monopoly Public regulation ? direct regulation ? determine how much they can charge / profit can make Public ownership ? public goods Pro-competition ? maintain, create or restore competition Antitrust act ? Sherman Act 1890- Sherman act was flawed in legal theory deciding on mergers In 1911 the government decided against Standard Oil Trust ? divided up into 33 independent units and compete outside regions US Steel ? found not guilty even though it had a dominant position of the market Clayton Act of 1914 ? aimed specifically at mergers ? closing the loophole left open in the Sherman Act Mergers ? Horizontal ? the two companies produce the same product or similar product (has to be permitted by the government) Vertical ? eg. GM buying Goodyear Conglomerate ? different types of unrelated business ? own TV station and breakfast cereal ? not having to pay for advertising Merger - companies maintain their name ? BP/Aamco gas sold here Acquisition ? a company generally loses its identity Federal Trade Commission ? looks at anti-trust and consumer protection ? doesn?t look into price fixing Lecture 23 Federal Trade Commission Act Anti-trust - to protect competition and not protect competitors; Triple the damages in a private case Consumer Protection False Advertising ? Carters little liver pills ? chairman is testifying showing that no wide-spread price gouging took effect after Hurricane Katrina Bait and Switch ? Claim by an ad which leads customer in the store then switch product or prices Truth and Lending ? not being truthful about the interest ? watch the asterisk Cases US Steel ? acting to restrain trade Alcoa ? 1940s ? had over 90% of the aluminum trade and controlled almost all the bauxite reserves in the world ? had not acted to restrain trade, it just simply happened ? decided in 1945 to sell the aluminum plants made for the war efforts to companies besides Alcoa ? Reynolds and Kaiser bought the US governments aluminum plants IBM case ? sued by a private company ? acted to restrain trade ? telling IBM?s customers that they had a new computer coming out that could do everything that the Telex computer could do and then some so, Just wait ? in court it was shown that IBM did act to restrain trade and found guilty ? the settlement in a private antitrust case is usually money which is triple the damages 1911 oil company?s broke up Kellogg?s case ? shared monopoly case AT&T ? 1950 world?s largest regulated monopoly ? 1956 decided AT&T had monopoly in long distance and was attempting to move it into other areas ? Government decided to drop its case against AT&T if AT&T consented to agree to not enter into the computer market ? use telephone revenues to sell computers in a anti-competitive way 1970s sued again and went on for 10 years till 1985 for a monopoly in restraint of trade ? which lead to the baby bells ? Atlantic bell, southwestern bell, etc. ? long distance was kept; bell labs was kept; western electric was kept and all remained as a part of AT&T ? delayed introduction of touchtone phones due to a huge profit of leasing rotary phones ? Lucent split off which was the old Western Electric ? AT&T has now merged into an original baby bell, southwestern bell Microsoft ? 90% of operating systems used were MS Windows ? sold the operating system to computer manufacturers in mass ? MS insisted that IExplorer be used ? Netscape raised a fuss and sued MS for the antitrust laws but for access to the internet ? MS: the browser is free ? MS was forced to allow manufacturers to allow consumers to pick which browser they wanted Sears ? Bait & Switch ? pioneer of it ? Mr. Coffee machine ? advertised for 5 ? 10$ less ? go in and confronted by a salesman and told sorry we are all out of those but we do have this Sunbeam coffee machine which is the same price; however, it usually sold less ? FTC wrote a regulation for baiting, must have a reasonable number of products to cover the demand Buy in to a technology Thorsten Veblen ? On the merits of borrowing (technology) ? the penalty of taking the lead ? structured into a technology which is soon superseded by that technology ? eg. Cell phones in the US and Satellite phones in Europe Network externalities ? telephone is worth a certain amount ? if you are the only one it isn?t worth that much ? more people who have one the more people you can call ? internet is more useful when there is more internet users out there Public Regulation ? has a inelastic demand Public Utilities Natural Monopoly Clothed in a public interest ? high level of necessity ? a deep-water wharf Test 3 starts here Lecture 24 Public Regulation Public Utilities ? why? Natural Monopoly Clothed in a public interest ? high level of necessity (inelastic demand) Examples ? cases ? Railroads ? interstate commerce commission 1887 ? first of kind ? regulates any natural monopoly that deals with the interstate Telephone ? cell phones (not a natural monopoly) ? even if land lines go out of existence Water ? local natural monopoly Electricity ? when first started thought of a natural monopoly due to the bigger the generating capacity the bigger the economies of scale ? build bigger generators, produce electricity cheaper ? problem being there are substitutes such as natural gas ? state regulatory commissions that regulated electricity; soon after that federal power commission was created for regulation Radio & Television ? subject to licensing agreements ? when signal was broadcast the company could not really charge due to anyone having a receiver being able to pick the signal up, after cable and satellite there were blocking mechanisms developed ? Regulated in terms of Bandwidth by the FCC and how many stations that can be owned by anyone ? regulated for content Airlines ? civil aeronautics board ? regulated what routes airlines could fly and their job was to make sure that everyone would have availability to airline service ? 