Climbing the Economic Mountain!

Section 1Twelve Key Elements of

Economics

Supply and Demand• Supply and Demand: Applications and Extensions• Supply and Demand: Basics

Section 2• The Financial Crisis of 2008• Lessons from the Great Depression• The Seven Major Sources of Economic Progress

Section 3 Ten Elements of Clear Thinking About

Economic Progress and the Role of Government

Section 4Twelve Key Elements of Practical Personal

Finance

Section III

Economic Progress and the Role of Government

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Overview

• The role of government and how it has changed over the years

• The ten elements of clear thinking about economic progress and the role of government, which includes concepts such as:– Public goods and free-riding– User charges– Special Interest Effect– Short-sightedness Effect– Log-rolling and Pork-barrel Legislation

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Size and Growth of the U.S. Size and Growth of the U.S. GovernmentGovernment

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Size and Growth of the U.S. Size and Growth of the U.S. GovernmentGovernment

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Size and Growth of the U.S. Size and Growth of the U.S. GovernmentGovernment

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#1 Government Promotes Economic Progress by Protecting the Rights of Individuals and Supplying Goods that Cannot be

Provided Through Markets

The government should…

1. Protect individuals and their property rights

2. Provide goods that cannot be easily provided by the market (overcome market failure)

#1 Government Promotes Economic Progress by Protecting the Rights of Individuals and Supplying Goods that Cannot be

Provided Through Markets

The four sources of market failure:

1.Lack of Competition2.Lack of Information3.Externalities4.Public Goods

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#1 Government promotes Economic Progress by Protecting the Rights of Individuals and Supplying Goods that Cannot be

Provided Through Markets

Public goods have two characteristics:

1. Non-rival in consumption: making the good available to one consumer does not reduce its availability to others.

2. Non-excludable: it is impossible (or incredibly costly) to exclude nonpaying customers from receiving the good.

#1 Government promotes Economic Progress by Protecting the Rights of Individuals and Supplying Goods that Cannot be

Provided Through Markets

Free-rider: A person who receives the benefit of a good without paying for it

This will cause the good to become under- supplied

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#2 Allocation through voting is fundamentally different then market allocation

There is no assurance that a policy favored by a majority will promote economic progress

If voters do not pay in proportion to the benefits received, then the majority could pass unproductive projects.

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#2 Allocation through voting is fundamentally different then market allocation

However, when voters pay in proportion to the benefits they receive, then productive projects will be passed and unproductive projects will not.

User charges: requires people who use a service more to pay a larger share of the cost.Ex. Gasoline tax goes to pay for road construction and maintenance.

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#2 Allocation through voting is fundamentally different then market allocation

Many economists believe that government programs should only pass if:

1. People pay in proportion to the benefits that they receive.

or….

2. A supermajority (80 or 90%) of the voters supported the program.

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#3 The Costs of Government Are Not Only Taxes

The cost of government action goes beyond just taxes, but also involves…

A.The opportunity cost of private-sector output that could have been produced with the resources that are now employed producing the goods supplied by the government.

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#3 The Costs of Government Are Not Only Taxes

B. The cost of resources expended in the collection of taxes and the enforcement of government mandates.

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#3 The Costs of Government Are Not Only Taxes

C. The cost of price distortions resulting from taxes and borrowing.

…. Remember Deadweight Loss!

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#4 Unless Restrained by Constitutional Rules, Special-Interest Groups Will Use the Democratic Political Process to Fleece

Taxpayers and Consumers

Special interest effect: An issue that generates substantial benefits for a small group by generating minimal costs to a large group. (in aggregate, losses may exceed benefits).

Ex. Make me rich taxEx. Charleston’s $1 city payroll tax

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#5 Unless Restrained by Constitutional Rules, Legislators Will Run Budget Deficits and Spend

ExcessivelyShortsightedness Effect: politicians will favor programs

that generate current visible benefits, even if long-term costs of the project outweighs the benefits.

Government officials have little incentive to control spending

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#6 Government Slows Economic Progress When It Becomes Heavily Involved in Providing Favors to Some

People at the Expense of OthersThere are two ways people can acquire wealth:

production and plunder…

Production involves making the economic pie bigger, plunder involves taking someone else’s piece.

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#6 Government Slows Economic Progress When It Becomes Heavily Involved in Providing Favors to Some

People at the Expense of Others

The government is often used as an agent for plunder.

People use lobbying, political campaigns, and other forms of favor-seeking to take the wealth of others.

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#7 The net gain to those receiving government transfers is often substantially less than the amount

they receive

There are three major factors that undermine the effectiveness of income transfers

A. An increase in government transfers will reduce the incentive of both taxpayers (donors) and the transfer recipient to earn income.

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#7 The net gain to those receiving government transfers is often substantially less than the amount

they receive

B. Competition for transfers will erode most of the long-term gain from the intended beneficiaries.

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#7 The net gain to those receiving government transfers is often substantially less than the amount

they receive

C. Programs that protect potential recipients against adversity arising from imprudent decisions encourage them to make choices that increase the likelihood of the adversity.

Ex. Unemployment Compensation

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Subsidized Flood Insurance

#7 The net gain to those receiving government transfers is often substantially less than the amount

they receive

Finally, government transfers can crowd out private charitable efforts, which are usually more effective.

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#8 Central Planning Replaces Markets with Politics, Which Wastes Resources and Retards

Economic ProgressThere are four major reasons why central

planning will almost surely do more damage then good…

A. Central planning merely substitutes politics for market verdictsa. logrollingb. pork-barrel legislation

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Pork-barrel Legislation

#8 Central Planning Replaces Markets with Politics, Which Wastes Resources and Retards

Economic ProgressB. The incentive of government-operated firms to

keep costs low, be innovative, and efficiently supply goods is weak.

The government does not face the profit motive that keeps private companies operating efficiently

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Lack of Profit Motive

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#8 Central Planning Replaces Markets with Politics, Which Wastes Resources and Retards

Economic ProgressC. Investors risking their own money will make

better investment choices than central planners spending the money of taxpayers.

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#8 Central Planning Replaces Markets with Politics, Which Wastes Resources and Retards Economic

Progress

D. There is no way that central planners can acquire enough information to create, maintain, and constantly update a plan that makes sense.

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#9 Competition is just as important in Government as in Markets

The government operates most efficiently when it has to compete against the private sector and / or other governments.

Decentralized governments are better at serving its citizens than larger, more centralized governments.

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#10 Constitutional Rules That Bring the Political Process and Sound Economics into Harmony

Will Promote Economic ProgressIn giving the government the power to protect

our rights, we also give it the ability to violate our rights

The constitution is the citizens’ way to constrain the government.

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Review

• Know the role of government and how it has changed over the years.

• Know the ten elements of economic progress and the role of government

1. Protect individuals rights and supply public goods.2. Government is not a corrective device3. The costs of government are not only taxes4. Special interest groups can use the democratic

process to fleece taxpayers

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Review• Know the ten elements of economic progress and the

role of government (continued)5. legislators will run budget deficits and spend excessively6. Government has trouble helping some people at the

expense of others7. The net gain to those receiving government transfers is

often substantially less than the amount they receive.8. Central Planning wastes resources and retards economic

progress9. Competition is just as important in government as in

markets10. Constitutional rules can constrain government and

promote economic progress

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