Special Shortened Notes

CHAPTER 1 : INTERDEPENDANCE OF MAJOR SECTORS, MARKETS AND FLOWS IN THE ECONOMY. 1. A STOCK:Has no Time dimension: at a moment. can only be measured at a moment,no time period,2. still picture of economy:eg water in a dam –"the level of".variables other than stocks and flows exist. 3. A FLOW: Has a time dimension,over a period of time –the period concerned must allways be specified. eg:water flowing out of a dam-"flowing in/out"4. RELATIONSHIP? between stocks and flows.:Stocks can only change as a result of flows. eg : Investment flow change capital stock. Population stock changes from birth/death flow. 5. Prices are ratios between different flows(not stocks). 6. RATIO between two stocks or two flows have no time dimension.

7. 8. 9.

RATIO between a stock and a flow or vis.versa do HAVE a time dimension Failureto distinguish between stocks and flows can have faulty reasoning and analysis consequenses. STOCKS 1-wealth 2-assets 3-liabilities 4-capital 5-population 6-balance in savings account

'increasing wealth' 'paying for assets' (??not direct??) direct direct direct

FLOWS over period:income over period:profit over period:loss over period:investment over period:no.of births /deaths over period:Saving(differencespend/earn) over period:demand for labour over period:gold sales /gold production

7-unemployment direct 8-gold reserves held by RSA reserve direct bank 10-stock inventory direct production 3.1 p46 THE 3 MAJOR FLOWS IN THE ECONOMY: Production ,Income and Spending.

IN MIXED ECONOMY: FOR THE DIAGRAM: "The 3 Major Flows in the Economy" -Production –generates- Income(from various FOP only) –generates (used to(partly) spend on)- Spending-Buys/pays for Production

Spendi ng

1. 2. 3. 4. 5.

6. 7.

gg gg

Producti on

Income

In the mixed economy. Production ,income and spending are flows. Productions aim is to use/consume raw or other products to satisfy human wants. the sole aim and purpose of production is consumption-adam smith.Production creates income earned in production process by the various factors of production.ie:distribution of income. Total spending in economy is the total spending of 4 major(or 5) major participants in economy. VARIOUS sectors of economy: 4+1=5 major types :

7.1.

Households,Firms,Government,Foreign sector, + is 5th (if include to 5)Financial sector: all participate in the sequence of production /income /spending and all also contribute to each of the major flows of economy: (incl.towards production) 8. The other important economic activity that links the various sectors of economy is : Exchange (apart from—not incl. production/income/ spending ,exchange is another link between –ie relations in economic/between the economic sectors. 8.1. usually occours in markets 8.2. The fundamental markets in the economy are: 8.2.1. Goods and services market 8.2.2. Factors of production market.(fop market)labour/raw materials/entrepeneurial/capital. 9. Income is actually the remuneration/reward for application of the factors of production.

1

3.2 p47 The Interdependance between Households and Firms. 1. 2.

2 Major sectors of economy are :Households and Firms, of: 5 Major Sectors of economy2.1. households 2.2. firms 2.3. government 2.4. foreign sector 2.5. financial sector HOUSEHOLDS

1. Households:all the individuals who live together and make joint economic decisions,or others make for them./individuals,consumers/interchangably used terms. 1.1. joint income+1.2. primitive times no Gov,foreign sector,firms etc 1.3. members are consumers-consumption 1.4. Are the basic units in an economic system 1.5. Own the FOP and sell these factors to Firms,receive income and buy consumer goods +services,consumed to satisfy human wants/needs. 2. In mixed economy-Households own most FOP/own labour/own capital goods/eg;anglo american-owned by shareholders. CONSUMERS: 3. Total consumption Expenditure(or aggregate C.E)=total consumption /spending in economy(on consumer goods and services by households). 3.1. Symbol="C" 4. In market economy consumers determine what should be produced. 5. In economic analysis we assume consumers are rational-Max satisfaction for means at their disposal. 6. FOP cannot satisfy human wants directly-thus sell to firms to convert.-Income from fop flows from. FIRMS 1. Definition of firms:The unit that employs FOP to produce goods and services that are sold in the goods market. 2. Characteristics of firms: 2.1. basic productive unit in the economy 2.2. are actually artificial units 2.3. ultimately owned /operated by individuals/households-eg shareholders 2.4. Assumption is that rational-aim to max profit. 2.5. Profit=total revenue-explicit cost 2.6. "I"=capital formation or investment. (in capital goods) 2.7. purchase fop on the 'factor markets' 2.8. Decide what+/how+/+to whom distribute from 3-central questions in economics. TYPES OF FIRMS:P50 BOX Individual /Sole proprietorship 1.1. All decisions +ownership vested in single person 1.2. Main weakness unlimited liability-owner responsible all debts+liabitities of firm. 1.3. Relatively easy to form /dissolve 1.4. Suited activities require personal supervision,where: scale of operations,and financing requirements not large. 1.5. Has no separate existence from owner-assets of firm are assets of owner. 1.6. Limited liability to raise funds for expansion 1.7. eg : shops,hairdressers,farms,plumbing services. Partnerships: 1.8. Suited to all activities needing specialised abilities-benefit from specialisation. 1.9. Differs little from sole proprietorship. 1.10. Action of partners binding on other partners including unlimited liability. 1.11. Partners are joint owners of firm. 1.12. Exept for a bit better financing possibilities ,same liability +other of sole proprietorship. 1.13. eg:attorneys ,accountants,doctors,etc. Companies 1.14. Identity in eyes of law separate from owner. 1.15. Least risky form because liability usually limited to value of shares owned. 1.16. Attract better financing through eg: shares ,bonds,bank credit. 1.17. Separation of owner /mangement can create problems. 1.18. Specialists can be employed to manage firm. 1.19. Can be sometimes abused by unscrupulous people. 1.20. Significant red tape to establish. 1.20.1. TWO TYPES: PRIVATE company:

2

a. Max 50 members b. Right to transfer shares restricted c. Only must have 1 member d. (Pty)Ltd in RSA:Proprietry limited. e. eg:Alusaf (Pty Ltd),Clicks stores(Pty Ltd),Johnson tiles(Pty Ltd) 1.20.2. PUBLIC company. a. Not fewer than 50 shareholders b. Any max shareholders c. Company that wishes to raise finance through the issuing of shares thus shares easily transferable. d. Shares easily transferable e. Many listed on JSE f. eg:Anglo american,Remgro,Old Mutual,Sappi 1.21. many foreign owned or multinational companies operate in RSA eg:siemens,microsoft,shell,ibm. Close Corporations. 1.22. 1.23. 1.24. 1.25. 1.26. 1.27. 1.28.

