Understanding the U.S. Business System

Chapter 1

Understanding the U.S. Business System

Chapter Overview

Businesses are organizations that produce or sell goods or services to make a profit.  Each business must operate in the context of its economic system.  Economic systems differ in terms of who owns or controls the five basic factors of production:  labor, capital, entrepreneurs, physical resources, and information resources.  In planned economies, the government controls all or most factors.  In market economies, individuals and businesses control the factors of production and engage in free exchange.

The U.S. is a market economy, based on the principles of capitalism, and propelled by the forces of demand and supply.  Demand is the willingness and ability of buyers to purchase a good or service.  Supply is the willingness and ability of suppliers to offer goods and services for sale.  Market equilibrium is the price at which the quantity demanded and the quantity supplied is equal.

Fundamentally, the U.S. economy is a private enterprise system, incorporating four key elements:  private property rights, freedom of choice, profits, and competition.  Degrees of competition vary from perfect competition, to monopolistic competition, to oligopoly, to monopoly.

The basic goals of the U.S. economic system are growth and stability.  Performance indicators include aggregate output, standard of living, gross domestic product, and productivity.  Growth and stability can be threatened by inflation and unemployment, which the government influences through fiscal and monetary policies.

Chapter Objectives

1. Define the nature of U.S. business and identify its main goals.
2. Describe different types of global economic systems according to the means by which they control the factors of production through input and output markets.
3. Show how demand and supply affect resource distribution in the U.S.
4. Identify the elements of private enterprise and explain the various degrees of competition in the U.S. economic system.
5. Explain the importance of the economic environment to business and identify the factors used to evaluate the performance of an economic system.

 

 

REFERENCE OUTLINE

Opening Case:  Megawatt Laundering and Other Bright Ideas

1. The Concept of Business and the Concept of Profit
1. Consumer Choice and Demand
2. Opportunity and Enterprise
3. Quality of Life

 

1. The U.S. Economic System
1. Factors of Production
1. Labor
2. Capital
3. Entrepreneurs
4. Physical Resources
5. Information Resources
2. Types of Economic Systems
1. Planned Economies
2. Market Economies
1. Input and Output Markets
2. Capitalism
3. Mixed Market Economies
4. Socialism

1. The Economics of a Market System
1. Demand and Supply in a Market Economy
2. The Laws of Demand and Supply
1. The Demand and Supply Schedule
2. Demand and Supply Curves
3. Surpluses and Shortages
3. Private Enterprise and Competition in a Market Economy
4. Degrees of Competition
1. Perfect Competition
2. Monopolistic Competition
3. Oligopoly
4. Monopoly

 

1. Understanding Economic Performance
1. Economic Growth
1. Aggregate Output and Standard of Living
2. Gross Domestic Product (GDP)
3. Productivity
2. Economic Stability
3. Managing the U.S. Economy
1. Fiscal Policies
2. Monetary Policies

LECTURE OUTLINE

1. The Concept of Business and the Concept of Profit  (Use PowerPoint 1.4.)

 

A business is an organization that provides goods and services to earn profits.  Profits are the difference between a business’ revenues and expenses.

1. Consumer Choice and Demand

 

In a capitalistic system like that of the United States, consumers have freedom of choice.  In turn, businesses must take into account consumer demand in their pursuit of profits.

1. Opportunity and Enterprise

 

Unmet consumer demands provide promising opportunities for potential business success.

1. Quality of Life

 

New forms of technology, service businesses, and international opportunities keep production, consumption, and employment growing indefinitely, creating a healthy business climate that contributes directly to our quality of life.

Notes:  ______________________________________________________________________________________________________________________________________________________________________________________________________

1. The U.S. Economic System

 

An economic system is a nation’s system for allocating its resources among its individual citizens and organizations.

1. Factors of Production  (Use PowerPoint 1.5.)

 

A basic difference between economic systems is the way in which they manage their resources, known as factors of production.

1. Labor.  The human resource element in businesses, labor includes the physical and intellectual contributions people make while engaged in economic production.

 

1. Capital.  The financial resources needed to operate an enterprise are known as capital.

1. Entrepreneurs.  An entrepreneur is an individual who accepts the risks and opportunities entailed by creating and operating a new business.

