ECO 401 Final Term
1. Market Structures
Market structures describe the organizational and competitive characteristics of a market. These structures dictate how firms operate, how prices are determined, and the overall market behavior. The main types of market structures include:
1. Perfect Competition: Characterized by many small firms, identical products, free entry and exit, and perfect information. Firms are price takers.
2. Monopoly: A single firm controls the market, producing a unique product with no close substitutes. High barriers to entry prevent other firms from entering the market. The firm is a price maker.
3. Monopolistic Competition: Many firms offer differentiated products, leading to some degree of market power. There is free entry and exit. Firms compete on product quality, price, and marketing.
4. Oligopoly: A few large firms dominate the market. Products may be homogeneous or differentiated. Firms are interdependent, and strategic decision-making is crucial. Barriers to entry are high.
Formula:
Profit Maximization: For all market structures, firms maximize profit where Marginal Cost (MC) equals Marginal Revenue (MR).
MC = MR
Each structure affects consumer choices, pricing, and the efficiency of resource allocation within the market.
2. Welfare Economics
Welfare economics studies how economic policies and systems affect societal well-being. It evaluates resource allocation to maximize social welfare, considering efficiency and equity.
Types:
1. Pareto Efficiency: A situation where no one can be made better off without making someone else worse off.
2. Social Welfare Functions: Aggregate individual utilities to evaluate overall societal welfare.
3. Macroeconomics:
Macroeconomics is the branch of economics that studies the behavior and performance of an economy as a whole. It focuses on aggregated indicators such as GDP, unemployment rates, and inflation to understand how the economy functions and how policies can influence its overall performance.
Types:
Gross Domestic Product (GDP): The total value of all goods and services produced within a country in a specific time period, typically a year.
Unemployment Rate: The percentage of the labor force that is actively seeking work but unable to find employment.
Inflation: The rate at which the general level of prices for goods and services is rising, eroding purchasing power.
Macroeconomists use various models and theories, such as the aggregate demand-aggregate supply model and the Phillips curve, to analyze these indicators and propose policies to achieve economic objectives like stable prices, full employment, and sustainable economic.
4. National Income Accounting:
National Income Accounting is a systematic framework used to measure a country's economic activity. It tracks the production, income, and expenditure of an economy over a specified period, typically a year. The primary indicators include Gross Domestic Product (GDP), Gross National Product (GNP), and Net National Product (NNP).
Gross Domestic Product (GDP): The total market value of all final goods and services produced within a country in a given period. It can be calculated using three approaches:
Production Approach: Sum of value added by all industries.
Income Approach: Sum of all incomes earned in the production of goods and services (wages, profits, taxes minus subsidies).
Expenditure Approach: Sum of all expenditures on final goods and services (Consumption + Investment + Government Spending + (Exports - Imports)).
Gross National Product (GNP): GDP plus net income from abroad (income earned by residents from overseas investments minus income earned within the domestic economy by foreign residents).
Net National Product (NNP): GNP minus depreciation (the value of wear and tear on the country’s capital goods).
National Income Accounting provides a quantitative basis for assessing economic performance, making policy decisions, and comparing economic activity over time or between different economies.
5. Macroeconomic Equilibrium:
Determination of equilibrium income:
Macroeconomic equilibrium refers to a state where aggregate demand equals aggregate supply, resulting in stable prices and full employment in an economy. Determination of equilibrium income involves identifying the level of national income where planned expenditure equals actual output.
Aggregate Demand (AD): The total demand for goods and services in an economy at a given overall price level and in a given period. It is calculated as:
AD=C+I+G+(X−M)
where
𝐶
C is consumption,
𝐼
I is investment,
𝐺
G is government spending, and
(𝑋−𝑀)
(X−M) is net exports (exports minus imports).
Aggregate Supply (AS): The total supply of goods and services that firms in an economy plan to sell during a specific time period.
Equilibrium Income (Y*): The level of income where AD equals AS. This can be found using the formula:
* MPC is the marginal propensity to consume.
