ECON 1010 Chapter Notes - Chapter 7: Human Capital Flight, Infant Industry Argument, Private Good

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27 Feb 2014

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Large difference in income reflected in large differences in quality of life; richer countries have greater access to resources and better infrastructure in place. Standard price indexes comparing sums of money from different points in time are overestimated. Rate of real economic growth is underestimated. If an economy is good at producing goods and services, it will strive. If an economy gets to consume only what it produced, the standard of living would be tied to productivity. Productivity: amount of goods/services produced for each hour of a worker"s time. Increase in productivity makes an economy better off; produce more by spending less time in production; devote saved time to other activities. For an economy, it"s total income is its total output. Nations can enjoy high standard of living with high productivity. Workers can be more productive if they have the right tools. Physical capital: stock of equipment and structures that are used to produce goods and services.

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Can you summarize this article and wrtite down some important points regarding GDP?

NEW YORK â Striving to revive the world economy while simultaneously responding to the global climate crisis has raised a knotty question: are statistics giving us the right âsignalsâ about what to do? In our performance-oriented world, measurement issues have taken on increased importance: what we measure affects what we do. If we have poor measures, what we strive to do (say, increase GDP) may actually contribute to a worsening of living standards. We may also be confronted with false choices, seeing trade-offs between output and environmental protection that donât exist. By contrast, a better measure of economic performance might show that steps taken to improve the environment are good for the economy. Eighteen months ago, French President Nicolas Sarkozy established an international Commission on the Measurement of Economic Performance and Social Progress, owing to his dissatisfaction â and that of many others â with the current state of statistical information about the economy and society. On September 14, the Commission will issue its long-awaited report. The big question concerns whether GDP provides a good measure of living standards. In many cases, GDP statistics seem to suggest that the economy is doing far better than most citizensâ own perceptions. Moreover, the focus on GDP creates conflicts: political leaders are told to maximize it, but citizens also demand that attention be paid to enhancing security, reducing air, water, and noise pollution, and so forth â all of which might lower GDP growth. The fact that GDP may be a poor measure of well-being, or even of market activity, has, of course, long been recognized. But changes in society and the economy may have heightened the problems, at the same time that advances in economics and statistical techniques may have provided opportunities to improve our metrics. For example, while GDP is supposed to measure the value of output of goods and services, in one key sector â government â we typically have no way of doing it, so we often measure the output simply by the inputs. If government spends more â even if inefficiently â output goes up. In the last 60 years, the share of government output in GDP has increased from 21.4% to 38.6% in the US, from 27.6% to 52.7% in France, from 34.2% to 47.6% in the United Kingdom, and from 30.4% to 44.0% in Germany. So what was a relatively minor problem has now become a major one. Likewise, quality improvements â say, better cars rather than just more cars â account for much of the increase in GDP nowadays. But assessing quality improvements is difficult. Health care exemplifies this problem: much of medicine is publicly provided, and much of the advances are in quality. The same problems in making comparisons over time apply to comparisons across countries. The United States spends more on health care than any other country (both per capita and as a percentage of income), but gets poorer outcomes. Part of the difference between GDP per capita in the US and some European countries may thus be a result of the way we measure things. Another marked change in most societies is an increase in inequality. This means that there is increasing disparity between average (mean) income and the median income (that of the âtypicalâ person, whose income lies in the middle of the distribution of all incomes). If a few bankers get much richer, average income can go up, even as most individualsâ incomes are declining. So GDP per capita statistics may not reflect what is happening to most citizens. We use market prices to value goods and services. But now, even those with the most faith in markets question reliance on market prices, as they argue against mark-to-market valuations. The pre-crisis profits of banks â onethird of all corporate profits â appear to have been a mirage. This realization casts a new light not only on our measures of performance, but also on the inferences we make. Before the crisis, when US growth (using standard GDP measures) seemed so much stronger than that of Europe, many Europeans argued that Europe should adopt US-style capitalism. Of course, anyone who wanted to could have seen American householdsâ growing indebtedness, which would have gone a long way toward correcting the false impression of success given by the GDP statistic. Recent methodological advances have enabled us to assess better what contributes to citizensâ sense of well-being, and to gather the data needed to make such assessments on a regular basis. These studies, for instance, verify and quantify what should be obvious: the loss of a job has a greater impact than can be accounted for just by the loss of income. They also demonstrate the importance of social connectedness. Any good measure of how well we are doing must also take account of sustainability. Just as a firm needs to measure the depreciation of its capital, so, too, our national accounts need to reflect the depletion of natural resources and the degradation of our environment. Statistical frameworks are intended to summarize what is going on in our complex society in a few easily interpretable numbers. It should have been obvious that one couldnât reduce everything to a single number, GDP. The report by the Commission on the Measurement of Economic Performance and Social Progress will, one hopes, lead to a better understanding of the uses, and abuses, of that statistic. GDP Fetishism - Project Syndicate 2/8/10 4:05 PM http://www.project-syndicate.org/commentary/stiglitz116/English