Principles of Economics with Taxation and Agrarian Reform INTRODUCTION How to get the picture of economics?

Well, the first step is to understand what this science deals with. Economics deals with the problem of scarcity. When we plan to attend a party on Friday, go for a basketball game on Saturday afternoon, join the friends in watching a movie on Sunday night and want to study for the exam on Monday, we come face-to-face with the problem of scarcity. Here, the resource we lack is time. If societys resources are abundant and unlimited rather than scarce, then there would be no problem to study. Society would simply produce anything and everything it needs at any point in time and everyone would have as much of everything he desires. But this is not the case, for there is a basic and continuing problem of scarcity that man and society are confronted with. Scarcity alone does not explain completely the economic problem. Paired with a shortage of resources are the multiple wants and desires of human beings. Human beings have multiple wants and desires, resources have alternative uses. Scarce resources need to be allocated among different needs. If human beings have only one requirement (say food), coping with scarcity would require only how to get the most food out of existing resources. However, since men need many more material items other than food, there arises the problem of determining the optimum use of resources to satisfy competing needs. To summarize, scarcity of resources plus multiplicity of human wants equals economics. It is obvious to anyone that, at any given time, at least some resources (e.g. land or capital) are scarce and that human wants are almost unlimited. Thus, it is hard to deny the importance of economics both today and in the future.

DEFINITION Economics is the study of how societies use scarce resources to produce valuable commodities and distribute them among different people. Economics may be defined as a science that deals with the activities of man in obtaining wealth for the satisfaction of his wants. Economics is the art of making a living. Economics is the proper allocation and efficient use of available resources for the maximum satisfaction of human wants. Economics is the branch of social science that deals with the production and distribution and consumption of goods and services and their management.

Economics is the science that deals with the production, distribution, and consumption of wealth, and with the various related problems of labor, finance, taxation, etc. (Webster's New World) Economics is the study of choice and decision-making in a world with limited resources. Right and prudent administration of assets, Public wealth, set of services and economic interests. The study of the choices people make to cope with scarcity. Economics is the study of how to use our limited resources to satisfy our unlimited wants as fully as possible.

BRANCHES OF ECONOMICS Microeconomics is that branch of economics that deals with the economic behavior of individual units such as consumers, firms and the owners of the factors of production, for example, the price of rice, the number of workers of PLDT, the income of Mr. Garcia, etc. Micro means small, thus microeconomics deals with the study of the small units of the economy. Macroeconomics is that branch of economics that deals with the economic behavior of the whole economy such as government, business and household. Examples of macroeconomic studies are national income, employment and inflation. Microeconomics and macroeconomics are closely related, for example, compared with the human body, the microeconomic units are the heart, kidney, lungs and other parts. The macroeconomic unit is the human body. A defect in part of the human body affects the whole body. The same is true in the operation of economics. HISTORY OF ECONOMICS It has started to be known when Adam Smiths book Wealth of Nations was published in 1776. Prior to that, economics has been integrated into other fields such as religion, philosophy and political science. That book became the bible of economics for more than a century. Adam Smith was responsible for the recognition of economics as a separate body of knowledge. Economics have been as old as mankind. It started when God drove Adam and Eve away from the Garden of Eden. Economic thoughts appeared in biblical teachings, philosophy and politics. The primitive people invented ways and means of food gathering and hunting. Such art of making a living among the ancient tribes represented a form of economics. The word economics was derived from the Greek word oikonomia. It means household management. The housekeeper has to see to it that there is enough food, clothing and shelter; that the house is kept in order; that the necessary duties and responsibilities are performed by the members of the household; and that their

products are distributed according to necessity. To the ancient Greeks, the term oikonomos applied more on the proper management of the city-states. Economics emerged as a science only in 1776.