 

1. Physical Resources.  The tangible things that organizations use to conduct their business are physical resources.

1. Information Resources.  Businesses rely on information resources, such as market forecasts, the specialized knowledge of people, and economic data.

 

1. Types of Economic Systems  (Use PowerPoint 1.6, 1.7, 1.8, 1.9, 1.10.)

Economic systems vary, depending on how the factors of production are managed.

1. Planned Economies.  These systems rely on partial or total government control of the factors of production.  With communism, as currently operating in Cuba, North Korea, and the People’s Republic of China – all sources of production are owned and operated by the government.

 

1. Market Economies.  Producers and consumers control production and allocation decisions through supply and demand.

a.   Input and Output Markets.  Firms buy resources from households in an input market; firms supply goods and services in response to household demand in an output market.

b.   Capitalism.  The political basis of a market economy is capitalism, which sanctions the private ownership of the factors of production and encourages entrepreneurship by offering profits as incentives.

c.   Mixed Market Economies.  This type of economy features characteristics of both planned and market economies; many countries are moving from planned systems to mixed market systems through privatization, which involves the transformation of government-controlled businesses into privately owned enterprises.

d.   Socialism.  In this partially planned system, the government owns and operates selected major industries.

Notes:  ______________________________________________________________________________________________________________________________________________________________________________________________________

1. The Economics of a Market System  (Use PowerPoint 1.11.)

 

Market systems allow businesses the flexibility to decide what to produce, how much to produce, and what price to charge; customers are a driving force in market systems since they decide what to buy and at what price.  Demand and supply are the predominant forces that guide decisions about what to buy and what to sell.

1. Demand and Supply in a Market Economy

 

Billions of exchanges take place every day between businesses and individuals; between businesses; and among individuals, businesses, and governments.  Exchanges conducted in one area often affect exchanges elsewhere.

1. The Laws of Demand and Supply  (Use PowerPoint 1.12 – 1.16.)

 

Demand is the willingness and ability of buyers to purchase a product; supply is the willingness and ability of producers to offer a good or service for sale.  The law of demand states that buyers will purchase more of a product as its price drops; the law of supply states that producers will offer more of a product for sale as its price increases.

1. The Demand and Supply Schedule.  The demand and supply schedule indicates how much of a product will be sold at various prices.

 

1. Demand and Supply Curves.  A demand curve shows how many products will be demanded at different prices; a supply curve shows how many products will be supplied at various prices.  The point at which the curves intersect is the equilibrium price.

1. Surpluses and Shortages.  With a surplus, the quantity supplied exceeds the quantity demanded; quantity demanded exceeds quantity supplied with a shortage.

 

1. Private Enterprise and Competition in a Market Economy  (Use PowerPoint 1.17, 1.18.)

Individuals pursue their own interests with minimal government restriction in a private enterprise system; such a system requires private property rights, freedom of choice, profits, and competition.  Competition occurs when two or more businesses vie for the same resources or customers.

1. Degrees of Competition  (Use PowerPoint 1.19.)

 

Economists have identified four degrees of competition in a private enterprise system.

1. Perfect Competition.  Many small firms exist in an industry; no single firm is powerful enough to influence price.

 

1. Monopolistic Competition.  Few sellers but many buyers exist, so buyers focus on numerous differentiation strategies, such as brand names, design, and advertising.

1. Oligopoly.  An industry has only a handful of sellers; market entry is difficult because large capital investment is needed.

 

1. Monopoly.  An industry or market has only one producer; that producer enjoys complete control over price.

Notes:  ______________________________________________________________________________________________________________________________________________________________________________________________________

1. Understanding Economic Performance

 

Two goals of the U.S. economic system are economic growth and economic stability.

1. Economic Growth  (Use PowerPoint 1.20, 1.21.)

Economic growth can be measured with the following tools:

1. Aggregate Output and Standard of Living.  Aggregate output is the total quantity of goods and services produced by an economic system during a given period; an increase in the amount of goods and services that consumers can purchase with their currency represents an increase in the standard of living.

 

1. Gross Domestic Product (GDP).  The GDP is the total value of all goods and services produced within a given period through domestic factors of production; GDP is a measurement of aggregate output.

