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MICROECONOMICS
Prepared by:
RAMIL B. ENTANA JR., L.Agr
Marginal Product of LaborMarginal Product of Labor
I. Production and Costs
Theory of Production
- Production is the creation of utility into a good.
- It is the process or the transformation of 2 or
more inputs into 1 or more products or outputs.
- Inputs
these are resources, means or the
ingredients used to produce a product, i.e.
land, labor, fertilizers, chemicals etc.
Factors of production…
•Land
•Labor
•Capital
•Entrepreneurship
Labor
•Refers to the physical efforts
expended by man in the production
process.
Capital
•Refers to all goods used to
produce other goods and services
or anything which has been
produced used to increase the
effectiveness of current productive
activity, such as machinery,
factories, tools and equipment.
Land
•Not only includes the soil
surface, but embraces minerals
under the surface water,
climate, topography, everything
that is free “gift of nature” and
not a result of man’s past
activity.

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Microeconomics-for-Review.pptx

  • 1. MICROECONOMICS Prepared by: RAMIL B. ENTANA JR., L.Agr Marginal Product of LaborMarginal Product of Labor
  • 2. I. Production and Costs Theory of Production - Production is the creation of utility into a good. - It is the process or the transformation of 2 or more inputs into 1 or more products or outputs. - Inputs these are resources, means or the ingredients used to produce a product, i.e. land, labor, fertilizers, chemicals etc.
  • 4. Labor •Refers to the physical efforts expended by man in the production process.
  • 5. Capital •Refers to all goods used to produce other goods and services or anything which has been produced used to increase the effectiveness of current productive activity, such as machinery, factories, tools and equipment.
  • 6. Land •Not only includes the soil surface, but embraces minerals under the surface water, climate, topography, everything that is free “gift of nature” and not a result of man’s past activity.
  • 7. Entrepreneurship •Refers to the ability on the part of some individuals to see opportunities to combine resources in a new and more efficient ways to produce a particular product.
  • 8. Production Curves 1. Total Physical Product (TPP) -Is the output or total amount of product produced or yield of the production process.
  • 9. 2. Average Physical Product (APP) • The quantity of total output produced per unit of variable input, holding all other inputs fixed. • It is attained by: Y (output) APP= X (input) Example: Such that when X = 1 and Y = 5 then APP = 5 When Y = 130 and X = 10 now APP =
  • 10. 3. Marginal physical product • the change in output resulting from a unit change in variable input. • Average MPP is computed by dividing the change in output by the change in input. • Thus, MPP=ΔY/ ΔX. Exact MPP is computed by deriving the MPP function from a given production function. Example: • for a production function given by Y=X+4X2 – 0.2X3 , and the MPP function is the first derivative of the production function taken with respect to the variable input X. The exact • MPP equation is: dy/dx=1+8X-0.6X2
  • 11. How to graph the curves in theory of Production Amount of Capital Amount of Labor Total Product Average Product of Labor Marginal Product of Labor 2 0 0 0 0 2 1 57 57 57 2 2 118 59 61 2 3 177 59 59 2 4 228 57 51 2 5 270 54 42 2 6 300 50 30 2 7 322 46 22 2 8 336 42 18 2 9 342 38 8 2 10 340 34 -2
  • 12. 0 100 200 300 400 0 1 2 3 4 5 6 7 8 9 10 Quantity Labor TOTAL PRODUCT CURVE
  • 13. -50 0 50 100 150 200 250 300 350 400 0 1 2 3 4 5 6 7 8 9 10 TPP AVP (Labor) MPP (Labor) Quantity Labor Law of Diminishing Marginal Returns
  • 14. Law of Diminishing Returns. • It was developed by an early economist to describe the relationship between output and variable input when other outputs are held constant in quantity. This law is also known as; 1. The Law of Variable Proportion 2. Law of Diminishing Marginal Products
  • 15. Statement of the Law: •“If increasing amounts of one input are added into the production process while all other inputs are held constant, the amount of output added per unit of variable input will eventually decrease.”