BASIC ECONOMIC PROBLEMS 1. What goods and services to produce and how much? A society must determine how much of each of the many possible goods and services it will make, and when they will be produced. Will we produce frozen pizzas or shirts today? A few high-quality shirts or many cheap shirts? Will we use scarce resources to produce many consumption goods (like frozen pizzas)? Or will we produce fewer consumption goods and more investment goods (like pizza-making machines, which will boost production and consumption tomorrow. 2. How to produce the goods and services? At this point we are talking about production and technology. As a general rule, goods and services must be produced in the most efficient manner. This means maximum output with minimum input without sacrificing quality. The application of modern technology has increased output and decreased cost of production. In the case of poor countries, they cannot afford to apply modern technology as its expensive and besides poor countries have an oversupply of idle labor force. The use of advanced technology will create more unemployment. 3. For whom are the goods and services? One key task for any society is to decide who gets to eat the fruit of the economys efforts. In other words, we can say that how is the national product divided among different households? Are many people poor and a few rich? Do high incomes go to managers or workers or landlords? Do the sick or elderly eat well, or are they left to fend for themselves?

ECONOMIC SYSTEM MODELS Before we discuss different economic system models, we shall first define the term economic system. Economic system is a set of economic institutions that dominates a given economy. An institution is a set of rules of conduct, established ways of thinking, or ways of doing things. The purpose of an economic system is to solve the basic economic problems. The main goal of economic system is to create a high standard of living for all its citizens.

1.

Capitalism Here, the factors of production and distribution are owned and managed by private individuals or corporations. We can use different terms like market economy, free-enterprise economy, or laissez faire economy for capitalism. The essential characteristics of capitalism are: Private property Economic freedom free competition profit motive

2.

Communism It is the opposite of capitalism. The factors of production and distribution are owned and managed by the state. It is also known as the command economy or classless economy. The essential characteristics of communism are: No private property No economic freedom Presence of central planning no free competition no profit motive

3.

Socialism It is a combination of capitalism and communism. The major industries are owned and managed by the state while the minor industries belong to the private sector.

HOW TO JUDGE AN ECONOMIC SYSTEM The vital criteria to judge an economic system are the following:: 1. 2. 3. 4. 5. 6. 7. Abundance Growth Stability Security Efficiency Justice and equity Economic freedom

THE GOALS OF ECONOMICS 1. 2. 3. 4. 5. 6. Economic growth Full employment Price stability Economic freedom Equitable distribution of wealth and income Economic security

The Theory of Wants and Needs DEMAND AND CONSUMER BEHAVIOR Demand is the schedule of various quantities of commodities which buyers are willing and able to purchase at a given price, time and place. It is determined by factors such as: 1. 2. 3. 4. 5. 6. 7 Income Population Taste and preferences Price expectation Prices of related goods Advertisement expectations

Table: Individual demand schedule showing the inverse relationship between price and quantity. Price 5 4 3 2 1 Quantity demanded 1 2 3 4 5

Law of Demand states that consumers are most likely to buy more goods and services as price decreases, and buy less goods and services as price increases. Validity of the Law of Demand The law of demand states: as price increases, quantity demanded decreases, and as price decreases, quantity demanded increases. Such theory is only true if the assumption of ceteris paribus is applied. It means all other things equal or constant. The law of demand is correct if the determinants of demand are held constant. That is there is no change in income, taste or population. Determinants of Demand Elasticity 1. Number of good substitutes. Demand is elastic for a product with many substitutes. An increase in the price of such product induces the buyers to look for good substitutes.

2.

Price increase in proportion to income. If the price increase has very little effect on the income or budget of the buyers, demand is inelastic. But if the price increase involves a substantial amount in proportion to the income of consumers, demand is elastic.

3.

Importance of the product to the consumers. Luxury goods are not very important to majority of the people. On the other hand, the essential goods are very important to people. Rice is important to Filipinos, Electricity is important to factory owners and gasoline is important to transportation industry. All of these are inelastic.