Since 1985 RSA new type. Display cc after name ,must by law. Easier to establish than private or public companies. max 10 min 1 members. Each member "% Specified interest in close corporation." Can only dispose of interest with permission of other members. Created to afford advantages of companies without having to register as a fully fledged company under the companies act. 1.29. By 1990 more CC's than companies in RSA Other forms of Business enterprise : 1.30. 1.31. 1.32. 1.33. Market

Co-operatives(eg agriculture) Trusts Public enterprise (Gov.eg eskom,sabc) Informal sector:spaza,hawker,shebeen,subsistence farmers. Types;

Goods Market. 1.1. market for goods and services-consumers mostly buy. Factors market 1.2. 1.3. 1.4.

all factors of production markets production /producers/firms mostly buy. include labour market+capital goods market.

• Aggregation:lump all different markets into one heading,ie:in macro economics. The Circular flow of Goods and Services Diagram. Diagram which illustrates the interaction between markets and firms. Households offer FOP for sale on factor market Firms buy FOP on factor market and combine FOP and offer for sale on Goods market. Consumers /Households purchase Goods on Goods market.

SE LL U BO HT G

S Pr ER G od VI O uc CE OD O N e/ S S : c : A o N m D bi ne FO . P

FO : P

to

1. 2. 3. 4.

FIRMS

GOODS MARKET

FACTOR MARKET SA LE

O

FO P FF : ER FO

R

HOUSEHOLDS

G O SE A OD R N S (S VI D O C TO LD ES )

3

The Circular flow of Income and Spending. 1. It's direction is OPPOSITE to Goods and Service flow. 2. Usually a MONETARY flow. 3. INCOME types from FACTORS OF PRODUCTION: 3.1. Labour =Wages and Salaries 3.2. Natural resources=Rent 3.3. Capital =Interest 3.4. Entrepeneur =Profit 3.5. Profit from fop also to households income,also rent,+interest+wages. H

G

E

HOUSEHOLD S

Sp en di ng

GOODS MARKET

EN SP

IN D

FACTOR MARKET IN W CO A PR G M O ES E FI / T

I N CO M

FIRMS

Abbreviations of major Terms: I=Investment in capital goods(machines,bridges,robots etc). C=Households spending on consumer goods and services. G=Government spending on goods and services. E=foreign spending on RSA goods and services. Z=RSA spending on foreign goods and services. S = Saving S= Total Expediture= Total Expenditure on SA Goods&Services=(less imports) ANSWERS FROM LECTURER: 1. "G" represends both spending by the government and income received by those who are selling the goods. 2. Likewise, "C" represends both like you put it.(.spending flow or goods flow or income origin flow for sellers) 3. For Investment (I) It is the same as above.(spending flow or goods flow or income origin flow for sellers of capilal goods) 4. It is once again the same,(for both,"T" for People Spending tax or Government receiving tax or both ) 5. They are for both."E" and "Z" are for 'spending' and 'goods flowing" 3.3 pg 52 Introducing the Government:

4

Central gov. all gov. depts also CSIR,SABS, universties

general government: incl.provincial gov.=9 provinces admin+local gov=muncipalities+district councils

Public sector= pubic corporations-eskom,transnet,sabc,rand water,post office,armscor, (can be regarded as firms for purposes of our flow diagrams) +all of other government parts=ALL OF

1. 2. 3. 4. 5. 6.

7. 8. 9.

Government :includes local,regional or provincial,+national gov.////Incl:polititians ,civil servants,muncipal,mayors,etc, also public corporations eg:Escom/Transnet/SA Reserve Bank. Gov. employees are only Gov. in official capacities,privately they are households. Public Sector :in economics refer to public sector- means government +everything owned by, as representative of the people. Government is not assumed to ,DOES NOT ACT RATIONALY,like firms,1-political party strategies vary and -2- individual politicians can be biased by personal factors(eg re-election-short term benefit bias) Primary function of government in economy-establish framework within which economy operates. Secondary functions of Gov.:INVOLVES 3 important FLOWS: a. "G" =government spending on Goods and services &Factors of production(mostly labour). b. "T' =Taxes levied on households+firms,-used to finance services eg roads,defense. c. Transfer payments :from wealthy to poor eg:pensions.(DOES NOT AFFECT OVERALL SIZE OF INCOME/EXPENDITURE/PRODUCTION FLOWS-like taxes and "G" do so no "abbreviation" given for 'economic workings outs'. Gov. provides services eg:defense,roads,dams,health services in return for Goods+ services &FOP purchased ,financed mainly by taxes. Transfer payments :Do not affect overall size of income/expenditure/production flows-like "T"taxes and "G" do so no "abbreviation" given for 'economic workings outs'. Government Spending on FOP and Goods +Services = injection into the flow of spending +income

5

10. Taxes are a leakage/withdrawal from circular flow of income between households + firms.

Figure 1 Government in the circular flow of production,income +spending

(goods and services)

(goods and services)

3.4 Introducing the Foreign Sector. THE FORIEIGN SECTOR IN THE CIRCULAR FLOW OF iNCOME AND SPENDING. Payment for imports (leakage) Firms Foreign sector

spending and income Households payments for exports injection

1. 2.

spending and income

4th major sector-foreign sector-consists of rest of world +international fin.istitutions governing flow of funds and goods & services between countries. 2 broad categories:developing countries+industrial countries A. industrial countries: europe mostly-germany,italy,france,USA,Australia B. developing countries:africa/asia etc-most south american +RSA=middle income,most poorestafrica-worstsierra leone,burundi,ethiopia

6

3.

