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Chapter 11 Section 1 Money—any substance that serves as a medium of exchange, a measure of value, and a store of value ◦ Medium of exchange—something accepted by all parties as payment for goods and services ◦ Measure of Value—common denominator that can be used to express worth in terms that most individuals understand ◦ Store of Value—allows purchasing power to be saved until needed Commodity money—has an alternative use as an economic good, or commodity ◦ Example: compressed tea leaves in ancient China Fiat money—money by government decree Both types were used in the U.S. colonies ◦ Tobacco was most common commodity ◦ Paper currency was backed by gold or silver in some cases or redeemable after taxes were collected ◦ Specie—coined money was desirable but in short supply Portable ◦ Easily transferred from one person to another Durable ◦ Must last when handled and not deteriorate Divisible ◦ Easy to divide into smaller units so people can use only as much as needed Limited Availability ◦ Must be limited in supply to keep its value Federal government did not print paper currency but left it to state banks State banks printed their own currency that were supposed to be redeemable for gold or silver ◦ Led to many abuses…Wildcat banks that printed large amounts of currency in remote areas to make redemption difficult ◦ Also led to problems with consistency and counterfeiting…more than 10,000 kinds of paper currency by the Civil War Greenbacks—paper currency was issued by Congress in order to pay for the Civil War ◦ People still feared that the greenback would lose value after the war (no gold or silver backing) National bank system was established Gold Certificates, Silver Certificates, and Treasury Coin notes were introduced as well ◦ Issued national currency backed by U.S. bonds— made to seem more secure to public In 1900, Congress put U.S. on the gold standard ◦ Monetary standard under which the basic currency unit is equal to, and can be exchanged for, a specific amount of gold Advantages ◦ Made people feel more secure about money ◦ Supposed to prevent the government from printing too much money U.S. never did have enough gold to back all of its currency Disadvantages ◦ Gold stock may not grow fast enough to support the economy ◦ People may suddenly decide to convert their currency into gold ◦ Price of gold is likely to change dramatically over time Gold Standard was abandoned during the Great Depression because people wanted to cash in their money for gold Monetary standard under which the fiat money supply cannot be converted into gold or silver Government manages the money supply Modern money fits all of the characteristics of money Portable ◦ Easily transferred from one person to another Durable ◦ Must last when handled and not deteriorate Divisible ◦ Easy to divide into smaller units so people can use only as much as needed Limited Availability ◦ Must be limited in supply to keep its value Chapter 11 Section 3 Federal Reserve System—nation’s first true central bank ◦ Lends to other banks in times of need ◦ Runs like a corporation with privately-owned banks owning and is under public control Federal Deposit Insurance Corporation (FDIC) ◦ Insure customer deposits in the event of a bank failure (up to $250,000) ◦ Protection from runs on the bank (happened during the Great Depression) Savings Banks ◦ Depositor owned organization operating for the benefit of its depositors (mutual savings banks) ◦ Many sold stock to raise capital and became savings banks Savings and Loans Associations Credit Unions ◦ Invests the majority of its funds in home mortgages ◦ Nonprofit service cooperative owned by and serving its members Chapter 13 Section 1 part 1 The dollar amount of all final goods and services produced within a country’s national borders in a year ◦ Figured by multiplying number of goods and services produced by their prices (Figure 13.1-pg. 342) ◦ Counts products made in the U.S. even if investors who own the factories live outside the U.S. ◦ Does not count U.S.-owned factories that are located outside the U.S. Intermediate products—products used to make other products already counted in GDP ◦ Tires on a new car are counted in the value of the car…not separately Secondhand sales—the sales of used goods ◦ Products are transferred from one person to another but no new production is created Nonmarket transactions—transactions that do not take place in the market ◦ Difficult to measure the value ◦ The value of mowing your own lawn or all of the jobs that homemakers perform Some nonmarket transactions are part of the underground economy ◦ Illegal activities such as gambling, smuggling, drugs, and counterfeiting GDP tells us if the amount of production is increasing or decreasing GDP does not tell us how production is changing ◦ No information about quality of life or composition of output ◦ A $10 million increase could be because of an increase in military spending on new weapons or more schools, libraries, etc. Chapter 13 Section 1 part 2 The dollar value of all final goods, services, and structures produced in one year with labor and property supplied by a country’s residents ◦ To go from GDP to GNP Add all payments that Americans receive from outside the U.S. Subtract all payments made to foreign-owned resources in the U.S. Net National Product (NNP) ◦ GNP minus depreciation (the capital equipment that has worn out or become obsolete over the year) National Income (NI) ◦ Income left after taxes except corporate profits tax are subtracted from NNP Personal Income (PI) ◦ Total amount going to consumers before individual income taxes are subtracted Disposable Personal Income (DPI) ◦ The total income the consumer sector has at its disposal after personal income taxes ◦ Actual amount the consumer has to spend Consumer/ Private Sector ◦ Largest sector of the economy made up of households All persons who occupy a house, apartment, or room that constitutes separate living quarters ◦ Receives its income in the form of disposable personal income Business/ Investment Sector ◦ Proprietorships, partnerships, and corporations ◦ Brings the factors of production together Government Sector ◦ All levels of government ◦ Receives its income from taxes Foreign Sector ◦ All consumers and producers outside the U.S. ◦ Difference between the dollar value of goods sent outside the U.S. and value of goods purchased from outside the U.S. (X – M) Model used to show demand by the consumer, investment, government, and foreign sectors GDP = C + I + G + (X-M) Chapter 13 Section 2 Price indices are created in order to measure changes in price over time and remove the distortions of inflation (rise in general level of prices) ◦ A base year is selected and the prices of goods are recorded as 100 percent ◦ The prices are