PRINCIPLES OF ECONOMICS, Sixth Edition, became a best seller after its introduction and continues to be the most popular and widely used text in the economics classroom. Instructors found it the perfect complement to their teaching. A text by a superb writer and economist that stressed the most important concepts without overwhelming students with an excess of detail was a formula that was quickly imitated, but has yet to be matched. The sixth edition features a strong revision of content in all thirtysix chapters. Dozens of new applications emphasize the realworld relevance of economics for today’s students through interesting news articles, realistic case studies, and engaging problems. The premier ancillary package is the most extensive in the industry, using a team of instructorspreparers that have been with the project since the first edition. The text material is again fully integrated into Aplia, the bestselling online homework solution. “I have tried to put myself in the position of someone seeing economics for the first time. My goal is to emphasize the material that students should and do find interesting about the study of the economy.”N. Gregory Mankiw.
“This document is attributed to Libby Rittenberg and Tim Tregarthen” Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org About the Authors Libby Rittenberg Libby Rittenberg has been a Professor of Economics at Colorado College in Colorado Springs since 1989 She teaches principles of economics, intermediate macroeconomic theory, comparative economic systems, and international political economy She received her B A in economicsmathematics and Spanish from Simmons College and her Ph.D in economics from Rutgers University Prior to joining the faculty at Colorado College, she taught at Lafayette College and at the Rutgers University Graduate School of Management She served as a Fulbright Scholar in Istanbul, Turkey, and as a research economist at Mathematica, Inc in Princeton, New Jersey Dr Rittenberg specializes in the internationally oriented areas of economics, with numerous articles in journals and books on comparative and development economics Much of her work focuses on transition issues and on the Turkish economy She has been very involved in study abroad education and has directed programs in central Europe and Turkey Tim Tregarthen Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org There is one word that captures the essence of Dr Timothy Tregarthen— inspiring Tim was first diagnosed with multiple sclerosis (MS) in 1975 Yet, he continued a remarkable academic career of teaching and research In 1996, he published the first edition of his principles of economics textbook to great acclaim, and it became widely used in colleges around the country That same year, MS made him wheelchair-bound The disease forced his retirement from teaching at the University of Colorado at Colorado Springs in 1998 He lost the use of his arms in 2001 and has been quadriplegic ever since In 2002, Tim’s doctor expected him to die He was placed in the Pikes Peak Hospice program and was twice given his last rites by his priest UCCS Chancellor Shockley-Zalabak says, “I really thought that Tim would die in hospice That’s what the doctors told me, and I really believed that I remember one day they called me and told me to try to come see him They didn't expect him to live through the night.” Not only did he live through the night, but he eventually recovered to the point that he moved from hospice to a long-term care facility There, he never let his disease get him down In fact, he turned back to his love of writing and teaching for inspiration He obtained a voice-activated computer, recruited a coauthor, Libby Rittenberg of Colorado College, and turned his attention to revising his principles of economics book Flat World Knowledge is honored to publish a new, first edition relaunch of this wonderful book, and proud to bring Tim’s incredible talents as a teacher back to life for future generations of students to learn from In addition to completing the rewrite of his textbook, Tim recently completed an autobiography about the thirty-two years he has had MS, titled Suffering, Faith, and Wildflowers He is nearing completion of a novel, Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org Cool Luck, based on the life of a friend It is the story of a young couple facing the husband’s diagnosis of ALS—Lou Gehrig’s disease Remarkably, in 2007, he was able to return to the classroom at UCCS, where he had taught economics for twenty-seven years In January of 2009, Tim married Dinora Montenegro (now Dinora Tregarthen); the couple lives in San Gabriel, California Perhaps Tim’s approach to life is best summed up by an observation by UCCS English Professor Thomas Naperierkowski: “One of the remarkable things is, heck, I can wake up with a headache and be a pretty grouchy character, but given his physical trials, which he faces every minute of his life these days, I’ve never seen him grouchy, I’ve never seen him cranky.” Carry on, Tim Acknowledgments The authors would like to thank to the following individuals who reviewed the text and whose contributions were invaluable in shaping the final product: Carlos Aguilar El Paso Community College Jeff Ankrom Wittenberg University Lee Ash Skagit Valley Community College Randall Bennett Gonzaga University Joseph Calhoun Florida State University Richard Cantrell Western Kentucky University Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org Gregg Davis Flathead Valley Community College Kevin Dunagan Oakton Community College Mona El Shazly Columbia College Jose Esteban Palomar College Maurita Fawls Portland Community College Fred Foldvary Santa Clara University Richard Fowles University of Utah Doris Geide-Stevenson Weber State University Sarmila Ghosh University of Scranton, Kania School of Management David Gordon Illinois Valley