Econ Class 3

John Maynard Keynes

• Big thing was government expenditure concept - government should stimulate and invest in the economy
• Believed only way out of the great depression was government expenditure.

Milton Friedman

• American economist in 1962
• Hated government interference
• 1962 "capitalism and freedom" - monetarism
  • importance of monetary policy - control of the money supply in the economy by government controlling the supply of money that flows in the economy while allowing the rest of the market to fix itself (promotes free market)
  • supply should grow at nice consistent rate (roughly 3 percent), then economy will grow at same rate. Production will rise alongside growth of economy, and will have no inflationary problems.

- interest rates = cost of money
- inflation = prices of goods and services
- money supply = notes/coins in circulation
- Increase this at steady rate, and production of goods will increase also at steady rate. This will not lead to inflationary issues, as both factors increase in the same way.

• 1970 - massive inflationary pressures due to oil shocks.
• Keynes focus was on employment/expenditure. Friedman was about human incentives, prices, inflations. He wanted free market. He was big on governments not interfering. -> much like Smith
  • Friedman brought about a renewed emphasis on prices, inflation and human incentives, a direct counter to Keynes' focus on employment, interest and public policy.
• To change individual consumption, income must change
• Friedman's first big breakthrough in the field of economics was his Theory of the Consumption Function in 1957, which championed the idea that a person's consumption and savings decisions are more greatly impacted by permanent changes to income, rather than changes to income that are perceived as temporary. This theory produced the permanent income hypothesis which explained why short-term tax increases actually decrease savings and keep consumption levels static, all else being equal, (That is, people will draw down on their savings to maintain the level of consumption if taxes are increased).
• If short term tax increase, people will draw down on savings to maintain level of consumption, rather than reduce level of consumption.
• Permanent tax increases will affect level of consumption
• Inflation is a monetary phenomenon. It is driven by too much money.

The most famous excerpt from Friedman's writings and speeches is, "Inflation is always and everywhere a monetary phenomenon." He defied the intellectual climate of his era and reasserted the quantity theory of money as a viable economic tenet. In a 1956 paper titled "Studies in the Quantity Theory of Money," Friedman found that, in the long run, increased monetary growth increases prices but does not really affect output.

• Friedman's work busted the classic Keynesian dichotomy on inflation, which asserted that prices rose from either ”cost-push” or “demand-pull” sources. It also put monetary policy on the same level as fiscal policy.
• Both Keynes and Friedman are correct. Print money -> inflationary pressures, while too much demand compared to supply also causes inflation.

Fredrich von Wieser

• Came up with marginal utility, and opportunity cost.
• Cost of a commodity depends neither on the amount of money nor the amount of labour required in its production but rather on its subjective or psychological value.
• Furthermore, Wieser contributed the theory of "impution", and thought what price actually means.
  • Price tells you the value of the commodity relative to other goods and relative to your demand for it
  • Price has to some degree represents cost, however they also represent market conditions - how many people want the product, and how much of the product is available (supply and demand), relative to other products and their supply/demand.
• Said a socialist economy would also require a price system.
• Thought about scarcity, resource allocation and marginal utility.
  • Prices reflect what people want and how much satisfaction you get from them.

Fredrich von Hayek

• Big on free market, contradicting Keynes
• Believed prices of free market was greater indicator of what happens in the market.

Thinkers in the Assessment:

• Adam Smith

• David Ricardo

• Keynes

• Friedman

• Karl Marx

• NOT Wieser

• NOT Hayek

Economic Systems

• Milton Friedman was dealing with inflation, and how to get out of it
• Keynes was dealing with great depression
• Keynes/Smith was about indivudal revolution, and free market
• Karl Marx was reacting to exploitation of workers
• ALL concerned with how a system works, how its resources are divided

==Philosophers: Q1: What they Do: Q2: Their contribution to a system Q3: Tie it together==

• What is an economic system?
  • Refers to the way an economy organises itself to address the Basic Economic problem. 4 questions for BEP:
• What to produce
• How to produce
• How much to produce
• For whom to produce

Hence government control used to solve the BEP depends on the type of economic system:

• Free market
• Planned (command)
• Mixed (modified market)
• Tradition (cringe and not relevant) Smith - free market, Marx - planned, Keynes - mixed

Most economies require a system to address the 4 basic questions

• A system where all the decisions are made by the government OR where markets are allowed to make decisions

• Mixed is a little bit of both.

• A decision made in the city can have a massive environmental impact on rural areas -> Great famine, sparrow stuff

• An economic ystem refers to the way an economy organises itself to address the BEP

• An economic system is a system of production, resource allocation and distribution of goods and services within a society or a given geographic area.

• It includes the combination of the various institutions, agencies, entities, decision-making processes and patterns of consumption that comprise the economic structure of a given community/society/country. ==KEY CONCEPT OF A MARKET ECONOMY IS THE LAWS OF SUPPLY AND DEMAND==

• A market economy is a system where the laws of supply and demand direct the production of goods and services

• Supplies includes natural resources, land, labour and enterprise - Factors of Production

• Demands include purchases by consumers, business and the government.