1970s CAB was disbanded ? routes and rates were then subjected to market conditions Contestable markets ? even if there is one provider of ?service? ? you could still have a competitive market if it was contestable ? had to have mobile resources ? what could be more mobile than an airplane? Hub & Spoke ? TWA?s Hub was in St. Louis and 80% of all flights out of St. Louis was TWA ? Delta, Atlanta ? even though airlines are mobile it still must have a gate, gates became very expensive ? Pipeline cannot refuse service as long as it is an interstate - if a company owns its own pipeline they don?t have to accept product from anyone else Cable TV ? FCC act of 1996 ? was once a natural monopoly; however now it?s not ? use same line, lay another line, etc. expecting prices to go down; however, most markets are a duopoly, triopoly ? cable can now provide more than just cable such as broadband cable, phone lines In almost every case an Introduction of regulation follows an introduction in a new technology FDA created in 1906 ? in charge of making sure the claims made about a drug or foods are accurate ? how meat was handled Sinclair published a book at the beginning of the 20th century called ?The Jungle? describing the handling of meat and how rats, blood, hair, spoiled meat, all got mixed in with the fresh meat In 1905 President Roosevelt read the book Sinclair published, he exclaimed ?Jesus Christ I?m poisoned? and lead to the FDA act ? why all the sudden a need for an external spectator of our foods ? at the beginning of the 20th century it was 50% urban and 50% rural which changed how we get our food ? prior amount grew their own food or went to a local butcher Hadacol a miracle cure drug that was sold at the time ? 30% alcohol Securities (Stocks & Bonds) ? how do I know that these are worth anything? ? Movement for information about securities in 1920s ? 1934 the Securities and Exchange Commission was established How? Utility Commission ? state agency ? commissioners either elected or appointed ? regulate in some fashion the various things that were declared by law to be public utilities Federal ? SEC (Security Exchange Commission), FDA (Food and Drug Administration), FCC (Federal Communications Commission), CAB (Civil Aeronautics Board), ICC (Interstate Commerce Commission), FPC (Federal Power commission Federal Regulatory Commission) ?Regulate business that are in interstate commerce State ? Regulatory Commission ? Board of Public Utilities ? Nebraska generates all the electricity for the state or buys it then distributes it to all the municipalities Local ? Board of Public Utilities of Kansas City Missouri ? local utility commission regulates the business if it is only operating in that municipality ? LA owns its own electric utility, most cities do not Local commission checks in with State to have a rate hearing (fact finding) ? state commissioners decides the most money that can be made from it ? Rate of Return Regulation Path Dependence ? Path Creation Thorsten Veblen ? first person to look at this issue ? 1985 a significant re interest - article by Paul David titled ?Clio and the Economics of QWERTY? Clio is the Roman goddess of history ? history of the qwerty keyboard ? study done by the Navy determined if you typed on DEVORK keyboard for about 3 weeks you would increase your typing speed considerably Who called it what: Veblen ? institutional evolution; David?path dependence, it just happened that way Path dependence means if we were to go down this path again would we choose the same path ? if yes? Then there is something deeper than dependence ? not path dependent, it is ergodic ? no matter how many times I do this experiment I will get the same result ? something in the process driving the results Path Creation ? Cell phones ? use cellular technology ? we have too big of an investment if switch to another technology claimed Motorola ? actively creating a path National Brands of Beer ? QWERTY Beer - Path dependent or Path created beer ? why is there only 2 or3 dominant beers in the US when there was once thousands ? the companies took an active role to make this path ? the composition of ingredients diminished to the point where they are all homogeneous ? Budweiser was anti-saloon because saloon beer was brewed in the saloon and Budweiser couldn?t penetrate that market ? in the last year over 1,000 brewers in Germany have been sold