Economics, 3rd Edition

This lecture identifies ways in which economists think differently about human motivations, tradeoffs, and the workings of markets. It also introduces a number of terms: microeconomics, macroeconomics, opportunity cost, marginal analysis, and more.

The division of labor means that almost no one produces all or most of what they consume. Since Adam Smith over 200 years ago, economists have explained how the combination of a division of labor and exchange of goods and services increases productivity.

Any market involves both buyers, or "demand;" and sellers, or "supply." The supply and demand framework predicts that markets will tend toward an equilibrium price, where the quantity supplied and the quantity demanded are equal.

Price floors, such as government support for farmers, set price minimums, while price ceilings, like rent control, set a maximum price. Both can hold prices away from equilibrium, and make demand unequal to supply. Price regulations impose costs on consumers or producers, and create inefficiency.

Demand for orange juice is elastic—when its price rises, consumers can switch to other juices. Demand for gasoline is inelastic—when its price rises, drivers can't switch to other fuels. Elasticity is useful in evaluating how public policies will work.

In the labor market, individuals are the suppliers, businesses are the demanders, and wages are the price. This lecture examines labor markets by discussing some prominent issues, like the minimum wage and how payroll taxes for Social Security affect wages.

There is a longstanding prejudice against capital markets in western culture—after all, charging interest used to be considered a sin of usury. This lecture focuses on the demand side of the capital markets, or primarily the demand for financial capital from businesses that seek to invest in plants and equipment.

The supply side of the capital market is an ornate name for a more basic question: How can I get rich through financial investments? While this course is not intended to provide financial or investment advice, this lecture looks at the four major investment concerns—return, risk, liquidity, and tax status—and then considers a range of investments, and their tradeoffs.

Competition between firms falls into four categories: perfect competition, monopolistic competition, oligopoly, and monopoly. This lecture discusses these paradigms, and describes how prices, output, and profits are likely to differ in each.

Antitrust refers to government policies to prevent monopoly and encourage competition. They include blocking proposed mergers between firms; forcing firms to change unfair practices; and in some cases (like AT&T in 1984) requiring large firms to be split into smaller ones.

In some industries—like airlines, banking, and electricity—government has sought to regulate prices charged and/or quantities produced. This lecture discusses the situations when government regulation works best, and when it does not.

"Negative externalities" are situations in which the buying and selling of goods creates consequences—like pollution—felt by third parties who are not part of the original transaction. Regulation can be inflexible and costly. Economists have instead proposed market-oriented policies.

The market can produce too few "positive externalities": good things like scientific research, innovation, and education. Policy solutions for this situation include patents, copyrights, direct government support, and tax credits to industry.

Public goods, like national defense or basic scientific research, are "nonexcludable" and "nondepletable." Potential sellers cannot exclude people from using them, and they are not used up as more people use them. Markets often do a poor job of producing public goods, so there is a case for government action.

Economists have preferred anti-poverty strategies that favor cash and wage subsidies over trying to set prices low or wages high for the poor. However, recent welfare reform emphasizes another feature—that people take jobs as soon as possible.

Inequality is the gap between those with high incomes and those with low incomes. Since the late 1970s, inequality has increased in the United States. This lecture discusses the possible causes, whether some government response is appropriate and, if so, what kind.

Imperfect information, such as how much to charge for auto insurance when information about the risks of auto accident is imperfect, can raise havoc with markets. It raises two issues—moral hazard and adverse selection—that are fundamental to arguments over health insurance in the United States.

Shareholders may have trouble constraining the actions of top corporate managers and voters can have difficulty controlling politicians' actions. So skepticism is warranted about whether firms will seek efficient production, or whether politicians will act in society's best interest.

Macroeconomics has four policy goals—economic growth, low unemployment, low inflation, and sustainable trade deficits—and two main tools: federal budget policy and monetary policies of the Federal Reserve. Gross domestic product (GDP) is the standard measure of a nation's economy.

In the long run, the rate of economic growth is by far the most important factor in determining the average standard of living. The key factors behind economic growth are increases in physical capital, human capital, and technology, all of which depend upon a supportive market environment.

The economist's view of unemployment focuses on why supply and demand in the labor market are producing unemployment. The underlying causes of unemployment can be split into two broad categories: cyclical unemployment, and the structural or natural rate of unemployment.

Inflation is an overall sustained increase in the level of prices. The inflation rate is determined by defining a basket of goods, and then tracking how the cost of that basket changes over time. Mild inflation is not a great policy concern, but higher levels can cause problems.

The trade deficit is perhaps the most misunderstood statistic in all of economics. The United States ran extremely large trade deficits in the late 1990s and into the 2000s, turning the United States into the world's largest debtor economy.

Economists commonly think about the macroeconomy through the model of aggregate demand and supply. It indicates how growth, inflation, unemployment, and the trade balance are related; why certain goals sometimes involve trade offs; and which macroeconomic policies to use.

Some of the biggest controversies in modern macroeconomics revolve around whether an unemployment-inflation tradeoff exists. This tradeoff, known as the Phillips curve, existed quite clearly in U.S. data from about 1950 to 1970, but then fell apart.

This lecture reviews the main spending and taxing components in the federal budget, surveys trends in federal budget deficits and federal debt, and explains why budget deficits exploded, contracted, and then exploded again in the last 20 years.

Spending increases or tax cuts can mitigate a recession, and spending cuts or tax hikes can fight inflation. In the United States, these countercyclical measures happen automatically to some extent, but some believe government should go beyond these automatic stabilizers.

When government budget deficits are large and sustained, two possible effects can result. First, less financial capital may be available for private investment. Second, the United States may need to attract foreign investors. In the long term, neither is healthy.

Economists define money as whatever serves as the medium of exchange, store of value, or unit of account. Money's various modern definitions— traveler's checks, checking accounts, savings accounts, money market mutual funds, etc.— reveal that money and the banking system are tightly interrelated.

The Federal Reserve controls monetary policy, and has great power over the United States and even the world's economy. Yet it is run by presidential appointees and bankers, not by elected officials. Although there are plausible reasons, this remains controversial.

Controversies exist over exactly how the Federal Reserve should fight inflation. Should it focus exclusively on inflation, or also pay attention to such goals as shortening recessions? Should it act when stock market or housing prices may be forming a bubble?

Economists are deeply supportive of foreign trade; the average person is much more suspicious. The expansion of global trade in the post-World War II period has brought large gains to the United States and to the world economy.

Pressures to limit imports are called "protectionism." This lecture reviews arguments for protectionism—saving jobs, protecting the environment, and others—and the reasons that most economists find those arguments less than compelling.

An exchange rate is the rate at which one currency exchanges for another. Exchange rates can be considered as a (misguided) symbol of national economic virility, when in reality they are just a price for currency.

This lecture explores international financial crashes—such as those suffered by Thailand, Russia, and Argentina in recent years—and policies that may reduce their risk. But such risks will likely continue as international flows of financial capital expand.

This lecture discusses global economic prospects over the next few decades. Even with a number of potential stumbling blocks, the chances for several billion people to be far better off are extraordinary. The United States sometimes seems to fear this richer world, but it need not.