Theory of consumer behavior 1. Law of diminishing marginal utility. The law states that as the amount of the good consumed increases, the marginal utility of that good tends to diminish. Marginal utility refers to the additional satisfaction of a consumer whenever he consumes one more unit of the same good. For example, the first unit of a good like ice cream gives you a certain level of satisfaction or utility. Now imagine consuming a second unit. Your total utility goes up because the second unit of the good gives you some additional utility. What about adding a third or fourth unit of the same good? Eventually if you eat enough ice cream, instead of adding utility, it makes you sick. This leads us to the fundamental economic concept of marginal utility. 2. Indifference curve. The word indifference means showing no bias, or neutral. Suppose there are five combinations of two products (like meat and fish). The first combination can be 5 kilos of meat and 1 kilo of fish while another combination is composed of 5 kilos of fish and 1 kilo of meat, and so on. Since all the combinations give the same level of satisfaction or utility, the consumer would be indifferent as to which combination he receives. It means any combination would be desirable for him. By definition, an indifference curve is a curve that shows different combination of two goods which yield the same level of satisfaction. Indifference curves are useful in the sense that they indicate the degree of substitution of one good for another. The ability to substitute one good for another is an important scope in consumer behavior. Such concept is illustrated by the marginal rate of substitution. It indicates the rate at which a consumer would exchange units of one product for additional units of another product. Table: An indifference schedule showing the various combinations of meat and fish Combinations A B C D E Kilos of meat 5 4 3 2 1 Kilos of fish 1 2 3 4 5

Supply and Pricing in Competitive Markets

Supply is the schedule of various quantities of commodities which producers are willing and able to produce and offer at a given price, place and time. Its determinants are: 1. 2. 3. 4. 5. 6. Technology Cost of production Number of sellers Prices of other goods Price expectations Taxes

Table: Individual supply schedule showing the direct relationship between price and quantity.

Price 1 2 3 4 5

Quantity supplied 1 2 3 4 5

Law of Supply As price increases, quantity supplied also increases, and as price decreases, quantity supplied also decreases. This direct relationship between price and quantity supplied is the law of supply. However, the law of supply is only correct if we apply the assumption of "ceteris paribus"(everything else being equal). This means the law of supply is valid if the determinants of supply are held constant. The Price System Introduction Market economies provide information and inentives through prices, profits, and property rights. Prices provide information about the relative scarcity of goods. The role of prices in the market has evolved into the idea of the Price System. The dicussion presented in this part is an analysis of the arguments for and against the price system. Analysis of the price system One favorable argument for the price system is its efficiency in distributing goods and services. On the part of the producers, they tend to produce those products that give them maximum profits. On the other hand, the consumers are inclined to purchase those products that provide them maximum satisfaction. In the process of free competition, the best methods of production and marketing are developed and used in order to increase output and reduce unit cost of production. Thus the goal of profit maximization becomes

attainable. At the same time, the welfare of the consumers is enhanced because they are the beneficiaries of quality products at low prices. Another argument in favor of price system is the presence of personal freedom. Producers are free to produce any product to satisfy their own economic interests as long as those do not conflict with legal and moral traditions. Other freedoms include the free choice of workers or employees. Employees are also free to choose their employers. Buyers are also free to purchase any product that gives them maximum satisfaction. Criticisms Against the Price System As a matter of fact, the free competition does not exist long enough. Self-interests of businessmen force them to drive away their rivals through competition. Another strategy is to merge their companies for market advantage. The small ones find it difficult to compete with the big ones. In the process of competition, the big companies become the price leaders. Another case against the price system is the unfair distribution of goods and services. Only the very few rich can have a decent life under the price system. Moreover, social goods like anti-pollution, rural electrification, irrigation, or highways cannot be allocated efficiently through the price system. Usually these require a huge financing, and yet the returns of investment take a long time and profits may not be attractive. Hence, only the government is willing to undertake such projects. The Role of the Government Keeping in mind the limitations of the price system, the government has to regulate and supervise production, distribution and consumption of goods and services. The government provides incentives in the production of goods and services that greatly contribute to the socio-economic development of the country. The government interferes in the allocation of the goods and services in order to protect the welfare of the poor. At the same time, the government has to control the consumption of goods and services that are wasteful and detrimental to the growth of the economy. In developing countries, the role of the government is more active. Infrastructures like roads, bridges, communication facilities, electrification, schools and hospitals have to be set up. These speed up the process of economic growth. Economic growth means more employment, production and income. And this situation leads to the high standards of living. Conclusion One favorable argument for the price system is its efficiency in distributing goods and services Under the price system the producers have the option what to produce while the consumers have a free choice on what to buy depending on their capacity and preferences Thus the goal of profit maximization becomes attainable. At the same time, the welfare of the consumers is enhanced because they are the beneficiaries of quality products at low prices.

