1. Copyright 2008 The McGraw-Hill Companies 4-1 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show 4 The U.S. Economy: Public and Private Sectors

2. Copyright 2008 The McGraw-Hill Companies 4-2 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show Households as Income Receivers Functional Distribution of Income-2005 Wages & Salaries Rents Interest Proprietor’s Income Corporate Profits Income By Function Performed National Income Received (Percent) 0 10 20 30 40 50 60 70 71% 1% 5% 9% 14% Source: Bureau of Economic Analysis

3. Copyright 2008 The McGraw-Hill Companies 4-3 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show Households as Income Receivers Personal Distribution of Income-2004 Lowest 20% Second 20% Middle 20% Fourth 20% Highest 20% Income Group (Households) Personal Income Received (Percent) 0 10 20 30 40 50 60 3.4% 8.7% 14.7% 23.2% 50.1% Source: Bureau of the Census

4. Copyright 2008 The McGraw-Hill Companies 4-4 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show Households as Spenders Household Uses of Income-2005 Personal Taxes Personal Saving Personal Consumption Income Group (Households) Household Income Expended (Percent) 0 10 20 30 40 50 60 70 80 90 12% 0% 88% 59% Composition of Consumption ServicesNondurable Goods Durable Goods 12% 29% Consumption Divided Between… Source: Bureau of Economic Analysis

5. Copyright 2008 The McGraw-Hill Companies 4-5 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show Legal Forms of Business Corporate Securities –Stock –Bond Limited Liability Hiring of Specialists Unlimited Lifetime Principal-Agent Problem Advantages of Corporations 4.1

6. Copyright 2008 The McGraw-Hill Companies 4-6 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show The Public Sector: Government’s Role Providing the Legal Structure Maintaining Competition –Monopoly –Regulation –Regulated Monopolies –Antitrust Laws –Sherman Act 1890

7. Copyright 2008 The McGraw-Hill Companies 4-7 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show The Public Sector: Government’s Role Redistributing Income –Transfer Payments –Market Intervention –Taxation Reallocating Resources –Market Failure Externalities or Spillovers Negative or Positive Types 4.2

8. Copyright 2008 The McGraw-Hill Companies 4-8 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show The Public Sector: Government’s Role Correcting for Negative Externalities –Legislation –Specific Taxes Correcting for Positive Externalities –Subsidize Consumers –Subsidize Suppliers –Provide Goods Via Government

9. Copyright 2008 The McGraw-Hill Companies 4-9 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show The Public Sector: Government’s Role Public Goods and Services Private Goods –Rivalry –Excludability Public Goods –Nonrivalry –Nonexcludability –Free-Rider Problem Quasi-Public Goods The Reallocation Process

10. Copyright 2008 The McGraw-Hill Companies 4-10 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show The Public Sector: Government’s Role Promoting Stability –Unemployment –Inflation Government’s Role: A Qualification –Political Context –Overregulation –Underregulation –Benefits and Costs –Not Perfectly Carried Out

11. Copyright 2008 The McGraw-Hill Companies 4-11 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show The Circular Flow Revisited Resource Market Product Market BusinessesHouseholdsGovernment Goods & Services Goods & Services Net Taxes Expenditures Goods & Services Resources

12. Copyright 2008 The McGraw-Hill Companies 4-12 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show Federal Finance Federal Expenditures-2005 01020304050 Pensions & Income Security National Defense Health Interest on the Public Debt Source: U. S. Office of Management and Budget 35% 20% 17% 7% Four Stand-Out Areas of Spending

13. Copyright 2008 The McGraw-Hill Companies 4-13 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show Federal Finance Federal Tax Revenues-2005 Progressive Tax Rates –Brackets of Income Marginal Tax Rate Average Tax Rate

14. Copyright 2008 The McGraw-Hill Companies 4-14 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show Federal Finance Federal Tax Revenues-2005 01020304050 Personal Income Tax Payroll Taxes Corporate Income Taxes Excise Taxes Source: U. S. Office of Management and Budget 43% 37% 3% 4% All Other 13% Basic Revenue Sources

15. Copyright 2008 The McGraw-Hill Companies 4-15 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show State and Local Finance Primary Revenues –Sales & Excise Taxes - 48% –Personal Income Taxes - 34% –Corporate Income Taxes & License Fees – Most of Balance Primary Expenditures –Education – 35% –Public Welfare – 28% –Health & Hospitals – 7% –Highways – 7% –Public Safety – 4% –Other – 19% State Finances

16. Copyright 2008 The McGraw-Hill Companies 4-16 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show State and Local Finance Primary Revenues –Property Taxes – 73% –Sales & Excise Taxes – 17% Primary Expenditures –Education – 44% –Welfare, Health & Hospitals – 12% –Public Safety – 11% –Housing, Parks, & Sewers – 8% –Streets & Highways – 5% Local Finances

17. Copyright 2008 The McGraw-Hill Companies 4-17 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show Financing Social Security Last Word Demographic Changes Severe Long-Run Shortfall in Social Security Funding Annual Pay-as-You-Go Plan Impact of Baby Boomer Retirements 2017 Revenues Less Than Payments – Trust Fund Withdrawals Trust Fund Exhausted in 2041 Possible Benefit Reductions and Tax Revenue Increases

18. Copyright 2008 The McGraw-Hill Companies 4-18 Households as Income Receivers Households as Spenders Business Population Legal Forms of Business The Public Sector: Government’s Role Circular Flow Revisited Government Finance Federal Finance State and Local Finance Last Word Key Terms End Show Financing Social Security Last Word Possible Solutions –Stock & Bond Investments –Payroll Tax Increases –Individually Directed Accounts for Annuity Incomes Owned by Government –Half of Payroll Deduction in Privately Owned and Managed Accounts – Phased in Over Time Consensus Solution to be Very Difficult