Crash Course Economics

  1. Intro to Economics: Crash Course Econ #1
    • Study of human choices, decisions and their consequences in face of scarcity of resources
    • Macro and Micro
    • Calculating Opportunity cost helps make decisions. Nothing is free, and there are no solutions, only trade-offs
  2. Specialization and Trade: Crash Course Economics #2
    1. Production Possibility Frontier
      • Allows comparison of the ability to make planes vs shoes
      • Allows comparison of good production between countries and helps decide what you should make vs trade
      • It’s better to produce stuff where you have competitive advantage
    2. Specialization and Trade is key to prosperity of society as whole
  3. Economic Systems and Macroeconomics: Crash Course Economics #3
    1. Any Macro Economic System needs to answer 3 Qs:
      1. What to Produce
      2. How to Produce
      3. Who gets it
    2. Depending on who owns the Factors of Production (land, labor and capitol), we have
      1. Free Market (Capitalism, Individuals own FOP)
      2. Planned Economies(Communism, Govt owns FOP)
    3. IRL, Economies are Mixed in nature
    4. Product and Resources Mkt describe the interaction of Individuals and Businesses and are cyclical
  4. Supply and Demand: Crash Course Economics #4
    1. Supply and Demand are the heart of Economics
    2. Though Free Markets are regulated by supply and demand alone, some markets need to be regulated by Govt eg. Organ Mkt. for ethical reasons
    3. Govt. needs to make laws to regulate free mkt
  5. Macroeconomics: Crash Course Economics #5
    1. Macroeconomics study has 3 goals
      1. Grow the Economy : GDP
      2. Decrease Unemployment: Employment Rate
      3. Keep Prices stable: Inflation
    2. Recession is when a country’s Real GDP (inflation adjusted Nominal GDP) decreases for 2 consecutive 6 month periods
    3. Economies naturally follow booms and busts in cyclical order
    4. GDP comprises of Domestic Consumer’ Spending, Net Exports ie Foreigner Consumers’ Spending, Business Spending and Govt Spending. Natural changes to these components affect the GDP and Govt then uses policies to balance this by affecting changes to other components. Eg, Govt promotes increase in Consumer Spending by lowering the interest rate or cutting taxes
  6. Productivity and Growth: Crash Course Economics #6\
    1. GDP per capita is GDP/Population ie Output per person, and determines how rich/productive a country is
    2. Simply put, the more you can produce, the richer you’ll become
    3. Also, the higher the value of goods you produce, the richer you’ll be
    4. Quantity and Quality of Human Capital is Expensive, but making this Capital more Effective using Technology is even more imp
  7. Inflation and Bubbles and Tulips: Crash Course Economics #7
    1. CPI (Consumer Price Index) is used to calculate inflation, but it does not account for increase in quality or features of a product like TV)
    2. Inflation is of 2 types:
      1. Demand Pull Inflation: Too much money chasing too few goods
      2. Cost Push Inflation: Increase in price of raw materials
    3. A Bubble is when there is too much demand of a product due to speculation of its value. This causes crash eventually when bubble bursts. Eg:
      1. Tulip Bubble of 1630
      2. Stock Mkt Collapse of 2000
      3. Subprime Housing Collapse of 2008
  8. Fiscal Policy and Stimulus: Crash Course Economics #8
    1. Money really is just paper right. It’s not backed by Gold like it used to in the past. So it doesn’t matter how much money you have.
    2. All that matters is that the Cycle of Demand and Supply should be stable so that everyone is employed and happy.
    3. Now what happens due to Bubbles, be it in Stock Mkt or in Housing Mkt, a lot of extra money gets wastefully invested in one thing. This is fine as long as people have surplus money, but when these bubbles burst, people end up loosing this money, causing demand to fall and hence supply and so people get fired and so demand reduces further and so on…it’s a self feeding spiral of doom
    4. So what the Govt does in such times is than in time of Bust, increase Govt Spending in projects like Infrastructure etc. to stimulate the economy and/or cut taxes and/or Decrease Interest Rates. This is called Expansionary Fiscal Policy. This creates Jobs leading to people spending more causing the demand supply spiral to spin in the positive direction again.