On the other hand, the argument against The Price System is that free competition does not really exist or if it thus, it is only for a short period. It is also argued that there is great disparity in the distribution of properties and therefore goods which has the tendency to favor the rich. In connection with the above, it is the Government, which has the primary role in regulating prices and the distribution of properties in order that the price system shall be most beneficial. PRODUCTION Introduction Production is the creation of goods and services to satisfy human wants. The factors of production are called the inputs of production, and the goods and services that have been created by the inputs are called the outputs of production. The factors of production are classified as fixed factor (fixed input) and variable factor (variable input). A fixed factor remains constant regardless of the volume of production. In case of variable factor, it changes in accordance with the volume of production. The process of transforming both fixed and variable inputs into finished goods and services is called the theory of production. The technical relationship between the application of inputs and the resulting maximum obtainable output is known as the production function. The Circular Flow of Income In economics, the term circular flow of income or circular flow refers to a simple economic model which describes the reciprocal circulation of income between producers and consumers. In the circular flow model, the inter-dependent entities of producer and consumer are referred to as "firms" and "households" respectively and provide each other with factors in order to facilitate the flow of income. Firms provide consumers with goods and services in exchange for consumer expenditure and "factors of production" from households. The circle of money flowing through the economy is as follows: total income is spent (with the exception of "leakages" such as consumer saving), while that expenditure allows the sale of goods and services, which in turn allows the payment of income (such as wages and salaries). Expenditure based on borrowings and existing wealth i.e., "injections" such as fixed investment can add to total spending. In equilibrium (Preston), leakages equal injections and the circular flow stays the same size. If injections exceed leakages, the circular flow grows (i.e., there is economic prosperity), while if they are less than leakages, the circular flow shrinks (i.e., there is a recession). More complete and realistic circular flow models are more complex. They would explicitly include the roles of government and financial markets, along with imports and exports. Labor and other "factors of production" are sold on resource markets. These resources, purchased by firms, are then used to produce goods and services. The latter are sold on product markets, ending up in the hands of the households, helping them to supply resources.

Assumptions
The basic circular flow of income model consists of six assumptions:

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

The economy consists of two sectors: households and firms. Households spend all of their income (Y) on goods and services or consumption (C). There is no saving (S). All output (O) produced by firms is purchased by households through their expenditure (E). There is no financial sector. There is no government sector. There is no overseas sector.

Two Sector Model

In the simple two sector circular flow of income model the state of equilibrium is defined as a situation in which there is no tendency for the levels of income (Y), expenditure (E) and output (O) to change, that is: Y=E=O This means that the expenditure of buyers (households) becomes income for sellers (firms). The firms then spend this income on factors of production such as labour, capital and raw materials, "transferring" their income to the factor owners. The factor owners spend this income on goods which leads to a circular flow of income.

Five sector model

Table 1 All leakages and injections in five sector model
LEAKAGES Saving (S) Taxes (T) Imports (M) INJECTION Investment (I) Government Spending (G) Exports (X)

Circular flow of income diagram

In economics, the term circular flow of income or circular flow refers to a simple economic model which describes the reciprocal circulation of income between producers and consumers. In the circular flow model, the inter-dependent entities of producer and consumer are referred to as "firms" and "households" respectively and provide each other with factors in order to facilitate the flow of income. Firms provide

consumers with goods and services in exchange for consumer expenditure and "factors of production" from households. The circle of money flowing through the economy is as follows: total income is spent (with the exception of "leakages" such as consumer saving), while that expenditure allows the sale of goods and services, which in turn allows the payment of income (such as wages and salaries). Expenditure based on borrowings and existing wealth i.e., "injections" such as fixed investment can add to total spending. In equilibrium (Preston), leakages equal injections and the circular flow stays the same size. If injections exceed leakages, the circular flow grows (i.e., there is economic prosperity), while if they are less than leakages, the circular flow shrinks (i.e., there is a recession). More complete and realistic circular flow models are more complex. They would explicitly include the roles of government and financial markets, along with imports and exports. Labor and other "factors of production" are sold on resource markets. These resources, purchased by firms, are then used to produce goods and services. The latter are sold on product markets, ending up in the hands of the households, helping them to supply resources.