and homogenized to the US market Lecture 25 Path Dependence ? Path Creation QWERTY Keyboard, Cell Phones in US, National brand of beer Beta vs. VHS ? Beta gave a clearer image; however, US standardized VHS tape due to a longer running time, 90-120 minutes ? VHS player played VHS tapes and not Beta ? The more VHS tapes the more VHS players, etc. ? just keep going down this path Y2K problem caused $300 billion in problems because we did not look forward enough to know we would need more space in code to add a two instead of keeping it in 19xx, programmers keeping it as a two digit year ? calculating a bill from 1900-2000 ? PROBLEM: done in earlier programming language done in COBALT ? big push in 1997 to get it fixed ? always have alternatives City Location ? located on coasts or rivers ? has to deal with how we transported ourselves ? Why is Las Vegas where it is? There was just a small Oasis ? Enormous amount of money for water, electricity, etc. path dependency due to one spot that has legalized gambling ? Las Vegas needed new clientele due to other locations for gambling An example ? History matters Automobile 1877 ? barely existed commercially Added Glass ? Glass begins to develop ? gravel broke glass windshields Steel, Rubber, Alloys, Chemical and electronic knowledge & products, Ford, General Motors + 60 others Ford specialized in LCD market ? single car for lowest price it could GM aimed at marketing several types or markets Model T was first car developed Path dependence ? a Story by William Faulkner ?The Reivers? in 1962 Veblen had a model of behavior of economy called the ?Mud Hole? an economy destroys the mud hole. In Mississippi ? Boone, Ned, Luscious who was the grandson of a rich man who bought a Winton Flyer (Rolls Royce). Boone and Ned persuade Luscious to go even though they were told not to take grandpas nice car? they then come to a mud hole at high speed and get stuck ? farmer gets them unstuck with mules for a towing fee ? farmer keeps the mud hole to make money ? the Ford is where animals and buggies crossed a creek ? towing service is created ? farmer did less farming and more towing ? then its summer and the towing farmer makes the hole muddy again ? Solution was to regulate towing service ? which led to building bridges and better roads Economy is in a constant process of creating ?mud holes? ? figure out how to fix the ?mud holes? cycle Invention is the mother of necessity - evolutionary process with bumps in the road Lecture 26 Going Concern- a business that functions without the threat of liquidation for the foreseeable future Going Business Going Concern Going Plant All three are interrelated Going Concern Going PlantMakes Goods Machine Process (made to specification repeatedly) Engineering Processes/Technological Efficiency Going Business Make Money Buying & Selling Pecuniary Process/Financial Profit ? Efficiency Encyclopedia Britannica ? owned 95% of the market ? Funkenwagnel, owned 3 or 4% of the market ? Then Microsoft bought Funkenwagnel and named it Encarta and today Encyclopedia Britannica is basically out of the market because they did not move off the ?hard copy? business model Veblen called it a first degree of separation between the goals of the Going Concern and the Consumers which you need a properly functioning Going Plant. Goal of the concern is to make money and there is a bias towards finances. We want serviceability and the plant wants vendibility. Going Concern is important to stock options ? what is the price of the stock Not just concerned about making money from making goods but making money from financial manipulation which changes the motive of the Concern Schumpeter wrote ?The Gales of Creative Destruction? ? Changing technology Watered Stock ? stock that has been watered down Securities Regulation John Moody ? Moody?s Manuals ? rating of securities Securities and Exchange Commission ? a year after Roosevelt became president was its creation After stock market crash (1929) ? 1934 Reports, Rankings, Information ? if you own 5% it must be declared to SEC Fraud still exist ? watered stock ? dramatic examples such as the Savings and Loans scandals in the 1980s - the World Com put things in the wrong place such as a $7 billion dollar profit compared to cost Value of Asset Stocks & Equity ? A stock is equity; equity is just another word for something you own In a corporation the only real equity is common stock Preferred stock ? not really equity ? it is a form of debt (contracted rate of return) Bonds are debt ? bonds say how much they will pay you, an interest rate; corporate bonds are the most common of bonds ? most companies have callable bonds Federal Bonds ? a bond that is issued with a contracted interest rate (long bond: 30 years) not a callable bond State Bonds and Municipalities can issue bonds as well Rating of Assets Moody?s System ? Ratings: Aaa; Aa; A; Baa; Ba; B; Caa; Ca; C Aaa ? Bonds are judged to be of the best quality. They carry the smallest degree of investment risk and are generally referred to as ?gilt edged? ? most likelihood a small interest rate Aa ? Bonds are judged to be of high quality by all standards. Together