  • 16. 3 Stages of Production • Stage I - occurs when MPP is greater than APP. APP is increasing throughout stage I. Stage I ends when MPP=APP or when APP is at its maximum. • Stage II - occurs when MPP is decreasing and is less than APP. Stage II ends when MPP=0, or when TPP is maximum. • Stage III - Stage III occurs where MPP is negative or where TP starts to decline. Note: Stage I&III are irrational or irrelevant stages for production and stage II and its boundaries are the areas of economic relevance.
  • 17. Elasticity of Production •a concept that measures the degree of responsiveness between output and input. •It is define as the percentage change in output divided by the percentage change in the input.
  • 18. For example, if a firm increases the number of workers by 10%, and the number of products produced per month increases by 20%, the elasticity of production will be: Ep = 20%/10% = 2
  • 19. •Elasticity of production is measure of the responsiveness of the production function to the change in one output.
  • 20. Movement along the supply: when the price increases, the quantity supplied decreases.
  • 21. II. Theory of Cost • refers to the expenses incurred in organizing and carrying out the production process. • In economics, costs includes explicit and implicit costs. Explicit costs are the actual out-of-pocket expenditures of the firm to purchase or hire inputs it requires in production. • These expenditure include the wages to hire labor, interest on borrowed capital, rent on land & building etc.
  • 22. •Implicit cost on the other hand, refers to the value of the inputs owned and used by the firms in its own production process. • The values of these owned inputs must be imputed or estimated from what these inputs could earn in their beat alternative use, or we call these the opportunity or alternative cost.
  • 23. Cost . . . •also classified into private and social cost
  • 24. 2 types of costs A. Private Costs • are the explicit and implicit opportunity cost incurred by individuals and firms in the process of producing goods and services. B. Social Costs • are the costs incurred by society as whole. Social costs are higher than private costs of production.
  • 25. •Private costs can be made equal to social costs by public regulation requiring the firm to install anti pollution equipment in the case of a firm dumping untreated waste into the air, which imposes cost on society (in the form of higher cleaning bills and more breathing ailments, and soon.), that is not reflected in the costs of the firm.
  • 26. The cost of capital as an opportunity cost Opportunity cost - the financial capital that has been invested in the business. - The value of the next-best alternative when a decision is made; it’s what is given up.
  • 27. • Suppose, for instance that Rene use P 300,000.00 of his savings to buy 2 hectares lowland farm from a precious owners. If Rene did not withdraw is money from the bank, his savings deposit would earn an interest of 5 percent giving him an interest earning of P 15,000.00 every year. To earn 2 hectares land therefore, Rene has given up P15,000.00 a year in interest income. This P 15,000.00 is one of the opportunity cost of Rene’s farm business.
  • 28. Measures of Cost •expenses measured in organizing and carrying out the production process. •They include outlays of funds for inputs and services used in production. In the short run total costs includes fixed and variable costs. •In the long run all costs are variable because all inputs are variable in the long run.
  • 29. Fixed and Variable Costs • A resources or input is called fixed resources if its quantity is not varied or changed during the production period. • A resources or input is variable if its quantity is varied or changed at the start or during the production period. • In general, costs of fixed inputs are called fixed costs, while cost of variable inputs are called variable costs.
  • 30. Computation of Costs • Total fixed cost is the cost of all the fixed inputs used in production. • Total variable cost is computed by multiplying the amount of variable input used by the price per unit of input. • Thus TVC=PxX where X is the amount of variable input & Px the Price of the variable input X. Example: A firm imposed a variable input of 5 in order to produced 50 units of goods with the price of X is 100. Thus, TVC = 500
  • 31. Total Costs • Total cost is the sum of the total fixed and variable costs. • TC=TFC+TVC • Average total cost is total cost divided by the output • ATC=TC/Y • Average fixed cost is total fixed costs divided by the quantity of output, • AFC=TFC/Y • Average variable cost is total variable cost divided by the quantity of output, • AVC=TVC/Y
  • 32. •Marginal cost is the change in total cost per unit increase in the output. It is the cost of producing additional unit of output. It is the increase in total cost that arises from a one unit increase in output. MC= ΔTC/ ΔY •The AVC, ATC & MC are U-shaped curves.
