Introduction to Economics GEN1704.2/ECN1101.2 L, Mussurov Altay

A neoclassical concept referring to the allocation of productive resources (capital, labor, etc.) in a manner which best maximizes the well-being (or “utility”) of individuals.

Government fiscal policies which have the effect of automatically moderating the cyclical ups and downs of capitalism. Examples include income taxes (which collect more or less taxes depending on the state of the economy) and unemployment insurance benefits (which automatically replace lost income for people who lose their jobs).

An annual budget (such as for a government) in which revenues perfectly offset expenditures, so that there is neither a deficit nor a surplus.

A company that accepts deposits and issues new loans. It makes profit by charging more interest for the loans than it pays on the deposits, as well as through various service charges. By issuing new loans (or credit), banks create new money which is essential to promoting economic growth and job creation.

A form of trade in which one good or service is exchanged directly for another, without the use of money as an intermediary.

A financial security which represents the promise of its issuer (usually a company or a government) to repay a loan over a specified time period, at a specified rate of interest. The bond can then be bought and sold to other investors, over and over again. When the rate of interest falls, bond prices rise (and vice versa) – since when interest rates are lower, the bond’s promise to repay interest at the specified fixed rate becomes more valuable.

Broadly defined, capital represents the tools which people use when they work, in order to make their work more productive and efficient. Under capitalism, capital can also refer to a sum of money invested in a business in hopes of generating profit. (See also. circulating capital, fixed capital, human capital, machinery and equipment, physical capital, and structures.)

An economic system in which privately-owned companies and businesses undertake most economic activity (with the goal of generating private profit), and most work is performed by employed workers who are paid wages or salaries.

A public financial institution, usually established at the national level and controlled by a national government, which sets short-term interest rates, lends money to commercial banks and governments, and otherwise oversees the operation of the credit system. Some central banks also have responsibility for regulating the activities of private banks and other financial institutions.

The different broad groups in society, defined according to what work they do, their wealth, their degree of control over production, and their general role in the economy.

The tradition of economics that began with Adam Smith, and continued with other theorists including David Ricardo, Thomas Malthus, Jean-Baptiste Say, and others. The classical economists wrote in the early years of capitalism, and they uniformly celebrated the productive, innovative actions of the new class of industrial capitalists. They focused on the dynamic economic and political development of capitalism, analyzed economics in class terms, and advocated the labor theory of value.

Anything that is bought and sold for money is a commodity – including produced goods and services, inputs (such as capital or raw materials), and even labor.

A theory of international trade that originated with David Ricardo in the early 19th Century, and is maintained (in revised form) within neoclassical economics. The theory holds that a national economy will specialize through international trade in those products which it produces relatively most efficiently. Even if it produces those products less efficiently (in absolute terms) than its trading partner, it can still prosper through foreign trade. The theory depends on several strong assumptions – including an absence of international capital mobility, and a supply-constrained economy.

Competition occurs between different companies trying to produce and sell the same good or service. Companies may compete with each other for markets and customers; for raw materials; for labor; and for capital.

The consumer price index (CPI) is a measure of the overall price level paid by consumers for the various goods and services they purchase. Retail price information is gathered on each type of product, and then weighted according to its importance in overall consumer spending, to construct the CPI. Monthly or annual changes in the CPI provide a good measure of the rate of consumer price inflation.

Goods and services which are used for their ultimate end purpose, meeting some human need or desire. Consumption can include private consumption (by individuals, financed from their personal incomes) or public consumption (such as education or health care – consumption organized and paid for by government). Consumption is distinct from investment, which involves using produced goods and services to expand future production.

The ability to purchase something without immediately paying for it – through a credit card, a bank loan, a mortgage, or other forms of credit. The creation of credit is the most important source of new money, and new spending power, in the economy.

The total amount of money owed by an individual, company or other organization to banks or other lenders is their debt. It represents the accumulated total of past borrowing. When it is owed by government, it is called public debt, and it represents the accumulation of past budget deficits.