with the Aaa group they comprise what are generally known as high grade bonds ? a little more risk and a bit higher interest C ? Bonds rated C are the lowest rated class of bonds, and issues so rated can be regarded as having extremely poor prospects of ever attaining any real investment standing ? Much higher interest Standard and Poor?s ? Dun & Bradstreet also rate like Moody?s Lecture 27 ? TEST 3 Start Labor Market Introductory Standard Analysis Supply of labor Demand of labor ? inversely related to the price of wage Wages ? real and nominal ? real wage is how much you can buy of stuff that is usable ? in the past 25 years 80% of the work force has been going down ? people are able to buy less now due to prices going up faster along with the wages going up slower Market clears ? wage flexibility ? if the market is clear then there is no excess of labor (anyone who is able to work and wants to work has work) ? if wage rate is to low employers may bid up the wages to get more working employees ? Labor market represents 75% of economic transactions Consumer price index ? how much prices have gone up or down in a particular period ? ie. If prices are up 3/10% in April and May, yet still get paid the same amount; that means the real wage has gone down. Highly unlikely that wages are adjusted the same way prices are ? maybe adjusted yearly The Evolution of Labor Markets Length of work day ? Robert Owen reduced the work day to 12hours instead of 16 Age Restrictions ? children aren?t aware of the value of money ? children were sought after for employment ? children are easily manipulated ? coal miners hired children so they dig the mine shaft smaller, less time digging shafts more time digging coal ? textile mills ? children not attentive enough to know when danger is present Used to be 8 hours a day 40 hours a week without flexibility due to assembly lines needing everyone there to work at the same time 18th century - 12 hour day 6 day work week; 19th century ? 10 hour day 6 days a week; Great Depression ? 8 hour day 5 day week, so the employer could hire more people around 25 ? 30% more around the end of WW2 the work day was at 8 hours a day and 5 days long (usually) Ken Galbreth called counter veiling power ? power of producer was very strong and dictated terms ? any efforts by laborers to resist were crushed ? often violently so 1935 ? Fair labor standards act ? Wagner act (Senator Wagner) 1938 ? Wage and hour law ? anything above 40 hours was considered as overtime ? misrepresented provisions as not being allowed to work more than 40 hours in Dallas, Texas Working Conditions ? very bad conditions Agriculture Agriculture Handicraft Machine processes ? conditions get worse due to machines being more dangerous Labor Movement ? Last successful Labor win - 1968 strike by Union Auto Workers against General Motors ? UAW won ? mandatory overtime ? employer could require a worker to work overtime ? if you refused to work overtime you could be dismissed ? after strike you could not be made to work overtime as condition of employment Labor power/ conditions increased from 1890 to 1945 in the US ? Hallmarking/peaking in 1935 National Labor standards act 1947 /1948 ? Taft Hartley Act passed which diminished the power of the labor/weakened the position of labor visa vie the employers ? main provision: a strike could be halted and a 60 day cooling off period that would be instituted ? laborers only power is to have a strike 1980s we see where 80% wages are decreasing or steadying off ? the 20% keeps up or increases International Labor ? if wages are lower in one area then there is an incentive to move the business there ? the labor cost of a pair of running shoes is a few cents due to this fact ? the internationalization has not developed as fast as the production of goods has become internationalized Segmented Market ? basically the conditions of a competitive labor market ? no barriers to entry; relatively homogeneous product ? no entry barriers and people can?t be kept from doing a job that they are qualified to do or kept from becoming qualified to do it and laborers have to be treated as homogeneous ? otherwise there is no competitive market and it is a segmented market High Wage ? High Skill: Complex & Varied manipulation of Materials (welder) & Symbols (accountant) Low Wage ? Low Skill: Simple & repetitive manipulation of Materials (welder helper) & Symbols (clerk) Segmented markets ? High wage & High Skill; Low Wage ? Low Skill Lecture 28 Segmented Market High Wage ? High Skill: Complex & Varied manipulation of Materials (welder) & Symbols (accountant) Formal education and Formal training ? if it is possible to prevent then you block the attainability. There is a constraint on being permitted to medical schools, so the mechanism of training is limiting the supply that goes into the profession. Low Wage ? Low Skill: Simple & repetitive manipulation of Materials (welder helper) & Symbols (clerk) Internationalization of Labor Force ?Sovereignty of nations have two choices where the country can choose to be a high wage-high skill nation or a low skill-low wage nation ? in the past 