    5. In opposite scenario Eg to control high inflation, Govt does the opposite and it’s called Contractionary Fiscal Policy
    6. The Q is does Govt intervention in Business Cycles (Boom and Bust) do any Good in the long run?
      1. Traditional wisdom was that it doesn’t and it only causes inflation and debt, as Govt is Deficit Spending. They argue that the economy should be left alone and eventually people will accept jobs at lower wages and due to their log spending power, the price of goods will also come down and things will go back to normal
      2. But John Keynes argued against that saying that “In the long run we are all Dead” so what’s the harm in Govt deficit spending to stabilize the economy in hard times. But there is harm, and opposition argues that when Govt borrows a lot of money it increases interest rate (as interest rate is also follows demand-supply laws, and with the Govt entering the market asking for loan, demand increases and so interest increases for everyone, the govt, individuals and businesses) making it harder for businesses to then borrow money for new ventures. This is termed Crowding Out, as Public Sector Spending drives down Private Sector Spending. But argument against that is Crowding Out is true only if the Economy is at it’s limit of growth, which is not the case in times of depression.
      3. So which argument is correct? Let’s look at reality. US practiced Stimulus post recession while Europe practiced Austerity. US GDP grew at 5% and unemployment fell, but Europe’s GDP and Unemployment both fell.Looks like Stimulus is successful, at least in the short run
      4. Another important factor is the Multiplier Effect (ME) of money. If the Govt cuts tax by $100, it puts $100 in the pocket of Consumer who will save it fully in light of Austerity and so increases GDP by $100, so ME is 1. But if the Govt spends $100 in welfare, then it employs someone and gives him $100. The guy saves $50 and spends $50 due to Confidence in Govt, that is again spend as $25. So GDP increases by $175. Hence ME is 1.75
  9. Deficits & Debts: Crash Course Economics #9
    1. Country’s Deficit is it’s Spending – Income in a year
    2. It’s debt is the total Deficit over all the years
    3. Debt should always be seen wrt GDP, as the higher the country’s GDP, higher is it’s ability to sustain Debt
    4. So though US has highest debt, Japan has the highest Debt/GDP ratio, so it’s not US, but Japan that’s in trouble. Greece and Italy are in crisis due to this very reason
    5. Economists focus their energy on future ie reducing the deficit thereby reducing the rate of increase of debt. In US, Liberals feel handouts are increasing deficit, while democrats feel it’s defense spending, but in reality Social Security is quarter of the budget and another quarter on healthcare.