Page 2 of 3 The report should also provide guidance for creating a broader set of indicators that more accurately capture both well-being and sustainability; and it should provide impetus for improving the ability of GDP and related statistics to assess the performance of the economy and society. Such reforms will help us direct our efforts (and resources) in ways that lead to improvement in both. Copyright: Project Syndicate, 2009. www.project-syndicate.org Reprinting material from this website without written consent from Project Syndicate is a violation of international copyright law. To secure permission, please contact [email protected]. tvselvakumaran 05:30 30 Sep 09 The official consensus Professor Martin Feldstein's latest article, "The G-20's Empty Promises" on Project Syndicate needs careful consideration. In his article, Professor Feldstein essentially adopts the "official consensus" of the economics profession on the current economic crisis. This official consensus, in its various mainfestations, has also been elaborated on by other famous economists, notably Professor Robert Lucas in his article in the Economist in early August, and by Professor Paul Krugman in his recent article in the New York Times Magazine. One characterizing feature of this official consensus is a confidence (a.k.a. triumphalism) in the certainty of outcomes predicted by modern economic theory. The main precepts of this official consensus are (i) Professor Ben Bernanke, the Chairman of the Board of Governors of the Federal Reserve, has at his disposal all the theoretical tools of economics that are necessary and sufficient to deal with the current economic crisis. As Professor Lucas explains it in his Economist article, if one were able to predict in advance exactly when a market crash would occur, it would imply that the market entertains arbritrage opportunities. Hence, it is not possible to predict financial crises in advance. However, except for the precise timing of the occurrence of financial crises, macroeconomic theory could explain the workings of the economy completely. In particular, to avert the recurrence of the Great Depression, certain actions were needed to be taken by the Fed -- the specifics of these actions were all clearly understood by the economics profession. However, it was politically untenable to take these actions before there was a financial crisis. Once the financial crisis occurred though, Professor Bernanke could intervene in the markets and take the necessary actions (in the Fall of 2008). These actions include the injection of several trillion dollars into the economy and making the availability of credit the cheapest possible. The actions taken by the Fed have now resulted in the economy avoiding a recurrence of the Great Depression. This is, in brief, what Professor Lucas has stated in his Economist article. (ii) Thus in Professor Lucas' interpretation of things, the collapse of Lehman Brothers, for example, was necessary, in order to justify the intervention of the Federal Reserve in the functioning of the markets. The collapse of Lehman Brothers was, although regrettable, an unavoidable event. But, on the whole, monetary policy, even if it is a profligate one, would be necessary and sufficient to prevent the recurrence of the Great Depression, in Professor Lucas' view. Furthermore, the old wisdom of the Chicago School that government should be kept minimal at all times continues to hold, even in light of the current economic crisis. The Keynesians led by Professor Krugman, on the other hand, believe that Lehman Brothers should never have been allowed to fail. In their view, when the Fed's fund rate is at zero, monetary policy is largely ineffective for sustaining and stimulating economic activity. This is because of liquidity traps caused by businessmen who don't see economic opportunities that would induce them to borrow the cheap money available from the banks. Hence the government should step in to provide massive fiscal assistance to the economy by taking on spending directly, even if it means assuming trillions of dollars of public debt. (iii) Professor Krugman scored a lot of points by pointing out that the current state of economic theory, highly influenced as it is by the efficient market hypothesis of the Chicago School, indicated that a crisis of such magnitude as the current economic crisis could not happen at all. This fundamental failure to recognize that an enormous crisis could indeed happen, calls for the overthrow of the policy that markets provide the best social gain when they are completely free from government interference. From first impressions, it might seem that the views of the monetarists and Keynesians are vastly different. However, it is important to note that in the view of the Keynesians too, once large scale government spending as prescribed by the Keynesians is instituted, there is again enough assurance that modern economic theory (although with a heavy Keynesian tilt) would be sufficient to deal with the current economic crisis. (iv) In this regard, perhaps it is relevant to refer here to Professor Robert Shiller's latest article, "Re-inventing Economics" on Project Syndicate. Professor Shiller points out that the free market ideology fails to identify bubbles. Because of the belief that markets know best on all occasions, bubbles cannot occur according to the free market ideology. Professor Shiller's approach pursues a different branch of the Keynesian school of thought than the big spenders. Rather than advocate large government spending to avert a depression, Professor Shiller proposes using techniques from behavioral psychology to predict bubbles in advance. In this way, the socially harmful effects of massive misallocations of capital that arose in the case of the housing bubble or the tech bubble could be prevented in the future. In his other recent article, "Echo Chamber of Boom and Bust" in the New York Times, Professor Shiller elaborates further on the techniques that one could use for studying bubbles. Briefly, the process by which confidence or panic spreads in markets is very similar to the process by which diseases spread among populations. This outlook allows for introducing methods that scientists use to study epidemics into the study of bubbles. (v) The Keynesians have also managed to re-write the conventional wisdom on the advantages of a strong dollar. Through the works of Professors Barry Eichengreen, Jeffrey Sachs and Ben Bernnake, a consensus has developed that attempting to support the gold standard was a major cause for the prolongation of the Great Depression. This has resulted in a viewpoint among economists that a devaluation of the dollar at present would help to reduce global imbalances by restoring the American manufacturing industry. The