Community College Clinton Greene University of Missouri-St Louis James Holcomb University of Texas at El Paso Phil Holleran Mitchell Community College Yu Hsing Southeastern Louisiana University Thomas Hyclak Lehigh University Bruce Johnson Centre College James Kahiga Georgia Perimeter College Andrew Kohen James Madison University Monaco Kristen California State University– Long Beach Mark Maier Glendale Community College David McClough Bowling Green State University Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org Ann McPherren Huntington University John Min Northern Virginia Community College Shahriar Mostashari Campbell University, LundyFetterman School of Business Francis Mummery Fullerton College Robert Murphy Boston College Kathryn Nantz Fairfield University Paul Okello Tarrant County College-South Campus Nicholas Peppes St Louis Community College Ramoo Ratha Diablo Valley College Teresa Riley Youngstown State University Michael Robinson Mount Holyoke College Anirban Sengupta Texas A&M University John Solow The University of Iowa John Somers Portland Community College Charles Staelin Smith College Richard Stratton The University of Akron Kay E Strong Bowling Green State University–Firelands Della Sue Marist College John Vahaly University of Louisville Robert Whaples Wake Forest University Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org Mark Wheeler Western Michigan University Leslie Wolfson The Pingry School Sourushe Zandvakili University of Cincinnati We would like to extend a special thank you to the following instructors who class tested the text in their courses: Johnathan Millman University of Massachusetts–Boston John Min Northern Virginia Community College Kristen Monaco California State University–Long Beach Steve Skinner Western Connecticut State University Richard Stratton University of Akron Preface Greek philosopher Heraclitis said over 2500 years ago that “Nothing endures but change.” Forecasting is a tricky business, but this sentiment strikes us as being as safe a bet as one can make Change—rapid change— underlies all our lives As we were completing this textbook, the world entered a period of marked economic uncertainty that led many students, and indeed people from all walks of life, to tune into economic events as never before to try to understand the economic world around them So, while we as economists have the public’s attention, we see an opportunity to share economics principles and the economic way of thinking in a way that emphasizes their relevance to today’s world We use applications from sports, politics, campus life, current events, and other familiar settings to illustrate the links between theoretical principles and common Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org experiences Because of the increasingly global nature of economic activity, we also recognize the need for a clear and consistent international focus throughout an economics text In addition, we have tried to provide a sense of the intellectual excitement of the field and an appreciation for the gains it has made, as well as an awareness of the challenges that lie ahead To ensure students realize that economics is a unified discipline and not a bewildering array of seemingly unrelated topics, we develop the presentation of microeconomics and of macroeconomics around integrating themes The integrating theme for microeconomics is the marginal decision rule, a simple approach to choices that maximize the value of some objective Following its presentation in an early microeconomics chapter, the marginal decision rule becomes an integrating device throughout the discussion of microeconomics Instead of a hodgepodge of rules for different market conditions, we give a single rule that can be applied within any market setting The integrating theme for macroeconomics is the model of aggregate demand and aggregate supply Following its presentation in an early macroeconomics chapter, this model allows us to look at both short-run and long-run concepts and to address a variety of policy issues and debates Recognizing that a course in economics may seem daunting to some students, we have tried to make the writing clear and engaging Clarity comes in part from the intuitive presentation style, but we have also integrated a number of pedagogical features that we believe make learning Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org economic concepts and principles easier and more fun These features are very student-focused The chapters themselves are written using a “modular” format In particular, chapters generally consist of three main content sections that break down a particular topic into manageable parts Each content section contains not only an exposition of the material at hand but also learning objectives, summaries, examples, and problems Each chapter is introduced with a story to motivate the material and each chapter ends with a wrap-up and additional problems Our goal is to encourage active learning by including many examples and many problems of different types A tour of the features available for each chapter may give a better sense of what we mean: Start Up—Chapter introductions set the stage for each chapter with an example that we hope will motivate readers to study the material that follows These essays, on topics such as the value of a college degree in the labor market or how policy makers reacted to a particular economic recession, lend themselves to the type of analysis explained in the chapter We often refer to these examples later in the text to demonstrate the link between theory and reality Learning Objectives—These succinct statements are guides to the content of each section Instructors can use them as a snapshot of the important points of the section After completing the section, students can return to the learning objectives to check if they have mastered the material Heads Up!