Principles of Economics, A Streamlined Approach, 4th Edition PDF by Robert H Frank, Ben S Bernanke, Kate Antonovics and Ori Heffetz

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Principles of Economics, A Streamlined Approach, Fourth Edition

By Robert H. Frank, Ben S. Bernanke, Kate Antonovics and Ori Heffetz

Principles of Economics, A Streamlined Approach 4th Edition

Contents:

Part- 1 Introduction

Chapter-1 Thinking Like an Economist 1

Economics: Studying Choice in a World of Scarcity 2

Applying the Cost-Benefit Principle 3

Economic Surplus 4

Opportunity Cost 4

The Role of Economic Models 5

Three Important Decision Pitfalls 6

Pitfall 1: Measuring Costs and Benefits as Proportions

Rather than Absolute Dollar Amounts 6

Pitfall 2: Ignoring Implicit Costs 7

Pitfall 3: Failing to Think at the Margin 8

Normative Economics versus Positive Economics 13

Economics: Micro and Macro 13

The Approach of This Text 14

Economic Naturalism 14

THE ECONOMIC NATURALIST 1.1 15

THE ECONOMIC NATURALIST 1.2 15

THE ECONOMIC NATURALIST 1.3 16

Summary 17 • Key Terms 17 • Review Questions 17 •

Problems 18 • Answers to Self-tests 19 • Appendix: Working

with Equations, Graphs, and Tables 21

Chapter-2 Supply and Demand 31

What, How, and for Whom? Central Planning versus the Market 33

Buyers and Sellers in Markets 34

The Demand Curve 35

The Supply Curve 36

Market Equilibrium 38

Rent Controls Reconsidered 41

Pizza Price Controls? 43

Predicting and Explaining Changes in Prices and Quantities 44

Shifts in Demand 45

THE ECONOMIC NATURALIST 2.1 47

Shifts in the Supply Curve 48

THE ECONOMIC NATURALIST 2.2 51

Four Simple Rules 51

THE ECONOMIC NATURALIST 2.3 54

Efficiency and Equilibrium 54

Cash on the Table 55

Smart for One, Dumb for All 56

THE ECONOMIC NATURALIST 2.4 57

Summary 58 • Key Terms 59 • Review Questions 59 •

Problems 59 • Answers to Self-tests 60 • Appendix: The

Algebra of Supply and Demand 63

Part- 2 Competition and the Invisible Hand

Chapter- 3 Demand and Elasticity 65

The Law of Demand 66

The Origins of Demand 66

Needs versus Wants 67

THE ECONOMIC NATURALIST 3.1 67

Applying the Law of Demand 68

Substitution at Work 68

THE ECONOMIC NATURALIST 3.2 68

THE ECONOMIC NATURALIST 3.3 69

THE ECONOMIC NATURALIST 3.4 70

The Importance of Income Differences 70

THE ECONOMIC NATURALIST 3.5 71

Individual and Market Demand Curves 7

Horizontal Addition 71

Elasticity 73

Price Elasticity of Demand 73

Price Elasticity Defined 73

Determinants of Price Elasticity of Demand 75

some representative elasticity estimates 76

Using Price Elasticity of Demand 77

The Economic Naturalist 3.6 77

The Economic Naturalist 3.7 77

A Graphical Interpretation of Price Elasticity 78

Price Elasticity Changes along a Straight-Line Demand Curve 80

Two Special Cases 81

Elasticity and Total Expenditure 82

Income Elasticity and Cross-Price Elasticity of Demand 86

Summary 87 • Key Terms 87 • Review Questions 88 •

Problems 88 • Answers to Self-tests 89

Chapter- 4 Perfectly Competitive Supply 91

Thinking about Supply: The Importance of Opportunity Cost 92

Individual and Market Supply Curves 94

Profit-Maximizing Firms in Perfectly

Competitive Markets 95

Profit Maximization 95

The Demand Curve Facing a Perfectly Competitive Firm 96

Production in the Short Run 97

Choosing Output to Maximize Profit 98

Price Equals Marginal Cost: The Seller’s Supply Rule 101

Graphing Marginal Cost 101

The “Law” of Supply 103

Applying the Theory of Supply 104

The Economic Naturalist 4.1 104

Determinants of Supply Revisited 107

Technology 107

Input Prices 107

The Number of Suppliers 107

Expectations 108

Changes in Prices of Other Products 108

The Price Elasticity of Supply 108

Determinants of Supply Elasticity 111

The Economic Naturalist 4.2 112

Unique and Essential Inputs: The Ultimate Supply Bottleneck 114

Summary 115 • Key Terms 116 • Review Questions 116 •

Problems 116 • Answers to Self-tests 117

Chapter- 5 Efficiency, Exchange, and the Invisible Hand in Action 119

