Econ Test 3 - Chapters 10-13
Absolute vs. Comparative Advantage - Example Who has absolute advantage? Who has comparative advantage?
1. Jen has the absolute advantage for both men and women's shoes (i.e. she is more productive overall because she can produce more shoes) John's OC for Men's = 20/10 = 2 John's OC for Women's = 10/20 = .5 Jennifer's OC for Men's = 30/20 =1.5 Jennifer's OC for Women's = 20/30 = .67 2. SO, Jennifer has the comparative advantage for men's and John has the comparative advantage for women's (comparative advantage refers to who has the lowest opportunity cost)
Productivity is influenced by:
1. Other factors of production: The amounts and qualities of land, capital, and entrepreneurship can make workers more (or less) productive 2. Labor Quality: the education, training, health, and skills of workers have dramatic effects on productivity 3. Most other things we have discussed in the class affect worker productivity too! - Government regulation, economies of scale, gains from specialization and trade etc.
What are the three leading hypotheses for why US productivity has increased faster than wages over the past 50 years?
1. Uncompetitive labor markets 2. Skill-biased technological change (SBTC) 3. Over-accumulation of capital
What can be done to protect the wages of workers when they are earning less than their MRP?
1. Unionization 2. Minimum Wages 3. Performance Pay
A competitive labor market has a __1__ labor supply curve and a ___2__ labor demand curve
1. perfectly elastic 2. downward sloping
The Case for Free Trade
Arguments for free trade boil down to one key point: by specializing in their comparative advantage, countries are able to consumer outside their respective PPFs Decades of studies show large income gains to the average US household as a result of trade Bradford et al. (2006) suggests that the average household earns $7000-13,000 more per year as a result of increase trade since WWII Trade has been shown to increase the quality and variety of goods available for purchase
What if the rent ceiling is set below the market price?
At the new price, quantity demanded is higher - more people can afford to pay for housing. But, fewer landlord are willing and able to supply housing. So there is a shortage of housing in the market. Qd > Qs causes a shortage
Wage Growth vs. Productivity Growth
Both real wages and productivity have grown over time Over the past 50 years in the US, productivity (blue line) has increased faster than wages (red line) The reasons for this have been the subject of much debate among economists. (3 Leading Hypotheses)
How much would firms be willing to pay a worker?
Firms would be willing to pay a worker, at most, the marginal revenue they produce - we call this their Marginal Revenue Product (MRP)
2012 Income Quintiles
Here we see the percentage of total income in the US held by each quintile or each group of 20 percent of households a stark picture is presented here - the top 20 percent of earners in the United States earn over half of all income
Why do we trade?
If every country were identical, there would be no need for international trade - costs of negotiation and transporting goods would outweigh the benefits of trading across national borders - but countries aren't identical 1. the distribution of national resources and human/physical capital is unequal across countries 2. countries have different levels of technology - some countries are effectively unable to produce high-tech goods 3. people may have preferences for types and qualities of goods produced abroad (esp. immigrant populations)
How does minimum wage change the competitive labor market?
If minimum wages are set above the competitive wage, then minimum wage increase will increase wages and decrease employment by measuring these changes, we can estimate labor demand elasticity
Facts about Inequality in the US
In recent years, inequality has been a hot topic of interest in economics. Many researchers and news agencies have noted the extent of inequality in the United States The following slides show three measures of how income is distributed in the United States - how households are distributed among income groups, how income is distributed among households and the Lorenz Curve
Chapter 11 Recap:
In the previous chapter, we talked about methods the government can use to redistribute income in order to decrease inequality often, when we see a market that is unfair - one that causes a high degree of inequality among people or among businesses - we turn to government intervention to "fix" this problem
Both nominal and real wages tend to _____ over time.
Increase The average worker today has a higher dollar amount written on his/her paycheck in 19900, and can purchase more and better goods and services with that money
Tax Incidence: Cigarette Example: Tax on Consumers
Lose Surplus that turns to Tax Revenue. or DWL This happens because government does not control the tax incidence; it is determined by the shapes, slope, and elasticity of demand The Consumer Surplus, Producer Surplus, and Tax Revenue values are the same for both a tax on consumers and producers Consumer and Producer pay identical amounts regardless of who the tax is on
Performance Pay directly links
MRP and wages
Intro to Labor Economics
One of the largest markets in the world is the labor market In 2017, about 126 million people were employed full-time in the US Also in 2017, 53% of US GDI was paid to workers - worth about $10.6 trillion
How to solve the big tradeoff:
One way used to solve this tradeoff is creation of incentives to get off welfare. so unemployment insurance, TANF, and SSI are not open-ended - instead they have cutoff dates (@ years for unemployment, 5 years for TANF, etc.)
