Here is an Economic Handbook avaialable for download.
The table of contents and the first chapter is included.
For further interest - email me at Taggart2@aol.com


Instant Economics
Memos to Clarify the Topic

© Rolf Clark

Introduction

These memos will help the reader understand economics. The typical reader would be an executive who is not a trained economist, but would like a better understanding of the subject.
Most important economic principles are covered, in minimum reading time. That is, each memo is brief. This saves the reader time without omitting important content. While not all economic topics are discussed, they have been filtered to provide an efficient and effective coverage.
Each memo is written to stand on its own. Reference to other memos is avoided. While this leads to some repetition, it is an advantage as it reviews some principles in different contexts, thereby reinforcing understanding. And, while there is a deliberate order to the memos, they need not be read in order.The intent is to provide economic concepts such as those discussed in newspapers or commented on by television’s “talking heads”. More important, the reader will be able to generate original thoughts on economic issues. Thought generation is a skill far beyond understanding what someone else is saying. That is why principles are stressed over facts. Principles are the building blocks of thought generation.

Contents
Introduction 5
Why we need economic insights—the early 2000's 7

Ways to measure the economy 9
A Market System 11
Supply and demand 13
The difference between savings and investment 15
Externalities 16
Government spending 17
Regulation and taxes 18
What is "The Debt" 19
Government debt and private debt 20

Gross Domestic Product 21
Constant versus current dollars 23
GDP, potential and actual 24
How to impact potential GDP 26
Ways to impact actual GDP: Fiscal and monetary policy 27
How banking works 29
The Fed 30
Monetary policy reinforces, fiscal policy counteracts 31
Trade surpluses and deficits 32
Comparative advantage 33
Increasing exports: Another way to raise GDP 35

Exchange rates 36
Unavoidable linkages: Trade deficits, government balances 38
Inflation, interest rates and exchange rates 41
Fixed exchange rates 43
A 1970s example -- The US abandons the Gold Standard 45

What is money? 47
Long- and short-term interest rates 49
More on interest rates 51
Price/earnings ratios and interest rates 53
Price/earnings and growth 54
Leverage 55
Inflation vs. changing inflation 56
Deflation can be nasty stuff 58
Factors that hurt a country’s finances 60
When banking is a problem 61
Currency crises due to speculation 62
Productivity loss and monetary devaluations 63
Investment and developing economies 64

Systems talk 65
Microeconomics and macroeconomics: Different topics 67
The “Tragedy of the Commons” 69
Don’t expect predictability 70
Oil dynamics 72
The investment food chain 73
Accelerators 75
Some dynamic examples 78
Moral hazard 80
The powerful market system 81

Principles of the market system 82
The time dimension 84
Principles involving returns 85
Productivity and the workings of the modern firm 87
Information Age products 89
Information Age firms vs. Industrial Age firms 91
Increasing returns 94
Finances in the New Economy 95
Elasticity, an important concept 96
Productivity 97
Transaction costs 98
Expected value and risk 99


Why we need economic insights—the early 2000's

The American economy in the early years of the 21st century showed how complex economics can be. In the 1990's the economy had been strong. There had been high employment, low inflation, a rising stock market, and strong national economic growth. When the (George W.) Bush administration took over in 2001, things seemed to go awry. The stock market fell severely, unemployment rose, and growth slowed severely. Inflation stayed low, low enough to almost cause deflation, a condition that can be very damaging.
This economic reversal had essentially nothing to do with the change in administration, but rather resulted from economic dynamics already in place. The rise in stock values during the latter half of the 1990's had been excessive. People felt relatively rich, so they bought extravagantly and saved little. They did not need to save, for the values of their real and financial assets had been rising rapidly with the housing and stock markets, and jobs were plentiful.
When the financial bubble burst in 2000 and 2001, net worth suddenly fell. Consequently spending was reduced, and that lead toward recession.
The Bush administration tried to restart the economy. In 2001 the government was still running a surplus, so a tax cut seemed a good idea. The tax cut would let workers spend more, helping gross domestic product grow. But a tax cut would also reduce the government surplus. Meanwhile spending for defense and home security after 9/11 increased, eroding the surplus. Soon there were government deficits instead of surpluses. Deficits lead to a larger federal debt and therefore to higher interest payments. The higher interest payments lead to larger deficits. Thus lower taxes do not seem a foolproof solution to a recession.
If tax cuts aren’t the answer perhaps lower interest rates are. Lower interest rates encourage businesses to invest in new plant and equipment, leading to more jobs and a boost to the economy. But in the early 2000's interest rates were already low. They were low because the economy was weak and when the economy is weak corporations do not borrow money to increase capacity. Thus even lower interest rates did not raise business investment. Monetary policy (the Fed lowering interest rates) seemed no more effective in helping the economy than did tax policy.
Even if business investment stayed low surely consumers would buy things if interest rates were low enough. In the early 2000's consumers did indeed buy. They bought lots of cars at zero interest rates. But that added to consumer debt, for even at zero interest there is still a new loan when buying a $25,000 car. That is, private debt increased. Furthermore a glut of sudden buying could lower demand (for cars say) two or three years later.
Similarly, housing purchases increased when interest rates fell, as monthly payments became lower. But house buying again means more private debt. Just about the time the federal surplus was turning to a deficit, private household savings also turned negative. Private savings had averaged about plus 2 percent of GDP from 1960 to 1996, but were minus 6 percent by year 2000.[1] The government and the private sector were going into debt together. This larger national debt meant more would be spent paying interest costs, a significant part of which goes to foreign lenders. Foreigners spend less on US goods than Americans do and that means fewer US jobs.
Another dynamic occurred at the same time. Housing prices had risen steeply by the early 2000’s. Rising personal wealth and low interest costs had made housing seem affordable and prices were bid upward. In 2002 one major newspaper headlined, "When will the real estate market crash?"[2] The article stated that house prices had recently gone up by 40 percent. Meanwhile inflation was almost negligible. If the housing bubble were to burst the falling house prices might lead to deflation, a real concern during that period. Deflation leads to falling wages while debts remain fixed. People then feel less wealthy, and reduce spending. That hurts the economy.
Again, lowering the interest rates did not necessarily seem better policy than lowering taxes. Slight wonder the Bush administration was having trouble fixing the economy: The normal policy tools did not seem to work.
The government could certainly help the economy in the short term by spending more on government purchases, by increasing defense spending for example, or by building roads and bridges. Such expenditures create jobs. But they also lead to more deficits. The nation accumulates yet more debt. A nation in excessive debt has difficulty regenerating growth.
The message that should be taken from these dynamics is that “The Economy” is complex. Simple answers such as "reduce taxes to help the economy", or "lower interest rates to help the economy", or "increase government spending to fix the economy", are too simplistic. Almost any policy change has feedbacks that counteract the policy intention. A person discussing the economy needs to become aware of these feedback dynamics. The following memos are meant to generate such awareness for investors, executives, and interested consumers.
[1] For example, see The Economist, January 26th 2002, pages 22-24.
[2] San Francisco Examiner, July 5, 2002

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