©2005 McGraw-Hill Ryerson Ltd. Chapter 4 1 SLIDES PREPARED BY JUDITH SKUCE, GEORGIAN COLLEGE The Market System & International Trade

©2005 McGraw-Hill Ryerson Ltd.Chapter 42 In this chapter you will learn 4.1 The basic institutions required for a market economy 4.2 The Four Fundamental Questions any economy faces 4.3 About market failure and how government can rectify it 4.4 About the gains from international trade

©2005 McGraw-Hill Ryerson Ltd.Chapter 43 Chapter 4 Topics 4.1 Characteristics of the Market System 4.2 The Market System at Work 4.3 Market Failure 4.4 Canada & International Trade

©2005 McGraw-Hill Ryerson Ltd.Chapter 44 Characteristics of the Market System Required characteristics for market system: private propertyprivate property –individuals & firms own resources

©2005 McGraw-Hill Ryerson Ltd.Chapter 45 Required characteristics for market system: private propertyprivate property –individuals & firms own resources –also intellectual property Characteristics of the Market System

©2005 McGraw-Hill Ryerson Ltd.Chapter 46 Required characteristics for market system: private propertyprivate property –individuals & firms own resources –also intellectual property –facilitates exchange Characteristics of the Market System

©2005 McGraw-Hill Ryerson Ltd.Chapter 47 Required characteristics for market system: private propertyprivate property freedom of enterprise & choicefreedom of enterprise & choice –freedom of enterprise: businesses can buy & sell as they choose –freedom of choice: – owners can use or sell property as they choose – workers can work where they like – consumers can buy what they want Characteristics of the Market System

©2005 McGraw-Hill Ryerson Ltd.Chapter 48 Required characteristics for market system: private propertyprivate property freedom of enterprise & choicefreedom of enterprise & choice self-interestself-interest –businesses seek profits –consumers seek value Characteristics of the Market System

©2005 McGraw-Hill Ryerson Ltd.Chapter 49 Required characteristics for market system: private propertyprivate property freedom of enterprise & choicefreedom of enterprise & choice self-interestself-interest competitioncompetition –independently acting sellers & buyers –easy entry & exit Characteristics of the Market System

©2005 McGraw-Hill Ryerson Ltd.Chapter 410 Required characteristics for market system: private propertyprivate property freedom of enterprise & choicefreedom of enterprise & choice self-interestself-interest competitioncompetition markets & pricesmarkets & prices –prices signal scarcity & guide resource allocation Characteristics of the Market System

©2005 McGraw-Hill Ryerson Ltd.Chapter 411 Required characteristics for market system: private propertyprivate property freedom of enterprise & choicefreedom of enterprise & choice self-interestself-interest competitioncompetition markets & pricesmarkets & prices active, but limited governmentactive, but limited government Characteristics of the Market System

©2005 McGraw-Hill Ryerson Ltd.Chapter 412 Other Characteristics technology & capital goodstechnology & capital goods Characteristics of the Market System

©2005 McGraw-Hill Ryerson Ltd.Chapter 413 Other Characteristics technology & capital goodstechnology & capital goods specializationspecialization –division of labour – ability differences – learning by doing – saving time switching tasks Characteristics of the Market System

©2005 McGraw-Hill Ryerson Ltd.Chapter 414 Other Characteristics technology & capital goodstechnology & capital goods specializationspecialization –division of labour – ability differences – learning by doing – saving time switching tasks –geographic specialization Characteristics of the Market System

©2005 McGraw-Hill Ryerson Ltd.Chapter 415 Other Characteristics technology & capital goodstechnology & capital goods specializationspecialization use of moneyuse of money Characteristics of the Market System

©2005 McGraw-Hill Ryerson Ltd.Chapter 416 Chapter 4 Topics 4.1 Characteristics of the Market System 4.2 The Market System at Work 4.3 Market Failure 4.4 Canada & International Trade

©2005 McGraw-Hill Ryerson Ltd.Chapter 417 Four Fundamental Questions 1.What will be produced? those goods & services that can be produced at a profitthose goods & services that can be produced at a profit what consumers vote for with their dollarswhat consumers vote for with their dollars market restraints on freedommarket restraints on freedom consumer sovereignty