20 - 30 some years the US has opted to be in the low wage due to the declining wages, declining skilled occupations, etc. Segmented markets ? High wage & High Skill; Low Wage ? Low Skill American Medical Association ? most powerful union in the US ? used to be mandatory to practice - Discrimination ? Usually race based ? against the law ? doesn?t mean the law is always followed and has not always been there. At one time there were laws forbidding exactly these things. During the Irish potato famine there were signs up saying ?No Irish Need Apply? There is a major discussion now about needing to speak the native language for employment. Gender Discrimination ? few jobs where men are discriminated against ? Women are usually discriminated against ? are women paid the same wage for the same work? On average they don?t; however, it has improved some 17% in the last 25 years going from 60% to 77% of what a man makes. There are some occupations that are gender specific: teaching k-12 now ? 8 and nursing 97% female Movements in the US for unionization of Nurses due to the working conditions being so difficult frequently required to work 12 hour shifts x 2. Working conditions and wages have not improved Teachers aren?t doing as good of job? women used to only be a Nurse or Teacher which led to hard working and more skilled teachers. Teachers got paid a low wage ? not married doesn?t need money or if married then it?s just supplemental income Age Discrimination ? used to have a mandatory retirement age of 65 ? 70 in certain occupations; now it is against the law to discriminate against age ? cannot even ask ones age. Backward bending supply curve ? alternative to work is not working ? the more money I make the more I may want to trade work for leisure. The higher the wage the less we are willing to work. Lecture 29 Distribution of Income For Whom? Income ? Flow of income ? Consumption and saving ? Activities that provide for the growth and maintenance of the life process ? Gross Domestic Product: Amount of products produced X price. Wealth ? Stock past income ? income earning Measuring Income and its distribution ? How to measure income ? nominal (not adjusted for prices) and nominal (adjusted for prices) Quintile Distribution (20 percent increments) 1/5th of the population 1998 Income Quintile % total family income Cumulative % total family income Lowest 20% (poorest) 3.6 3.6 Second 20% 9.0 12.6 Third 20% 15.0 27.6 Fourth 20% 23.2 50.8 Fifth 20% (wealthiest) 49.2 100.0 1970 Lowest 20% 5.9 5.9 Second 20% 11.0 16.9 Third 20% 17.3 34.2 Fourth 20% 23.0 57.2 Fifth 20% 42.8 100.0 Higher Gini in 2003 than in 1970 Lorenz Curve & Gini Coefficient Gini Coefficient is where the Lorenz curve triangle is divided into two parts where area A / A+B Gini between 0 and 1 ? The bigger the Gini the less equal the distribution of income Example: a = 50, b = 60 which is 50/110 = .454 ? A = 80, b = 30 which is 80/110 = .727 so .454 is where the distribution of income is more distributed Distribution of Wealth Bottom 1/5th = -0.2 - which means they are in debt Second 1/5th = 0.2 which means the bottom 40% of the US has 0 wealth Third 1/5th = 2.7 Fourth 1/5th = 13.2 Top 1/5th = 84.4 Lecture 30 Theories of Income Distribution Productivity ? If I can do more than someone else I should get paid more ? Marginal Productivity ?John Lock ? philosopher British political liberal school ? a person?s property is created when they mix their labor with their land and whatever they create in that process belongs to them by natural right Talent, Skills, Contribution, Ambition, Class ? Simple class theory ? Marx-class struggle ? two different classes ? Haves and Have Not?s Modern Class theory ? Veblen ? The Theory of the Leisure Class ? Exempt from the activities of industrial employment ? Leisure and Industrial employment ? has to be a surplus to have a leisure class ? leisure class is leisure because it is not necessary to the life process ? Honorable employments are exploiting the surplus and Drudgery employments are industrial type jobs ? Veblen?s view was the Drudgery employments wanted to emulate the leisure employments and believed they could pecuniary The reason people have what they have is due to higher marginal productivities ? usually an argument made by those with higher incomes ? believing themselves to be deserving of it and have earned it Redistribution of Income There are certain things we will not accept as the distribution of income ? if someone is too old to work do we let them die? NO, we redistribute the income Programs ? Transfers ? Social Security ? intergenerational income redistribution program ? we do it because people have to have an income. Social Security Act was passed in 1935 ? the reason for the change is we realized the composition of society had changed ? family was how someone got taken care of; however, if family isn?t close they wouldn?t be taken care of ? program setup that was alien to our nature ? taxing wages put it into an account and when you retire you get it which you aren?t means tested (Pell grant) ? there is no way the amount that is taken from our check could ever add up to the amount we will withdraw from social security ? if you live 5 years past retirement you have broken even Public Assistance ?Means Tested Program ? AFDC (Aid to Families with Dependent Children) ? TANF (Temporary 5years Assistance for Needy Families) TANF has a time limit that AFDC did not have. 1980 and 1984 became a presidential campaign welfare reform because AFDC was seen as a permanent welfare class ? intergenerational phenomena where once on welfare the future of the family would be on welfare as well ? 