Chapter 2

The Economy:

Myth and Reality

E pluribus unum (Out of many, one)MOTTO ON U.S. CURRENCY

American Economy: A Thumbnail Sketch

• U.S. economy– Biggest national economy

– Population: 300 million• Working population: 150 million

– Very rich country

– High efficiency • Productivity

– $45,000 per person– $90,000 per worker

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American Economy: A Thumbnail Sketch

• Inputs / factors of production– Labor

– Machinery

– Buildings

– Natural resources

– Used to make outputs

• Outputs– Goods and services

– Consumers & others want to acquire3

American Economy: A Thumbnail Sketch

• Free markets• Private enterprise• “Land of opportunity”• Most “privatized” economy• Most “marketized” economy

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American Economy: A Thumbnail Sketch

• Gross domestic product (GDP)– Measure size of economy

– Total amount it produces

– In a year

• Real GDP– Adjusted GDP

• For changes in purchasing power• For inflation

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Share of U.S. gross domestic product (GDP) exported and imported, 1959–2007

Figure 1

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American Economy: A Thumbnail Sketch

• U.S. economy– Relatively closed

– 14% of GDP: exports & imports

– 17% of GDP: imports

• Relatively open economy– Exports & imports – large share of GDP

• Relatively closed economy– Exports & imports – small share of GDP

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Openness of various national economies, 2007

Table 1

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Openness

NetherlandsGermanyChina Canada Mexico Russia United Kingdom United States Japan

67%4137353525201412

American Economy: A Thumbnail Sketch

• U.S. economy– Growing

– 2007 GDP = $14 trillion

– 2007 GDP per capita• 2.8 times > than in 1959

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Real gross domestic product (GDP) since 1959

Figure 2

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American Economy: A Thumbnail Sketch

• Economic fluctuations– Business cycles

• Recession – period of time– Total output falls

• Unemployment rate– Varies

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The growth rate of real gross domestic product (GDP) in the United States since 1959

Figure 3

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The unemployment rate in United States since 1929

Figure 4

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The Inputs: Labor and Capital

• American workforce – composition – 150 million

– 54% men

– 46% women

– 4% teenagers (6 million)

– Expanding role of women

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Composition of employment by sex, 1950 and 2007

Figure 5

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Working women as a percentage of the labor force, 1960 versus 2005

Figure 6

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Teenage employment as a percentage of total employment, 1950–2006

Figure 7

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The Inputs: Labor and Capital

• American workforce – production – Mostly services

– Government

– Only 16% - goods

• Shift to services– Information age

– Education

– Experience

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Civilian non-farm payroll employment by sector, 2007

Figure 8

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Growing share of service sector jobs, 1967 vs. 2005

Figure 9

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The Inputs: Labor and Capital

• American workforce – earnings– Wages: 70% of income

– Average hourly wage: $17

– Average weekly paycheck: $600

• Capital– $30 trillion

– Average rate of return: 10%

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Average hourly compensation rates in manufacturing, 2006

Figure 10

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Outputs: What Does America Produce?

• Consumer spending – 70% of GDP• Households

– 60% of budget – on services

– 40% of budget – on goods

– $140 billion – phone bill

• Non-consumption uses – 30% of GDP

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The Central Role of Business Firms

• 25 million business firms– 80,000 fail / year

• Multinational corporations• Competition

– Key to industrial efficiency

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Government

• Markets– Goods & services: bought & sold

• Firms– Sell goods & services

• Outputs markets• Receive receipts

– Use resources• Inputs markets• Pay for resources

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Government

• Consumers– Buy goods and services

• Outputs markets• Expenditures

– Sell resources• Inputs markets• Receive income

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The circular flow of goods and money

Figure 11

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Government

• Role of government– Making & enforcing laws

• Rule maker• Referee• Arbitrator

– Regulating business• Antitrust laws• Promote social objectives

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Government

• Role of government– Providing certain goods & services

• Fiscal year 2008: $2.9 trillion– Pensions & income security programs– National defense– Health care– Education– Transportation– Agriculture– Housing– Foreign aid

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The allocation of government expenditures

Figure 12

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Government

• Role of government– Levying taxes

• Pay for these goods and services• Income & payroll taxes• Sales taxes• Property taxes• Gasoline taxes• Liquor taxes• Telephone taxes

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The tax burden in selected countries, 2006

Figure 13

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Government

• Role of government– Redistributing income

• Reduce income inequality• Taxes• Transfer payments• Progressive taxation• Antipoverty programs

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Government

• Transfer payments– Sums of money

• Received by certain individuals

– Outright grants from government

– Not payments for services

• Progressive taxation – Ratio: taxes to income

• Rises as income rises

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Conclusion: It’s a Mixed Economy

• Mixed economy– Some public influence

• Over free markets

– Some public ownership

– And private property

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