World bank classifies its members into 4 groups(levels of income):low income,lower middleincome,upper middle income,high income. 4. Industrial=all high income,Developing=all re 5. 'Open Economy'-strong links with rest of world-exp/imp/multinationals. 6. 'globalisation'-recent yearst middle/lows economic links between countries grown stronger. i. economic/or political development can result in massive flows of funds between countries. ii. many firms tend to look at whole world as market for their goods iii. become very easy to shift funds between countries iv. global village where firms from different parts of world must compete with each other. 7. A countries economic links with rest of world are often crucial determinants of level and pace of economic activity in the domestic economy. 8. "Z" = Imports –rsa mainly capital &intermediate goods 9. "E"= Exports-rsa mainly gold & minerals 10. For exports the 'Spending ' originates in rest of world.-thus constitute an 'injection' into circular flow of income =spending in domestic economy. 11. For imports 'spending' originates local, constitutes leakage from circ. flow inc.+spend. 12. Flow of income +spending is also in opposite direction to FOP and Goods +Services. 13. Most important international economic orgaisations:International Monetary Fund,World Bank,World Trade Organisation. 14. Rsa most important trade partners =industrial countries=60%exports,66% imports----Africa to rsa=3% imports,18% exports Financial Institutions in the circular flow of income andspending.3.5t Diagram: FINANCIAL INSTITUTIONS IN THE CIRCULAR FLOW OF INCOME AND SPENDING.

FIRMS saving

jjjjjjjjjjjjjjjjjjj . j Spending and Income

Investment Spending and Income

FINANCIAL SECTOR Saving 1.

Financial Institutions:include Banks,insurance companies,pension funds(Iscor/Mine employees pe..)JSE securites exchange. HOUSEHOLDS 2. Financial Institutions act as links between households +firms with surplus funds and households and firms which require funds. 3. Main function of financial sector:channel /act as funnel for savings to flow to investment spending. 4. Units(firms/or households) can be classified as; i. Surplus Units-those in a position to save because spending less than income ii. Deficit Units -those require funds spending more than income 5. "S" = Saving 6. "S" =To Save:means decision not to consume for households (defined as the act of not consuming)firms can also save by not spending all their income. 7. Saving means a leakage/withdrawal from the circular flow of inc.+spend. 8. Savings channeled to financial instituions-households do save some of income-,(savings deposits)become available to deficit units to expand production capacity.(capital goods) called : 9. :Investment : which is a addition or injection into circular flow of inc.+spend. 10. Linkage in economics between expansion of the production capacity(investment) and the decision to refrain from spending on consumer goods(saving) Total Production,Income,Spending-Revisited 1. 2. 3.

Aggregate /Total producton=all prod in economy Aggregate /Total Income = Rent-nat.resources + Interest-Capital + wages-labour + profit-entrepeneur Aggregate/Total Spending= by 4 major sectors in economy=1-households-2-firms-3-government-4-foreigners where(if one is trying to work out spending on (SA GOODS AND SERVICES) = spending on {SA GOODS AND SERVICES Only}= E-Z = (spending by foreigners on rsa (E)Exports MINUS spending by rsa consumers on (Z)Imports 4. Total Expenditure = C+I+G+ (X-Z) 5. (T)Taxes and (S)Savings and (Z)Imports represent = Leakages or Withdrawals. Abbreviations of major Terms: I=Investment in capital goods(machines,bridges,robots etc). C=Households spending on consumer goods and services.

7

G=Government spending on goods and services. E=foreign spending on RSA goods and services. Z=RSA spending on foreign goods and services. S = Saving S= Total Expediture= Total Expenditure on SA Goods&Services=(less imports) THE MAJOR ELEMENTS OF THE CIRCULAR FLOW OF INCOME AND SPENDING C,S,T,Z=LEAKAGES

and

I,G,X=INJECTIONS

Z

FIRMS C

Foreign Sector

C

I

FINANCIAL SECTOR S

X

G

HOUSEHOLDS

Governmen t

C

T

8

SPECIAL SHORTENED NOTES: CHAPTER 2:MEASURING THE PERFORMANCE OF THE ECONOMY. 5 Macroeconomic Objectives used to Judge the Performance of the Economy i. Economic Growth>most important one,to grow empl.&liveStandards,econ. must grow,eg:pop.incr ii. Full Employment >need econ.growth to fill up, iii. Price Stability >inflation-not prices-see normalo supply&demand iv. Balance of Payments Stability (or External Stability)>&foreign exchange rate v. Equitable Distribution of Income. more normative less positive,social +political threat security 1. Definition: GDP (or GVA-value added)(gross domestic product) is :The total value of all final goods and services produced within the borders of a specific country in a particular period. 2. 3 aspects of defininition:geographical,Gross-depreciation,over period-flow+only from current time #1:ECONOMIC GROWTH:MACROECONOMIC OBJECTIVE 3 SETS of PRICES that can be used to calculate GDP = PRICES TYPE USED USED FOR CALCULATING : a. Market Prices Expenditure method(Final goods ) Final goods Tax&Subs./Unit good or service.TxVat,imp+ exp. Subsidy for exports/Domestic for bread b. Basic Prices Production method(val.add) Val. added Other Tax&Subs NOT /Unit goods/service eg:Tax-payroll,land tx,buldings,licence firm. :Subsidies-on employment or payroll c. Factor Cost Income method(factor cost) Factor cost fop At different price levels: 1. TERM GDP at Current prices

2.

DIFFERENCE Changeability Subsidies & LESS this = Basic Indirect Taxes on Prices products OTHER taxes & subsidies on products

LESS this = Factor Prices

+"Other"=bas

= Nominal GDP:expressed at current years price levels/not converted

TERM GDP at Constant prices = Real GDP eg1995 SUMMARY of national accounting totals

:use a BASE years prices,convert others to that years : inflation

1.

GDE=C+I+G a. C-largest amount,in Nat.Accounts subdivided into Non-durable,semi durable,durable. b. I-Most volatile.Called Gross capital formation incl. Gov. capital goods invest. i. consists of:Gross Fixed capital formation-'I' buy+Changes in Inventories-last years+,not sold c. G-final consumption exp. by Gov.-does not include Investment /capital. (TERM Residual value difference 3 methods calc GDP) = GDE -------------------------------a. X-exports added b. Z-imports subtracted =GDP at market prices --------------------------------- primary income payments +primary income receipts =GNI (GNIncome) at market prices (TERM:NET primary income pay.OR rec.=larger minus smaller (name =larger)) #2 FULL EMPLOYMENT :MACROECONOMIC OBJECTIVE. Measuring Employment and Unemployment. 1. Employment&Unemployment :In principle easy to measure:1-No. of able workers-2-No. of employees;BUT Quite difficult to measure in practice:;part-time,seasonal;criminal prostitutes,drugseller,Hawkers/informal,+Those not seeking work etc. #3MACROECONOMIC OBJECTIVE:STABLE PRICES:Measuring Prices,the Consumer Price Index.(purchasing power is not index,but base/price*numberof goods ,index is price /base :ie visa versa)

1. 2. 3.