When a government, business, or household spends more in a given period of time than they generate in income, they incur a deficit. A deficit must be financed with new borrowing, or by running down previous savings.

A decline in the overall average level of prices. Deflation is the opposite of inflation.

This represents the loss of value from an existing stock of real capital (for an individual company or for the whole economy), reflecting the normal wear-and-tear of machinery, equipment, and infrastructure. A company or country must invest continuously just to offset depreciation, or else its capital stock will gradually run down.

Economic development is the process through which a country’s economy expands and improves in both quantitative and qualitative terms. Economic development requires the coming together of several different processes and conditions. the accumulation of real capital; the development of education, skills, and human capacities; improvements in governance, democracy, and stability; and changes in the sectoral make-up of the economy.

As a result of racist and sexist attitudes, and deliberate efforts of employers to play off groups of workers against each other, different groups of people (defined and divided by gender, ethnicity, language, ability, or other factors) experience very different economic opportunities and incomes.

The distribution of income reflects the process by which the real output of goods and services produced by the economy is allocated to different individuals and groups of people. Distribution can be measured across individuals (comparing high-income and low-income households), or across classes (comparing the incomes of workers, small businesses, and capitalists).

Many companies pay a cash dividend (quarterly or annually) to the owners of its shares. This is an enticement to investors to purchase that company’s shares, and represents a way of distributing some of a company’s profits to its ultimate owners. Individual investors can capture profits in other ways, as well – such as through capital gains.

Economic growth is the expansion of total output produced in the economy. It is usually measured by the expansion of real GDP.

Most economic production requires the producing firm or organization to make an initial investment (in real capital, in engineering and design, in marketing) before even the first unit of production occurs. As total production then grows, the cost per unit of that initial investment shrinks. For this reason, most industries demonstrate economies of scale, whereby the unit cost of production declines as the level of output grows. Because of economies of scale, larger companies have an advantage in most industries, and the economy usually operates more efficiently when it is busy and growing (than when it is shrinking or stagnant).

Employment is a specific form of work, in which the worker performs their labour for someone else in return for a money wage or salary.

The natural environment is an essential aspect of the economy, whose influence is felt in several different ways. Everyone relies on the direct ecological benefits that come from nature. fresh air, clean water, space, climate. And every industry relies on natural resources which are used as necessary inputs to production (land, minerals, forestry and agriculture, energy, and other materials). Finally, (and unfortunately), most economic activities involve the creation of some waste and pollution which is expelled back into the environment.

In neoclassical economics, equilibrium exists when supply equals demand for a particular commodity. General equilibrium is a special (purely hypothetical) condition in which every market (including markets for both final products and factors of production, the latter including labor) is in equilibrium.

The proportion of a company’s total assets which are “owned” outright by the company’s owners. A company’s equity is equal to its value less its debt owed to bankers, bond- holders, and other lenders.

The “price” at which the currency of one country can be converted into the currency of another country. A country’s currency is “strong,” or its exchange rate is “high,” if it can purchase more of another country’s currency. A country’s currency appreciates when its value (compared to other currencies) grows; it depreciates when its value falls.

An export is the sale of a product from one country (either a good or a service) to a purchaser in another country.

Many economic activities have collateral effects (sometimes positive, but more often negative) on other people who are not directly involved in that activity. Examples of externalities include pollution (which imposes a cost on the natural environment and everyone who uses it), congestion (which slows down travel and productivity), and the spill-over impacts of major investment or plant closure decisions.

The basic productive resources (labor, capital, and natural resources) that are essential inputs to every economic activity.

Products (either goods or services) which are intended for final consumption. They are distinct from intermediate products, which are products used in the production of other products (such as raw materials, capital goods, or producer services).

The spending and taxing activities of government constitute its fiscal policy.

Real capital which is installed permanently in a specific location, including buildings, infrastructure, and major machinery and equipment.