implications of this viewpoint were analyzed by Professor Feldstein in his July 2009 article "America's Saving Rate and the Dollar's Future" on Project Syndicate, with the conclusion that devaluation of the dollar would necessarily lead to a better future for GDP Fetishism - Project Syndicate 2/8/10 4:05 PM http://www.project-syndicate.org/commentary/stiglitz116/English Page 3 of 3 America. Lost in this new interpretation is the fact that a stable dollar provides many economic benefits for America. The equity premium for American companies taking more risks globally, the transaction charges for providing market making facilities in global markets, and the provisions of liquidity for the currency of international trade are major drivers of economic growth for America, which derive from the dollar being the global reserve currency. (vi) Some other Keynesians have gone beyond questioning just the free market ideology. For example, in his latest article, "GDP Fetishism" on Project Syndicate, Professor Joseph Stiglitz proposes a broad set of economic indicators like health, well-being and sustainability rather than a narrow focus on GDP growth. Yet other developments imply that the rest of the world is steadily moving away from using the dollar as the main reserve currency. To finance this new global reserve system, the IMF has created $250 billion worth of Special Drawing Rights (SDR), and the IMF has indicated its intention to triple this allocation of $250 billion in the future. It would need a strong commitment from the policy-makers in America to re-claim for the dollar its position as the predominant global reserve currency. However, judging from the writings of American economists like Professor Feldstein, it appears that the consensus among professional economists favors devaluing the dollar instead. (vii) The official consensus is a result of a grand compromise between the Chicago School economists and the Keynesians.The conservative economists of the Chicago School would like to avoid the embarassment of getting publicly criticized for the failures of the efficient market hypothesis that this current economics crisis has severely exposed. So famous conservative economists like Professor Lucas have reached out for a consensus by indicating their willingness for a compromise. This compromise involves among other things, (a) foregoing raising concerns about the government's mismanagement of Fanie Mae and Freddie Mac, and (b) lending support to the Fed and the Treasury in their efforts to stabilize the economy, even if the methods that the Fed and the Treasury employ are highly inefficient. What are the Keynesians compromising on? Well, the Western liberal tradition has been intellectually bankrupt ever since the late 1960s. It is only the free market ideology of the Chicago School that has served as the driver of wealth creation in the advanced countries during the last four decades. Hence, the official consensus is a convenient compromise for the Keynesians to avoid asking difficult questions about the future of the Western liberal tradition. Instead, they would like to enact much drama in the media about the resurrection of their hero, John Maynard Keynes. (viii) One other characterizing feature of the official consensus in the economics profession is a collective tendency to "Blame It All On Obama". The conservative economists blame President Obama for not focusing adequately on America's ballooning national debt. The liberals, led by Professor Krugman, fault President Obama for getting distracted from the left's free spending ways by concerns on the size of the fiscal deficit. In the confusion that has ensued, President Obama's own team of economics advisors has fallen back on the official consensus in the economics profession. Availing themselves of the security provided by this official consensus, President Obama's economics team has misled the President thoroughly in economic matters. To begin with, the President is only empowered to administer the nation's affairs for a four year term. The projections put out by the Congressional Budget Office (CBO) for the deficits in the next decade are only a non-authoritative guidance for where the nation's finances would be, if current policies hold for the next decade. Instead, the democrats have been behaving as if the $9 trillion of additional public debt that the CBO projects for the next decade is already a given certainty. In particular, they have not been careful to mention clearly in public discussions how much of this extra spending can be attributed to the President's own spending plans in his current four-year term. Neither have they shown any concerns for taking the Fed and the Treasury to taks for their highly inefficient methods to stabilize the economy. Because of these instances of neglect, the public is not willing to trust the government in financial matters. President Obama has rapidly lost his approval ratings. Professor Lawrence Summers, Professor Christina Romer, Professor Austan Goolsbee and Professor Peter Orszag are directly responsible for this abuse of public trust. (ix) The official consensus has also prevented economists from recognizing that President Obama's universal message of tolerance and justice, which has been received very favorably all around the world, actually opens up vast areas of economic opportunity for America. Unfortunately, it does not matter, for the economists, whether George W. Bush or Barack Obama is in office. The most they can do is re-work their models to favor Keynesian policies, and to argue that the policies they propose arise directly from their number-crunching methods. One might be tempted to attribute this widespread consensus among economists to stick to a narrow theoretical interpretation of the current economic crisis, to the certainty afforded by the mathematical models, which have become indispensible through the course of the 20th century, for the development of economic theory. However, this would be a big mistake. The official consensus in the economics profession is primarily a result of undue influences of power and money. It is much less a result of mathematically based economic theory. In the longterm, this attitude among economists of sticking to an official consensus is going to do serious damage to the American economy. Some other aspects of the official consensus have been explained very well by Professor Kenneth Rogoff in his recent article, "The Confidence Game" on Project Syndicate. I recommend that the reader go through that article. The official consensus is the single largest threat to a robust recovery in the global economy. The official consensus also gravely misinterprets the events of the Great Depression. The implications of this misinterpretation bear directly on the economic health of America.