TERM CPI Consumer Price Index:eg:127%is an index of the prices of a representative "basket " of consumer goods and services: it thus represents the cost of the shopping basket of goods & services of a typical RSA household.price (index=price/base price=eg127%).*100/1=% of base price Inflation rate ={ cpi 2002 – cpi 2001 / cpi 2001 * 100 } TO construct the CPI ,Stats SA must :

9

a.

Select the "goods and services" to be included in the "Shopping Basket." : ..To select-Stats SA does survey of household every 5 years. b. Determine Weight of each good/sevice: ..Stats SA does a survey 5 yrly to determine relative importance in Av. Consumers Basket.(how much of each do they use?) c. Decide on a BASE YEAR for calculating CPI : ..Base year is year in which the Survey(5 yearly) is done d. Decide on FORMULA for calculating CPI ..Standard price index formula used,Weight of item decides it's effect on CPI, e. Collect prices each month to calculate CPI. A_....RSA 1500 different goods&services,in -1- 40 groups/subgroups,for which a CPI is calculated for each one -2- 5 expenditure groups,pensioners,9 provinces+14 major urban areas.+metro+other urban areas+rural B_Prices are collected by questionaire sent to 2200 retailers-110 000 quotations per month and info. double checked.,Prices base on first 7 days of month. #4 MACROECONOMIC OBJECTIVE: Balance of Payments

1. a. b. 2. 3. 4. 5. 6.

Balance of payments consists of 2 major accounts: Current account:Prt ofbalance of payments account,Exports,Imports+Primary Income Pay&Rec. Financial account:Account of country of all flows of money into and out of countrybonds,shares TERM :Surplus on Current account:Exports exceeded Imports TERM :Deficit on Current account:Imports exceeded Exports. TERM :Surplus on Financial account:(also –NET INFLOW of Capital):In exceed Out TERM :Deficit on Financial account:(also –NET OUTFLOW of Capital): Out exceed Inflows

TERM :Change in the Countries Gold and Foreign Exchange Reserves:current+financial accounts added.the result serves as the balancing item on the balance of payments. #4 MACROECONOMIC OBJECTIVE:Equality in Distribution of Income: 3 Methods of Measuring Inequality. 1.

LORENZ CURVE: Term A Lorenz Curve is a simple graphic device which illustrates the degree of inequality in dist. of income.(or any other variable)-named after american statistician developed it 1905. Number of Each Cumulative Population Income Population Income Poorest 20% 3 % 20 % 3% Next 20% 7% 40 % 10 % Next 20% 15 % 60 % 25 % Next 20% 25 % 80 % 50 % RICHEST 50 % 100 % 100 % 20% 2. GINI COEFFICIENT:(OR RATIO) TERM Gini coefficient or ratio =area of inequality /divided by/ area of triangle [axes-diagonal]. 3. QUANTILE RATIO: TERM Quantile Ratio is [the % income of Highest 20%] divided by [% income of Lowest 20%]

10

CHAPTER 3 : THE MONETARY SECTOR.(MACROECONOMICS) The Functions of Money:

1.

TERM:Definition of Money:Money is any thing that is generally accepted for payment for goods and services or in settlement of debt. 1-Money as a meduium of exchange:

2. 3. 4. 5.

TERM Barter economy :is characterised by numerous unneccessary exchange transactions. causes problem of double coincidence of wants.TERM Double coincidence of wants=is if both parties DO want opposite persons goods-not where one must first exchange for something else at another person,ie:you want others shoes,you got shirts,but shoe guy wants pants.so you go look for pants to change for your shirts first.,then go get the shoes with that. TERM Monetary Economy:money used as a intermediatry or lubricant.

TERM medium of exchange –ONLY function of money unique to money&most basic function of 2- Money as a unit of account:

1.

An agreed/common unit of comparison of the cost of goods,anything can be a unit of account.2nd in importance to no1 -exchange med- above.,Inflation can cause it to loose usefulness as unit of comparison a bit in terms of 'Real' values. 3-Money as a Store of Value: 1. Standard of deferred payment(and interest),and 2. means whereby credit is granted. What Money is Not: 1.

Money is NOT : 1-Wealth(=assets,+ money) or 2-Income,Is not a Flow,is a Stock which can finance a much larger flow of income. Different Kinds of Money.

1.

QUALITIES OF MONEY :Uniformity,durability,divisability,ability to be carried. A cheque ,debit or credit cards or electronic transfers ARE Transfer methods NOT MONEY-the deposit is,and a credit card is in addition1 a means of getting short term loan AND 2method transfer. Money in RSA. 2.

1) Economists interested in store of value function of money:3 measures of money by SARB:M1,2,3

11

TERM 1-Coventional measure:M1

1)

M=C+D (Money quantity =Cash+demand deposits with monetary sector :only of domestic private sector-( see :cheques etc accepted as payment.) 2) TERM :Demand deposits =91% of m 1 money in SA,refer to deposits can be withdrawn immediately. TERM 2-M2 1) M2 =M1+all other short term and medium term deposits of the domestic private sector with monetary institutions(more than 1.5 times m1 in SA) Short term=less than 30 days ,Medium term=less than 6 months.can only withdraw sooner at a cost=Quasi money =nearly TERM 3-M3 1) M3 =M2 + all long term deposits of the domestic private sector with monetary institutions.-maturity value longer than 6 months. 2) Most comprehensive measure of money.,also regarded as most reliable indicator. 3) Emphasis is more on store of value function as we move from m1-m2-m3,m3 most store function. Financial Intermediaries.

1) 2) 3) 4)

Term Financial intermediaries main function is : to act as an intermediary between surplus units and deficit units in the monetary economy. TERMIndirect/Direct Financing:Indirect-through financial intermediatry/Direct –person to person TERM Financial Transactions :Distinguished from real transactions by fact no goods/other services involved. (distinction between 2 divides economy into real and financial sector) TERM Real transactions :All transactions where goods and services are involved.(divides fin/real)

5)

7) 8)

6) When the government borrows money, it uses treasury bills and government stock or bonds as security.