  • 33. Relationship between marginal cost and average total cost • Whenever marginal cost is less than average total cost, average total cost is falling, whenever marginal cost is greater than average total cost, average total cost is rising. • Marginal cost curve crosses the average total cost curve at the efficient scale or when average total cost curve is at its minimum joint or when its slope is zero.
  • 34. Exercise • Following the example of determining TPP, AVP and MPP complete the table below and create your own graph; Amount of Capital Amount of Labor Total Product Average Product of Labor Marginal Product of Labor 3 0 0 3 1 60 3 2 120 3 3 180 3 4 220 3 6 300 3 7 350 3 8 377 3 9 380 3 10 420
  • 35. Price and Output Determination Under Perfect Competition
  • 36. A. Price determination in the market Period • The market period in the very short-run period refers to the period of time during which the market supply of a commodity is fixed. • With perfect competition among buyers & sellers, demand alone determine the price while supply alone determine the quantity in the market period. The function of price is to ration the available supply of the commodity among potential buyers& ones the length of time of the market period.
  • 37. 1. Total Approach • Profit maximization provides the framework for the analysis of the firm. The equilibrium output of the firm is the one that maximizes the total profits of the firm. • Total profit equals total revenue minus total costs. Total profits are maximized when the positive difference between revenue and total cost is largest.
  • 38. 2. Marginal Approach • determining the equilibrium output of the firm is a more valuable widely used approach. The general rule for project maximization states that at a profit maximizing level of output, marginal revenue and marginal cost are exactly equal. Marginal revenue is the change in total revenue per unit change in output or the addition to total revenue attributable to the addition of one unit to sales. Marginal cost is the change in total cost per unit change in output or it is the addition to total cost resulting from the addition one unit to output.
  • 39. B. Demand and Supply •Demand and supply are the 2 forces that make the market economics work. The buyer as a group determines the demand for the product, the sellers as a group determines the supply of a particular product.
  • 40. The Law of Demand • The consumer tends to buy more units of goods when the price is lower, and he reduces his purchases when prices increase. This behavior of the consumer is explained by the law of demand. • The law states that as price increases quantity demand decreases and vice versa, as price decreases quantity demanded increases. • The law of demand is only valid if the determinants of demand is presumed to be constant, except price.
  • 41. Elasticity •the measure of the responsiveness of one variable to the change in another variable
  • 42. Price Elasticity of Demand • It is the responsiveness of the quantity demanded of a commodity to a change in price is very important to consumers and producers alike. • Price elasticity of demand is the measure of the responsiveness in the quantity demanded of a commodity to the change in its price; Ed=%ΔQd/ %ΔP.
  • 43. For are elasticity of demand or average elasticity. • The formula is given by: Ed=ΔQd/ΔP · (P2+P1)/1/(Q2+Q1)/2=ΔQ/ΔP · P2+P1/ Q2+Q1 • For example to measure price elasticity for a price decline from P1.50 to P1.00 per unit and the corresponding increase in the quantity demanded for 4 to 6 units of a commodity, we get; Ed=6-4/1.00-1.50x(1.00+1.50)/2/(6+4)/2=2/0.5 x 2.5/2.5=1
  • 44. •Price elasticity is usually different at and between different points on the demand curve and it can range anywhere from zero to very large or infinite. •Price elasticity of demand is a pure number independent of the unit in which prices and outputs are measured.
