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Chapter 02 - Understanding Economics and How It Affects Business
2-1
chapter
=
Understanding
Economics and How It Af-
fects Business
what's new in this edition 2.3
brief chapter outline and learning objectives 2.5
lecture outline and lecture notes 2.7
PowerPoint slide notes 2.43
lecture enhancers 2.63
lecture enhancer 2-1: INDIA’S UPCOMING ERA OF GROWTH 2.63
lecture enhancer 2-2: A NEW CROP OF CONSUMERS IN AFRICA 2.63
lecture enhancer 2-3: TRACKING THE UNDERGROUND ECONOMY 2.64
lecture enhancer 2-4: EU NATIONS ADD UNDERGROUND ECONOMIES TO GDP 2.65
lecture enhancer 2-5: THE CIRCULAR FLOW MODEL 2.65
lecture enhancer 2-6: OTHER ECONOMIC INDICATORS 2.66
lecture enhancer 2-7: HOW ACCURATE IS THE GDP? 2.67
lecture enhancer 2-8: HONDA BECOMES AN AMERICAN EXPORTER 2.67
lecture enhancer 2-9: WHAT IS A DEPRESSION? 2.68
2
Chapter 02 - Understanding Economics and How It Affects Business
2-2
critical thinking exercises 2.70
critical thinking exercise 2-1: KNOW YOUR HISTORY OF ECONOMICS 2.70
critical thinking exercise 2-2: APPLYING ECONOMIC PRINCIPLES TO 2.71
EDUCATION
critical thinking exercise 2-3: FINDING THE EQUILIBRIUM POINT 2.72
critical thinking exercise 2-4: STANDARD OF LIVING COMPARISON 2.74
bonus case 2.75
bonus case 2-1: FOUNDATIONS OF THE CAPITALIST SYSTEM 2.75
Chapter 02 - Understanding Economics and How It Affects Business
2-3
what’s new in
this edition
additions to the 11th edition:
• Getting to Know Matt Flannery of Kiva
• Name That Company: Florida Public Service Commission
• New key term: Core Inflation
• Spotlight on Small Business: Bugs Bug Orange Farmers and Drive Prices Up
• Reaching Beyond Our Borders: Economic Expansion in Africa
revisions to the 11th edition:
• Statistical data and examples throughout the chapter were updated to reflect current information.
• Making Ethical Decisions: How Corruption Harms the Economy
deletions from the 10th edition:
• Getting to John Maynard Keynes
• Name That Company: FINCA
• Reaching Beyond Our Borders
• Thinking Green
• Spotlight on Small Business
• Figure 2.7: How the Consumer Price Index is Put Together
Chapter 02 - Understanding Economics and How It Affects Business
2-4
Chapter 02 - Understanding Economics and How It Affects Business
2-5
brief chapter outline
and learning objectives
CHAPTER 2
UNDERSTANDING ECONOMICS AND HOW IT AFFECTS
BUSINESS
Getting to Know MATT FLANNERY
learning objective 1
Explain basic economics.
I. HOW ECONOMIC CONDITIONS AFFECT BUSINESSES
A. What Is Economics?
B. The Secret to Creating a Wealthy Economy
C. Adam Smith and the Creation of Wealth
D. How Businesses Benefit the Community
learning objective 2
Explain what capitalism is and how free markets work.
II. UNDERSTANDING FREE-MARKET CAPITALISM
A. The Foundations of Capitalism
B. How Free Markets Work
C. How Prices Are Determined
D. The Economic Concept of Supply
E. The Economic Concept of Demand
F. The Equilibrium Point, or Market Price
G. Competition within Free Markets
H. Benefits and Limitations of Free Markets
learning objective 3
Compare socialism and communism.
III. UNDERSTANDING SOCIALISM
A. The Benefits of Socialism
B. The Negative Consequences of Socialism
Chapter 02 - Understanding Economics and How It Affects Business
2-6
IV. UNDERSTANDING COMMUNISM
learning objective 4
Analyze the trend toward mixed economies.
