Chapter 4

The Market System and the Private Sector

Private vs. Public Sectors

The private sector is made up of households, businesses, and the international sector. The public sector refers to activity by the various levels of government. Productive activity occurs in both sectors. A basic problem is determining which sector can best produce a given good or service.
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The Market System

In the market system of the private sector, the consumer is supreme.

Consumer Sovereignty: consumers determine what is produced through their purchases of goods and services. Households Business Firms The international sector
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The agents of the market include:

Profit and the Allocation of Resources

The profit motive drives firms:

to allocate their resources toward the production of the products the consumers want (demand), hence consumer sovereignty. to produce as efficiently as possible, therefore at the lowest cost.

Competitive markets drive prices down to economic costs, therefore providing products to consumers at the lowest possible prices. Cet. par., this improves the average standard of living.
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A Demand Change in the Market for In-Restaurant Food

A Demand Change in the Market for Delivered Food

Resources in Production
land rent

Resource Suppliers

labor wages capital interest

Producers of Goods

Income Distribution Decisions

Ownership of resources determines who gets what goods and services in a market system. Firms pay the factors of production according to their marginal product (according to what they contribute to production).

Workers receive wages equal to the marginal product of labor. Contributors of capital receive interest equal to the marginal product of capital. Owners of land receive rents equal to the marginal product of land.
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Households

A household is a group of people living in the same unit of housing. The householder is the person in whose name the housing is owned or rented. Households consume housing, transportation, food, entertainment etc.. Household spending is called consumer spending or consumption .
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There are over 104 million households in the U.S.

The largest group is : 35-44 age bracket Median income: $58,217

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Size Distribution of Households in the United States

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Household Spending and Income

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Business Firms

A Firm is a business organization controlled by a single management. It may operate in more than one location. It is also referred to as a company, an enterprise, or a business. Firm spending on capital goods used in producing other goods is called investment. In 2005: investment = $2,100 billion = of consumption
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U.S. Investment Spending

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Forms of Business Organizations

Sole Proprietorship:

a business owned by a single person, who receives all the profits and is responsible for all its debts. A business owned by two or more partners, who share the profits and share the responsibility for debts or losses.
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Partnership:

Forms of Business Organizations

Corporation:
A legal fictitious person. The law sees the corporation as a distinct person from its owners. The owners are shareholders who share the profits but are not held liable beyond their investment (stock). They enjoy limited liability. (Hence ltd.) A multinational business is one that operates in several countries. There are far more sole proprietorships and partnerships in the U.S. than there are corporations.

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Business Statistics
Size distribution (revenue) Proprietorships 68% < $25,00 0.4% > $1 million Partnerships 58% < $25,000 5% of the largest Corporations 23% of smallest 18% of largest Firm type % of total Revenue 9% 19% 0.4% 88% 0.1% 94%
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The World's Ten Largest Public companies

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The international sector

Both consumers and firms in the U.S buy and sell goods and services to or from consumers and firms in other countries. Products that US agents buy from the rest of the world are called imports. Products that US agents sell to the rest of the world are called exports. Net Exports is the difference between the value of exports and imports. Trade surplus if exports exceeds imports. 19 The opposite is trade deficit.

Type of countries

Grouping by per capita income Low-income: <= $755 Middle income: $756 - $9,265 High income: >= $9,266 Industrial countries: 23 industrial market economies- interdependent countries Developing countries: Different issues

Debt and trade

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US Net Exports

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The Circular Flow: Households and Firms

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More Circular Flow

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Test questions
In a market economy who decides what will be produced? Which one is greater in the U.S: consumption or investment ?

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