  • 45. Demand is said to be . . . 1.Elastic if Ed >1 2.Unit (Unity) Elastic if Ed = 1 3.Inelastic if Ed<1
  • 46. Factors Influencing price elasticity of demand 1. Nature of Good (Necessities or Luxuries) • Necessity tends to have inelastic demand • Luxuries have elastic demand 2. Availability of close substitute • goods with close substitutes tend to have more elastic demand because it is easier for consumers to switch from that goods to others. 3. Time Horizon • goods tends to have more elastic demand over longer time horizon. The longer is the time period allowed for consumers to adjust to change in the commodity price, the larger is the price elasticity.
  • 47. Factors Influencing price elasticity of demand 4. Number of uses which a good may be put. • The greater the number of possible uses of a commodity the greater is price elasticity will be.
  • 48. Price cross elasticity of demand •It measures the relative responsiveness of quantity demanded of a given commodity to changes in the price of a related commodity
  • 49. Good relationship a) Substitute relationship - Commodities X & Y are substitute if more of X is purchased when the price of Y goes up. b) Complementary relationship – Commodities X & Y are complements if less of X is purchased when price of Y goes up.
  • 50. •An increase in the price of a commodity leads to a reduction in the quantity demanded of the commodity (a movement along the demanded curve for the commodity) but causes the demanded curve for a substitute to shift to the right and the demand curve for a complement to shift to the left.
  • 51. Price cross elasticity of demand coefficient is measured by the formula • Exy= ΔQx/ ΔPy·Py/Qx Where ΔQx is the change in the quantity purchased of x, ΔPy is the change in the price of y, Py is the original price of Y and x is the original quantity Qx • If Exy is greater than zero or positive, X & Y are substitutes because an increase in Py leads to an increase in Qx, as X is substituted for Y in consumption • If Exy is less than zero or negative, X & Y are complements because an increase in Py leads to a reduction in Qy and Qx.
  • 52. Total Revenue •is the total amount of money earned by sellers of a commodity. •This is also the amount paid by the buyer (total expenditure) and received by the sellers of the goods.
  • 53. Total revenue = P x Q • where P is the price of a good and Q is the quantity of the good sold.
  • 54. • If demand is elastic, a decline in price will result in proportionately greater expansion in the quantity demanded and a rise in price will result in a proportionately decline in the quantity demanded. Total revenue varies inversely with price if demand is elastic. • If demand is inelastic, total revenue and price are directly related. A fall in price will reduce total revenue while an increase in price, will increase total revenue • If demand is unitary, total revenue is not affected by changes in price.
  • 55. Income Elasticity of Demand • a measure of how the quantity demanded changes as consumers’ income changes. Income elasticity of demand is the percentage change in the quantity demand divided by the percentage change in income. That is;
  • 56. • A good with a negative income elasticity is said to be inferior, a good with an income elasticity between zero and one or positive is said to be normal, and a good with an income elasticity greater than one is said to be superior. • Normal good can be further classified as a necessity or luxury. A normal good is classified as necessity if the income elasticity is less than one, and luxury if the income elasticity is greater than one.
  • 57. Engel Curve • is a function relating the equilibrium quantity purchased of a commodity to a level of money income. • The name was taken from Christian Lorenz Ernest Engel, a 19th century German statistician. • Engel’s law states that the proportion of total expenditures of food declines as family income rise.
  • 58. The Law of Supply • a schedule of various quantities of commodities which producers are willing and able to offer at a given price, time and place. Its determinants are; • - technology • - cost of production (prices of inputs) • - number of producers or sellers • - price expeditions • - price of others goods • - price of the good
  • 59. The law states that . . . •other things being equal, the quantity supplied of a good prices when the price of the god rises and falls as the price falls. There is that direct or positive relationship between quantity supplied and the price of the good.
  • 60. Quantity Supplied •the amount of good that sellers are willing and able to sell.
  • 61. Supply schedule •table that shows the relationship between the price of a good and the quantity supplied.