    6. Because the Debt has to be paid off at an interest, the more the Debt, more the interest and so if Debt keeps increasing, at certain point, the Govt will fail to pay it’s installment ie Default, causing investors to loose confidence in it, and stop giving more loan causing investors to loose money and Govt to go in recession. This happened in
      1. Greece in 2014
      2. Argentina in 2001
      3. Russia in 1998 …
  10. What’s all the Yellen About? Monetary Policy and the Federal Reserve: Crash Course Economics #10
    1. Monetary Policy decides to increase or reduce the amount of money in economy, hence controlling the interest rate on bank loans, as :
      1. increase in money supply would bring down interest per the demand-supply law, called Enpansionary Monetary Policy. Note that this boosts business and employment, it increases Inflation as well
      2. Opposite of above is called Contractionary Monetary Policy
    2. In US it’s done by Federal Reserve and in Europe, the Europe Central Bank
    3. Fed controls money supply in 3 ways
      1. Controlling the Reserve Requirement
      2. Discount Rate: Interest that Govt charges bank
      3. Open Mkt Operations: Govt can issue Bonds eg. TBill which is an IOU from the Govt in exchange of Interest
      4. Quantitative Easing: Govt prints more money and gives it to bank in exchange of the Mortgage Backed Security to bring down the interest rate and stimulate economy
    4. Govt runs on Confidence, and that comes from Liquidity meaning that People should have confidence that their money is safe in bank. Now, in 1929 Great Depression, caused by Credit Card Defaults and Stock Mkt crash due to speculations and stock purchase on margin (borrowed money) causing bubble, 9000 banks collapsed as they didn’t have liquidity (ie cash) and so consumers lost all their money
    5. Note that changing the Monetary Policy is easier and has immediate effects, in crisis like 2008, US Govt had to change it’s Fiscal Policy too
  11. Money and Finance: Crash Course Economics #11
    1. Money helps mitigate the obvious drawbacks of the Barter System by acting as:
      1. Medium of Exchange
      2. Store of Value
      3. Unit of Account
    2. Financial System is a network of Institutions,Markets and Contracts that bring lenders and borrowers together
    3. There are 3 types of Financial Systems:
      1. Debt Markets: The return value of loan for lender is preset so risk is low
        1. Banks: Intermediaries
        2. Bonds: IOUs
      2. Equity Markets:
        1. Stocks: Ownership. Return Value for lender depends on speculation so risk is high
    4. Bonds and Stocks are Tradeable instruments
    5. Banks are Financial Institutions
  12. The 2008 Financial Crisis: Crash Course Economics #12
    1. In 2000s, Global Investors felt that they could get more profit from investing in Home Mortgage than from US Treasuries.
    2. So banks responded by bundling up mortgages into securities (pool of illiquid assets, here mortgages, divided up into pieces called stocks) that these investors then bought. The financial institutions selling these MBS (Mort backed Sec) after buying mortgages from the banks, thought that even if the owners default, they could simply sell the house and recover their money, as home prices were going up continually .
    3. Even Credit rating agencies were giving these MBS AAA ratings ie safe investments
    4. With investors flocking to purchase these MBS, lenders ie banks had to get Mortgages and so they started giving loans to individuals with poor credit history. These are called SubPrime Mortgages. This made MBS less and less safe.
    5. Traders also started selling even riskier product called Collateralized Debt Obligation (CDO)
    6. With easy to get loans buyers increased and so demand for homes increased and so prices for homes increased making the MBS and CDOs even more secure…
    7. Eventually some people defaulted, unable to pay high installments of their expensive house.
    8. This caused more houses on mkt and so price of houses dropped and started a downwars spiral as now even those who could afford to pay installments chose not to pay as the house was not worth the price of their mortgage anymore
    9. So then Financial Institutions stopped buying sub prime mortgages from lenders (banks) in 2007 and so banks declared bankruptcy.
    10. Now, the investors of the MBS and CDOs started loosing money
    11. Moreover FIs like AIG had unregulated OTC Derivatives called Credit Default Swaps (CDS) that were sold as insurance policies against the default of the MBS without any money to back it up.
    12. These CDS were further turned into other Securities which allowed traders to bet money on whether the values of MBS would go up or down