10% of the US was on welfare ? sometime in their life 30% of the population had been on welfare while only 2% had been on welfare for a year or longer ? if you change the system you need to change the infrastructure. AFDC created a bunch of single parent households due to the way it was written. Food Stamps ? if you fall below a certain level of income ? which only embarrasses themMedicaid ? State program; General assistance; SSI ? people who didn?t qualify for SSUnemployment Compensation ? John Commons ? Economist at Wisconsin ? noticed that firms keep some of their earnings called retained earnings due to some years when they have off years Housing Programs ? HUD ? Section 8 Housing ? public assistance for housingTaxes ? Federal income tax ? Personal income tax ~15% to ~38% - Corporate income tax capital gains has ~15% maximum tax ? wages has ~38% maximum taxSocial Security Tax ?Payroll Tax? Personal and business ? 15.3% half paid by employer 7.65% individually ~2% goes to Medicare; once you reach $92,000 there is no Social Security tax which is seen to be regressiveState and Local ? Income tax are usually regressive to proportionalSales Tax ?most regressive ? only country in the world that does this ? other countries have tax added inProperty Tax ? regressive Status Theory - Income is related to status ? Relation to values of society ? Auto mechanics ? Physicians Social Cohesion theory ? Enduring tension ? good for individual ? good for society Rent seeking ? What is rent ? Something for nothing Rent is ?something for nothing? ? comes from having an asset that others want but don?t have ? paid for that scarcity ? George Brett had 20/10 vision and did nothing to get it ? taking advantage of something that already exists ? 0 sum gain Lecture 31 Poverty Relatively ? compared to others ? Compared to the rich in our own country or compared to the poor in another country ? Haiti is poorest in Western Hemisphere ? Quantitative ? Harrington published book ? The Other America ? and it was poor ? looked at pockets of poverty and in urban regions, describing it and shocking the United States ? began political discussion ? 1960 presidential campaign in part due to book ? Kennedy put together a ?War on Poverty? ? Johnson launched actual legislation ?The Great Society? name of the program ? Ken Galbreth was important economist during depression and after ? headed up price controls during WW2 ? frequently commissioned ? Lyndon Johnson commissioned him ?The Affluent Society? - speech was basically the one that launched ?The Great Society? Program which was passed rather quickly providing aid to family?s especially with children Gorge McGovern ? still helping poor people ? was beaten by Richard Nixon in presidential election The % of income going to the lowest 20% of population was decreasing while the % of income going to the highest 20% was increasing dramatically ? poverty programs favoring higher income groups Republicans seem to have increased the population of people in poverty compared to Democrats ? policies of different administrations and what kind of broad impact does it have on people in poverty Galbreth had a way of explaining this ? supply side economics (political slogan) ? in order for everybody to do well we need to do more stuff ? ?A rising tide lifts all boats?, said by Kennedy ? Galbreth said it was more like ?Horse and Sparrow economics? Food Allowance was set in the 1960s and has not changed since ? relative to other prices food prices have stayed the same or decreased Who are poor? Why are they poor? How many? The poor are the uneducated ? having either no high school degree or only a high school degree People are poor because they don?t have any money ? they have no job or low paying job ? do not have the right skills or no skills, including those that are got from going to school ? they don?t have the education because they don?t have the money which is a self-propagating problem GI bill was passed after WW2, which trained millions of people ? Korean war ?re-upped? the program ? Korean war ?re-upped? the program again ? thought of as a Non-Welfare program; however, as well thought of as an economic and social program ? Now the military has a variation of the original program ? government actually made money on this program (people pay more taxes) National Defense Education Act was passed after the Russians launched Sputnik due to the thinking that we needed more mathematicians and scientists ? always willing to spend money on Defense and not public education ? Pell grants etc. We are now underinvesting in our population?s education which is such an awful mistake ? the GI Bill was an excellent way to invest in our Country?s education ? everyone who invested in the GI Bill and made it through college made a tremendous investment in their future and their children?s future Self-Fulfilling prophecy ? the expectations of teachers of poor children tend to be less ? In kindergarten the teachers teaching the alphabet expect less which cumulates with each progressing grade relatively to other schools and especially rich kids schools Poverty level by family size, 2005 Two persons Households under 65 years old 13,078 Households 65 years and older 11,805 Three persons 15,277 Four persons (avg. benchmark) 20,144 1960 ?39.9 Million? 