  • 62. Supply Curve •a graph of the relationship between the price of a good and the quantity supplied.
  • 63. Market Supply •sum of all supplies of all sellers. It is obtained by summing up the quantity supplied at any price. That is by adding horizontally the individual supply curves
  • 64. Change in Supply . . . • Whenever any determinants of supply other than price changes, the supply curve shifts. • A shift of the supply curve to the right indicates that there is increase in supply and a shift of the supply curve to the left means that there is a decrease in supply. • These movements of the supply curve either to the left or to the right caused by the changes, the factors, or determinants of supply except price.
  • 65. Change in Quantity Supplied •the movement from one point to another along the same supply curve indicates that there is a change in quantity supplied. •These movements are caused by the changes in the price of the good. A rise in the price of the good, quantity supplied also falls.
  • 66. Elasticity of Supply •The law of the supply states that higher prices raise the quantity supplied. •The price elasticity of supply measures how much the quantity supplied of a good respond to change, in the price of the good computed as the percentage change in quantity supplied divided by the percentage change in price.
  • 67. • using Es as a symbol of price elasticity of supply, to measure elasticity for a price increase from P2.00 to 3.00 and the corresponding increase in the quantity supplied form 5 units to 8 units we get: Es=ΔQ/ ΔP x P2+P1/Q2+Q1=8-5/3-2 x 3+2/8+5=3/1 x 5/13 = 1.15 • Price elasticity (either demand or supply elasticity), and its value is not affected by changes in the units of measurement.
  • 68. •A determinant of the price elasticity of supply is the time period being considered. •Supply is usually more elastic in the long run than in the short run
  • 69. Consumption •refers to the utilization of services or material goods for the gratification of human desire. •may also mean the use of goods & services for production purpose as, for example, when it is said that raw materials are consumed in the production of a finished product.
  • 70. Consumer •refers to one who used up or consumes goods or services and who derives satisfaction or utility from such goods or services.
  • 72. Macroeconomics • concerned with performance of the economy as a whole or with large sectors of it, such as government, business firms, and households. • Macroeconomics attempts to explain why the economy’s total output of goods and services fluctuates overtime, giving time to the business cycle with its accompanying upward and downward movements in the unemployment and inflations rates.
  • 73. National Income Accounting • National Income Accounting provides us with aggregate measures of what is happening in the economy. These are at least three reasons why national income accounting is important: 1. It allows us to keep a finger on the economic pulse of the nation. 2. By comparing national income accounts over a number of years, we can track the long-run course of the economy and see whether it has grows, been steady, or stagnated. 3. Information supplied by natural income accounts provide a basis for formulating, and applying public policies to improve the performance of the economy.
  • 74. •National income accounts allows us to keep tabs on the health of the economy and formulate policies, which will maintain and improve that health. •In the Philippines, the accounts are maintained by the National Economic Development Authority(NEDA) and published annually in the NEDA Statistical .
  • 75. GNP and GDP: Two ways of measuring economy’s output Both measure the total market of all final goods and services product in the economy in one year. They are closely related, differing only in how the “economic” is defined.
  • 76. I. Gross National Product (GNP) • consists of the total output produced by land, labor, capital and entrepreneurial talent supplied by Filipinos, whether these resources are located in the Philippines or abroad. • For example, the share of output (income) produced by a Filipino working in Canada is included in our GNP. Conversely, the share of output (income) produced in the Philippines by foreign-owned resources is excluded from our GNP.
  • 77. II. Group of Domestic Product (GDP) • It comprises the value of the total goods and services produced within the boundaries of the Philippines, whether by Filipinos or foreign-supplied resources. • For instance, the value of a good produced at a Japanese-owned factory in the Philippines, including profits, is a part of Philippine GDP. Conversely, profits earned by a Philippine-owned business firm in the United States excluded from our GDP. • Specifically, the difference between the GDP and GNP consists of net foreign factor income earned (output produced) in the Philippines.