    13. The Govt stepped up to bail out the banks costing 700 billion
    14. In 2009 it launched stimulus of 800 billion through new spending and tax cuts
    15. Then in 2010 it passed Dot Frank to regulate the banks
  13. Recession, Hyperinflation, and Stagflation: Crash Course Econ #13
    1. Hyperinflation is when monthly inflation is over 50% monthly or 13K % annually Eg:
      1. Germany in 1930
      2. Hungary in 1942
      3. Zimbabwe in 1990s
    2. The root cause of inflation is when the rate of increase in money( by printing) is > rate of increase of Output.
    3. But this is just the starting point. After high inflation, people expect high inflation and so buy stuff ASAP, but everyone does that so demand increases and so prices soar. It’s a spiral. Then no. of times a dollar is spent in a year is called Velocity of Money. This increased velocity in above scenario caused hyperinflation
    4. The only way to get out of this is to replace currency with new one
    5. The exact opposite happens in Depression,  where people stop spending so prices drop and then people expect the prices to keep dropping so don’t buy stuff and so get laid off and the economy comes to a grinding halt. This is called liquidity trap
    6. In fact even taking loan at no interest is not beneficial as the same money you’ll have to pay back in future will have higher value due to negative inflation
    7. Stagflation is when output is stagnant but prices rise. Eg in 70s in US, due to increase in Oil prices, production dropped and so businesses laid off workers and that put economy back on recession. First Fed boosted the money supply, inflation increased. So later they increased interest rates to control inflation
    8. Govt policies need to manage people’s expectations and confidence as if enough people fear recession they’ll stop spending and cause recession
  14. Economic Schools of Thought: Crash Course Economics #14
    1. There are 2 major theories:
      1. Free Market Capitalism Camp, encouraging private property rose from Adam Smith’s the wealth of nations
      2. Communism, encouraging collective ownership of the means of production, rose from Karl Marx’s Das Kapital
    2. Market Based Economics continued to dominate till end of 19th century and is called Classical Economics, and was embodied in book called Principals of Economics by Alfred Marshal’s  in 1890
    3. In 1922 Soviet Union adopted Marx’s ideas
    4. Post 1930 depression in US, in 36, Keynes wrote general theory on money which launched the field of MacroEconomics. It said that during recession it takes long time to bounce back so Fiscal and Monitory policies of Govt should help in recovery. This led to birth of Socialism when US adopted it to get out of the Great Depression
    5. Then Austrian School’s Hayek and Vonmises argued that Govt intervention is a problem and not solution . Freedman from Chicago school advocated it and proposed deregulation of US Economy. This caused stagnation in 70s
    6. Then arose another theory called Monerarism that said Price Stability is most imp and so money supply should be increased slowly to allow for steady growth
    7. At same time another theory Supply Side or Trickle Down Economics came up asking for deregulation and cutting corporate taxes
  15. Imports, Exports, and Exchange Rates: Crash Course Economics #15
    1.  If you export more than import, you have a Trade Surplus
    2. US has 700 billion Trade Deficit
    3. International Trade reshuffles jobs. Eg. If you can buy a Chinese TV for less than US TV, you’ll hurt TV Manufacturing jobs in US, but you’ll spend the saved money on other stuff like a US Movie causing that industry to boom
    4. NAFTA allowed free trade b/w US Mexico and Canada causing lots of US Jobs to move there, but net benefit was on all countries
    5. WTO helps countries open up and settle trade disputes
    6. When one’s currency Appreciates, Exports fall and when it Depreciates, Exports rise. So basically Exchange rates are floating and depend on supply and demand
    7. If more countries want to Import from US, the demand for $ rise and so it’s exchange rate rises and vice versa
    8. So basically the more stuff you produce at cheapest price, the higher will be the value of your currency
    9. In case of China, if has kept it’s currency depreciated by pegging it with the $. This means that when US imports stuff from china, it’s exchange rate should increase against the dollar, but then china turns around and buys US $ (US Debt) with yuan, stabilizing it’s currency. This keeps chinese exports cheap for US allowing US to keep importing, causing China to develop and have more jobs and also allows China to earn interest on US Debt
    10. Balance Of Payments(BOP)
      1.  ledger of all foreign transactions that each country keeps
      2. Note that if a country buys something from you, all you can do is buy stuff back from them OR buy their financial assets ie stocks/bonds
      3. The BOP is divided into
        1. current account: Where China records sale of x yuan of goods
        2. financial/capital account: Where China records the purchase of US Debt worth y dollars
      4. So basically US is selling it’s assets to China to make up for its trade deficit with China.
  16. Globalization
    1. Globalization is good for everyone except those left out of it.
    2. Also, today companies look all across the world for the cheapest place to produce stuff. This makes winners out of everyone s the workers get more wages, the consumers get cheaper goods and the company flourishes.