• Businesses sell their wares at the highest price consumers will pay.

• At the same time, shoppers look for the lowest prices for the goods and services they want.

• Workers bid their services at the highest possible wages that their skills allow.

• Employers seek to get the best employees at the lowest possible price

• Equilibrium when what they are willing to sell is the same as when you are willing to buy

• Unions are a response to when an individual has to negotiate with larger company. It allows people to control wages of a specific job and where competition can work together to advocate for better wages.

Market Economy characteristics:

• Private Property
  • One of the most important characteristics of a market economy
  • Most goods and services are privately owned
  • The owners can make legally-binding contracts to buy, sell or lease their property.
  • In other words, their assets give them the right to profit from ownership.
  • Important because gives sense of security, and has the financial motivation to improve and increase efficiency of a property.
• Freedom of choice
  • You decide what you buy, sell and produce.
  • Most importantly, you operate in a competitive market.
  • There are 2 constrains:
    • First is the price at which they are willing to buy or sell. In truly competitive markets, the market will determine the price. You can't choose, or else you will not profit
    • Second is the amount of capital they have.
  • Motive of Self-Interest
    • People are driven by self-interest, want to sell products to highest bidder, and want to negotiate to buy things at the lower price.
    • This will lead to benefit for the economy in the long term.
    • Auction system sets prices for goods and services that reflect their market value.
    • It gives an accurate picture of supply and demand at any given moment.
  • Competition
    • MUST have competition in a market place.
    • The force of competitive pressure keeps prices low. It also ensures that society provides goods and services most efficiency.
      • When in competition, people work to be the best for the consumers.
    • As soon as demand increases for a particular item, prices rise thanks to the law of demand.
    • Competitors see they can enhance their profits by producing it, adding to supply.
    • This lowers prices to a level where only the best competitors.
  • System of Markets and Prices
    • A market economy relies on an efficient market in which to sell goods and market
      • This is realistically not true.
    • That's where all the buyers and sellers have equal access to the same information.
    • Price changes are pure reflections of the laws of supply and demand.
  • Limited government
    • The role of government is to ensure that the markets are open and working.
    • For example, it is in charge of national defence to protect the markets. It also make sure that everyone has equal access to the markets. The government penalizes monopolies that restrict competition.
    • It makes sure no one is manipulating the markets and that everyone has equal access to information.
    • Government should not interfere in government, should make sure market is efficient

Planned/Command Economy:

• When a central government makes all economic decisions.
• Either the government or a collective owns the land and the means of production.
• It doesn't rely on the laws of supply and demand that operate in a market economy.
• In recent years, many centrally-planned economies began adding aspect of the market economy. The resultant mixed economy better achieves their goals
• America has been introducing supply-side economics (related to command?), people don't learn from mistakes

What happens?

• The government creates a central economic plan setting economic and societal goals for every sector and region of the country
• The government allocates all resources according to this central plan
• People must work to follow this plan.
• It tries to use the nation's capital, labour and natural resources in the most efficient way possible.
• It promises to use each people's skills and abilities to their highest capacity seeking to eliminate unemployment.
• 1 Positive: 0 Unemployment!!!

The central plan:

• Sets the priorities for the production of all goods and services.
• These include quotas and price controls. Its goal is to supply enough food, housing and other basics to meet the needs of everyone in the country.
  • In a market economy, government uses other means to influence prices compared to price controls e.g. interest rate
• It also sets national priorities which include mobilizing for war or generating robust economic growth.

Government:

• The government creates laws, regulations, and directives to enforce the central plan
• Businesses follow the plan's production and hiring targets.
• They can't respond on their own to free market forces.
• Government owns monopoly businesses. These are in industries deemed essential to the goals of the economy.
• These usually includes finance, utilities, and automotive.
• There is no domestic competition in these sectors.

The command economy is a key feature of any communist society.

• Cuba, North Korea and the former Soviet Union are examples of countries that have command economies.
• China maintained a command economy for decades before transitioning to a mixed economy that features both communistic and capitalistic elements,

Mixed economy:

• System that combines characteristics of market, command and traditional economies. Australia is mixed.
• It benefits from the advantages of all three while suffering from few of the disadvantages.

Will have 3 of the following charac. of a market economy:

• Protect private property
• Allows the free market and the laws of supply and demand to determine prices
• It is driven by the motivation of the self-interest of individuals

Some charac. of command economy:

• It allows the central government to safeguard its people and its market.
• The government has a large role in the military, international trade and national transportation.

The government's role in other area depends on the priorities of the citizens.

• In some the government creates a central plan that guides the economy.
• Other mixed economies allow the government to own key industries.
• These include aerospace, energy production, and even banking.
• The government may also manage healthcare, welfare and retirement programs.

Australia is considered to be a mixed economy because it is characterised by private enterprise coupled with strong regulatory oversight by government and the government provisions of public goods such as roads.

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