2007 Thomson SouthWestern Economic Systems 2007 Thomson SouthWestern

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© 2007 Thomson South-Western

© 2007 Thomson South-Western

Economic Systems © 2007 Thomson South-Western

Economic Systems © 2007 Thomson South-Western

What is an Economic System? • It’s the method used by society to produce

What is an Economic System? • It’s the method used by society to produce goods and services © 2007 Thomson South-Western

The Four Economic Systems • • Traditional Economy Market Economy Planned/Command Economy Mixed Economy

The Four Economic Systems • • Traditional Economy Market Economy Planned/Command Economy Mixed Economy © 2007 Thomson South-Western

Traditional Economy • Relies on habit, custom, or ritual to make economic decision ©

Traditional Economy • Relies on habit, custom, or ritual to make economic decision © 2007 Thomson South-Western

Market Economy • Private consumers and producers make the economic decisions • No government

Market Economy • Private consumers and producers make the economic decisions • No government involvement © 2007 Thomson South-Western

Planned/Command Economy • The government makes all of the economic decisions “We’ll fulfill five-year

Planned/Command Economy • The government makes all of the economic decisions “We’ll fulfill five-year plan in four years!” © 2007 Thomson South-Western

Mixed Economy • Economic decisions are made by both the government and private consumers/producers.

Mixed Economy • Economic decisions are made by both the government and private consumers/producers. © 2007 Thomson South-Western

Economic Models © 2007 Thomson South-Western

Economic Models © 2007 Thomson South-Western

Economic Models • Economists use models to simplify reality in order to improve our

Economic Models • Economists use models to simplify reality in order to improve our understanding of the world. • Two of the most basic economic models are: • The Circular Flow Diagram • The Production Possibilities Frontier © 2007 Thomson South-Western

Our First Model: The Circular-Flow Diagram • The circular-flow diagram is a visual model

Our First Model: The Circular-Flow Diagram • The circular-flow diagram is a visual model of the economy that shows how dollars and resources flow through markets among households and firms. © 2007 Thomson South-Western

© 2007 Thomson South-Western

© 2007 Thomson South-Western

Figure 1 The Circular Flow Model MARKETS FOR GOODS AND SERVICES • Firms sell

Figure 1 The Circular Flow Model MARKETS FOR GOODS AND SERVICES • Firms sell • Households buy Revenue Spending Goods and services received Produced goods and services FIRMS HOUSEHOLDS Factors of production MARKETS FOR Labor, land, and capital FACTORS OF PRODUCTION Wages, rent, and profit • Households sell • Firms buy Income = Flow of inputs and outputs = Flow of dollars © 2007 Thomson South-Western

Our Second Model: The Production Possibilities Frontier • The production possibilities frontier is a

Our Second Model: The Production Possibilities Frontier • The production possibilities frontier is a graph that shows the combinations of output that the economy can produce given the available factors of production (resources). © 2007 Thomson South-Western

The Production Possibilities Frontier Quantity of Computers Produced If all resources were used, you

The Production Possibilities Frontier Quantity of Computers Produced If all resources were used, you can The PPF shows you the make 3, 000 computers and 0 Cars. maximum amount of resources Or, you can make 1, 000 cars and 0 you have for production computers 3, 000 A 2, 200 Production Possibilities Frontier 0 600 1, 000 Quantity of Cars Produced © 2007 Thomson South-Western

The Production Possibilities Frontier Quantity of Computers Produced A= B= C= D= E= C

The Production Possibilities Frontier Quantity of Computers Produced A= B= C= D= E= C 3, 000 A 2, 200 2, 000 B Production Efficiency Not possible! Underutilization Efficiency & specialization in car production D 1, 000 E 0 300 600 700 1, 000 Brain Busta!!! Quantity of Cars Produced © 2007 Thomson South-Western

Our Second Model: The Production Possibilities Frontier • Concepts illustrated by the production possibilities

Our Second Model: The Production Possibilities Frontier • Concepts illustrated by the production possibilities frontier • Allocation of resources • Opportunity cost • Economic growth © 2007 Thomson South-Western

PPF Questions… Quantity of Computers Produced 1. What is the opportunity cost of moving

PPF Questions… Quantity of Computers Produced 1. What is the opportunity cost of moving production from point A to point B? 2. What is the opportunity cost of moving production from point D to point B? 3, 000 A B PPF to shift? What can cause the 2, 200 2, 000 D 1, 000 0 300 600 700 1, 000 Quantity of Cars Produced © 2007 Thomson South-Western

A Shift in the Production Possibilities Frontier Quantity of Computers Produced Something changed that

A Shift in the Production Possibilities Frontier Quantity of Computers Produced Something changed that What do you think would caused there to be more cause the PPF to shift resources in computer this particular way? production. 4, 000 3, 000 2, 300 2, 200 0 G A 600 650 of 1, 000 Cars. Quantity Produced © 2007 Thomson South-Western