Question 6: Which of the following economic goals focuses on equal opportunities for education? (5 points)

-Equity

-Freedom

-Growth

-Security

Question 7: Marcel takes out student loans and works part-time to put himself through college. In time, he earns an advanced medical degree and goes to work in an understaffed city -hospital. Marcel's economic decisions benefit the goal of efficiency by (5 points)

-making his own job

-related decisions

-paying back loans to reduce the debt

-contributing to the nation's productivity

-taking advantage of equal opportunities

Question 8: Two countries produce milk and dairy products efficiently. Neither has an absolute advantage. However, Country A exports milk to Country B, and Country A imports cotton from Country B. Which of the following is inferred? (5 points)

-The opportunity cost of producing milk is lower for Country A.

-The opportunity cost of producing cotton is higher for Country B.

-Country A has a natural resource advantage in cotton.

-Country B has a natural resource advantage in milk.

Question 9: Worker hours to produce one unit of natural gas; Worker hours to produce one unit of oil; Brazil 4 9; Argentina 2 10; Mexico 3 7; United States 1 6. According to the chart, which country has the comparative advantage in oil production? (5 points)

-Brazil

-Mexico

-Argentina

-United States

Question 10: The United States can manufacture books at a much more rapid pace than manufacturers in Indonesia. Which of the following is a reason? (5 points)

-Indonesia, as a developed country, has a highly paid and experienced workforce

-Indonesia, as a developing country, has a less advanced manufacturing infrastructure

-The United States, as a developing country, has a high comparative advantage in manufacturing.

-The United States, as a developed country, has a lower cost of living than Indonesia

Question 11: A group of nations establishes a free-trade zone. What is the most likely effect? (5 points)

-Cost of trade increases

-Exports decrease

-Imports decrease

-Trade increases

Question 12: The United States may have a tariff on cotton products from China in order to (5 points)

-prevent Chinese manufacturers from losing profit because of low prices

-protect the business of the American cotton growers and manufacturers

-stop trade due to political disagreement on economic policy

-promote sales in the United States of cotton products from China

Question 13: A Chinese international salesperson hoping to increase exports to the U.S. may worry about the inflation of the U.S. dollar because the inflation may (5 points)

-increase the United States' supply of Chinese products

-decrease tariffs on Chinese products sold to the United States

-increase taxes on the United States' products sold to China

-reduce the United States' demand for Chinese products

Question 14: How would a strong U.S. dollar impact the trade of grain produced in the United States? (5 points)

-U.S. grain exports decrease

-U.S. grain exports increase

-U.S. grain imports decrease

-U.S. grain imports stagnate

Question 15: Which of these can be a result of inflation? (5 points)

-Businesses grow cautious about spending

-The government has to cut spending

-The price of household items increases

-Workers benefit from a lower cost of living

Question 16: If the inflation rate increases faster than their income, people will most likely (5 points)

-use a higher proportion of their incomes on basic needs

-spend a lower proportion of their incomes on basic needs

-get more goods and services for less money

-obtain fewer goods and services for less money

Question 17: To increase your standard of living, your wages must (5 points)

-rise faster than the inflation rate

-rise more slowly than the inflation rate

-keep pace with the inflation rate

-have a negative inflation rate

Question 18: Look at the map showing the European Union (EU) and its free-trade agreement (FTA) countries. Which is true about most current EU free-trade agreements? (5 points)

-The European Union's free-trade agreements are with all of the most developed nations in the world.

-The European Union's free-trade agreements include agreements with both developed and developing nations.

-The European Union's free-trade agreements focus on nations with access to overland trade routes

-The European Union's free-trade agreements focus on the Southern Hemisphere, as distant countries have access to goods not grown in Europe.

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ECON 1010 Chapter Notes - Chapter 7: Human Capital Flight, Infant Industry Argument, Private Good

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