An investment by a company based in one country, in an actual operating business, including real physical capital assets (like buildings, machinery and equipment), located in another country.

The process by which the currency of one nation is converted into the currency of another country.

An agreement between two or more countries which eliminates tariffs on trade between the countries, reduces non-tariff barriers to trade, cements rights and protections for investors and corporations, and takes other measures to guarantee a generally liberalized, pro-business economic environment.

A condition in which every willing worker is able to find a paying job within a very short period of time, and hence unemployment is near zero.

Neoclassical economics assumes that production, employment, investment, and income distribution are all determined by a condition of equilibrium (with demand equaling supply) in every single market (including markets for both factors of production and produced goods and services).

A statistical measure of inequality. A Gini score of 0 implies perfect equality (in which every individual receives the same income). A Gini score of 1 implies perfect inequality (in which one individual receives all of the income).

A generalized historical process through which more economic activity takes place across national borders. Forms of globalization include international trade (exports and imports), foreign direct investment, international financial flows, and international migration.

Tangible products which are produced in the economy – including agricultural products, natural resources, manufactured goods, and construction.

The value of all the goods and services produced for money in an economy, evaluated at their market prices. Excludes the value of unpaid work (such as caring reproductive labor performed in the home). GDP is calculated by adding up the value-added at each stage of production.

The basic unit of individual economic behavior. Households offer labor supply to the labor market, earn income (from employment and other sources), make consumer purchases, and care for each other through unpaid labor within the home.

A situation of extremely rapid inflation (reaching 100% per year or more), often resulting from a condition of economic or political breakdown.

Goods or services which are produced in a foreign country and purchased domestically. Imports include money spent on vacations or purchases in foreign countries.

The distribution of income across individual households typically demonstrates inequality between higher-income and lower-income households.

A process whereby the average price level in an economy increases over time.

The informal sector of the economy represents the production of goods and services for the own-use of the producers, or for informal or “underground” trade in particular communities (as opposed to the formal economy). It is particularly important in developing countries.

Producers (including private companies) will endeavor to develop new products (new goods or services) and new processes (new ways of producing those goods or services), with the goal (in a capitalist context) of enhancing market share and hence profitability. More generally, innovation simply refers to finding better ways to produce better goods and services.

A lender charges interest as the price of lending money (or some other asset) to a borrower. Interest is typically charged as a specified percentage of the loan’s value, per specified time period (eg. percent per year).

Products (including both goods and services) which are not produced in order to be consumed, but rather are produced in order to be used in the production of some other good or service. Capital goods and raw materials are examples of intermediate products.

Investment represents production which is not consumed, but rather is utilized in the production of other additional output. Investment also represents an addition to the capital stock of an economy.

A form of business in which the company’s assets are jointly divided among a large number of different individual owners, each of whom owns a specified share of the company’s total wealth. Joint stock companies are governed by a weighted voting system in which investors’ influence depends on the number of shares they own.

The total population of working-age people who are willing and able to work, and who hence have “entered” the labor market. The labor force includes individuals who are employed, and those who are “actively” seeking employment.

Longer-term periods of growth or stagnation in the economy, that can last for a decade or more and reflect broader changes in technology, politics, and international relations. For example, most developed capitalist countries experienced a long wave of economic expansion after World War II (the “Golden Age”), followed by a long period of stagnation during the 1980s and 1990s.

One form of fixed capital asset, consisting of machines, computers, transportation equipment, assembly lines, and other equipment. Economists believe that investment in machinery and equipment is very important to productivity growth.

The study of aggregate economic indicators such as GDP growth, employment, unemployment, and inflation. Conventional economics makes a distinction between macroeconomics and microeconomics (the study of individual businesses or industries).

The study of the economic behavior of individual “agents” such as particular companies, workers, or households.

The movement of human beings from one country or region to another. Sometimes migration is motivated by economic factors (such as the search for employment), sometimes by other forces (such as war, natural disaster, or famine).