1. Productivity.  Productivity compares how much a system produces with the resources needed to produce it; increases in productivity yield increases in the standard of living.

 

1. Balance of Trade.  This represents the difference between a country’s imports and exports.  A favorable balance results when the value of a country’s exports is greater than its imports; that is, more money is flowing into the country as a result of exporting.

1. National Debt.  A country’s national debt is the amount of money that is owed to creditors.  The United States has been spending more money than what it has taken in, creating a budget deficit.

 

1. Economic Stability  (Use PowerPoint 1.22, 1.23, 1.24.)

Stability results when the amount of money available in an economic system and the quantity of goods and services produced in it are growing at about the same rate.

1. Inflation.  Inflation occurs when widespread price increases plague an economic system; the amount of money in the economic system exceeds the amount of actual output.  Inflation can be measured by the consumer price index (CPI), which weighs prices of typical products purchased by consumers living in urban areas.

 

1. Unemployment.  Unemployment is the level of joblessness among people actively seeking work in an economic system; when unemployment is high, a surplus of available workers exists.  Unemployment is sometimes a symptom of a recession, when aggregate output declines, or of a depression, a prolonged and deep recession.

1. Managing the U.S. Economy  (Use PowerPoint 1.25.)

 

1. Fiscal Policies.  Fiscal policies manage the collection and spending of revenues; tax increases can function as fiscal policies.

1. Monetary Policies.  Monetary policies focus on controlling the size of the nation’s money supply.  The government can influence banks to lend money; it can also influence the supply of money by manipulating interest rates.

 

Notes:  ______________________________________________________________________________________________________________________________________________________________________________________________________

Answers to Questions and Exercises

Questions for Review

1. What are the five factors of production?  Is one factor more important than the others?  If so, which one?  Why?

 

The five factors of production are labor, capital, entrepreneurs, physical resources, and information resources.  All five factors are crucial.  However, their relative importance depends on the product and the industry.  In the software development business, for example, skilled labor and information resources are especially important, but the business could not survive without capital and physical resources, and it would not have been launched without an entrepreneur.

2. What is a demand curve?  A supply curve?  What is the term for the point at which they intersect?

 

A demand curve shows how many products will be purchased at different prices.  A supply curve shows how many products will be offered for sale at different prices.  Demand increases as price decreases; whereas, supply increases as price increases.  When both curves are plotted on the same graph, the point at which they intersect is the equilibrium price; this is the price at which the quantity of goods demanded and the quantity of goods supplied are equal.

3. What is GDP?  Real GDP?  What does each measure?

 

GDP is gross domestic product, and it measures the total value of all goods and services produced in a year by a nation’s economy through domestic factors of production.  Real GDP is GDP adjusted for inflation.  Both measure annual performance of a given economy.

4. Why is inflation both good and bad?  How does the government try to control it? 

 

Inflation is both good and bad because it can lead to a spiral of rising wages chasing rising prices, which decreases the standard of living.  It is good because at moderate levels, it can signal the beginning of a period of growth for the economy.  Monetary policy, particularly the ability to adjust interest rates, is government’s most powerful tool to control inflation.

Questions for Analysis

5. In recent years, many countries have moved from planned economies to market economies.  Why do you think this has occurred?  Can you envision a situation that would cause a resurgence of planned economies?

 

The failure of communism – both politically and economically – has led to an increase in the number of mixed and market economies.  Answers will vary as to what would cause a resurgence of planned economies, but the factors might include a failure of capitalism to effectively distribute society’s resources, or an unbearable level of crime and corruption.

6. Cite an instance in which a surplus of a product led to decreased prices.  Cite an instance in which a shortage led to increased prices.  What eventually happened in each case?  Why?

 

Answers will vary.  However, the recent Pokemon craze provides a good example of a shortage followed by a surplus.  A few years ago, Pokemon trading cards were big up to astronomical levels, often 10-20 times the list price.  Now, Pokemon cards and other products are selling for less than half price as stores attempt to clear out their excess inventory.  In fact, any clearance sale illustrates the concept of surplus driving down prices.  The classic example of a shortage driving prices up was the oil shortage of the 1970s.  Another example is scalpers selling concert tickets at inflated prices.  In all of these cases, the market eventually determines a price at which all the supply can be sold.