    3. In fact, the workers’ new incomes benefit the local economy. This is called the Multiplier effect.
    4. The only downside is the shuffling of jobs in the home country, which is a given, when International Trade happens. Specialization is the key to profit in Global Economy. Be the best at what you do and you’ll thrive.
    5. another downside is that due to some countries not having min wage laws etc. companies exploit their workers. This is called Economic Colonization
    6. Microcredits allows the poorest to improve their lives by participating in the economy at their own terms
  17. Income and Wealth Inequality: Crash Course Economics
    1. Inequality is unequal distribution
    2. It is of 2 types
    3. Wealth Inequality:
      1. Wealth is Accumulated Stuff – Liability eg. Saving, Pension, Real Estate, Stocks
      2. Global wealth is 260 trillion $
      3. NA and Europe have 70% of global wealth while India + Africa is less than 2%
      4. This is explained by Big Bang Economic Theory by  Branko Milanović
        1. He argues that in 1820, Britain was only 3 times as wealthy as India
        2. But Industrial Revolution was the Big Bang that changed everything.
        3. Today that same wealth gap is 100 to 1
    4. Income Inequality:
      1. Income is new earning that is regularly being added to existing wealth of an individual
    5. Affects of Inequality
      1. Political Influence of the rich threatens democracy
    6. How to reduce Inequality
      1. Education
      2. Govt safety net
      3. Increase taxes on rich
    7. Other reasons for this growing inequality are:
      1. Globalization
      2. Skill biased technological change. This has caused only 2 types of job to remain:
        1. Low Skill Low Pay: Outsourced to poor countries
        2. High Skill High Pay: In Developed world
      3. Tax policies favor the rich
      4. No unions
      5. Inequality is inherent to the Capitalistic System
      6. Money makes Money
    8. Adam Smith said: No society can be happy of which majority of people are poor and miserable
  18. Marginal Analysis, Roller Coasters, Elasticity, and Van Gogh: Crash Course Econ #18
    1. Microeconomics looks at individual markets
    2. Marginal Analysis:
      1. Marginal means Additional
      2. It’s analysis of how govt. individuals and businesses make decisions to get Additional Revenue and what is the Additional Cost incurred for these gains
      3. If expected Marginal Revenue is > Marginal Cost of a worker, he should be hired
      4. This analysis goes on an on for each new worked hired, and at one stage the MR will be less than MC or atleast less lucrative, for instance hiring the 2nd worker would double output, but hiring 201th would just increase revenue by .5%. This is called Law of Diminishing Marginal Utility (satisfaction)
      5. Utility stands for satisfaction. In fact there;s a economic term “Util” which represents unit of subjective satisfaction
      6. This is why businesses have offers like buy one get one, as the Marginal Utility of the 2nd tkt is less for a person as the satisfaction is less.
      7. This is why in the supply demand curve, the demand curve is downward sloping. It’s also called the Marginal Benefit curve
      8. The reason the supply curve is upward sloping is coz increase in supply gives producers incentive/capital to produce more. As every unit is cheaper if you produce in bulk. It’s also called Marginal Cost curve
      9. MU also explains the Diamond Water Paradox. The Total Utility of water is very high but for diamond is zero. But MU of water is low as it’s plentiful so satisfaction from additional water is less. But diamonds are scarce and so have high MU.
      10. Price/Demand is also driven by substitutes. Consumers will always replace pricy items with less pricy alternative like strawberry with cherry
      11. Elasticity of Demand: How sensitive a quantity is to the change in price. Demand for Gasoline/Electricity is inelastic ie if price of gas drops people won’t buy more. Hence sellers have no increased demand to look fwd to, if they have 10% sale. Hence no discounts in gas. But pizza demand is elastic.