TERM Security or Credit instrument issued. In exchange for funds, a piece of paper issued,this document stipulates the interest rate at which funds are loaned as well as when and how the loan is to be repaid. Examples of credit instruments are bills of exchange, promissory notes, and bankers' acceptances. Government uses treasury bills and gov.stocks and bonds. 9) Financial intermediatries includes:Insurers,pension funds,banks,unit trusts,finance companies,SARB. 10) TERM Interest is amount borrower must pay lender for use of funds concerned.

11) Banks can create money by granting overdrafts which is M1 money class.=D (of C+D=M1),and banks can do this because need only keep % of deposits in reserve bank ,so can lend rest out. It usually refers to the stock of cash (notes and coins) and includes the cash in the hands of the non-banking public, vault cash of banks and cash deposits with the Reserve Bank

12) TERM monetary base Also known as high-powered money.

THE SOUTH AFRICAN RESERVE BANK.

1)

SARB t,primary goal in the South African economic system as "The achievement and maintenance of financial stability". 2) TERM Monetary Policy-Definition:the measures taken by the monetary authorities to influence the 1--1-Quantity of money or -2- Rate of interest to : a) ..To achieve:-1- Stable prices -2- Full employment -3- Economic growth.(mis 1diff.earnings/2For.ex.

12

3) 5 main functions of SARB 1) Issuing banknotes and coins Sole right in SA Bank purchases assets(gold etc) to get cash in general circulation

a) b) c) d) Acting

Acting as banker for other banks + clearing bank + lender of last resort Acting as banker for the government. Acting as custodian of countries gold and other foreign reserves. formulating and implementing monetary policy. eg currently price stability main one in SA as banker for other banks

1) SARB holds minimum cash reserves for banks that they are required to hold. 2) TERM clearing bank :Acts as for banks by meeting the claims and obligations of banks by using their reserves.

3) 4) 5)

TERM lender of last resort :to banks.(if banks need funds over and above that obtainable otherwise :eg from other banks.) financing of fin.inst. changed alot since 1990's-first rediscounting of assets+overnight loans,then:

TERM :(REPO)Repurchase tender system-Interest rate of SARB to Banks,(also how much is lent per time can be controlled) The Supply of Money.

2)

For this we assume:M1=m=c+d,only banks hold demand deposits& a central bank controls banks.

Banks: in the money creation process.(role in supply) 123-

Money is created by banks and not printing presses because accept surplas,lend to deficit Only institutions allowed accept deposit from public, Banks activities regulated by Act,Monitored by SARBank. The most notable feature of banks is able write a cheque to draw against account,or transfer on demand,therefore it they be treated as money.-very convenient so little interest paid. 4- MONEY / Demand deposits can be created in tho ways: a. Deposit=(^='change in') ^M=^C+^D so = -C1000+D1000=M0 b. Overdraft facilities. ^M=^C+^D so = C0 +D1000=M1000 -bank created credit 2-Reserve Asset position and Credit Multiplier:

1. 2.

TERM :Cash reserves : IN SA 2.5% of Total Liabilities WITH RESERVE BANK at 0 interest ;amount banks experience know have pay TERM CREDIT multiplier:=formula is 1/b R=D a. b = % of deposits banks must keep in 'reserve bank' in RSA = 2.5% b. R = b* D ( D = amount of a demand deposit invested in bank)

c.

(deposit M=C+D) d. (In RSA 1/b is 40) : e. If a bank increases the reserve it keeps at the reserve bank(R) ,by multiplying that ammount by the Cred. Multipl. you get the eventual amount of bank deposits , (D) ,that can be created by that increasing the 'cash reserve'. f. ALSO: If someone deposits money in a bank,you can ALSO call that amount "R" , and by multiplying that amount by the Cred. Multipl. you get the eventual amount of bank deposits,including the original one ,that can be created by that deposit eventually.This works like that because only a certain percentage of each deposit can be lent out to someone ,the rest must be banked by law in the reserve bank.Now if a bank lends a % out of every deposit they receive ,those who lent this money pay others who re-deposit that amount with other banks,which continues the cycle until no more bank deposits can be created from one original deposit. 3. TERM:Classical cash reserve system :where gov. does control economy by changing the rate to be held in reserve bank.TodayNot BUT Under the present system the money supply process in SA is a function of demand for credit ,and this is determined by the level of the interest rate of banks lending out money,and not by the amount of credit banks are able and willing to extend. This reduces gov.control over size of money supply(reserve rate wont affect)

Definition: Repo rate :defined as the sale of an existing security at an agreed price with an agreement by he seller to purchase back the same security on a specified future date -7 days normally-at the same price p;us an agreed interest rate. 3 :5 total different FACTORS influencing the Supply of Money

1) 1-banks lending out deposits2) interest rates-cause people to make use of bank system or not 1. 3-Foreign trade exports/ BRINGs money into/increases supply of money in country,and 2. 4-imports reduce it 13

3. 4.

a. A countries money supply increase when gold & foreign reserves increase and decrease visa versa. 5-Gov. spending increases supply of money by reducing amount of

6-taxes,which take money out of suppy,being kept in the ARB -TERM inflationary financing:Gov. lending from reserve bank can cause inflation to rise. EXTRA BOX:Bonds,the Bond market and Capital.

1.

TERM A BOND is a Financial Instrument that promises the issuer (the borrower)will regularly pay the holder(lender) Interest and will repay the capital amount on a certain date.eg:Gov. issues bonds to finance its expenditure.The features in a bond are. a. The Principle:The amount the issuer will repay the bondholder when bond expires.

b. c.

The Maturity Date:the expiry date-must pay all date.

The Coupon rate:Interest at annual rate.-usually fixed rate,and dates the interest must be paid are also specified. 2. Bonds can be traded/sold : eg. on Bond exchange of JSE called Bond Exchange of SA. Bond market forms part of capital market which is a market for long term financial instruments. 3. On capital Market 4 main types of long term financial instruments are traded. a. Fixed-Interest-Bearing Securities (or bonds). b. Variable Interest Securities c. Shares d. Negotiable Documents. 4. Interest rates determined in capital market (eg on gov. bonds with different maturities) are long term rates and determined by market forces of supply and demand. 5. TERM Perpetuity:a special kind of bond where no maturity date is set-only a fixed amount of money is set to be paid each year as interest and buyer makes no promise to buy it back. 6. The most important relationship in the market for interest bearing securities is the inverse relationship between the price of bonds and the interest rates on them.bond prices high when interst rates low and visa versa-is inverse reationship. The Demand for Money. 1. Holders of wealth must decide in which form to keep:eg financial assets,land ,art,antiques 2. TERM demand for money is: the amount holders of wealth decide to hold as money balances.