7. Explain how current economic indicators such as inflation and unemployment affect you personally.  Explain how they will affect you as a manager.

 

Answers will vary, but all students should obviously include prices paid for consumer goods and the availability of desirable jobs.  Managers are affected by inflation because it tends to drive up the wages they must pay, and by unemployment because it affects their ability to find workers.  Also, both inflation and unemployment affect consumer and industrial demand, which play a key role in management.

8. At first glance, it might seem as though the goals of economic growth and stability are inconsistent with one another.  How can you reconcile this apparent inconsistency? 

 

A nation’s economic growth can be measured through its aggregate output, resulting standard of living, gross domestic product, and productivity.  Each of these elements can directly impact each other.  Economic stability, on the other hand, refers to the condition in which the amount of money available in an economic system and the quantity of goods and services produced in it are growing at the same rate.

Application Exercises

9. Visit a local shopping mall or shopping area.  List each store that you see and determine what degree of competition it faces in the immediate environment.  For example, if there is only one store in the mall that sells shoes, that store represents a monopoly.  Note the businesses with direct competitors (e.g. two jewelry stores) and describe how they compete with one another.

 

Answers will vary.  Students should focus on the criteria for competition discussed in the chapter.

10. Interview a business owner or senior manager.  Ask this individual to describe for you the following things:  (1)  what business functions, if any, he or she outsources; (2) whether or not he or she is focusing more attention on business process management; and (3) how the events of September 11, 2001, have affected his or her work.

 

Students’ answers will vary.  Students will learn that operations for customized products are less likely to be outsourced than those of standardized products.  In addition, the effects of September 11 on businesses geographically distant from New York may have been more directly felt by their customers or suppliers nearer to New York, though businesses across the country and around the world felt the economic repercussions of the event.

Answers to Exercising Your Ethics

1. What are the roles of supply, demand, and competition in this scenario? 

 

Since prescription drugs are essentially the same regardless of the supplier, the market has determined an equilibrium price at which supply and demand are equal.  Competition keeps the price in check.  One or the other of the pharmacies could raise its prices only if it offered additional services that differentiated its products enough that consumers were willing to pay extra.  However, the owner of the competing pharmacy needs to keep in mind that if he raises prices too high, other suppliers will find a way into the market.

2. What are the underlying ethical issues?

 

The success of our economic system is based on competition and choice.  By engaging in collusion the pharmacy owners are inhibiting the fair operation of the market.  This is especially ugly, given that for many people prescription drugs are crucial to achieving or maintaining health.  By colluding, the pharmacy owners would be forcing the weakest residents of the town to pay exorbitant prices, at least in the short term.

3. What would you do if you were actually faced with this situation?

 

Answers will vary, but students should at least acknowledge the ethical issues.

Answers to Building Your Business Skills

1. Discuss the role that various inducements other than price might play in affecting demand and supply in this market.

 

Suppliers who provide extras such as email, web pages, chat rooms, instant messaging, news, weather, travel directions, shopping networks, etc. will be able to pump up demand.  In order to provide these additional services, suppliers will need to invest in the necessary technology, equipment, and staff.  They would do well to focus their spending on those extras that would create loyalty, making it more difficult for consumers to change services based on price alone.

2. Is it always in a company’s best interest to feature the lowest prices?

 

No, not when competition is based on speed of delivery, quality of goods or services, wide selection, personalized service, premium image, or some other non-monetary factor.

3. Eventually, what form of competition is likely to characterize this market?

 

It may be difficult to speculate.  Students’ answers will vary.

Classroom Activities

1. Ask each student to identify three or four businesses in his or her community.  Then ask each student to identify the degree of competition, as discussed in class, which is associated with each business.  Students should also identify the number of immediate competitors, the ease of entry into the market, the similarity of goods and services offered by each business, and the level of control each business has over price.

 

2. Many mixed and/or planned economies have adopted elements of capitalism in recent years.  Ask students to research one such country and discuss the changing focus on the elements of private enterprise – private property rights, freedom of choice, profits, and competition – after the transition in the country.  Hungary, Poland, the former Soviet Union, and the Czech Republic are a few suggestions to consider.