©2005 McGraw-Hill Ryerson Ltd.Chapter 418 Four Fundamental Questions 1.What will be produced? 2.How will the goods & services be produced? with the most efficient, least-costly methodswith the most efficient, least-costly methods

©2005 McGraw-Hill Ryerson Ltd.Chapter 419 Four Fundamental Questions 1.What will be produced? 2.How will the goods & services be produced? 3.Who will get the goods & services? those with the greatest willingness & ability to paythose with the greatest willingness & ability to pay

©2005 McGraw-Hill Ryerson Ltd.Chapter 420 Four Fundamental Questions 1.What will be produced? 2.How will the goods & services be produced? 3.Who will get the goods & services? 4.How will the system accommodate change? by responding to price & profit signalsby responding to price & profit signals –guiding function of prices –role in promoting progress –technological advance –creative destruction –capital accumulation –guiding function of prices –role in promoting progress –technological advance –creative destruction –capital accumulation

©2005 McGraw-Hill Ryerson Ltd.Chapter 421 Competition & the “Invisible Hand” prices communicate information about scarcity & valueprices communicate information about scarcity & value competition forces producers & resource suppliers to respondcompetition forces producers & resource suppliers to respond firms, acting in their own best interest, also promote society’s interests in terms of efficiencyfirms, acting in their own best interest, also promote society’s interests in terms of efficiency

©2005 McGraw-Hill Ryerson Ltd.Chapter 422 Three special merits of the market system: EfficiencyEfficiency IncentivesIncentives FreedomFreedom Competition & the “Invisible Hand”

©2005 McGraw-Hill Ryerson Ltd.Chapter 423 Chapter 4 Topics 4.1 Characteristics of the Market System 4.2 The Market System at Work 4.3 Market Failure 4.4 Canada & International Trade

©2005 McGraw-Hill Ryerson Ltd.Chapter 424 Market Failure Spillovers or Externalities spillover costsspillover costs

©2005 McGraw-Hill Ryerson Ltd.Chapter 425 Market Failure Spillovers or Externalities spillover costsspillover costs –correction through – legislation – specific taxes

©2005 McGraw-Hill Ryerson Ltd.Chapter 426 Market Failure Spillovers or Externalities spillover benefitsspillover benefits

©2005 McGraw-Hill Ryerson Ltd.Chapter 427 Market Failure Spillovers or Externalities spillover benefitsspillover benefits –correction through – subsidization of consumers/suppliers – provision via government

©2005 McGraw-Hill Ryerson Ltd.Chapter 428 Market Failure Public Goods and Services non-rivalrynon-rivalry non-excludabilitynon-excludability free-rider problemfree-rider problem Quasi-Public Goods healthcare, education, streets, police, fire, etc.healthcare, education, streets, police, fire, etc. could be priced/provided by private firmscould be priced/provided by private firms because of positive spillovers, government intervenesbecause of positive spillovers, government intervenes

©2005 McGraw-Hill Ryerson Ltd.Chapter 429 Market Failure The Reallocation Process reallocation of resources through the tax systemreallocation of resources through the tax system resources released from private consumption and investment to public and quasi-public goodsresources released from private consumption and investment to public and quasi-public goods

©2005 McGraw-Hill Ryerson Ltd.Chapter 430 Market Failure Limitations of the Market System market system has remarkable virtuesmarket system has remarkable virtues also well-known limitationsalso well-known limitations

©2005 McGraw-Hill Ryerson Ltd.Chapter 431 The Circular Flow Revisited BUSINESSES HOUSEHOLDS RESOURCE MARKETS PRODUCT GOODS & SERVICES SERVICES GOVERNMENT (2)FACTORS OF PRODUCTION (1)COSTS NET TAXES (9)GOODS & SERVICES NET TAXES $ GOODS & SERVICES REVENUE CONSUMPTION SPENDING LANDLABOUR CAPITAL $ INCOME -RENTS INTEREST $ (10)GOODS & SERVICES FACTORS OF PRODUCTION (6) (1) (2) (7) (8) (12)(11) (4) (3)(3) (4) (5) WAGES PROFITS