  • 78. Approaches in GNP Management 1. Final Expenditure Approach • The GNP is the sum of all final sales to end-users. These final sales are classified as: personal consumption expenditures(C), gross domestic investment( I), which is the sum of private domestic investment(Ip) and public gross domestic investment(Ig), government consumption(G) and net foreign investment or (X-M) where X stands for exports and m for imports. In symbols GNP= C + I + g + (X-M)
  • 79. 2. GNP Derived from Factor Income: The Income Approach • In this approach, GNP is distributed as payments or income to the owners of all the inputs that contribute to its productions; Define a new term national income at factor cost (NI) as the sum of all factor payments received by the owners of productive services. This is: • NI = wages and salaries (W) + rental payments (R) + interest payments (i) + profits (P). • In order to simplify the presentations of national income of various factors, the United Nations suggested the following item as the various components of national income (NI):
  • 80. (1) Compensations of employees (wages and salaries) (2) Income from unincorporated enterprises (which could be a mixture of profits and interests earnings); (3) In come from property (which may be broken down into total corporate taxes, dividends paid and corporate undistributed profits or savings). And (4) Property and corporate income of government.
  • 81. • The GNP from the factor income approach is the sum of national income at factor costs, indirect business taxes minus subsidies (IBT), and depreciation (D). Thus, GNP= NI + IBT + D
  • 82. 3. The Industrial Origin Approach • In this approach, the value added originating in various industries or sectors into which the economy is divided is added together to form the GNP. This approach is really a different rearrangement of data on income of factors. It rearranges all data by industry. Thus, GNP= Sum of all gross value added of sectors 1, 2, 3,.. etc. + IBT (3) • Two other important measurements are net national product (NNP) and gross domestic product (GDP). • NNP= GNP-D GDP= GNP-net factor earnings from abroad
  • 83. Real and Nominal GNP (or GDP) • Nominal GNP or GDP measures the value of output in a given period in the prices of that period, or, as it is sometimes put, in current pesos. • Thus 2000 nominal GNP measures the value of the goods produced in 2000 at the market prices prevailing in 2000, and 1995 nominal GNP measures the value of goods produced in 1995 at the market prices that prevailed in 1995.
  • 84. Nominal GNP changes from year to year for two reasons. •The first reason is that the physical output of goods and services changes. •The second is that market prices change.
  • 85. • Real GNP measures changes in physical output in the economy between different time periods by valuing all goods produced in the two periods at the same prices, or in constant pesos. • For example if real GNP is measured in the national income accounts in the prices of 1995, this means that, in calculating real GNP, today’s output would have been worth had it been sold at the price of 1995
  • 86. 4. Problems of GNP (or GDP) Measurement • GNP (or GDP) data are, in practice, used not only as a measure of how much is being produced, but also as a measure of the welfare of the residents of a country. • Economists and politicians talk as if an increase in real GDP means that people are better off. But GNP (or GDP) data are far from perfect measures of either economic output or welfare. There are, specifically, four major problems: 1. Some outputs are poorly measured because they are not traded in the market. 2. It is difficult to account correctly for improvements in the quality of goods. 3. Some activities measured as adding to real GNP in fact represent the use of resources to avoid or contain “bads” such as crime or risks to national security.
  • 87. 4. Macroeconomic Equilibrium • Macroeconomics analysis involves modeling the economy. The economy is in equilibrium in self- balancing position when aggregate demand equals aggregate supply. Following the national income activities framework (discussed earlier). The economy is in equilibrium when GNP (or Y)= C + I + G + X-M That is, aggregate supply- aggregate demand • The left-hand side of equation represents the level of aggregate supply (or income) which the right- hand represents the level of aggregate demand.