The Central Role of Economic Profit 120

Three Types of Profit 120

The Invisible Hand Theory 123

Two Functions of Price 123

Responses to Profits and Losses 123

The Effect of Market Forces on Economic Profit 125

The Importance of Free Entry and Exit 126

The Invisible Hand in Action 127

The Economic Naturalist 5.1 127

Economic Rent versus Economic Profit 129

The Distinction between an Equilibrium and a Social Optimum 130

Smart for One, Dumb for All 131

The Economic Naturalist 5.2 131

Market Equilibrium and Efficiency 132

The Cost of Preventing Price Adjustments 136

Summary 138 • Key Terms 139 • Review Questions 139 •

Problems 139 • Answers to Self-tests 140

Part- 3 Market Imperfections

Chapter- 6 Monopoly, Oligopoly, and Monopolistic Competition 141

Perfect and Imperfect Competition 142

Different forms of Imperfect Competition 142

The Essential Difference between Perfectly and Imperfectly Competitive Firms 144

Five Sources of Market Power 145

Exclusive Control over Important Inputs 145

Patents and Copyrights 145

Government Licenses or Franchises 145

Economies of Scale and Natural Monopolies 146

Network Economies 146

Economies of scale and the importance of start-Up costs 147

The Economic Naturalist 6.1 150

Profit Maximization for the Monopolist 150

Marginal Revenue for the Monopolist 150

The Monopolist’s Profit-Maximizing Decision Rule 152

Being a Monopolist Doesn’t Guarantee an Economic Profit 154

Why the Invisible Hand Breaks Down under Monopoly 155

Using Discounts to Expand the Market 156

Price Discrimination Defined 157

The Economic Naturalist 6.2 157

How Price Discrimination Affects Output 157

The Hurdle Method of Price Discrimination 160

Is Price Discrimination a Bad Thing? 163

Examples of Price Discrimination 163

The Economic Naturalist 6.3 164

Summary 165 • Key Terms 166 • Review Questions 166 •

Problems 166 • Answers to Self-tests 168

Chapter- 7 Games and Strategic Behavior 169

Using Game Theory to Analyze Strategic Decisions 170

The Three Elements of a Game 170

Nash Equilibrium 172

The Prisoner’s Dilemma 174

The Original Prisoner’s Dilemma 174

The Economics of Cartels 175

The Economic Naturalist 7.1 175

Tit-for-Tat and the Repeated Prisoner’s Dilemma 177

The Economic Naturalist 7.2 178

The Economic Naturalist 7.3 179

Games in Which Timing Matters 180

Credible Threats and Promises 182

Monopolistic Competition When Location Matters 184

The Economic Naturalist 7.4 184

Commitment Problems 186

Solving Commitment Problems with Psychological Incentives 188

Summary 190 • Key Terms 190 • Review Questions 191 •

Problems 191 • Answers to Self-tests 194

Chapter- 8 An Introduction to Behavioral Economics 195

Judgmental Heuristics or Rules of Thumb 196

Availability 196

Representativeness 197

Regression to the Mean 198

The Economic Naturalist 8.1 198

Anchoring and Adjustment 199

Misinterpretation of Contextual Clues 200

The Psychophysics of Perception 200

The Difficulty of Actually Deciding 200

Impulse-Control Problems 202

The Economic Naturalist 8.2 203

Loss Aversion and Status Quo Bias 205

The Economic Naturalist 8.3 206

Concerns about Relative Position 207

The Economic Naturalist 8.4 210

The Economic Naturalist 8.5 211

Summary 214 • Key Terms 215 • Review Questions 215 •

Problems 215 • Answers to Self-tests 216

Chapter- 9 Externalities and Property Rights 217

External Costs and Benefits 217

How Externalities Affect Resource Allocation 218

The Coase Theorem 219

Remedies for Externalities 223

Laws and Regulations 223

The Economic Naturalist 9.1 225

The Optimal Amount of Negative Externalities Is Not Zero 225

Compensatory Taxes and Subsidies 226

The Economic Naturalist 9.2 226

Property Rights and the Tragedy of the Commons 227

The Problem of Unpriced Resources 227

The Effect of Private Ownership 229

When Private Ownership Is Impractical 230

The Economic Naturalist 9.3 230

The Economic Naturalist 9.4 231

Positional Externalities 232

Payoffs That Depend on Relative Performance 232

The Economic Naturalist 9.5 232