Competitive Labor Market Graph
See Chapter 10 Video
What happens if minimum wage is set below the equilibrium wage?
Similar situation to when the rent ceiling is set above the market price --> nothing happens
What affects how much buyers and sellers actually pay?
The elasticity of supply and demand, relative to each other, determines the tax incidence
What happens if minimum wage is set above the equilibrium wage?
There is a gap between labor supplied and labor demanded Ls > Lo; More people want to work because the minimum wage is higher, but employers are less likely to hire them so employment decreases and then unemployment increases
Why are the numbers on the 2009 Income Distribution Chart (common income, middle-level, and average) so different?
There is a positive skew to income distribution, meaning some households have incomes far above the average
What do you think will happen if some apartments in the city are rent controlled, while others are not? (this happens in NYC, Paris, San Fran, and other large cities) Since some people receive rent-controlled housing and others do not, how can we choose who gets this housing?
Unless the government specifically mandates that the poor get first access to rent-controlled housing, the poor may not receive any benefits from this program in addition, since there are more buyers than sellers, sellers have the ability to choose which buyers they want to sell to, which might lead to discrimination (on race, sex, nationality, etc.)
If the rent ceiling is set above the market price, it won't have any effects - why?
When the rent ceiling is set above market price, it won't have any effects because the rent ceiling says that a firm can't charge a price above the rent ceiling in this situation, the rent ceiling is above the market price so it does not do anything
Tax Incidence: Cigarette Example
When you put a tax on the producers of cigarettes, there is an increase in the supply curve (it shifts up), the quantity supplied goes down (we sell fewer cigarettes), consumers pay more, and producers receive less money for selling the cigarettes Price paid by consumer (Pc) - T = Ps (price suppliers receive for selling the good)
Black Markets
a market in which the sellers are not the producers of the good, and the sellers are able to charge above equilibrium price due to excessive demand importantly, black markets do not necessarily have to deal in illegal goods - black markets exist for goods like concert and sporting event tickets (sites like Ticketmaster and StubHub host legal black markets), as well as electronics (e.g. selling the new iPhone on eBay)
Taste-For-Discrimination Model: in the context of black-white discrimination:
a prejudiced employer behaves as if employing a black worker has an invisible utility cost d - a white worker costs $Ww to employ, and a black worker costs $Wb + d to employ assuming black and white workers in this market have equal productivity, a prejudiced employer only hires black workers if Ww > Wb + d, meaning white workers get paid more than black workers
Results of Price Controls: We showed that price ceilings will cause a shortage of goods. How will buyers and sellers react to shortages?
a shortage of goods will make buyers unable to immediately buy the goods they want; this results in increased search activity that is, buyers have to spend longer looking for goods to buy; this, of course, raises the opportunity cost of the good a shortage also encourages trading in black markets
Unionization
a union is technically a form of legal collusion among workers - they organization and jointly negotiate higher wages and better working conditions, threatening to strike if their demands are not met
European Union (EU)
abolished tariffs and quotas on nearly all trade between member nations, and allows much greater worker mobility between these countries
Problems with Free Trade
although trade benefits the economy on average, not everyone will benefit from increased trade think back to our discussion on fairness and equity - even though trade causes an increase in total surplus, we aren't guaranteed to distribute that new surplus evenly to everyone some people appear to be hurt by trade - often severly
Income Maintenance Programs
another method used by the government to redistribute income is making direct payments to the poor: 1. Social Insurance Programs 2. Public Assistance Programs
Sources of Economic Inequality - Discrimination
another potential factor affecting economic inequality is discrimination discrimination (in its simplest definition) is the act of treating people differently. based on their attributes (for example, price discrimination is treating customers differently based on their willingness to pay) discrimination based on perceived productivity (or statistical discrimination) also likely leads to a cycle of poverty if, for example, black workers are perceived as being less productive than white workers, they will get worse jobs; but as a result, those black workers and their children will be poorer and thus have less access to education in order to develop human capital, meaning that discrimination will persist across generations
Resume Studies
another way economists have tried to examine discrimination is through resume studies, where they send out fake resumes to each thousands of job openings, and record the callback rates for each resume one of the famous resume studies, "are Emily and Greg More Employable Than Lakisha and Jamal?" tried to measure the bias around race and names by sending out identical resumes with stereotypical white-sounding and black-sounding names and measuring the difference in callback rates between the races resumes with white-sounding names were called back 50% more often than resumes with black-sounding names (9.7% callback vs. 6.5% callback)