—These notes throughout the text warn of common errors and explain how to avoid making them After our combined teaching Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org experience of more than fifty years, we have seen the same mistakes made by many students This feature provides additional clarification and shows students how to navigate possibly treacherous waters Key Takeaways—These statements review the main points covered in each content section Key Terms—Defined within the text, students can review them in context, a process that enhances learning Try It! questions—These problems, which appear at the end of each content section and which are answered completely in the text, give students the opportunity to be active learners They are designed to give students a clear signal as to whether they understand the material before they go on to the next topic Cases in Point—These essays included at the end of each content section illustrate the influence of economic forces on real issues and real people Unlike other texts that use boxed features to present interesting new material or newspaper articles, we have written each case ourselves to integrate them more clearly with the rest of the text Summary—In a few paragraphs, the information presented in the chapter is pulled together in a way that allows for a quick review of the material End-of-chapter concept and numerical problems—These are bountiful and are intended to check understanding, to promote discussion of the issues raised in the chapter, and to engage students in critical thinking about the material Included are not only general review questions to test basic understanding but also examples drawn from the news and from results of economics research Some have students working with real-world data Chapter quizzes—Each chapter also includes online, supplementary multiple choice questions that provide students with feedback on both correct and incorrect responses These provide yet another way for students to test themselves on the material Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 10 Figure 21.17 21.3 Using Graphs and Charts to Show Values of Variables LEARNING OBJECTIVE Understand and use time-series graphs, tables, pie charts, and bar charts to illustrate data and relationships among variables You often see pictures representing numerical information These pictures may take the form of graphs that show how a particular variable has changed over time, or charts that show values of a particular variable at a single point in time We will close our introduction to graphs by looking at both ways of conveying information Time-Series Graphs One of the most common types of graphs used in economics is called a time-series graph A time-series graph shows how the value of a particular variable or variables has changed over some period of time One of the variables in a time-series graph is time itself Time is typically placed on Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1115 the horizontal axis in time-series graphs The other axis can represent any variable whose value changes over time The table in Panel (a) of shows annual values of the unemployment rate, a measure of the percentage of workers who are looking for and available for work but are not working, in the United States from 1998 to 2007 The grid with which these values are plotted is given in Panel (b) Notice that the vertical axis is scaled from to 8%, instead of beginning with zero Time-series graphs are often presented with the vertical axis scaled over a certain range The result is the same as introducing a break in the vertical axis, as we did in Figure 21.18 A Time-Series Graph Panel (a) gives values of the U.S unemployment rate from 1998 to 2008 These points are then plotted in Panel (b) To draw a time-series graph, we connect these points, as in Panel (c) The values for the U.S unemployment rate are plotted in Panel (b) of The points plotted are then connected with a line in Panel (c) Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1116 Scaling the Vertical Axis in Time-Series Graphs The scaling of the vertical axis in time-series graphs can give very different views of economic data We can make a variable appear to change a great deal, or almost not at all, depending on how we scale the axis For that reason, it is important to note carefully how the vertical axis in a timeseries graph is scaled Consider, for example, the issue of whether an increase or decrease in income tax rates has a significant effect on federal government revenues This became a big issue in 1993, when President Clinton proposed an increase in income tax rates The measure was intended to boost federal revenues Critics of the president’s proposal argued that changes in tax rates have little or no effect on federal revenues Higher tax rates, they said, would cause some people to scale back their income-earning efforts and thus produce only a small gain—or even a loss—in revenues Op-ed essays in The Wall Street Journal, for example, often showed a graph very much like that presented in Panel (a) of It shows federal revenues as a percentage of gross domestic product (GDP), a measure of total income in the economy, since 1960 Various tax reductions and increases were enacted during that period, but Panel (a) appears to show they had little effect on federal revenues relative to total income Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1117 Figure 21.19 Two Tales of Taxes and Income A graph of federal revenues as a percentage of GDP emphasizes the stability of the relationship when plotted with the vertical axis scaled from to 100, as in Panel (a) Scaling the vertical axis from 16 to 21%, as in Panel (b), stresses the short-term variability of the percentage and suggests that major tax rate changes have affected federal revenues Laura Tyson, then President Clinton’s chief economic