Assumptions
The basic circular flow of income model consists of six assumptions:

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

The economy consists of two sectors: households and firms. Households spend all of their income (Y) on goods and services or consumption (C). There is no saving (S). All output (O) produced by firms is purchased by households through their expenditure (E). There is no financial sector. There is no government sector. There is no overseas sector.

Two Sector Model

In the simple two sector circular flow of income model the state of equilibrium is defined as a situation in which there is no tendency for the levels of income (Y), expenditure (E) and output (O) to change, that is: Y=E=O This means that the expenditure of buyers (households) becomes income for sellers (firms). The firms then spend this income on factors of production such as labour, capital and raw materials, "transferring" their income to the factor owners. The factor owners spend this income on goods which leads to a circular flow of income.

Five sector model

Table 1 All leakages and injections in five sector model
LEAKAGES Saving (S) Taxes (T) Imports (M) INJECTION Investment (I) Government Spending (G) Exports (X)

Circular flow of income diagram The five sector model of the circular flow of income is a more realistic representation of the economy. Unlike the two sector model where there are six assumptions the five sector circular flow relaxes all six assumptions. Since the first assumption is relaxed there are three more sectors introduced. The first is the Financial Sector that consists of banks and non-bank intermediaries who engage in the borrowing (savings from households) and lending of money. In terms of the circular flow of income model the leakage that financial institutions provide in the economy is the option for households to save their money. This is a leakage because the saved money can not be spent in the economy and thus is an idle asset that means not all output will be purchased. The injection that the financial sector provides into the economy is investment (I) into the business/firms sector. An example of a group in the finance sector includes banks such as Westpac or financial institutions such as Suncorp. The next sector introduced into the circular flow of income is the Government Sector that consists of the economic activities of local, state and federal governments. The leakage that the Government sector provides is through the collection of revenue through Taxes (T) that is provided by households and firms to the government. For this reason they are a leakage because it is a leakage out of the current income thus reducing the expenditure on current goods and services. The injection provided by the government sector is Government spending (G) that provides collective services and welfare payments to the community. An example of a tax collected by the government as a leakage is income tax and an injection into the economy can be when the government redistributes this income in the form of welfare payments, that is a form of government spending back into the economy.

The final sector in the circular flow of income model is the overseas sector which transforms the model from a closed economy to an open economy. The main leakage from this sector are imports (M), which represent spending by residents into the rest of the world. The main injection provided by this sector is the exports of goods and services which generate income for the exporters from overseas residents. An example of the use of the overseas sector is Australia exporting wool to China, China pays the exporter of the wool (the farmer) therefore more money enters the economy thus making it an injection. Another example is China processing the wool into items such as coats and Australia importing the product by paying the Chinese exporter; since the money paying for the coat leaves the economy it is a leakage. In terms of the five sector circular flow of income model the state of equilibrium occurs when the total leakages are equal to the total injections that occur in the economy. This can be shown as: Savings + Taxes + Imports = Investment + Government Spending + Exports