V. THE TREND TOWARD MIXED ECONOMIES
learning objective 5
Discuss the economic system of the United States, including the significance of
key economic indicators (especially GDP), productivity, and the business cycle.
VI. UNDERSTANDING THE U.S. ECONOMIC SYSTEM
A. Key Economic Indicators
1. Gross Domestic Product
2. The Unemployment Rate
3. Inflation and Price Indexes
B. Productivity in the United States
C. Productivity in the Service Sector
D. The Business Cycle
learning objective 6
Contrast fiscal policy and monetary policy, and explain how each affects the
economy.
E. Stabilizing the Economy through Fiscal Policy
F. Fiscal Policy in Action during an Economic Crisis
G. Using Monetary Policy to Keep the Economy Growing
VII. SUMMARY
Chapter 02 - Understanding Economics and How It Affects Business
2-7
Getting to Know MATT FLANNERY
Before he co-founded the microfunding company, Kiva.org, Matt Flannery tried to
start ent other companies, but his heart wasn't in them. Flannery found his “dream job”
in Kiva.
learning objective 1
Explain basic economics.
I. HOW ECONOMIC CONDITIONS AFFECT BUSI-
NESSES
A. An economic system either promotes or hinders busi-
ness activity.
B. Much of America’s business success is due to an
economic and social climate that allows businesses
to operate freely.
1. Any change in the U.S. economic system has a
major influence on the business system.
2. Also, GLOBAL ECONOMICS and WORLD POL-
ITICS have a major influence on U.S. business.
C. WHAT IS ECONOMICS?
1. ECONOMICS is the study of how society chooses
to employ resources to produce goods and ser-
This organization has administrative control over the Florida Power and Light Company be-
cause the United States wants to control potential monopolies. What is the name of this or-
ganization?
Students should read the chapter before guessing the company’s name: Florida Public
Service Commission
Chapter 02 - Understanding Economics and How It Affects Business
2-8
PPT 2-1
Chapter Title
Copyright © 2015 by the McGraw-Hill Companies, Inc. All rights reserved.
McGraw-Hill/Irwin
Understanding
Economics
and
How it Affects
Business
CHAPTER 2
PPT 2-2
Learning Objectives
LEARNING OBJECTIVES
1-2
1. Explain basic economics.
2. Explain what capitalism is and how free markets
work.
3. Compare socialism and communism.
PPT 2-3
Learning Objectives
LEARNING OBJECTIVES
1-3
4. Analyze the trend toward mixed economies.
5. Describe the economic system of the U.S., including
the significance of key economic indicators
(especially GDP), productivity and the business
cycle.
6. Contrast fiscal policy and monetary policy, and
explain how each affects the economy.
PPT 2-4
Matt Flannery
2-4
MATT FLANNERY
Kiva
• Co-founder of Kiva.org and
helps people in developing
countries get small loans.
• Microlending has been a
source of funding in the
developing world since the
1980s.
• Came up with the idea while
working in rural Africa.
PPT 2-5
Name That Company
NAME that COMPANY
1-5
This organization has administrative control over
the Florida Power and Light Company because
the United States wants to control potential
monopolies.
Name that organization!
(See the complete PPT slide notes on page 2.43 of this manu-
al.)
Chapter 02 - Understanding Economics and How It Affects Business
2-9
2. MACROECONOMICS is the part of economic
study that looks at the operation of a nation’s
economy as a whole.
3. MICROECONOMICS is the part of economic
study that looks at the behavior of people and or-
ganizations in particular markets.
4. Economics is sometimes defined as the allocation
of scarce resources.
5. RESOURCE DEVELOPMENT is the study of how
to increase resources and to create the conditions
that will make better use of those resources.
6. Businesses help economic systems by inventing
products and services that expand available re-
sources (example: mariculture, raising fish in
ocean pens).
D. THE SECRET TO CREATING A WEALTHY ECON-
OMY
1. The English economist Thomas Malthus believed
that population growth would outstrip resources.
a. In response, Thomas Carlyle called econom-
ics “THE DISMAL SCIENCE.”
b. Many still believe, like Malthus, that the solu-
tion to poverty is birth control.
c. WORLD POPULATION is currently growing
more slowly than expected.
d. But population in the DEVELOPING WORLD
will continue to climb quickly.