3.

TERM Financial assets: there are 2 types a. Bonds(interest bearing assets) b. money 4. TERM Fixed property:Means real estate. 5. :The Opportunity Cost of holding any money balance is the actual interest that could have been earned had the money been used to purchase bonds instead. 6. TERM Liquidity Preference :The Reasons for holding money instead of bonds are :ByKeynes in30's

a. b. c.

7. 8. 9.

TERM :Transactions motive:for paying for goods,wages weekly so hold money between,the more money you earn,more need to pay for –so transactions need for money is function of national income. TERM :transactions demand : Precautionary Motive:for emergencies,also function of national income.

TERM store of value demand : Speculative Motive:-keynes most important add to monetary economics.If Interest rates high then opportunity cost is high for money so people have less demand for money for spec. purposes and rather invest it in bonds.Also there is a negative /inverse relationship between qty money Demanded for speculation and interest rates. TERM Active Balance: for 1-transactions or 2-precautionary motive.-main determinant-Income TERM Passive(or idle) Balance : for speculative motive. –main determinant-Interest rate

Equation for demand for money: L=f(Yi) L-Liquidity preference/Y-National Income/i-Interest Rate 10. Graph of DEMAND FOR MONEY: a. Active balance Curve:=f(Y) Income controlling factor:Vertical line,shift right income increase/visaversa.

b.

Passive balance Curve:=f(i) negative slope reflects inverse relationship between interest rate and Qty demanded of money. ie:cash held with purpose of investing if rates are high enough will=0.At certain interest (i1)rate no funds will be demanded for spec.purposes.(i1)(this should be on diagram where curve meets vertical line and interest is highest . c. The Joint or total money demand curve or Total Liquidity Preference graph(same as passive graph but label curve "L= L1+L2" ( is merely the horizontal addition of the two other graphs/is made up of the other two graphs) i. The negative slope reflects inverse relationship between interest rate and Qty Demanded- for speculation purposes ie:cash held with purpose of investing if rates are high enough will=0 ii. The position of curve:affected mainly by demand for active balances.-from income level.Increase in Income levels will shift LL curve to right,decrease LL to left.

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iii. See pg 370 textbook for diagrams.

For the Horizontal axis:label is "Qty. of money demanded"/For vertical:Interest rate. Equilibrium in the Money Market

1.

TERM:Demand-Determined money supply.: That there is no independant money supply curve,but the money supply(or Qty. of money) is determined by the demand for money(due to 'transaction' and 'precaution' reasons) and the interest rate(cost of credit). 2. This approach differs from traditional explanantion of equilibrium in money market,which was based on assumption that authorities can control the supply of money-ie that there is an independant money supply curve. 3. According to this approach, the money supply is determined by the interaction of the demand for money and the interest rate,because it is not possible to determine a suooly curve for money due to the miney creation process being too complex. 4. The interest rate in return is determined mainly by the monetary authorities,by means of the Repo rate . 5. LL represents the demand for money curve which indicates the quantity of money demanded at various interest rate levels. If the monetary authorities set the interest rate (for instance through accommodation policies) at i2 the quantity of money demand is L1. Since the supply of money is determined by the demand for it, the money supply is M1 which is equal to L1. At a lower interest rate of i1, both the quantity of money demanded and supplied increases to L2 and M2. There is no independent money supply curve since the money supply depends on the demand for money and the cost of credit THE MONEY MARKET: The supply of money is determined by the interaction of interest rate and demand for money.see up(5)

Simulaneous control over the supply of money andthe Interest Rate-Authority Controlling Supply 1.

The above/todays approach differs from traditional explanantion of equilibrium in money market,which was based on assumption that authorities can control the supply of money-ie that there is an independant money supply curve. 2. But-if authority sets interest rate at certain level by adjusting REPO rate,then they loose control of the money supply because it will now be determined by the Interest rate only. 3. The traditional approach was:see diagram page 372 text if money supply curve mm(vertical line) is increased it shifts right ,then interest rates will fall(see new intercept).and visa versa. The Instruments of Monetary Policy. • •

In Rsa a high priority is currently given to market orientated policy instruments. The MARKET ORIENTATED Key Instruments of Monetary Policy are: 1. Accomodation policy. 2. Open market policy. 3. Public Debt management 4. Intervention in foreign exchange markets.

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•

Other NON-MARKET RELATED Instruments of Monetary policy are: 1. Credit ceilings 2. Deposit rate control(DISCONTINUED IN rsa) • Other types unclassified; 1. Changes in terms of HP agreements. 2. Changes in exchange control regulations. 3. Also Moral suasion is used;SARB can influence banks by consulting with them. 1-Accomodation policy.

1. 2.

TERM:Accomodation policy of SARB :mainly comprises changes in repo rate and other conditions on which cash is made available to banks.Changes in repo rate cause changes in cost of credit to banking public,thus can control the supply of money in economy. If banks short cash-they can a. Change other fin.assets to cash b. borrow on interbank market. c. If none above possible-can obtain funds from SARB as "lender of last resort" by Repo agrmnts.

3.

TERM:Repo Agreement or repurchase agreements:the sale of an existing security (financial asset) at an agreed price,coupled with an agreement by the seller to purchase back the same security at the same price,and including an agreed amount of interest as cost of obtaining funds also specified on agreement,on a specified date(usually in 7 days time). .The underlying securities which may be used for this purpose are :Gov.bonds,Land bank/treasury bills,reserve bank debentures.(first leg is flow 1 way,second leg is flow other way) 4. Introduced 1998,repurchse agreement between SARB and it's banking clients, . 5. Repos are at present the main source of funds for banks as a measure of last resort-thus control. Open market policy.

1.

2.