Macroeconomic equilibrium occurs at the point where the AD curve intersects the AS curve, indicating the equilibrium income level where the economy operates without unplanned changes in inventories.
6. The four big macroeconomic issues and their inter-relationships:
The four big macroeconomic issues are economic growth, unemployment, inflation, and balance of payments. These issues are interconnected and influence each other in various ways.
Economic Growth: The increase in a country's output of goods and services over time, typically measured by the rise in Gross Domestic Product (GDP). Sustained economic growth leads to higher living standards and increased employment.
Unemployment: The condition where individuals who are capable and willing to work cannot find jobs. High unemployment indicates underutilized resources in the economy and can slow down economic growth.
Inflation: The rate at which the general level of prices for goods and services rises, eroding purchasing power. Moderate inflation is a sign of a growing economy, but high inflation can lead to uncertainty and reduced economic stability.
Balance of Payments: A record of all economic transactions between residents of a country and the rest of the world. It includes the trade balance (exports minus imports), capital flows, and financial transfers. A deficit in the balance of payments can lead to a devaluation of the country's currency.
Inter-relationships:
Economic Growth and Unemployment: Higher economic growth usually reduces unemployment as more jobs are created.
Economic Growth and Inflation: Rapid economic growth can lead to higher demand, pushing up prices and causing inflation.
Unemployment and Inflation (Phillips Curve): There is often a short-term trade-off between unemployment and inflation. Lower unemployment can lead to higher inflation and vice versa.
Balance of Payments and Economic Growth: Strong economic growth can worsen the balance of payments if it leads to higher imports than exports.
Understanding these inter-relationships helps policymakers design strategies to achieve a stable and prosperous economy.
7. Fiscal policy, money and banking:
Fiscal Policy: Fiscal policy refers to the use of government spending and taxation to influence the economy. It aims to manage economic fluctuations, promote growth, and achieve objectives like full employment and price stability. Key tools include:
Government Spending (G): Direct expenditures on goods, services, and public projects.
Taxation (T): The collection of revenue from individuals and businesses to fund government activities.
Money: Money serves as a medium of exchange, a unit of account, a store of value, and a standard of deferred payment. It facilitates transactions and economic activity by eliminating the inefficiencies of a barter system.
Banking: The banking system comprises institutions that accept deposits, offer loans, and provide financial services. Banks play a crucial role in money creation through the fractional reserve system, where only a fraction of deposits is kept in reserve, and the rest is lent out. Key concepts include:
Money Multiplier (m): The ratio that measures the maximum amount of commercial bank money that can be created, given a certain amount of central bank money. It is calculated as:
𝑚=1/Reserve Ratio
Inter-relationships:
Fiscal Policy and Money: Government spending increases aggregate demand, which can be financed by money creation.
Banking and Money Supply: Banks expand the money supply through lending, influencing economic activity.
Fiscal Policy and Banking: Taxation and spending policies affect the banking sector's liquidity and lending capacity.
Together, fiscal policy, money, and banking are essential components in managing the economy, influencing growth, stability, and overall economic health.
8. money, central banking and monetary policy:
Money: Money is a medium of exchange, a unit of account, a store of value, and a standard of deferred payment. It facilitates transactions, measures value, preserves purchasing power, and allows future payments.
Central Banking: Central banking refers to the role of a central bank in managing a nation's currency, money supply, and interest rates. The central bank oversees the banking system, ensures financial stability, and acts as a lender of last resort.
Monetary Policy: Monetary policy involves the actions taken by a central bank to regulate the money supply and achieve macroeconomic objectives such as controlling inflation, managing employment levels, and ensuring economic growth. Key tools include:
Open Market Operations (OMO): Buying or selling government securities to influence the money supply. Buying securities injects money into the economy, increasing the money supply; selling securities withdraws money, decreasing the money supply.
Discount Rate: The interest rate charged by central banks on loans to commercial banks. Lowering the discount rate encourages borrowing and increases the money supply; raising it has the opposite effect.
Reserve Requirements: The minimum fraction of deposits that banks must hold in reserve. Lowering reserve requirements increases the amount of money available for lending, expanding the money supply; raising them reduces it.
