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Unit 3- Economics

total market value of all final goods and services produced within the nations borders in one year
Groups included in GDP
Consumer, Government, Investment (Business) and Exports (Foreign)
Not included in GDP
Intermediate goods, Used/Resale goods, Illegal goods/income, Financial transactions (Stock)
Expenditure approach to GDP
add up all the spending by consumers, businesses, the government and net spending by foreign countries on US Goods (C+I+G+X=GDP
Income approach to GDP
add up all wages, rent, interest and profit earned by producing all final goods and services (W+R+I+P=National Income=GDP)
Real vs. Nominal GDP
adjusted for inflation VS. actual dollar amount
Per capita GDP
GDP/ total population
*Used to compare one nation to another
What are the limitations of using GDP
– doesn’t include work that we don’t get paid for
– excludes underground economy
– does not measure quality of life
Aggregate Supply
total amount of goods/ services in the economy available at all possible price levels
Aggregate Demand
total quantity of goods/ services in the entire economy that all citizens will demand at any single time
Groups of demanders in AD
Consumer, business, government, foreign investment
What does a business cycle measure
measure of the periodic ups and downs in GDP
Stages of business cycle
Expansion, Peak, Contraction, Trough
when GDP is up, and unemployment is down; incomes go up; interest rates go up = which is a problem

part of business cycle when economic activity slowly increases

height of expansion; moment when GDP stops increasing and starts to decrease
GDP going down, unemployment going up; incomes go down, prices go down

Contraction that lasts longer than 6 months = Recession

moment when contraction ends, and expansion starts to expand
What causes a business cycle to fluctuate
1- Business Investments
2- Interest Rates
3- Consumer Expectations
4- External Shock
How do economists forecast future business cycles
look at leading economic indicators to attempt forecast changes in GDP
Progressive Tax
as income increases, % of income paid in taxes also increases
Regressive Tax
as income increases, the % of income paid in taxes decreases
Proportional Tax
everyone pays the same % of their income in taxes
Ability to pay
those with higher incomes should pay more in taxes because they have more money
Benefits received
a person should pay taxes equal to the amount of benefits they receive from the government
Major source of income for federal government
income tax
Major source of income for state government
sales tax
Major source of income for local government
property tax
Mandatory Spending
money govt is required to spend (SS, Military pensions, etc) (Approx. 60% of total budget) Includes entitlement programs
Entitlements- who receives them?
money that people are entitled to receive because they meet certain eligibility requirements (EX: Medicare)
Discretionary Spending
spending which the govt can make choices (defense, highways, education, etc)
Congress’ role in federal budget process
Congress, along with the White House, creates the federal budget
when the govt spends more that it takes in taxes; the amount of the govt borrows over one year
total amount the govt has borrowed over time
Crowding out
there is not enough money to borrow because the govt borrowed too much of the available funds
Effect of large deficit on interest rates
intrest rates will increase
Why do classical economists believe the govt should be laissez faire?
They believe that it will correct itself over time; Govt should stay out of the economy
Why did Keynes believe the economy could not self- regulate?
because union contracts caused salaries to be too high
(expansionary fiscal policy) use during recession- GDP dropping and there is high unemployment
Fiscal Policy
use of govt spending and taxing policies to precent ups and downs in the business cycle
Expansionary fiscal policy
increase in govt spending/ cut taxes/ used during recession to stimulate economy
Expansionary fiscal policy- when should the govt use expansionary policy
During recession
Expansionary fiscal policy- effect on AD and employment
AD will increase and we will have more jobs so unemployment will decrease
Contractionary fiscal policy
Used during inflation;
reduce govt spending and increase taxes, this will cause govt to have a surplus
Contractionary fiscal policy- when should the govt use contractionary policy
during inflation
Contractionary fiscal policy- effect on AD and employment
AD will decrease, unemployment will increase
Why doesn’t the Keynesian model always work
1- govt can be slow to react
2- politicians do not like to raise taxes
3- sometimes Federal Reserve counter react govt policies
4- stagflation; high unemployment and high inflation
Supply Side Economics
belief that tax cuts can help the economy by raising supply
Intermediate Goods
used in production of other goods
Durable Good
good that does not wear out quickly
Nondurable Good
goods that are used very quickly like gas or food

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