Performance Pay
another way to keep wages closer to MRP (and perhaps increase productivity too) is directly link wages and output with Performance Pay: 1. Piece Rates 2. Commissions 3. Bonuses 4. Efficiency Wages and Tournament Pay These have drawbacks too - they pay structures to give workers incentives to game the system and/or free ride when possible
Society's Incentives in the Principal-Agent Problem
are straightforward maximize benefits minus costs
Statistical Discrimination
because employers don't know with certainty what a worker's productivity will be when they hire them; as a result, they may judge potential employers based on the average characteristics of their group, rather than their individual characteristics (this idea = statistical discrimination) for example, employed women int he US work fewer hours than employed men, and are more likely to quit work (permanently or temporarily) to take care of children employers do not know if a woman is willing to work long hours at the point of hiring, so they may hire fewer women and/or pay them less than men out of caution
Gini Ratio
derived from the Lorenz curve it is calculated as the ration between the area between inequality line and the Lorenz curve to the entire area below the equality line for example, if one person had all the income in the country, the Gini ratio would be 1
North American Free Trade Agreement (NAFTA)
established a free trade zone (like the Eu's) between the US, Canada, and Mexico
The Case of China
from 1991 to 2007, US imports from China grew from .06% of GDP to 4.6% of GDP over the same time period, US manufacturing employment fell from 12.4% to 8.6% of all US employment one of the most infleuntial studies in economics over the past decade showed that workers who were "more exposed" to Chinese import growth - those in manufacturing industries like steel - faced far higher unemployment and reduced wages follow up studies have linked Chinese import growth to declining marriage rates, falling happiness, rising crime, and even the opioid epidemic in the Midwest and Appalachia additionally, the rise of offshoring has enabled US companies to hire cheaper labor abroad
Specialization leads to...
gaining a comparative advantage
Tax Revenue
government income due to taxation Tax x Quantity Sold = Tax Revenue
Lorenz Curve
graphs the cumulative percentage of income against the cumulative percentage of households to get this, we take our income quintiles from the previous slide and add together all quintiles shares below the quintile of interest for example, at point D the interpretation of this graph is that the bottom 80 percent of households earn 49.8 percent of all income in the US also on the Lorenz Curve, we typically draw a straight line, of slope 1, representing perfect equality; so comparing this to our graph, it makes sense that a more "bow-shaped" Lorenz Curve represents greater inequality
A bow-shaped curve represents...
greater inequality
2012 Income Distribution Chart
here we can see evidence that the US was recovering from the 2007-2009 recession, high income earners were the first to recover the mean and median incomes increase, as the right tail of this distribution grew larger however, the mode actually decreased, meaning that the poor had not recovered from the recession as of 2012
US-China Specialization: Data
here's the real data for oil and steel production and trade for the US and China: the US has almost completely specialized in oil over steel china has specialized in steel (while still producing some oil), and the export pattern suggest both countries are gaining from this trade
Comparative Advantage
if he or she can perform an activity at a lower opportunity cost than anyone else
Absolute Advantage
if he or she is more productive than other people
Competitive Labor Market
in a competitive labor market, just like in perfect competition, the firm is a price taker The market has supply and demand crossing at equilibrium to determine the market wage The firm faces a perfectly elastic labor supply curve - it can hire as many workers as it wants at the current market wage
Elasticity and Incidence
in general, the more inelastic the curve, the higher the incidence on that side of the market
Taxes
in nearly every economic decision we make, we pay some kind of tax to the government: sales tax, income tax, property tax, etc. taxes distort in the market in a fairly similar way to price floors and price ceilings; however, with taxes we are concerned with who actually pays the tax, which, maybe surprisingly, is not something lawmakers can usually control
Incentives Faced by Governments + Command Economies
in theory, a central government with absolute authority could do some economic problem-solving and allocate resources efficiently why doesn't this happen in practice? the government is solving its own economic problem, maximizing its own benefits in a way that may not achieve allocative efficiency the incentives that a government faces are not the normal kind of incentives that promote efficient economic choices, and can result in large efficiency losses
Non-Tariff Barrier
includes other requirements for companies to import goods - such as licenses and import-specific standards and regulations
Wealth in the United States
income is not the only measure of economic inequality, we can also draw a Lorenz Curve showing wealth inequality as you can see, there is greater wealth inequality than income inequality in the United States; this should be expected - the rich own the businesses, land, and capital in the United States, while the poor only earn wages (income from labor)
Rent Ceilings are _______(inefficient/efficient)
inefficient they reduce total surplus, producer surplus, and often, consumer surplus.
