CHAPTER 4
(MACRO CHAPTER 4; MICRO CHAPTER 4)
The Market System and the Private and Public
Sectors
FUNDAMENTAL QUESTIONS
1. In a market system, who decides what goods and services are produced and how they are
produced, and who obtains the goods and services that are produced?
2. What is a household, and what is household income and spending?
OVERVIEW AND OBJECTIVES
The primary purpose of this chapter is to outline the major private sectors of the economy and their
spending. This chapter also outlines the dimensions of the public sector, showing how the public sector
interacts with the other sectors of the economy. It also describes the economic role of the public sector.
The unique feature of this chapter is its discussion of the coordinating role of the market in the private
economy. The roles of households, businesses, and the international sector are also presented.
After reading and reviewing this chapter, the student should be able to:
1. Explain the concept of consumer sovereignty as it applies to the market system.
2. Name and describe the three sectors of the economy that comprise the private sector.
KEY TERM REVIEW
consumer sovereignty
private sector
public sector
20 Chapter 4: The Market System and the Private Sectors
household
consumption
business firm
exports
trade surplus
trade deficit
net exports
LECTURE OUTLINE AND TEACHING STRATEGIES
I. The Market System
A. Consumer sovereignty: Through their buying decisions, consumers determine what the
market system will produce.
Teaching Strategy: Use Coca-Cola’s attempt to reformulate its recipe to make the point
that consumers call the shots in the market system.
C. Creative destruction: Profit incentives ensure that resources flow to their most productive
use.
Teaching Strategy: Point out that people who own resources will try to find uses for their
resources that yield the highest possible return. A good example is how people allocate their
financial resources in financial markets.
Chapter 4: The Market System and the Private Sectors 21
.
II. The Private Sector
A. Households: The household, one of the basic units in economics, consists of persons of
any relationship who share a unit of housing. Household spending is called consumption and
is the largest component of total spending in the economy.Teaching Strategy: A family
like the Cleavers (of Leave It to Beaver) is not representative of the norm in the U.S.
economy. Only 14 percent of all households have a husband, a wife, and two children.
B. Business firms: Firms are organized as sole proprietorships, partnerships, or corporations.
III. The Public Sector
A. Growth of government: Government in the U.S. exists at the federal, state, and local levels.
Government in the U.S. has grown tremendously since 1930.
B. Government spending: Spending on goods and services by all levels of government
IIV. Linking the Sectors
A. Households and businesses and the circular flow: Households own all the basic resources in
the economy. Businesses employ the services of resources in order to produce goods and
services.
Teaching Strategy: Make it clear that a business firm is a legal construct and thus cannot
own anything. Only people own things.
OPPORTUNITIES FOR DISCUSSION
1. In what ways have businesses responded to new opportunities created by an increasing number of
two-earner families?
22 Chapter 4: The Market System and the Private Sectors
ANSWERS TO EXERCISES
1. Consumer sovereignty is important because it ensures that the goods and services the consumer
most desires and values are produced. Because producers are forced to respond to consumer
demands in order to secure profits, individual consumers are able to determine what is produced
through their purchases of goods and services.
2. A family is not a household, and a household is not a family. In economic terms, a household
4. Net exports are the difference between a country’s exports and its imports. When imports are
greater than exports, net exports will be negative. This is called a trade deficit. In terms of the
circular flow of income and product, there will be a net leakage from the domestic economy to the
international economy.
6. Because the quota limits imports, net exports are higher than they would have been without the
quota. The increase in net exports means that spending on domestically produced goods and
7. See the text chapter for an example of the circular flow diagram. If households increase saving,
8.
Chapter 4: The Market System and the Private Sectors 23
.
10. Households: consumption spending; business firms: investment; government: government
spending; international sector: net exports. Magnitude and example: 1. Consumption: A household
buys a loaf of bread. 2. Government spending: The government buys a stop sign and installs it on
a corner. 3. Investment: A fast-food store buys a dishwasher. 4. Net exports: A Mexican firm
imports a truckload of Budweiser beer.
11. Money flowing out of the household sector to the government sector rises. The money must be
ANSWERS TO STUDY GUIDE HOMEWORK
1. Households own the factors of production; businesses pay for their use.
2. One or more people who occupy a housing unit.
ACTIVE LEARNING EXERCISE
This exercise gives students the opportunity to use the circular flow diagram to consider the
implications of increased spending on domestic goods by residents of foreign nations. Students should
be able to trace the impact of increased spending in the foreign sector to the other sectors of the
economy. You may want to have them consider the question, “Suppose all countries starting buying
24 Chapter 4: The Market System and the Private Sectors
After considering the questions, student pairs should share ideas.