adviser, charged that those graphs were misleading In a Wall Street Journal piece, she noted the scaling of the vertical axis used by the president’s critics She argued that a more reasonable scaling of the axis shows that federal revenues tend to increase relative to total income in the economy and that cuts in taxes reduce the federal government’s share Her alternative version of these events does, indeed, suggest that federal receipts have tended to rise and fall with changes in tax policy, as shown in Panel (b) of Which version is correct? Both are Both graphs show the same data It is certainly true that federal revenues, relative to economic activity, have been remarkably stable over the past several decades, as emphasized by Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1118 the scaling in Panel (a) But it is also true that the federal share has varied between about 17 and 20% And a small change in the federal share translates into a large amount of tax revenue It is easy to be misled by time-series graphs Large changes can be made to appear trivial and trivial changes to appear large through an artful scaling of the axes The best advice for a careful consumer of graphical information is to note carefully the range of values shown and then to decide whether the changes are really significant Testing Hypotheses with Time-Series Graphs John Maynard Keynes, one of the most famous economists ever, proposed in 1936 a hypothesis about total spending for consumer goods in the economy He suggested that this spending was positively related to the income households receive One way to test such a hypothesis is to draw a time-series graph of both variables to see whether they do, in fact, tend to move together Shows the values of consumption spending and disposable income, which is after-tax income received by households Annual values of consumption and disposable income are plotted for the period 1960– 2007 Notice that both variables have tended to move quite closely together The close relationship between consumption and disposable income is consistent with Keynes’s hypothesis that there is a positive relationship between the two variables Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1119 Figure 21.20 A Time-Series Graph of Disposable Income and Consumption Plotted in a time-series graph, disposable income and consumption appear to move together This is consistent with the hypothesis that the two are directly related Source: Department of Commerce The fact that two variables tend to move together in a time series does not by itself prove that there is a systematic relationship between the two Shows a time-series graph of monthly values in 1987 of the Dow Jones Industrial Average, an index that reflects the movement of the prices of common stock Notice the steep decline in the index beginning in October, not unlike the steep decline in October 2008 Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1120 Figure 21.21 Stock Prices and a Mystery Variable The movement of the monthly average of the Dow Jones Industrial Average, a widely reported index of stock values, corresponded closely to changes in a mystery variable, X Did the mystery variable contribute to the crash? It would be useful, and certainly profitable, to be able to predict such declines Also shows the movement of monthly values of a “mystery variable,” X, for the same period The mystery variable and stock prices appear to move closely together Was the plunge in the mystery variable in October responsible for the stock crash? The answer is: Not likely The mystery value is monthly average temperatures in San Juan, Puerto Rico Attributing the stock crash in 1987 to the weather in San Juan would be an example of the fallacy of false cause Notice that http://catalog.flatworldknowledge.com/bookhub/reader/21 rittenberg-chappA_s03_s01_s02_f03has two vertical axes The left-hand axis shows values of temperature; the right-hand axis shows values for the Dow Jones Industrial Average Two axes are used here because the two Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1121 variables, San Juan temperature and the Dow Jones Industrial Average, are scaled in different units Descriptive Charts We can use a table to show data Consider, for example, the information compiled each year by the Higher Education Research Institute (HERI) at UCLA HERI conducts a survey of first-year college students throughout the United States and asks what their intended academic majors are The table in Panel (a) of http://catalog.flatworldknowledge.com/bookhub/reader/21 rittenberg-chappA_s03_s02_f01shows the results of the 2007 survey In the groupings given, economics is included among the social sciences Figure 21.22 Intended Academic Major Area, 2007 Survey of First- Year College Students Panels (a), (b), and (c) show the results of a 2007 survey of first-year college students in which respondents were asked to state their Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1122 intended academic major All three panels present the same information Panel (a) is an example of a table, Panel (b) is an example of a pie chart, and Panel (c) is an example of a horizontal bar chart Source: Higher Education Research Institute, 2007 Freshman Survey Percentages shown are for broad academic areas, each of which includes several majors For example, the social sciences include such majors as economics, political science, and sociology; business includes such majors as accounting, finance, and marketing; technical majors include electronics, data processing/computers, and drafting Panels (b) and (c) of http://catalog.flatworldknowledge.com/bookhub/reader/21 rittenberg-chappA_s03_s02_f01present the same information in two types of charts Panel (b) is an example of a pie chart; Panel (c) gives the data in a bar chart The bars in this chart are horizontal; they may also be drawn as vertical Either type of graph may be used to provide a picture of numeric information KEY TAKEAWAYS A time-series graph shows changes in a variable over time; one axis is always measured in units of time One use of time-series graphs is to plot the movement of two or more variables together to see if they tend to move together or not The fact that two variables move together does not prove that changes in one of the variables cause changes in the other Values of a variable may be illustrated using a table, a pie chart, or a bar chart TRY IT! Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1123 The table in Panel (a) shows a measure of the inflation rate, the percentage change in the average level of prices below Panels (b) and (c) provide blank grids We have already labeled the axes on the grids in Panels (b) and (c) It is up to you to plot the data in Panel (a) on the grids in Panels (b) and (c) Connect the points you have marked in the grid using straight lines between the points What relationship you observe? Has the inflation rate generally increased or decreased? What can you say about the trend of inflation over the course of the 1990s? Do you tend to get a different “interpretation” depending on whether you use Panel (b) or Panel (c) to guide you? Figure 21.23 ANSWER TO TRY IT! Here are the time-series graphs, Panels (b) and (c), for the information in Panel (a) The first thing you should notice is that both graphs show that the inflation rate generally declined throughout the 1990s (with Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1124 the exception of 1996, when it increased) The generally downward direction of the curve suggests that the trend of inflation was downward Notice that in this case we not say negative, since in this instance it is not the slope of the line that matters Rather, inflation itself is still positive (as indicated by the fact that all the points are above the origin) but is declining Finally, comparing Panels (b) and (c) suggests that the general downward trend in the inflation rate is emphasized less in Panel (b) than in Panel (c) This impression would be emphasized even more if the numbers on the vertical axis were increased in Panel (b) from 20 to 100 Just as in http://catalog.flatworldknowledge.com/bookhub/reader/21 rittenberg-chappA_s03_s01_s01_f01, it is possible to make large changes appear trivial by simply changing the scaling of the axes Figure 21.24 PROBLEMS Panel (a) shows a graph of a positive relationship; Panel (b) shows a graph of a negative relationship Decide whether each proposition below demonstrates a positive or negative relationship, and decide which graph you would expect to Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1125 illustrate each proposition In each statement, identify which variable is the independent variable and thus goes on the horizontal axis, and which variable is the dependent variable and goes on the vertical axis Figure 21.25 An increase in national income in any one year increases the number of people killed in highway accidents An increase in the poverty rate causes an increase in the crime rate As the income received by households rises, they purchase fewer beans As the income received by households rises, they spend more on home entertainment equipment The warmer the day, the less soup people consume Suppose you have a graph showing the results of a survey asking people how many left and right shoes they owned The results suggest that people with one left shoe had, on average, one right shoe People with seven left shoes had, on average, seven right shoes Put left shoes on the vertical axis and right shoes on the horizontal axis; plot the following observations: Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1126 Left shoes Right shoes Is this relationship positive or negative? What is the slope of the curve? Suppose your assistant inadvertently reversed the order of numbers for right shoe ownership in the survey above You thus have the following table of observations: Left shoes Right shoes 5 Is the relationship between these numbers positive or negative? What’s implausible about that? Suppose some of Ms Alvarez’s kitchen equipment breaks down The following table gives the values of bread output that were shown in http://catalog.flatworldknowledge.com/bookhub/reader/2 - rittenberg-chappA_s02_s01_f01It also gives the new levels of bread output that Ms Alvarez’s bakers produce following the breakdown Plot the two curves What has happened? A B C D E F G Bakers/day Loaves/day 400 700 900 1,000 1,050 1,075 Loaves/day after breakdown 380 670 860 950 990 1,005 Steven Magee has suggested that there is a relationship between the number of lawyers per capita in a country and the country’s rate of economic growth The relationship is described with the following Magee curve Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1127 Figure 21.26 What you think is the argument made by the curve? What kinds of countries you think are on the upward- sloping region of the curve? Where would you guess the United States is? Japan? Does the Magee curve seem plausible to you? Draw graphs showing the likely relationship between each of the following pairs of variables In each case, put the first variable mentioned on the horizontal axis and the second on the vertical axis The amount of time a student spends studying economics and the grade he or she receives in the course Per capita income and total expenditures on health care Alcohol consumption by teenagers and academic performance Household income and the likelihood of being the victim of a violent crime Attributed to Libby Rittenberg and Timothy Tregarthen Saylor URL: http://www.saylor.org/books/ Saylor.org 1128 MIT OpenCourseWare http://ocw.mit.edu 14.01SC Principles of Microeconomics Fall 2011 For information about citing these materials or our Terms of Use, visit: http://ocw.mit.edu/terms