CHAPTER 6: ECONOMICS

1. CHAPTER 6: ECONOMICS When you have completed this chapter, you will be able to: • Explain the concepts of scarcity and opportunity cost. • Recognize how supply and demand work to determine price. • Understand why businesses contract and expand during different phases of the business cycle.

2. CHAPTER 6: ECONOMICS Chapter 6 Outline Section 6.1: Making Decisions in a Market Economy • Allocating Resources • Determining Profits Section 6.2: The Business Cycle • Phases of the Business Cycle • The Business Cycle in U.S. History • Economic Indicators

3. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources • What is economics?

4. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources • All societies have resources which they use to produce goods and services. • Resources can include natural resources (land or mineral deposits), sophisticated machinery, or educated workforces.

5. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources • Economics is the study of how societies decide what to produce, how to produce it, and how to distribute what they produce. • If all consumers throughout the world consume everything they wanted, economic decisions would not need to be made. • All goods and services are scarce. • Scarcity refers to the fact that too few resources are available for everyone in the world to consume as much as they would like.

6. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources The Concept of Opportunity Cost • Opportunity Cost is the loss associated with choosing the best opportunity that is passed up; it is the cost we pay when we give up something to get something else. • In non-economic terms, this concept is called a trade-off. • Example: Mary is a manager who makes $55,000 a year on her job. She decides to quit her job to go back to school to earn a Master of Business Administration (M.B.A.) degree. • What is the opportunity cost of returning to school? • $55,000 a year plus tuition costs.

7. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources The Concept of Opportunity Cost Examples • The opportunity cost of spending money on a foreign holiday is the lost opportunity to buy a new dishwasher or the chance to enjoy two short breaks inside the United Kingdom. • The opportunity cost of the government spending several billion on interest payments on the national debt is the extra money it might have allocated to the Education.

8. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources The Concept of Opportunity Cost Examples • The opportunity cost of an economy investing its resources in new capital goods is the current production of consumer goods that is given up.  • The opportunity cost of using arable farm land to produce wheat is that the land cannot be used in that production period to harvest potatoes.

9. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources Types of Economic Systems • The Command Economy is an economic system where the government decides what goods and services are produced. • What are some examples of command economies? • Why is China not considered a command economy? • China is not considered a command economy because it has adopted market economies in several sectors. • Why are consumer goods often scarce in a command economy? • The government of a command economy is not concerned with what consumers want to buy.

10. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources Types of Economic Systems Disadvantages of a Command Economy can include: • Poor product quality • Difficulty finding wanted and needed products • Empty market shelves • Long hours standing in line at the store due to fewer retail outlets • Higher prices due to inadequate supply

11. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources Types of Economic Systems • The Market Economy is an economic system where private companies and individuals decide what to produce and what to consume. • Examples: United States, Canada, UK, Germany, and the Netherlands. • Why are consumer goods more plentiful in a market economy? • Producers make what consumers want to buy.

12. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources Types of Economic Systems Disadvantages of a Market Economy: • Since the market economy is based on competition, this sometimes leads to monopolies. • Sometimes companies misjudge what consumers want, and therefore lose money. • Example: In the 1980’s Sony introduced the beta-max video recorder; despite its superior quality, sales declined and Sony was forced to stop producing it; the VHS prevailed.

13. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources The Law of Supply and Demand The Law of Demand • In a market economy, supply and demand determine the prices and quantities of the goods and services that are produced. • Demand is the quantity of a good or service individuals are willing to purchase at various prices. • As the price of a good increases, the quantity of the good demanded falls.

14. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources The Law of Supply and Demand The Law of Demand • Demand depends on individuals’ needs, wants, and income. • Example: At a price of $5.00 a gallon, gasoline consumption will be much lower than it will be at $0.50 a gallon. At $0.50 a gallon, the quantity of gasoline demanded will rise; more people will use their cars; people may purchase larger cars. • What things will likely result from a gas price of $5.00 a gallon?

15. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources The Law of Supply and Demand The Law of Demand As the price of a goodincreases, the quantity of the good demanded falls.

16. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources The Law of Supply and Demand The Law of Supply • The law of supply describes how price affects the amount of a good producers produce. • Supply is the total amount of a good or service available for purchase at a specified price. • As the price of a good increases, producers are willing to supply more of the good.

17. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources The Law of Supply and Demand The Law of Supply As the price of a goodincreases, producers are willing to supply moreof the good.

18. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources The Law of Supply and Demand Determining Price • The law of supply and demand determines prices in a market economy. • The Law of Supply and Demand states that the price of a good or service adjusts until the amount producers are willing to produce equals the amount consumers are willing to consume. • The price at which supply equals demand is known as the equilibrium price.

19. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Allocating Resources The Law of Supply and Demand Determining Price • When producers are willing to produce less of a product at a certain price, demand exceeds supply and there is a shortage. • When supply exceeds demand there is a surplus. • Because supply and demand are constantly shifting, the equilibrium price also changes. • An increase in demand will cause the equilibrium price to rise; the converse is true.

20. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Determining Profits Estimating Revenue • Setting prices correctly affects how much profit a business earns. • What is the ideal price for a • Profit is the difference between what a business earns (revenue) and what it spends (costs). • To determine profits, businesses need to estimate their expected revenue and costs. • Profit = Revenue - Costs

21. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Determining Profits Estimating Costs Fixed Costs • Fixed costs are costs that a business absorbs regardless of the number of units it produces. • Examples of fixed costs include rent, utilities, full-time contracted salaried staff, interest payments on loans, and insurance premiums.

22. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Determining Profits Estimating Costs Variable Costs • Variable costs are costs that rise or fall depending on how much of a good or service is produced. • Examples of variable costs include the cost of labor and materials. • A bakery’s variable costs would include such things as flour, sugar, butter, etc.

23. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Determining Profits Performing Breakeven Analysis • Breakeven analysis reveals how many units of a good or service a business needs to sell before it begins earning a profit. • The point at which revenue is sufficient to cover all costs is called the breakeven point. • No profit is made AT the breakeven point.

24. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1

25. CHAPTER 6: ECONOMICS MAKING DECISIONS IN A MARKET ECONOMY 6.1 Determining Profits Performing Breakeven Analysis • Breakeven Analysis Formula • Example: Assume you have fixed cost of $2,000, unit selling price of $200 and variable cost per unit of $120. What is your breakeven point? • Breakeven Point = 2,000/(200 – 120) = 2,000/80 = 25 • In our example, one must sell 25 units to break even. Breakeven Point = Fixed Costs/(Unit Selling Price - Variable Costs)

26. CHAPTER 6: ECONOMICS THE END