Positional Arms Races and Positional Arms Control Agreements 234

Social Norms as Positional Arms Control Agreements 235

Summary 237 • Key Terms 237 • Review Questions 237 •

Problems 238 • Answers to Self-tests 239

Part- 4 Economics of Public Policy

Chapter- 10 Using Economics to Make Better Policy Choices 241

The Economics of Health Care 242

The Case for Mandatory Immunization Laws 242

Explaining Rising Health Care Costs 243

Designing a Solution 244

The HMO Revolution 245

The Economic Naturalist 10.1 245

The Problem with Health Care Provision through Private Insurance 246

The Affordable Care Act of 2010 247

Using Price Incentives in Environmental Regulation 248

Taxing Pollution 248

Auctioning Pollution Permits 250

Climate Change and Carbon Taxes 252

Methods of Income Redistribution 253

Welfare Payments and In-Kind Transfers 254

Means-Tested Benefit Programs 254

The Negative Income Tax 255

Minimum Wages 255

The Earned-Income Tax Credit 256

Public Employment for the Poor 256

A Combination of Methods 256

Summary 258 • Key Terms 258 • Review Questions 258 •

Problems 258 • Answers to Self-tests 259

Part-5 International Trade

Chapter- 11 International Trade and Trade Policy 261

Comparative Advantage as a Basis for Trade 262

A Supply and Demand Perspective on Trade 266

Winners and Losers from Trade 268

The Economic Naturalist 11.1 269

Protectionist policies: tariffs and quotas 270

Tariffs 270

Quotas 272

The Economic Naturalist 11.2 275

The Inefficiency of Protectionism 276

The Economic Naturalist 11.3 276

Summary 277 • Key Terms 278 • Review Questions 278 •

Problems 278 • Answers to Self-tests 280

Part- 6 Macroeconomics: Issues and Data

Chapter- 12 Macroeconomics: The Bird’s-Eye View of the Economy 281

The Major Macroeconomic Issues 283

Economic Growth and Living Standards 283

Productivity 285

Recessions and Expansions 286

Unemployment 286

Inflation 288

Economic Interdependence among Nations 289

Macroeconomic Policy 290

Types of Macroeconomic Policy 290

Positive versus Normative Analyses of Macroeconomic Policy 291

Aggregation 293

Studying Macroeconomics: A Preview 295

Summary 296 • Key Terms 296 • Review Questions 296 •

Problems 297 • Answers to Self-tests 297

Chapter- 13 Measuring Economic Activity: GDP,

Unemployment, and Inflation 299

Gross Domestic Product: Measuring the Nation’s Output 300

Market Value 301

Final Goods and Services 303

Produced in a Country during a Given Period 306

Methods for Measuring GDP 307

The Expenditure Method for Measuring GDP 307

GDP and the Incomes of Capital and Labor 310

Nominal GDP versus Real GDP 313

The Economic Naturalist 13.1 315

Real Gdp, Economic Growth, and Economic Well-Being 315

Unemployment and the Unemployment Rate 316

Measuring Unemployment 316

The Costs of Unemployment 318

The Duration of Unemployment 319

The Unemployment Rate versus “True” Unemployment 320

The Consumer Price Index and Inflation 320

Inflation 323

Adjusting for Inflation 324

Deflating a Nominal Quantity 324

Indexing to Maintain Buying Power 326

The Economic Naturalist 13.2 327

Inflation Measurement and Quality Change 328

The Costs of Inflation: Not What You Think 329

The True Costs of Inflation 330

Summary 333 • Key Terms 334 • Review Questions 334 •

Problems 334 • Answers to Self-tests 336

Part-7 The Economy in the Long Run

Chapter- 14 Economic Growth, Productivity, and Living Standards 339

The Remarkable Rise in Living Standards: The Record 340

Why “Small” Differences in Growth Rates Matter 343

Why Nations Become Rich: The Crucial Role of Average

Labor Productivity 345

The Determinants of Average Labor Productivity 347

Human Capital 348

The Economic Naturalist 14.1 349

Physical Capital 350

Land and Other Natural Resources 351

Technology 352

The Economic Naturalist 14.2 353

Entrepreneurship and Management 354

The Economic Naturalist 14.3 354

The Political and Legal Environment 355

Real Gdp and Economic Well-Being 357

Why Real gdp Isn’t the Same as Economic Well-Being 357

The Economic Naturalist 14.4 357