  • 88. • If we assume an economy with no government and no external relations (no foreign trade), then the economy is in equilibrium when Y= C + I • Where; Y= national income C= aggregate consumption I= aggregate investment • The income received can be used in two ways; it can be spent on consumer goods, C, or saved, S (S includes both personal and business savings). This can be indicated as: Y=C+S
  • 89. Consumption, Savings and Investment •Consumption and investment are two major components of aggregate demand while savings, as indicated in equation : Y-C = S is the residual after subtracting aggregate consumption (C) for aggregate income (Y).
  • 90. 1. The Consumption Function • was based on the assumption that aggregate current consumption expenditures are a function of aggregate current disposable income. • It was Keyner who made the consumption function the basic element in the income-expenditure approach to national income determination. • This function is the principal building block in the multiplier analysis. • Assuming a linear relationship between consumption and disposable income, the consumption function can be written as: C = a + b λ d, where: a>0, b<1.
  • 91. • In this equation, a is the vertical intercept, b is the slope of the function, which is called the marginal propensity to consume (MPC), and λ d is the residual after deducting taxes from income that is, λ a = λ – T • A hypothetical consumption function is shown in Figure 1, together with the savings functions. The savings functions shows the relationship between savings and income. Following equation 10, the savings function can be written as: • S = λ d – C S = λ d – (a+b+λ d) • S = -a + (1-b) λ d
  • 93. The Average Propensity to Consume (APC) • is the function of total income spent on consumption, C/λ d. • the slope of a line drawn from the origin to any point on the consumption function is the average prosperity to consume, C/λ d. Obviously, the average propensity to save S/λ d is equal to 1 – (C/λ d).
  • 94. The Marginal Propensity to Consume (MPC) • Another important relationship is the marginal propensity to consume (MPC), which relates a change in consumption Δ C, to the change in income, Δ /λ d, that causes it. • The marginal propensity to consume (MPC) is symbolically indicated as Δ C / Δ λ d. The marginal propensity to consume is equal to the slope of the consumption function – dC/dλ d.
  • 95. Simple Income Determination • National income determination is one of the subject matters of macroeconomics. • Using simple equilibrium model, the equilibrium level of income consumption and savings can be determined. Without any government or retained earnings, Y = Yd and the accounting framework in this economy include: 1. Y=C + Ir: where Ir = the net realize investment 2. = C + Sp if Sg = 0, then Sp = S 3. Ir = S →the fundamental accounting identity
  • 96. Now supposed that . . . C = 25 + 0.75Y and that the producers desire to spend P 20 million investment goods at all levels of income, what will be the market equilibrium? Solution: • Given: C = 25 + 0.75Y I= 20 • Then: Y = C + I = 25 + 0.75Y + 20 (-0.75) + Y = 25 + 20 (-0.75) + Y = 45 Y = 180
  • 97. Unemployment and Inflation • Unemployment and inflation are considered as two most serious economic problems in many countries including the Philippines. • The fact is that there is a trade-off between the two. That is, inflation cannot be eliminated without rising unemployment and at least for sometime and moderate unemployment cannot be cut sharply without the risk of raising inflation.
  • 98. Definitions • Unemployment has been defined as a situation in which persons deserving work cannot find jobs. • Underemployment is a situation in which laborers who are working do not render full equivalent working time either by choice or by inability to find full-time work. • On the other hand, inflation is a phenomenon of rising prices of goods and of the factors of production – the price increases may vary for different factors and goods, depending on supply and demand and other economic factors.
  • 99. Effects of Unemployment and Inflation • High unemployment rates are a major social problem. Jobs are difficult to find. The unemployed suffers a loss in their standard of living, personal distress, and sometimes lifetime deterioration in their career opportunities. When unemployment reaches double-digit percentages – and even well short of that – it becomes the number-one social and political issue.
  • 100. When there is inflation, the following are some of its effects: 1. Debtors and profit-earners benefit from inflation. 2. People who put their money in savings accounts in a bank can earn say, 6 percent per year interest income.