Monetary policy reflects the use by government and government agencies (especially the central bank) of interest rate adjustments and other levers (such as various banking regulations) to influence the flow of new credit into the economy, and hence the rate of economic growth and job-creation. A “tight” monetary policy tries to reduce the growth of new credit (through higher interest rates); a “loose” monetary policy tries to stimulate more credit- creation and hence growth.

Broadly speaking, money is anything that can be used as a means of payment (for example, to settle a debt). It includes actual currency, bank deposits, credit cards and lines of credit, and various modern electronic means of payment.

A mortgage is a special kind of credit, usually longer-term in duration, used to finance the construction or purchase of property or a long-lasting structure (such as a home or building).

An initial stimulus to spending (in the form of new business, consumer, or government purchases) usually results in a larger final increase in total spending, production, and employment in the economy. This magnifying effect is called the multiplier. The strength of the multiplier depends on many factors, including the type of initial spending, the importance of imports in spending, and the amount of unused capacity that initially existed in the economy.

A financial vehicle which involves pooling investments in the shares of many different joint stock (or publicly traded) companies, in order to reduce the risk and overhead costs associated with investing in corporate shares. An investor buys a unit in the mutual fund, and receives a pro-rated portion of the fund’s total income (including both dividends and capital gains).

In some industries, economies of scale are so strong that it makes most economic sense for there to be only one supplier. This type of industry is considered a natural monopoly, since competition will eventually tend to concentrate output in one producer (and this is, in any event, the most efficient way to organize production). Governments usually attempt to oversee the operation of natural monopolies through either public ownership or regulation.

According to neoclassical economics, the wage rate is determined by a process of labor-market clearing (in which workers and employers compete with each other, ensuring that labor supply equals labor demand). Why, then, do we almost always observe unemployment? Neoclassical theorists argue that observed unemployment reflects frictional, structural, or disguised effects that are consistent with labor market clearing. In other words, this “natural” level of unemployment is, in fact, full employment. It is fruitless, in this view, to try to reduce unemployment below this natural level. misguided attempts to do so only create inflation. Unions, minimum wages, and other “market-inhibiting” measures will tend to increase the natural rate of unemployment.

Nominal gross domestic product measures the total value of all the goods and services produced and traded for money in the formal economy, evaluated at their current money prices. Nominal GDP can grow from one period to the next because of an increase in actual (real) output, and/or because of an increase in average prices (that is, as a result of inflation).

Some products cannot be transported over long distances, or otherwise sold to consumers from far-off locations. These products (including some goods and most services) are hence considered non-tradeable. they must be consumed near to where they are produced. Non- tradeable products include most construction, some manufacturing (such as highly perishable or extremely bulky products), most private services, and nearly all public services.

An abstract assumption, central to neoclassical economics, in which companies are so small that none can influence total output or price levels in an industry, none can distinguish its products from those of competing firms, and none can anticipate or interact with the actions of its competitors. Perfect competition has never existed in real life; it is a theoretical assumption developed solely in order to defend the internal logical integrity of neoclassical economic theories.

A tangible tool, building, machine, or other productive asset which is used to produce other goods or services.

A state of having inadequate income or other resources to support a household or group of households at a basic standard of living. Poverty can be measured in absolute or relative terms.

According to neoclassical economic theory, individuals’ preferences regarding the sorts of consumer goods they most enjoy will exercise an ultimate influence on both the composition of output in the economy, and the prices paid for final products and factors of production.

The overall average level of nominal prices in the economy can be calculated, most often as a weighted average of the prices of individual goods and services (with weightings reflecting the importance of each product in overall spending or output). Price levels can be calculated for consumer spending, for wholesale trade, for producer inputs, or for any other category of production. The most common measures of the overall price level are the consumer price index and the gross domestic product deflator.

Products which are harvested directly from the natural environment, with minimal subsequent processing, are considered primary products. These typically include agricultural, fishing, forestry, mineral, and energy products.