But Gdp Is Related to Economic Well-Being 359

The Economic Naturalist 14.5 361

Promoting Economic Growth 363

Policies to Increase Human Capital 363

The Economic Naturalist 14.6 363

Policies That Promote Saving and Investment 364

Policies That Support Research and Development 364

The Legal and Political Framework 365

The Poorest Countries: A Special Case? 365

Are There Limits to Growth? 366

Summary 368 • Key Terms 368 • Review Questions 369 •

Problems 369 • Answers to Self-tests 371

Chapter- 15 The Labor Market: Workers, Wages, and Unemployment 373

Five Important Labor Market Trends 374

Trends in Real Wages 374

Trends in Employment and Unemployment 375

Supply and Demand in the Labor Market 376

Wages and the Demand for Labor 376

Shifts in the Demand for Labor 379

The Economic Naturalist 15.1 382

The Supply of Labor 383

Shifts in the Supply of Labor 384

Explaining the Trends in Real Wages and Employment 385

Large Increases in Real Wages in Industrialized Countries 385

Real Wage Growth in the United States Has Stagnated since

the Early 1970s, While Employment Growth Has Been Rapid 386

Increasing Wage Inequality: The Effects of

Globalization and Technological Change 388

The Economic Naturalist 15.2 392

Unemployment 394

Types of Unemployment and Their Costs 394

Impediments to Full Employment 395

Summary 398 • Key Terms 399 • Review Questions 399 •

Problems 399 • Answers to Self-tests 401

Chapter- 16 Saving and Capital Formation 403

Saving and Wealth 404

Stocks and Flows 405

Capital Gains and Losses 406

The Economic Naturalist 16.1 407

The Economic Naturalist 16.2 409

Why Do People Save? 410

The Economic Naturalist 16.3 411

Saving and the Real Interest Rate 412

Saving, Self-Control, and Demonstration Effects 414

The Economic Naturalist 16.4 415

National Saving and Its Components 417

The Measurement of National Saving 417

Private and Public Components of National Saving 419

Public Saving and the Government Budget 420

Is Low Household Saving a Problem? 422

Investment and Capital Formation 423

Saving, Investment, and Financial Markets 425

The Economic Naturalist 16.5 428

Summary 430 • Key Terms 430 • Review Questions 431 •

Problems 431 • Answers to Self-tests 433

Chapter- 17 Money, the Federal Reserve, and Global Financial Markets 435

Money and its Uses 436

The Economic Naturalist 17.1 437

Measuring Money 438

Commercial Banks and the Creation of Money 439

The Money Supply with Both Currency and Deposits 442

The Federal Reserve System 444

The History and Structure of the Federal Reserve System 445

Controlling the Money Supply: Open-Market Operations 445

The Fed’s Role in Stabilizing Financial Markets: Banking Panics 447

The Economic Naturalist 17.2 447

The Financial System and the Allocation of Saving to

Productive Uses 450

The Banking System 450

The Economic Naturalist 17.3 451

Bonds and Stocks 452

Bond Markets, Stock Markets, and the Allocation of Savings 457

The Informational Role of Bond and Stock Markets 457

Risk Sharing and Diversification 457

The Economic Naturalist 17.4 458

International Capital Flows 460

Capital Flows and the Balance of Trade 461

The Determinants of International Capital Flows 462

Saving, Investment, and Capital Inflows 464

The Saving Rate and the Trade Deficit 465

The Economic Naturalist 17.5 466

Summary 468 • Key Terms 470 • Review Questions 470 •

Problems 470 • Answers to Self-tests 472

Part-8 The Economy in the Short Run

Chapter- 18 Short-Term Economic Fluctuations and Fiscal Policy 475

The Economic Naturalist 18.1 476

Recessions and Expansions 477

The Economic Naturalist 18.2 480

Some Facts about Short-Term Economic Fluctuations 481

Output Gaps and Cyclical Unemployment 483

Potential Output 483

The Output Gap 484

The Natural Rate of Unemployment and Cyclical Unemployment 485

The Economic Naturalist 18.3 486

Why Do Short-Term Fluctuations Occur? A Preview and a Tale 487

Alice’s Ice Cream Store: A Tale about Short-Run Fluctuations 488

Recessions and Proposed Solutions: Keynes’s Analysis 490