Evidence of Statistical Discrimination
it is extremely difficult to identify whether the observed wage gaps (black/white, male/female, etc.) are due to prejudice or statistical discrimination various surveys have asked people about their prejudices and have "shown" that people have become dramatically less racist and sexist over time (but who would admit to being a racist in a survey? a better way to investigate this may be to see how the people being discriminated against respond to this discrimination for example, if you are black and you believe that your job opportunities will be worse because you are perceived to be of lower ability than an equally educated white person, what would you do?
The World Trade Organization (WTO)
largest trade agreement in the world, consisting of 161 nations
Import Quota
limit on the quantities (or values) of goods that can be imported
Monopsonistic Competition
most labor markets fall between perfect competition and monopsony the most widely accepted model of labor markets is monopsonistic competition
Government's Incentives in the Principal-Agent Problem
much more complicated than society's incentives obtain reelection by promoting "politically feasible" policies (like higher spending and lower taxes), regardless of their effects on allocative efficiency
Price Controls
often, the market equilibrium sets a price that we may think is too high for a necessity such as food or housing, we think that everyone in the economy should be able to afford these goods, so the government may try to intervene and lower the cost 1. Price Ceiling 2. Rent Ceiling
Sources of Economic Inequality - Human Capital
one major factor that may create inequality is differences in human capital (individual skills and abilities that aid workers in production) the primary sources of human capital are assumed to be innate ability, education, and training; people with advantages in these areas are likely going to be better off than people without these advantages one potential explanation for the rise in economic inequality in the US is skill-biased technological change; over the past 30 years in particular, the introduction of computers into the workplace has created a situation in which highly-skilled are at more of an advantage over low-skilled individuals than they were before the gap between high & low skilled workers widened, so we would expect inequality to increase as a result
Lifetime Income and Mobility
one of the main issues with inequality measures in addition to differences between people of the same age, there is so much more sever problem with these inequality measures consider three people with exactly the same characteristics - the same education, same occupation, and same intelligence etc. the only difference is their age - one is 26. one is 45, and one is 70 the 45 year old is almost certainly earning more income than the other two, who are just starting their career (26 year old) or retired (70 year old); this adds to inequality but doesn't represent a structural problem with the US economy
Human Capital
one of the main issues with inequality measures these measures are unable to account for human capital for example, your income and wealth are likely lower than people who are your age, but are working instead of attending college; however, your expected lifetime income and wealth will probably be a little higher
Capital in the 21st Century by Thomas Piketty
one of the most influential books of the 21st century it suggests that increased earnings from capital cause rapid wealth accumulation and inequality, and is driving force behind the wage-productivity
Commissions and royalties
pay workers a percentages of the value of their sales
Piece Rates
pay workers based on the number of units of output they produce
Gains from Trade
people can get better at producing one good than another - we call this specialization specialization -> comparative advantage if two individuals specialize int heir own comparative advantage and trade, they will both be better off than if they worked separately
Tariff
per-unit tax on imported goods behave just like the taxes we have discussed so far
Taste-For-Discrimination Model
places prejudice in the context of demand theory, and shows why prejudice causes unequal outcomes
Public Assistance Programs
provide aid to the poor, disabled, or elderly - these include SSI (disability income), TANF (low-income welfare), SNAP (food stamps), and Medicaid (medical benefits for the poor)
We know that most marketers achieve allocative efficiency... Would we ever want the government to involve itself in efficient markets?