22% of the population being poor 1970 -39.9 Million ? 12.6% poverty level ? 5 years of program and almost cutting poverty level in half ? ?The Great Society? given credit for this ? prices in 72, 73; recession and higher prices 1980 -33.6 Million? 13.5% poverty level ? 83-85 recessions after that good economy 1993 -39.3 Million? 15.1% poverty level 2000 -31.5 Million ? 11.3% poverty level ? never reaching the poverty low of the 60s Children under 18 living in Poverty, 2004 (in millions) All children under 18 ? 13,027 ? 17.8% White only, non-Hispanic ? 4,507 ? 10.5% Black ? 4,049 ? 33.2% Hispanic ? 4,102 ? 28.9% Asian ? 334 ? 9.8% Per Capita Income (GDP), 2003 *in Millions ? highest earning are industrialized countries United States ? $37,500 Japan ? $28,620 Sweden ? $28,620 ? most evenly distributed income per families ? healthcare and school are free United Kingdom ? $27,650 New Zealand - $21,120 Lecture 32 International Trade ? Trade Between Nations Trade Balance (Import ? Export = TB) ? world trade balance is always 0.00 Why ? Division of Labor ? to produce goods cheaply ? Adam Smith: The Wealth of the Nation is increased by a division of Labor ? reason that the Wealth of the World is increased by a division of labor Cost ? Absolute (Absolute Advantage) ? in one place of the world people might be at a natural or ?absolute? advantage; would be cheaper for Canadians to send timber to Saudi Arabia then Saudi planting and trying to grow their own; trade wood for oilCost ? Relative (Comparative Advantage) ? David Ricardo ? is there anything that I can produce better relatively to producing others ? good at producing wheat and not good at wool ? trade wheat for wool Why is Trade Good Between Nations ? Nations should be able to have a comparative advantage- worst outcome would be that one nation benefits and the other nation gets no benefit ?We feel that we should have more of an export than input which generally means we will have a surplus of goods which leads to an increase in prices ? we have had over the past decade more output than input which will lead to a specie-flow mechanism (David Hume) ? which means the goods here will be cheaper and they will start buying goods from usConsumers ? distribution ? which consumersProducers ? efficient allocation of resourcesGains from trade ? nothing is produced by trading but not as much is produced when we do trade Currencies ? many different currencies in the world - Exchange Rates ? Euro to Dollar, etc. ? Most currencies are not ?Set?; they are allowed to float ? A set rate is known as a fixed rate makes the price of goods float which will disrupt the flow of goods ? Richard Nixon in the 70s took us off the Gold Standard in international trade US Main Imports & Exports are from and to the Pacific Rim, Canada, Mexico, and European Union ? US is exporting about $600 Billion less than it is importing (Export Deficiency, Import Surplus) Organization of Trade ? Since Ricardo & Smith the argument is that trade should take place with as few restrictions as possible ?Free Trade? Before 1940 most nations restricted trade, including the US ? Must restrict trades on products where there is an infant industry in a country, restrict trade until a company is on its feet and can compete with international trade - Smoot-Hawley Tariff bill ? restriction by way of adding a tariff on goods entering the United States ? economists believe that this is what caused the Great Depression ? Ken Galbreth notes it was a big mistake After 1940 we find out that we have been ?educated? by the consequences of WW2 which were due to International trade policies of the previous century ? Major conference in the US Bretton Woods trying to figure out how to organize trade (John Maynard Keynes) principal economist ? his basic ideas were what drove the conference ? which established two major institutions, then the International Bank for Reconstruction and Development which today is part of the World Bank and the International Monetary Fund First formal agreements ? General Agreement on Tariffs and Trade (GATT) which is where periodically nations would get together and try to come to an agreement ? what gets to be called yogurt, if your Bulgaria and just joined the European Union, which is where Yogurt originated and is where the ingredients are different and tastes different/Greece wants only their Feta cheese to be called Feta cheese which uses a certain type of milk, etc.World Trade Organization (WTO)-Replacement for