2. Others believe that a large population can be a
valuable resource, especially if people are edu-
cated.
Chapter 02 - Understanding Economics and How It Affects Business
2-10
PPT 2-6
The Major Branches of Economics
The MAJOR BRANCHES of
ECONOMICS
2-6
LO 2-1
• Economics -- The study of how society employs
resources to produce goods and services for
consumption among various groups and individuals.
• Macroeconomics -- Concentrates on the operation
of a nation
’
s economy as a whole.
• Microeconomics -- Concentrates on the behavior
of people and organizations in markets for particular
products or services.
PPT 2-7
Resource Development
RESOURCE DEVELOPMENT
2-7
LO 2-1
• Resource
Development -- The
study of how to increase
resources and create
conditions that will make
better use of them.
PPT 2-8
Examples of Ways to Increase
Resources
EXAMPLES of WAYS to
INCREASE RESOURCES
2-8
LO 2-1
• New energy sources
– Hydrogen fuel
• New ways of growing
foods
– Hydroponics
• New ways of creating
goods and services
– Aquaculture
– Nanotechnology
PPT 2-9
Thomas Malthus and the Dismal
Science
THOMAS MALTHUS and
the DISMAL SCIENCE
2-9
LO 2-1
• Malthus believed that if the rich had most of the
wealth and the poor had most of the population,
resources would run out.
• This belief led the writer Thomas Carlyle to call
economics “The Dismal Science.”
• Neo-Malthusians believe there are too many
people in the world and believe the answer is
radical birth control.
critical thinking
exercise 2-1
KNOW YOUR HISTORY OF
ECONOMICS
This Internet exercise is designed to help students gather in-
formation about economics from a historic perspective. (See
the complete exercise on page 2.70 of this manual.)
lecture enhancer 2-1
INDIA’S UPCOMING ERA OF
GROWTH
India is a burgeoning economic powerhouse with one of the
fastest growing working-age populations. However, it must
overcome some bumps in the road. (See the complete lecture
enhancer on page 2.63 of this manual.)
Chapter 02 - Understanding Economics and How It Affects Business
2-11
3. The SECRET TO ECONOMIC DEVELOPMENT
can be summed up in the saying “Give a man a
fish and you feed him for a day, but teach a man
to fish and you feed him for a lifetime.”
4. Business owners provide JOBS AND ECONOM-
IC GROWTH for their employees as well as for
themselves.
5. Economists and governments examine what
makes some countries relatively rich and other
countries relatively poor, then develop policies
that lead to INCREASED PROSPERITY for eve-
ryone.
E. ADAM SMITH AND THE CREATION OF WEALTH
1. ADAM SMITH believed wealth could be created
through entrepreneurship.
a. Rather than dividing fixed resources, Smith
envisioned creating more resources so that
everyone could be wealthier.
b. In 1776, Smith wrote THE WEALTH OF NA-
TIONS, in which he outlined steps for creat-
ing prosperity.
2. Smith believed that FREEDOM was vital to the
survival of any economy.
3. Also, he believed that people will work hard if
they have INCENTIVES for doing so.
4. Smith is considered to be the FATHER OF
MODERN ECONOMICS.
F. HOW BUSINESSES BENEFIT THE COMMUNITY
1. The INVISIBLE HAND is a phrase coined by Ad-
Chapter 02 - Understanding Economics and How It Affects Business
2-12
PPT 2-10
Population as a Resource
POPULATION as a RESOURCE
2-10
LO 2-1
• Contrary to Malthus, some
economists believe a large
population can be a
resource.
- An educated population is
highly valuable.
- Business owners provide jobs
and economic growth for their
employees and communities
as well as for themselves.
PPT 2-11
Adam Smith the Father of Econom-
ics
ADAM SMITH the
FATHER of ECONOMICS
2-11
LO 2-1
Smith believed that:
• Freedom was vital to any
economy’s survival.
• Freedom to own land or
property and the right to
keep the profits of a
business is essential.