A form of business in which the company’s entire equity base is owned by one or a small group of individual investors. Under the private equity model, the company does not issue shares onto the stock market, and hence is not usually required to release public financial statements or comply with other securities regulations. Private equity firms are generally considered to be more ruthlessly focused on generating shorter-term cash profits from their operations than joint stock companies.

The process by which human labor (or “work”) is applied, usually with the help of tools and other forms of capital, to produce useful goods or services.

This is the surplus left over after a company sells its output, and pays off the cost of production (including labor costs, raw materials, and a proportional share of its capital equipment). Its calculation is. revenue – cost = profit.

A tax is considered progressive if a larger proportionate share of its total burden falls on individuals with higher average incomes.

True public goods are those which cannot be provided to one group of consumers, without being provided to any other consumers who desire them. Thus they are “non-excludable.” Examples include radio and television broadcasts, the services of a lighthouse, national security, and a clean environment. Private markets typically underinvest in the provision of public goods, since it’s very difficult to collect revenue from their consumers. More broadly, public goods can refer to any goods or services provided by government as a result of an inability of the private sector to supply those products in acceptable quantity, quality, or accessibility.

Real investment spending by government or public institutions on structures, infrastructure, machinery and equipment, and other real capital.

The value of total gross domestic product (that is, all the goods and services produced for money in the economy) adjusted for the effects of inflation. In theory, real GDP represents the physical quantity of output.

The interest rate on a loan, adjusted for the rate of inflation. The real interest rate represents the real burden of an interest payment. Real interest rates must be positive for the lender to attain any real income from the loan.

The value of wages, adjusted for the level of consumer prices. If the nominal value of wages is growing faster than consumer prices, then real wages are growing, and hence the real consumption possibilities offered to workers are improving.

A condition in which the total real GDP of an economy shrinks (usually, for at least two consecutive quarters).

A condition in which real GDP begins to grow again, following a recession.

A tax in which lower-income individuals or households bear a proportionately greater burden of the tax. Sales taxes are generally considered regressive (since lower-income households do not generally save, and hence must pay the sales tax on a larger proportion of their total income).

The price of any product or commodity measured relative to the overall level of prices (for example, compared to the consumer price index).

Business profits which are not distributed to shareholders (through dividends or other payouts), but instead are retained within the company in order to finance future investment or other expenditures.

A measure of business profitability equal to net after-tax income divided by the average level of shareholders’ equity in the business.

A tax imposed as a proportion of consumer spending on specified goods or services. Also known as a “value-added” tax.

The portion of income which is not spent on consumption. Saving can be undertaken by individuals and households, by businesses, or by governments.

A form of output which consists of a function performed for one person by another – such as cooking and serving a meal, teaching a lecture, completing a telephone call, or delivering a package. Distinct from goods.

Financial assets which represent the ownership of a small proportion of the total equity (or net wealth) of a corporation. Shares can be bought and sold on a stock market.

A place where shares of joint stock corporations are bought and sold. Most modern stock markets no longer have a physical presence, but rather consist of connected computer networks.

Any agent or sector in the economy (household, business, or government) experiences a surplus when its income exceeds its expenditure.

Compulsory government levies collected to pay for public spending. There are many different types of taxes (income, corporate, sales, wealth, payroll, and environmental taxes); each has a different impact on the economy, and on different groups within the economy.

Technology is the knowledge which humans collectively possess regarding how to produce goods and services in more efficient ways.

The ratio of the average price of a country’s exports, to the average price of its imports, is its terms of trade. In theory, an improvement in a country’s terms of trade raises its real income (since it can “convert” a given amount of its own output into a larger amount of consumable products through trade) – although in practice it depends on how those terms of trade gains are distributed.

Individuals who would like to be employed, and are actively seeking work, but cannot find a job, are considered “officially” unemployed. Individuals who are not working, but not actively looking for work, are considered to be outside of the labor force, and hence don’t count as “officially” unemployed.