  • 101. Measures to address inflation (a)money supply and credit (b)government spending and (c)use of taxation
  • 103. Monetary Policy The Central Bank •is principally an institution designed to regulate the monetary and financial systems. It has a policy abroad which serves as the monetary authority. The central bank provides the staff to supervise and implement policies enunciated by monetary authority.
  • 104. The Philippine Financial System • composed of different institutions serving different markets and complementing each other in attaining the process of intermediation, providing a link between economic units with excess funds and those that use these funds.
  • 105. Fiscal Policy • is a collective term for the combined operation of public expenditure, taxation and debt. • The team “public finance” refers in particular to the subject of financing public expenditures. Public finance is appropriately a study of the fiscal system. The fiscal operations are reflected in the government budget.
  • 106. Component of national budget •The national budget for any given year contains the expenditure for all public activities. It also lists the source of financing of these expenditures based in existing taxes and other sources of revenues, and includes proposals for 2000 taxation and other forms of finance.
  • 107. The standard components of a budget presentation includes the following: 1. Total Revenue • Taxes in income • Taxes in international trade • Exercise and sales taxes • Other taxes • Non-tax revenue 2. Current Operation Expenditures • Personal Services • Maintenance • Interest • Transfer to corporations • Allotment local governments
  • 108. 3. Capital Outlays • Infrastructure • Other capital • Capitalization (equity contributions) • Net lending 4. Overall deficit • Foreign borrowing (net) • Borrowing from banking system • Other domestic borrowing 5. Current operation surplus
  • 109. Business Cycles • refer to long periods of changes in economic activities in contrast with seasonal cycles, which are reflected in the changes that may be observed within a given year. The business cycle has four distinct phases namely: expansion phase, peak phase, recession phase and depression phase.
  • 111. Money and Banking •Money is fundamental in the function of the economy. It facilitates the exchange of goods and services and lessens the amount of time and effort to carry out this trade.
  • 112. Functions of Money (1)a unit of value; (2)a medium of exchange; (3)a standard of deferred payments, and (4)a store of value.
  • 113. Economists definition of money 1. M1 or General purpose money • includes currency in circulation (which includes coins and paper money) and demand deposits (the standard name given by economists for checking accounts, because they can be issued “on demand “ of the bearer). 2. M2 or Broad Money • includes savings and time deposits. These are deposits that are very “liquid,” that is, easily convertible into cash sot that they are much like money in the sense of checking deposits.
  • 114. Theories on Demand for Money • 1. Crude quantity theory of money simply - states that prices are a direct proportion of the supply of money. This may be written as P = k · M; • where, P is the price level, k is a positive proportional constant and M, the supply of money. If P and M are measured as index numbers with 100 for a given base year and the value of k is 1/2 , then this theory will say that for every one percent increase in money supply, the price level will rise by ½ percent
  • 115. How is k to be interpreted? •K is a number which is derived from the concept of “velocity circulations” V1, This velocity is the rate at which the supply of money is turning over or used per year in order to undertake transactions. Income transactions are represented in a give year by the gross national product, GNP.
  • 116. The stock of money is given by M. The velocity of circulation is defined as: •V= PQ/M •From this, the famous “quantity equation of exchange” is derived, which is •MV=PQ
  • 117. Commercial Banking • is a business institution that accepts deposits and lends to borrowers. An important feature of a commercial bank is that it s depositors normally keep checking deposits as one of the features of their services. • A bank is like an ordinary business enterprise, backed up by its capital undertaking special services to its depositors and borrowers. In exchange for these services, it charges certain costs. For borrowers, it receives interest payments. In addition to the bank’s capital, depositors give the bank its basis for lending.
  • 118. •Banks need to keep only a fraction of their deposits in reserve. The central bank regulates what fractions can be kept as minimum reserves. This “reserve requirement” is useful also in the control of the money supply. In fact, the minimum reserve requirement is.