• People will work hard if
they believe they will be
rewarded.
critical thinking
exercise 2-2
APPLYING ECONOMIC PRINCIPLES
TO EDUCATION
Principles such as competition and productivity apply to
nonprofit organizations, such as schools, as well as businesses.
(See the complete exercise on page 2.71 of this manual.)
Chapter 02 - Understanding Economics and How It Affects Business
2-13
am Smith to describe the process that turns self-
directed gain into social and economic benefits for
all.
2. Basically, this meant that a person working hard to
make money for his or her own PERSONAL IN-
TEREST would (like an invisible hand) also BEN-
EFIT OTHERS.
a. For example, a farmer trying to make money
would grow as many crops as possible.
b. This would provide jobs and needed food for
others.
c. If everyone worked hard in his or her own self
interest, Smith said, society as a whole would
prosper.
3. Smith assumed that as people become wealthier,
they would reach out to help the less fortunate,
but that hasn’t always happened.
a. Many U.S. businesspeople are becoming con-
cerned about social issues and their obligation
to return to society some of what they’ve
earned.
b. It is important for businesses to be ethical as
well as generous.
learning objective 2
Explain what capitalism is and how free markets work.
II. UNDERSTANDING FREE-MARKET CAPITALISM
Chapter 02 - Understanding Economics and How It Affects Business
2-14
PPT 2-12
The Invisible Hand Theory
The INVISIBLE HAND THEORY
2-12
LO 2-1
• As people improve their own situation in life, they
help the economy prosper through the production
of goods, services and ideas.
• Invisible Hand -- When self-directed gain leads to
social and economic benefits for the whole
community.
PPT 2-13
Understanding the Invisible Hand
Theory
UNDERSTANDING the
INVISIBLE HAND THEORY
2-13
LO 2-1
• A farmer earns money by selling
his crops.
• To earn more, the farmer hires
farmhands to produce more
crops.
• When the farmer produces more,
there is plenty of food for the
community.
• The farmer helped his
employees and his community
while helping himself.
lecture enhancer 2-2
A NEW CROP OF CONSUMERS
IN AFRICA
Africa has a growing middle class that rivals both China and
India. Despite the persisting wealth disparities, more Africans
have disposable incomes in which they can buy goods from
others. (See the complete lecture enhancer on page 2.63 of this
manual.)
MAKING
ethical
decisions
PPT 2-14
How Corruption
Harms the Econ-
omy
HOW CORRUPTION HARMS
the ECONOMY
2-14
• In many countries, a businessperson must bribe
the government to gain permission to own land,
build, and conduct business operations.
Imagine you are a restaurant owner in need of a liquor
license, but have been unable to get one. You know
people in government. Would you be tempted to make
large contributions to their re-election campaign to
receive that license?
test
prep
PPT 2-15
Test Prep
TEST PREP
2-15
• What is the difference between macroeconomics
and microeconomics?
• What is better for an economy than teaching a
man to fish?
• What does Adam Smith’s term invisible hand
mean? How does the invisible hand create wealth
for a country?
Chapter 02 - Understanding Economics and How It Affects Business
2-15
A. Following the ideas of Adam Smith, businesspeople
created more wealth than ever before.
1. But GREAT DISPARITIES in wealth remained or
even increased.
2. Although it is not easy, opportunities to start
one’s own business have always been there, es-
pecially in a free market.
3. CAPITALISM is an economic system in which all
or most of the factors of production and distribu-
tion are privately owned and operated for profit.
a. In capitalist countries, businesspeople decide
how to use their resources and how much to
charge.
b. No country is purely capitalist, but the foun-
dation of the U.S. is capitalism.
c. Capitalism is also the foundation for the eco-
nomics of England, Canada, Australia, and
most developed nations.
d. Some countries are practicing STATE CAPI-
TALISM where the state runs some busi-
nesses instead of private owners (e.g., Chi-
na).
B. THE FOUNDATIONS OF CAPITALISM
1. People under free-market capitalism have FOUR
BASIC RIGHTS:
a. The right to PRIVATE PROPERTY
b. The right to OWN A BUSINESS and to keep
all of that business’s profits after taxes