recall our definitions of efficiency means that total surplus is maximized - it says nothing about who gets the surplus if we are concerned about fairness, however, then our analysis becomes a little bit tricky one way to achieve fairness and efficiency might be to leave the market alone, but take consumer and producer surplus and give it to the poor
Price Ceiling
refers to a government regulation that makes it illegal to charge a price higher than a certain level
Social Insurance Programs
replace lost earnings due to retirement and unexpected events - these include Social Security, Medicare, and Unemployment Insurance
Bonuses
reward workers for hitting production target markets
Skill-Biased Technological Change (SBTC)
says that the rise of computers in the 1990s caused skilled labor to become much more productive, and the increase profits resulting from this are now split between skilled labor and capital
Minimum Wages
set a price floor in labor markets
Rent Ceiling
simply a price ceiling applied to the housing market
Trade and Specialization
specializing in your comparative advantage can increase production beyond individual's production possibilities frontiers on an international scale, specialization and trade can increase consumption beyond countries' production possibilities frontiers
Efficiency Wages and Tournament Pay
suggest that paying workers above the equilibrium wage can incentivize them and other works to be more productive, plus attract better workers
Progressive Income Taxes
tax income at a rate that increases as income increases the annual income tax paid to the IRS in the US is a progressive tax rate, because it taxes higher levels of income more
Regressive Income Taxes
tax income at an inversely proportional rate - low-incomes are generally regressive, because the poor spend a higher proportion of their income on consumer goods than the rich
Proportional Income Taxes (or flat taxes)
tax income at constant rate, regardless of income
Productivity
the ability to produce goods and services demand for labor comes from its productivity
Nominal Wages
the amount of money received for a set amount of time of work - the dollar amount written on your paycheck
Marginal Revenue Product (MRP)
the change in total revenue associated with one additional unit of input firms demand labor so this means: D=MRP
Tax Incidence
the division of the burden of a tax between buyers and sellers
Income Redistribution
the government has a few methods of redistributing income among individuals and the economy, in order to try and reduce inequality 1. Progressive Income Taxes 2. Regressive Income Taxes 3. Proportional Income Taxes
Trade Barriers
the government often attempts to protect workers and firms by regulating trade 1. Tariff 2. Import Quota 3. Non-tariff Barrier
Gini Ratio Graph
the graph shows how the Gini ratio has changed since the 1970s overall, there is a strong upward trend in the Gini ratio, showing that the US is become more unequal over time
Problems with the Prejudice Model
the prejudice model might explains some part of the black-white wage and employment gap, but the assumptions to build the model are pretty unrealistic non-prejudiced employers could hire only black workers - if they pay less than Ww and more than Wb, both the black worker and the non-prejudiced firm would benefit this would imply 2 things: 1. that all prejudiced employers would eventually be run out of business (possible), and 2. that the workforce becomes highly segregated by race (not true) despite these problems with a purely prejudice-based model, we still have racial differences in the market...why? (statistical discrimination)
Wages
the price of a worker's labor, only matter relative to what they can actually purchase
Real Wages
the quantity of goods and services that a worker's earnings can actually purchase - this is what is relevant to economic decision making
The Big Tradeoff
the redistribution of income brings with it a tradeoff:
The Principal-Agent Problem
the relationship between society and government in the economy the principal (society as a whole) appoints an agent (the government) to perform some task if the agent's incentives are not the same as the principal's, this causes inefficiency involves society + government incentives
Tradeoffs between Fairness and Equality
there are three main problems that make income transfers inefficient: 1. If we tax the incomes of high-income individuals, they have less incentive to work; so the quality of labor falls below the efficient quantity, and the labor market is no longer in equilibrium 2. If instead, we taxed income from capital (stocks, bonds, savings, etc.) people would save less, and invest in less capital; this would slow technological growth, and shrink the size of the economy over time 3. In addition, collecting and processing taxes is not free; it requires tax-collecting agencies, lawyers, accountants, etc. that end up making income transfers imperfect: a dollar taken from a rich person does not turn in the hands of a poor person *None of this means that taxing the rich is wrong, or that we should always leave the market alone and just let the poor try to pull themselves out of poverty It simply means that, as in everything in economics, there are many costs and benefits that we must weigh before making a decision
Problems with Inequality Measures
there are two main issues with inequality measures: 1. Human Capital 2. Lifetime Income and Mobility
Lang and Manove (2011)
this graph shows the relationship between years of education and standardized AFQT score (an intelligence test developed by the US Air Force) for black and white men clearly, for black men around the mean AFQT score, they get more education than a similarly-scoring white man importantly, this cannot be explained by things like affirmative action programs, as the gap is present for 12 years of education (high school only)
2009 Income Distribution
this graph shows what percentage of households have various income levels the most common income level, or mode is $22,000 per year the middle level of income or median is $49,777 per year; this is the income that the "typical" American household will have the average level of income, or mean, is $67,976
Trade Agreements
to promote free trade, a large number of trade organizations and agreements have been established: 1. World Trade Organization (WTO) 2. The European Union (EU) 3. The North American Free Trade Agreement (NAFTA)
Wealth
total value of all things owned by a household (i.e. total assets)
Production Quotas
upper limits to the quantity of a good that may be produced
Subsidy
used especially in agriculture a payment made by the government to a producer; usually either a per-unit payment or a large payment for meeting some high production goal
Monopsony Labor Markets
when there is 1 firm demanding labor in a specific labor market (e.g. nurses in a small town, minors in a small mining town, fishers in a small fishing town, etc.) the firm faces an upward sloping labor supply curve its Marginal Resource Cost (MRC), the MC of hiring an extra worker, would be increasing and steeper than the labor supply curve