TERM Open Market Policy is where the SARB sells or buys domestic financial assets(mainly Gov. Bonds or Treasury bills) in order to exert a specific influence on interest rates and the Quantity. of money. a. SARB- buy from banks at low prices (to force 'buy') and debit /increase their cash reserve in payment ,thus allowing banks to create more money by lending out or ,visa versa SARB sells domestic financial assets to banks to in turn decrease the amount of money they can use to create a supply of money by lending out ... b. There is an inverse relationship been prices of such securities and the Yield/Interest that can be earned on them,so ,if high prices of purchase,then yield is lower and visa versa etc,thus banks must sell low to be able to get buyers or visa versa to get sellers. ...Thus if banks buy at high prices,they will send interest rates up,and if sell at low prices they will send interest rates down,sothis can also be used to support the accomodation policy of the SARB, c. ...in RSA this is used to :Sell cheap bonds ,to cause banks to use Repo system,to make accomodation policy of SA more effective. TERM domestic financial assets: treasury bills and government bonds ,or land bank bills or municipal stock etc.

3. Public Debt management • Market-orientated Intervention in foreign exchange markets. •

Market-orientated

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CHAPTER 4-PUBLIC SECTOR Role of Government in the Economy : An Overview: 1-Role of Government in the Economy : An Overview: 16.1p384 •

1.

The 'Public sector' in SA consists of: o 'General Government'  Central Gov.-defence,foreign affairs  Provincial Gov-housing,health services,education(TEPD)  Local Gov-muncipal-sewerage etc o Public Corporations-escom,transnet,

TERM Market system :"invisible hand"coordinates millions-Efficient system-ie:"Free market system' of economy type allocates resources in best possible way.But not necessarily Equity 2. equity or fairness / and efficient -market system is money votes count only-problem. 3. Reasons for Gov. Intervention in Economy: a. Non-efficiency-Market failure ,if system sometimes fails. b. Non-equitable –(fairness eg: income ,poverty) outcomes.-but can be trade off with efficiency. c. Provide recognise property rights,contract law,law an order,services-water+lights etc. 4. Reasons for Non-intervention- market forces are seen as being better solvewhat,how,for whom -2-Fiscal Policy and the Budget.

1.

Term Fiscal Policy: Government policy on level and composition of government spending,taxation and borrowing.(from fiscus-roman treasury) 2. Main Instrument OF gov policy :Budget 3. The Fiscal Variables are : a. (G) = Gov. Spending and b. (T) = Taxation. 4. Budget speech parliment,feb for april end yr.,one most important events in economic calendar.

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5.

Fiscal policy/The Budget can be used to address influence: a. The 5 Economic Major Objectives(where monetary policy only 3 of) :Economic Growth-Total Prdctn b. Distribution of Income c. Balance of payment problems d. Price level-Inflation e. Full Employment i. AND ALSO BASICLY :Total Spending ii. Income-(Y) iii. Employment 6. .Term Demand management:an instrument of Fiscal policy is classified as an instrument of Demand management because it is an effective means of influencing Total Spending in the economy.Monetary policy is also such.(Definition: can be used to manage/regulate the total demand for goods and services in the economy.) 7. TERM Expansionary Fiscal &monetary policies:If economy in Recession,to stimulate economic activity-means -1-Reduce or Not increase Tax -2-Raise Spending. 8. TERM Contractionary or Retrictive Fiscal &monetary policies:If economy expanding too rapidly and -1-Inflation -2-Balance of Payments problems experienced:means Gov. must-1- Taxes Increase and/or Reduce Spending. 9. Term Lags/Delays-one of basic difficulties assosiated with attempts stabilise economy.

10.

Term Budget Deficit /Surplass:Difference between Gov. spending and Income. 11. Fiscal policy can influence microeconomics as well:specific markets/products tax,subsidy or town. -3-Government Spending-16.8p401 1. 2. 3.

4.

Gov. involvemnt in economy often measured by level spending,but many other types involvemnt too. "Crowding out effect"-when Gov.spending increases and crowds out private sector. Gov spending can be classified a. economically i. consumption spending :for final consumption = 3% ii. investment spending :investment in capital goods = 19% b. functionally:Changed from from War/Internal strife defense/policing type and economic services (mining,agriculture,exporter support) spending to social spending. Gov, spending has increased form 12% to 22% from 1960 to now.This worrisome because of how to finance this(Tax).Number other countries had similar experience.REASONS: a. Changing consumer preferences. :peoples Income went up ,then demand for Gov. services rise so gov spend more on consumption as well. (Income elasticity of gov services greater 1,so as income up ,greater % of income on service.) b. Political and other shocks. :War spending and internal strife spending on law+order.,

c. Redistribution of income.: Shift in spending to uplift previously disadvantaged peoples,majority d. Misconceptions and Entitlement.People think gov.services cheap,expect more-if politician listens then spending go up alot,not a little.

e. Population growth and Urbanisation.:housing,water+lights,sewerage,roads-infrastructure+AIDS. -4-Financing of Government Spending 16.9,p403 1) There are 3 ways of financing Gov.Spendinga) Income from Property(2% totl.)– incl.Escom,+Profit fishing,agriculture+Rent-Mining Licence fees.

b) 2) 3) 4)

Borrowing –Budget deficit. ,domesic/Intnl.capital market(gov.bonds) or Central bank.(overdraft) ..-1-Incr. Public Debt.+-2-Inflationary Financing c) Taxes Term Budget Deficit /Surplass:Difference between Gov. spending and Gov. Income .80/90's >gov.Invstmt. Future generation must pay for todays borrowing,OK for capital(=returns),not OK for consumption. Term Inflationary Financing: gov.borrowing because increases money supply.

Term Public debt: 34%90's-45% gdp:from gov.borrowing-eg 1990,increases Interest on gov debt.to 20c per R Tax today. -5-Taxation 16.10 1) Largest source Gov revenue-97% -1-Criteria for a good tax: -Adam Smith-equitable,convenient,economic,certain a) Neutrality :The cost(damage) of taxes must be kept as low as possible:but can also be used to fix i) -1-Distort Relative Prices:allocation of resources+welfare-make some things more expensive than others.Relative prices ii) -2-Disincentive to owners-FOP:eg workers(work less)+factories not produce certain.

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b)

c)

Equity:People must be taxed equally :two principles to this i) Ability to pay principle: Must pay according to ability (1) Horizontal equity-same income taxpayers to pay equally

(2) Vertical equity -Richer must pay more than poorer people. ii) Benefit principle:or User Charges-each user pay benefits they get from Gov.-eg toll rd.,h20, Administrative Simplicity:Keep costs low + easy admin (tax loopholes +complicated taxes) i) Costs: (1) Compliance costs: user pay accountant to do tax return. (2) Administration costs.: Gov.costs tax collector

2) 3) 4)

Term Tax Avoidance: legal find loopholes-cause frustration those who cannot

1) 2) 3) 4) 5) 6)

term:Direct Tax (or "Taxes on Income +Wealth"):Personal+Company+Estate Duty.