Inter-relationships:
Money and Central Banking: Central banks manage the money supply to ensure economic stability.
Central Banking and Monetary Policy: Central banks use monetary policy tools to achieve economic goals.
Money and Monetary Policy: Adjusting the money supply impacts inflation, interest rates, and economic activity.
These components work together to maintain economic stability and promote growth.
9. money and goods market equilibrium: IS-LM framework:
The IS-LM framework is a macroeconomic model that shows the relationship between the goods market and the money market, determining equilibrium levels of interest rates and national income.
IS Curve (Investment-Savings): Represents equilibrium in the goods market, where total spending (consumption + investment + government spending + net exports) equals total output. The IS curve shows combinations of interest rates (i) and output (Y) where the goods market is in equilibrium.
Formula:
Y=C(Y−T)+I(r)+G+NX
where
𝑌
Y is national income,
𝐶
C is consumption,
𝑇
T is taxes,
𝐼
I is investment,
𝑟
r is the interest rate,
𝐺
G is government spending, and
𝑁𝑋
NX is net exports.
LM Curve (Liquidity Preference-Money Supply): Represents equilibrium in the money market, where money demand equals money supply. The LM curve shows combinations of interest rates and output where the money market is in equilibrium.
Formula:
M/P=L(Y,r)
where
𝑀
M is the money supply,
𝑃
P is the price level, and
𝐿
L is the liquidity preference (demand for money) as a function of income (Y) and the interest rate (r).
Equilibrium: The intersection of the IS and LM curves determines the equilibrium levels of interest rates and output in the economy.
Goods Market Equilibrium: Achieved where the IS curve represents the levels of income and interest rates that equate planned spending with actual output.
Money Market Equilibrium: Achieved where the LM curve represents the levels of income and interest rates that equate money demand with money supply.
This framework helps analyze the effects of fiscal and monetary policies on the overall economy.
10. International trade and finance:
International Trade: The exchange of goods and services across borders, driven by comparative advantage. Countries export goods they produce efficiently and import those they produce less efficiently. Key concepts include:
Balance of Trade: Difference between a country’s exports and imports.
Balance of Trade=Exports−Imports
International Finance: The study of financial interactions between countries, including exchange rates, capital flows, and international investments. Key components include:
Exchange Rates: The price of one currency in terms of another. It affects trade balance and capital flows.
Capital Flows: Movement of financial assets across borders, including foreign direct investment (FDI) and portfolio investment.
Balance of Payments (BoP): A record of all economic transactions between residents of a country and the rest of the world. It includes:
Current Account: Trade in goods and services, income, and current transfers.
Capital Account: Transfers of financial assets.
Financial Account: Investment flows including FDI and portfolio investments.
Inter-relationships:
Trade and Finance: Exchange rates affect the competitiveness of exports and imports, influencing trade balances.
Trade and Capital Flows: Trade deficits or surpluses impact capital flows and financial account balances.
These elements are crucial for understanding global economic interactions and policy implications.
11. Problems of lower income countries (LICs):
Lower-Income Countries (LICs) face several challenges that hinder their economic development:
Poverty: High levels of poverty limit access to basic needs and opportunities for economic advancement.
Limited Access to Education and Health Care: Poor education and health systems affect human capital development and productivity.
Inadequate Infrastructure: Insufficient infrastructure, such as transportation and utilities, impedes economic activity and investment.
Political Instability and Corruption: Political instability and corruption undermine economic growth, deter investment, and affect governance.
High Debt Burden: Heavy debt burdens constrain fiscal flexibility and limit resources for development programs.
Dependency on Agriculture: Heavy reliance on agriculture, often with low productivity, makes LICs vulnerable to climate changes and price fluctuations.
Limited Industrialization: Low levels of industrialization restrict economic diversification and development.
Trade Barriers: LICs often face barriers in accessing global markets, affecting export opportunities and economic growth.
Addressing these problems requires comprehensive policies focused on improving education, infrastructure, governance, and economic diversification.
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