tracked on those goods over time and compared to the base year Consumer Price Index ◦ Reports price changes for about 80,000 items using 1982-84 as base year Producer Price Index ◦ Measures price changes paid by domestic producers for their inputs (farm products, fuel, chemicals, etc.) ◦ Uses 1982 as a base year Implicit GDP Price Deflator ◦ Average levels of prices for all goods and services in the economy Current GDP does not reflect inflation when compared over time Real GDP removes the distortions of inflation Real GDP = GDP in current dollars / implicit GDP price deflator x 100 Chapter 13 Section 3 Population can distort GDP and GNP because it increases the amount of labor ◦ Per capita shows increase or decrease per person Population measurements ◦ Census—official count of all people taken every 10 years ◦ Changes in population Households are getting smaller Migration trends are towards the western U.S. Center of population is in Missouri Demographers study growth, density, and other characteristics of population to help make decisions 3 most important factors affecting population ◦ Fertility rate—number of births that 1,000 women are expected to undergo in their lifetime (2,119) ◦ Life expectancy—average remaining life span of people who reach a given age (75.9 today) ◦ Net immigration—the net change in population caused by people moving into and out of the country Baby boomers will characterize the population ◦ Baby boom—high birthrate years from 1946 to 1964 This generation affects the dependency ratio ◦ Ratio based on the number of children and elderly for every 100 persons in the working age bracket of 18 to 64 ◦ Ratio was 63.9 in 1998 but will rise to 77.5 by 2030 Chapter 13 Section 4 Two methods of measuring growth Real GDP per capita—the dollar amount of real GDP per person ◦ Adjusts for changes in population and inflation Growth triangle—table that shows annual rates of growth between selected periods of time ◦ Figure 13.10 on page 365 Benefits a country in many ways Standard of living is raised ◦ Quality of life based on the possession of necessities and luxuries that make life easier Eases burden of government ◦ Enlarges the tax base (incomes and properties that may be taxed) which allows for more government spending Helps with domestic problems ◦ More jobs and income for more people Helps other nations ◦ Growing business creates jobs for people in other parts of the world Land- With land many nations can depend on themselves for goods Capital – People must save, save goods, save money, etc this allows for more to be created because some is left over Labor- the economy cant grow without workers Entrepreneurs- these people organize production in a new way to help the economy grow Chapter 14 Section 1 Systematic ups and downs of real GDP that interrupt economic growth Phases of the Business Cycle (pg. 376) ◦ 1st phase—Recession—a period during which real GDP declines for two quarters in a row (6 months) Begins at a peak and ends at a trough ◦ 2nd phase—Expansion—a period of recovery from a recession Occurs until the economy reaches a new peak ◦ Trend line maps the steady growth pattern ◦ Depression—if recession becomes severe GDP fell from $103 billion to $55 billion from 1929 to 1933; unemployment went up almost 800% Causes ◦ Disparity in income between very rich and very poor Not enough consumer spending to stimulate economy ◦ Many people borrowed heavily in late 1920s and had no money to fall back on ◦ Foreign nations stopped buying and selling goods in the U.S. due to removal of loans and institution of high tariffs Longer periods of expansion and a shorter recession Many factors in the business cycle ◦ Changes in capital investment—companies build when the economy is expanding and then stop after a while ◦ Inventory adjustments—businesses cut back at first sign of downturn and build up at first sign of upturn ◦ Innovation and imitation—businesses innovate to gain edge; other businesses spend $ to keep up and then the innovation takes hold ◦ Monetary factors—credit and loan policies of the Federal Reserve (low rates cause more borrowing which causes rates to increase) ◦ External shocks—increases in price, war, etc. Index of leading indicators is used to predict the turning points of business cycles ◦ Uses many different statistics to predict—length of workweek tends to shrink just before a recession Chapter 14 Section 2 Measuring unemployment ◦ Unemployed—people available for work who made a specific effort to find a job during the past month and worked less than one hour for pay or profit ◦ Unemployment rate—number of unemployed individuals divided by the total number of persons in the civilian labor force ◦ Does not count those who have become too discouraged to look for work or people that are holding part-time jobs instead of full-time jobs Frictional unemployment ◦ Unemployment caused by workers who are between jobs for one reason or another ◦ People changing jobs for the better or looking for new jobs Structural unemployment ◦ Unemployment that occurs when a fundamental change in the operations of the economy reduces demand for workers or skills ◦ Caused by changes in technology or consumer tastes Cyclical unemployment ◦ Unemployment directly related to swings in the business cycle ◦ People out of work due to recession and industry lay-offs who may get jobs back after recession ends Seasonal unemployment ◦ Unemployment resulting from changes in the weather or demand for certain products ◦ Carpenters and builders during the winter—work is less regardless of health of the economy Technological Unemployment ◦ Unemployment caused when workers are replaced by machines Full Employment ◦ Means the lowest possible unemployment rate with the economy growing and all factors of production being used as efficiently as possible Chapter 14 Section 3 Measuring Inflation ◦ Price level—relative magnitude of prices at one point in time ◦ Inflation rate Change in price level / beginning price level x 100 ◦ Deflation—decrease in general price level (rare) Creeping inflation ◦ Inflation in the range of 1 to 3 percent per year Galloping inflation ◦ More intense inflation that can go as high as 100 to 300 percent Hyperinflation ◦ Out of control—500 percent or above ◦ Generally last stage before total monetary collapse Demand-pull theory—all sectors try to buy more goods than are produced (pulls prices up) Rising input costs drive up the cost of products ◦ Self-perpetuating spiral of wages and prices (high prices force workers to demand higher wages which raises prices) Excessive monetary growth—money supply growing faster than real GDP drives up prices Decreased purchasing power—dollar buys less People change their spending habits—borrow less for major purchases Lenders are hurt more than borrowers ◦ Money is paid back in inflated dollars