Term Tax Evasion: illegal-make +sell t-shirts on flea market,not declare taxes.

term Relative Prices:price of one good relative to another -2-Different Types of Tax: term:Indirect tax (or "taxes on Goods and Services") :on transactions :vat.,customs,excise. term:General tax:on variety of things,not specific eg VAT. term :Selective tax:on specific things eg: fuel or tobacco or alcohol. term Specific Excise Tax:Per unit:eg R4 on each beer

term Ad Valorem tax:% of value eg 5% 7) based on ratio of tax to income a) term :Progressive Tax:Rich pay higher "!! % !!" than poor.eg RSA b) term :Proportional Tax:Rich pay same levels as Poor(in %) eg company tax c) term :Regressive Tax: takes less as income levels increase eg VAT(% of income paid out) -6-Taxation in RSA. 1) 3 main types of tax in RSA:' a) Personal Tax:Most important in SA today,on 'taxable income',from table with minimum start/rate

b)

i) ii)

term Marginal Tax Rate:rate each additional rand (rate for each level is taxed(=on tax table

i)

term Secondary tax :on shares dividends to shareholders.7.5%

term Average/Effective Tax Rate:ratio between rate and income iii) last years SA less tax brackets(15to 6)+base broadened(More fringe benefits taxed) iv) term Capital Gains Tax:sales of fixed property-to compensate nominal/real gains only above 10 000-difficult to administer,+increases horizontal equity+integrity Personal .Tax Base.(per inc.level) Company Tax:-was Proportional tax:at 30% flat rate

c)

VAT: 'regressive tax', thus some goods zero rated for vat. d) Today: personal=#1,vat=2,companies=3,excise =4,customs =5 from before companies 2, -7-Tax Incidence-ie: Who really Pays the Taxes? 1) Fly –paper theory:taxes stick where Gov. puts them-but not exactly true 2) term Incidence-not who pays the tax,who is burdened by it actually. 3) term Statutory or Legal Incidence of Taxes: Gov. can specify who must hand tax over to them.

4)

term Effective Incidence of Tax :who actually pays cannot be determined by who hands Rands over to Gov.1because everyone shifts tax forward/backward to customers etc+ 2-changdecision 5) The degree to which a tax can be shifted depends on the price elasticities of the goods/services-high=not easy,low=easy The Impact of a Specific Excise Tax: 1) Two types of Excise Tax: a) term Specific Excise Tax:Per unit:eg R4 on each beer

b)

term Ad Valorem tax:% of value eg 5%

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chapter 5 1. term:Trade policy: Governments (1)PROTECT domestic firms against imports+(2) CONTROL volume of imports by means of trade barriers eg:import tariffs.(3)Also encouraging exports by assist with marketing,giving subsidies etc. for expert etc. 1. term:Protective tariff: to protect local industry

2. 3.

term Revenue tariff : To earn revenue for government only.(eg goods not made here-computer) Two categories of tariffs: a. term Ad-Valorem -% of value of item

b. a) b) 1)

term Specific tariffs-Specific amount:eg R5 on each unit of wine.

term Predatory Dumping :firm uses high local prices to subsidise exports and undercut competitors—can be difficult to prove,can be relative/comparative advantage or local politiking term Countervailing Duties:used to counteract dumping.

Term Bal. of Paym. is a summary record of a countries transactions with rest of world over a period oftime

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a)

term Current account.-(or called Trade balance) [ primary income receipts+exports{-}primary income payments+imports ]+plus current transfers(no 'quid pro quo' in return donations, taxes,immigrate) b) term Capital transfer account. c) term Financial account. –International transactions in Fin.Assets and liabilities incl.borrowing and lending ofmoney eg-loans,shares i) Consists of (1) term Direct investment-with controlling share

(2) term Portfolio investment-not with controlling share

1) 2)

(3) other investment-eg:loans,currency,deposits,short term trade credit d) term Unrecorded transactions.-all omissions and unrecorded transactions-serves to balance double entry system. term Exchange rate is a Ratio- represents price of one currency in terms of another.

term Foreign exchange market : international market where currencies can be exchanged.Include in SA all authorised foreign currency dealers;RSA major Banks and others. RSA 8.4billion$/day 3) term Appreciation:price of one currency goes up in relation to another one. 4) term Depreciation:price of one currency goes down in relation to another one 5) Methods of quoting exchange rates: a) term Direct method:most countries(RSA too)-shows ? much local for 1 foreign eg R10 to $1(ie:price of a commodity since foreign exchange is just a commodity like bread) b) term Indirect method:some –shows ? much foreign for 1local eg R1 to $0.1

1) 2) 1)

2)

term Derived demand the lower the price ,the more demand is derived from this price change. term Derived supply the higher the price ,the more supply is derived from this price change. term:Managed Floating:Central bank manipulation of exchange rates.A central bank can only intervene to stabilise a depreciating currency if it has sufficient foreign exchange reserves to do so.:Ie:Central bank supplies a extra demand for $(eg importers want) to stop right shift of curve.Or SARB buys extra supply of $(eg tourists want for world cup)to stop shift in supply curve.This is to keep the currency stable and protect vulnerable exporters etc. term Expectations or Market sentiment: if everyone believes $ price going up-exporters delay,foreign tourists and investors delay (demand rands down,supply $ down)and speculators buy $(demand $ up) cause immediate shift in curves and immediate price change.To stop speculators SARB sometimes makes high interest rates to stop them lending to buy $ .

1)

term Floating currency Some countries have pegged currencies to $,others employ managed floating-(floating currency). 2) With floating currency-3 options:-1-do nothing-market forces do -2-managed ffloating -3-use interest rates-if SARB cause interest rates up-then foreign capital flows in for lending out and speculators have high interest rates to stop them lending to buy $ . 3) term:PPP-purchasing power parity:if currencies have same purchasing power in different countries.eg:if basket goods cost 1$ in USA and R10 HERE,PPP=1 to 10.Got to do with currencies being undervalued/overval.. against others 1) If the Terms of trade lower=bad /higher =favourable if =1 equal

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