GATT - policies set forth to set how trades will be organized ? currently concerned about the Chinese with over a billion people being able to out produce and the ability to produce products much more cheaply than elsewhere Tariffs- a tax levied on a good that is imported into a country ? add a tariff, price goes up Quota ? is a restriction on the amount that can be imported ? reduce quota, price goes up Non-Tariff Restrictions ? what gets to be called what Lecture 33 International Trade International Organizations: Created at Bretton Woods World Bank ? designed to loan money to countries for investment projects generally, eg. A dam for irrigation; collects data on international conditions International Monetary Fund ? lender of last resort ? came under the control and philosophy of the United States, example in the 90s of SE. Asian countries experienced a financial crisis, problem was IMF wanted to restrict capital flows, Malaysia refused help from IMF and recovered faster than other countries Group of 8 ? G8 ? US, Japan, German, France, UK, Italy, Canada, Russia ? Large industrial countries that meet to decide on changes of economic policies Global Reach Changing Nature of Trade From International to Multinational ? Multinational Corporation and reckoning of trade balances ? International was produced in one country and sold in another ? Multinational production is scattered throughout the world and sold throughout the world CAFÉ (Corporate Average Fuel Economy) Standards ? 76% of parts made in US and assembled in Canada, still counts for a Domestically produced car ? if had 50% of the parts made here and the rest elsewhere it is an import ? Honda makes certain that the Accord is 75% Domestically made car so it counts for the CAFÉ Standard In the US we have the FDA, Antitrust laws, etc. however, internationally there are no laws to protect people Multinational corporations do not see themselves as a company who is a intranational company they see themselves as a international company Global ? trading groups and regions ? European Union ? in the EU if you have a deficit greater than 3% of GDP in spending account, countries seeded authority from their countries to the EU ? EU has continued to grow from 8 countries to 18 countries ? most countries use the Euro in EU, tariffs in the EU are all gone NAFTA ? North American Free Trade Agreement ? still tariffs and restrictions in NAFTA - African Union, Pacific Rim Union Lecture 34 Issues ? Market Failures; Concentration ? Antitrust ? Regulation; Industrial Policy; Technological change ? acceptance and resistance; Agriculture Market Failures Private Cost - cost of production for the firm Social Cost: Pollution - Clean Air Act; Clean Water Act; workers in asbestos plants and installers it; emissions of the car ? catalytic converter Government Policy - What are the Policy Options Market Failures ? Externalities ? Negative: pollution Positive: education ? if you had to pay for education k ? 12 then fewer people would go; the return to society of someone who graduates from high school is greater than the return to the individual Network: Internet / Telephone / Email? the more people who use something the greater the network, the greater the value to each user and each user does not pay for the addition to another user; however, the value of an additional user does increase the value of the network Negative aspect of Network ? noise pollution ? the more people answer their cell phone the more acceptable it becomes ? pollution from many cars ? spam via email or a virus via email How and what Policies? DDT was killing off the American Bald Eagle and is now making a great recovery ? Blue babies (oxygen starvation) which can cause brain damage, have been reduced due to the reduction of Nitrogen fertilizers Regulation and Laws; Taxes and Subsidies-(transfer of income to help find a way not to pollute) Lawrence Summers ? Harvard as their president when one of his internal memos found the light of day which he proposed selling pollution rights to companies and then allowing more pollution in third world countries instead of industrialized countries because he felt life in those countries wasn?t as meaningful as life in an industrialized country Public Finance & the Bridge Problem ? certain bridges charge a toll for their use ? what is the purpose of the toll? Most frequent argument is that the toll pays for the cost of the bridge, BOGUS ARGUMENT, it is impossible to charge a price for the bridge because the costs have already been incurred, they are ?Sunk Costs? ? Legitimate cost of using the bridge, Maintenance costs (trivial because it doesn?t have anything to do with the bridge) ?the economic cost is the increased congestion on the bridge, so when its congested you incur no cost, so only charge the toll during peak hours or peak times, which would lead to an earlier trip or a different route Public Goods Characteristics ? Non-divisible, Non-excludable (fire protection, National Defense, etc.) ? Social return > individual return (education) ? Free Rider problem Lecture 35
Want to see the other 60 page(s) in Lecture_Notes.docx?JOIN TODAY FOR FREE!