28 Unit 1 The Economic System
needs. These needs may include crime control, health care, environmental
protection, education, national defense, and aid to the poor and homeless.
The scarcity of resources leads to three problems for all societies:
•
what and how much to produce
•
how to allocate resources in producing goods and services
•
how to divide the goods and services produced
The way a society solves these problems defi nes its economic system. If
these decisions are made by the country’s religious leader, the nation’s eco-
nomic system is probably a traditional economy. If a central planning authority
decides, the economic system is probably a command economy. In the U.S. free
enterprise system, these decisions are made primarily by market forces.
How the U.S. Economy Works
A circular fl ow of goods, services, and money takes place within the
economy, as shown in the circular fl ow model in 1-3. The blue outer circle
shows the fl ow of consumer goods and services from producers/sellers to
consumers/workers. It also shows the fl ow of the resources (labor, land, capital,
and entrepreneurship) from consumers/workers to producers/sellers.
The orange circle shows the fl ow of payments for goods and services
from consumers/workers to producers/sellers. It also shows the fl ow of
payment for resources from producers/sellers to consumers/workers.
This model is a good snapshot of how consumers and producers
interact in the economy. However, it does not show the whole picture. For
ECONOMICS
ACTIONin
More Tools to Evaluate More Tools to Evaluate
Economic Choices Economic Choices
Marginalism is the added value versus the
additional cost of one more unit or item. For example,
suppose you buy two pairs of jeans at $65 and
consider a third pair. Will the added pair bring as
much satisfaction as the fi rst two? As you buy more
jeans, the per-unit price stays the same, but the
“marginal” or extra value of one more pair decreases.
You can also approach economic choices
through a cost-benefi t analysis, which is similar
to marginalism. The cost-benefi t principle states
that you should take an action or make a purchase
only if the benefi t is at least as great as the cost.
For example, using the jeans example, suppose
you see a casual jacket that complements the
fi rst two pairs of jeans. With the jacket and those
jeans, you could coordinate several outfi ts. A third
pair of jeans, on the other hand, would not benefi t
your wardrobe to the same degree as the jacket.
These principles apply to economic decisions
of individual consumers, businesses, and
governments. You’ll read more about them in
Chapter 5.