The Keynesian Model’s Crucial Assumption: Firms Meet

Demand at Preset Prices 490

The Economic Naturalist 18.4 491

Aggregate Output and Spending 492

Hey Big Spender! Consumer Spending and the Economy 492

The Multiplier 494

Stabilizing Spending: The Role of Fiscal Policy 495

Government Purchases and Spending 496

THE ECONOMIC NATURALIST 18.5 497

Taxes, Transfers, and Aggregate Spending 498

The Economic Naturalist 18.6 499

Fiscal Policy as a Stabilization Tool: Three Qualifications 500

Fiscal Policy and the Supply Side 501

The Problem of Deficits 501

The Relative Inflexibility of Fiscal Policy 502

Summary 503 • Key Terms 504 • Review Questions 504 •

Problems 505 • Answers to Self-tests 506

Chapter-19 Stabilizing the Economy: The Role of the Fed 507

The Federal Reserve and Interest Rates: The Basic Model 508

The Demand for Money 509

Macroeconomic Factors That Affect the Demand for Money 512

The Money Demand Curve 513

The Economic Naturalist 19.1 514

The Supply of Money and Money Market Equilibrium 516

How the Fed Controls the Nominal Interest Rate 517

The Role of the Federal Funds Rate in Monetary Policy 519

Can the Fed Control the Real Interest Rate? 520

The Federal Reserve and Interest Rates: A Closer Look 521

Can the Fed Fully Control the Money Supply? 522

Do Interest Rates Always Move Together? 525

The Effects of Federal Reserve Actions on the Economy 528

Aggregate Expenditure and the Real Interest Rate 528

The Fed Fights a Recession 531

The Economic Naturalist 19.2 532

The Fed Fights Inflation 533

The Economic Naturalist 19.3 533

The Economic Naturalist 19.4 534

The Economic Naturalist 19.5 534

The Fed’s Policy Reaction Function 536

The Economic Naturalist 19.6 536

Monetary Policy making: Art or Science? 539

Summary 539 • Key Terms 541 • Review Questions 541 •

Problems 541 • Answers to Self-tests 543

Chapter-20 Aggregate Demand, Aggregate Supply, and Inflation 545

Inflation, Spending, and Output: The Aggregate Demand Curve 546

Inflation, the Fed, and Why the AD Curve Slopes Downward 547

Other Reasons for the Downward Slope of the AD Curve 548

Factors That Shift the Aggregate Demand Curve 548

Shifts of the AD Curve versus Movements along the AD Curve 551

Inflation and Aggregate Supply 552

Inflation Inertia 553

The Output Gap and Inflation 555

The Aggregate Demand–Aggregate Supply Diagram 557

The Self-Correcting Economy 559

Sources of Inflation 560

Excessive Aggregate Spending 560

The Economic Naturalist 20.1 562

Inflation Shocks 563

The Economic Naturalist 20.2 564

Shocks to Potential Output 566

The Economic Naturalist 20.3 567

Controlling Inflation 569

The Economic Naturalist 20.4 571

The Economic Naturalist 20.5 572

Summary 574 • Key Terms 575 • Review Questions 575 •

Problems 576 • Answers to Self-tests 577

Part- 9 The International Economy

Chapter- 21 Exchange Rates and the Open Economy 579

Exchange Rates 581

Nominal Exchange Rates 581

Flexible versus Fixed Exchange Rates 583

The Real Exchange Rate 583

The Economic Naturalist 21.1 586

The Determination of the Exchange Rate in the Long Run 587

A Simple Theory of Exchange Rates: Purchasing Power Parity (PPP) 587

Shortcomings of the PPP Theory 589

The Determination of the Exchange Rate in the Short Run 590

The Foreign Exchange Market: A Supply and Demand Analysis 591

Changes in the Supply of Dollars 593

Changes in the Demand for Dollars 594

The Economic Naturalist 21.2 594

Monetary Policy and the Exchange Rate 595

The Economic Naturalist 21.3 596

The Exchange Rate as a Tool of Monetary Policy 597

Fixed Exchange Rates 597

How to Fix an Exchange Rate 598

Speculative Attacks 601

Monetary Policy and the Fixed Exchange Rate 602

The Economic Naturalist 21.4 603

The Economic Naturalist 21.5 604

The Economic Naturalist 21.6 605

Should Exchange Rates Be Fixed or Flexible? 606

The Economic Naturalist 21.7 607

Summary 608 • Key Terms 609 • Review Questions 610 •

Problems 610 • Answers to Self-tests 611

Glossary G-1

Index I-1

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