©2005 McGraw-Hill Ryerson Ltd.Chapter 432 Chapter 4 Topics 4.1 Characteristics of the Market System 4.2 The Market System at Work 4.3 Market Failure 4.4 Canada & International Trade

©2005 McGraw-Hill Ryerson Ltd.Chapter 433 Global Competition globalization one of the major trends of our timeglobalization one of the major trends of our time it has brought intense competitionit has brought intense competition international trade & the global economy affect Canadians dailyinternational trade & the global economy affect Canadians daily

©2005 McGraw-Hill Ryerson Ltd.Chapter 434 International Linkages goods & services flowsgoods & services flows capital & labour flowscapital & labour flows information & technology flowsinformation & technology flows financial flowsfinancial flows

©2005 McGraw-Hill Ryerson Ltd.Chapter 435 Specialization & Comparative Advantage specialization & international trade increase the productivity of a nation’s resources & allow for greater output than would otherwise be possiblespecialization & international trade increase the productivity of a nation’s resources & allow for greater output than would otherwise be possible

©2005 McGraw-Hill Ryerson Ltd.Chapter 436 Basic Principle even if one trading partner has absolute advantage, all partners can benefit from specialization according to comparative advantageeven if one trading partner has absolute advantage, all partners can benefit from specialization according to comparative advantage

©2005 McGraw-Hill Ryerson Ltd.Chapter 437 Comparative Costs suppose Canada & Mexico produce corn & soybeanssuppose Canada & Mexico produce corn & soybeans

©2005 McGraw-Hill Ryerson Ltd.Chapter 438MEXICO TABLE 4-1 PRODUCTION ALTERNATIVES ProductABCDE Corn Soybeans CANADA TABLE 4-2 PRODUCTION ALTERNATIVES ProductRSTUV Corn Soybeans Soybeans : Mexico must give up 4 tonnes of corn for 1 tonne of soybeans Canada must give up 3 tonnes of corn for 1 tonne of soybeans Comparative Costs Canada has comparative advantage in soybeans

©2005 McGraw-Hill Ryerson Ltd.Chapter 439MEXICO TABLE 4-1 PRODUCTION ALTERNATIVES ProductABCDE Corn Soybeans CANADA TABLE 4-2 PRODUCTION ALTERNATIVES ProductRSTUV Corn Soybeans Corn : Mexico must give up ¼ tonne of soybeans for 1 tonne of corn Canada must give up 1/3 tonne of soybeans for 1 tonne of corn Comparative Costs Mexico has comparative advantage in corn

©2005 McGraw-Hill Ryerson Ltd.Chapter 440 Terms of Trade must be between the domestic opportunity costs for each countrymust be between the domestic opportunity costs for each country many possibilities can be mutually beneficialmany possibilities can be mutually beneficial

©2005 McGraw-Hill Ryerson Ltd.Chapter 441CanadaMexicocornsoybeanscornsoybeans Outputs before specialization Outputs after specialization Amounts traded Outputs available after trade Gains from specialization & trade Gains from Specialization & Trade Table 4-4

©2005 McGraw-Hill Ryerson Ltd.Chapter 442 CANADIANBUSINESSESCANADIANHOUSEHOLDS CANADIANRESOURCEMARKETS CANADIANPRODUCTMARKETS $ COSTS $ INCOMES $ CONSUMPTION $ REVENUE GOODS & SERVICES CANADIANGOVERNMENT REST OF THE WORLD FACTORS OF PRODUCTION INPUT FACTORS EXPENDITURES EXPENDITURES GOODS & SERVICES GOODS GOODS NETTAXES NETTAXES Cdn. Imports Cdn. Expenditures Cdn. Exports Foreign Expenditures Back to the Circular Flow Model Figure 4-3 FACTORS OF PRODUCTION

©2005 McGraw-Hill Ryerson Ltd.Chapter 443 Chapter 4 Topics 4.1 Characteristics of the Market System 4.2 The Market System at Work 4.3 Market Failure 4.4 Canada & International Trade