The five sector model of the circular flow of income is a more realistic representation of the economy. Unlike the two sector model where there are six assumptions the five sector circular flow relaxes all six assumptions. Since the first assumption is relaxed there are three more sectors introduced. The first is the Financial Sector that consists of banks and non-bank intermediaries who engage in the borrowing (savings from households) and lending of money. In terms of the circular flow of income model the leakage that financial institutions provide in the economy is the option for households to save their money. This is a leakage because the saved money can not be spent in the economy and thus is an idle asset that means not all output will be purchased. The injection that the financial sector provides into the economy is investment (I) into the business/firms sector. An example of a group in the finance sector includes banks such as Westpac or financial institutions such as Suncorp. The next sector introduced into the circular flow of income is the Government Sector that consists of the economic activities of local, state and federal governments. The leakage that the Government sector provides is through the collection of revenue through Taxes (T) that is provided by households and firms to the government. For this reason they are a leakage because it is a leakage out of the current income thus reducing the expenditure on current goods and services. The injection provided by the government sector is Government spending (G) that provides collective services and welfare payments to the community. An example of a tax collected by the government as a leakage is income tax and an injection into the economy can be when the government redistributes this income in the form of welfare payments, that is a form of government spending back into the economy. The final sector in the circular flow of income model is the overseas sector which transforms the model from a closed economy to an open economy. The main leakage from this sector are imports (M), which represent spending by residents into the rest of the world. The main injection provided by this sector is the exports of goods and services which generate income for the exporters from overseas residents. An example of the use of the overseas sector is Australia exporting wool to China, China pays the exporter of the wool (the farmer) therefore more money enters the economy thus making it an injection. Another example is China

processing the wool into items such as coats and Australia importing the product by paying the Chinese exporter; since the money paying for the coat leaves the economy it is a leakage. In terms of the five sector circular flow of income model the state of equilibrium occurs when the total leakages are equal to the total injections that occur in the economy. This can be shown as: Savings + Taxes + Imports = Investment + Government Spending + Exports THE THEORY OF ECONOMIC GROWTH Economic growth is the product of economic development. Economic development is a progressive process of improving human conditions, such as the reduction or elimination of poverty, unemployment, illiteracy, inequality, disease and exploitation. As a process, it involves the interaction of economic and non-economic factors. Economic growth is the increase in the volume of goods and services produced by an economy. It is generally a factor in an increase in the income, of a nation. It is conventionally measured as the percent rate of increase in real gross domestic product, or GDP. Stages of economic growth One theory in determining the stages of economic growth is based on exchange systems. That is from barter economy to money economy, and finally to a credit economy. Another approach is based on the dominant productive sectors of the economy. According to this theory as stated by British economist Colin Clark, there are three stages of economic growth: 1. 2. 3. Agriculture is the main source of employment and income. Manufacturing industry becomes the major economic activity as a country develops. Service industries grow to be the dominant feature of the economy as a country further develops.

Another theory of classifying the stages of growth is the doctrine of Rostow, an American economic historian. In his book Stages of Economic Growth, the transition of a countrys economy from underdevelopment to development passes through several stages such as: 1. 2. 3. 4. 5. Traditional society Pre-conditions for take-off Take-off Drive to maturity Age of high mass consumption

Some economic growth models 1. Ricardian model. Here the key factor is land. This means agriculture is the first priority in the attainment of economic growth.

2.

Harrod-Domar. The key factor in this model is physical capital like machines, buildings, equipment, and so forth. According to this model, the input is capital, and its efficiency is determined by the number of output it can produce.

3.

Kaldor model. Here the key factor is technology, which is embodied in physical capital. Japan is an example which has achieved economic growth through technology.

INFLATION There is inflation when there is a rising general level of prices. Increase in prices is inflation or we can say that its decrease in the value of money. Demand for goods and services decrease when prices increase. Inflation creates more inflation. When prices keep on increasing, people are inclined to spend their money before it loses its value. Inflation encourages more consumption and less saving. Types of inflation 1. Demand-pull inflation. This type of inflation occurs when demand for goods and services exceed supply. This is based on the law of supply and demand. Another cause of demand pull inflation is the excess money supply. When money supply increases without corresponding increase in production of goods and services, prices rise. 2. 3. Cost-push inflation. An increase in the cost of production results to an increase in prices. Cost increases whenever there is an increase in wages, oil prices, or prices of raw materials. Structural inflation. This view explains that the inability of some sectors of our economy to response immediately to demand for goods and services. When supply cannot meet demand, prices increase. If there are no obstacles or constraints (financial, physical or institutional), whenever prices rise, producers are encouraged to enter the market. This increases supply, and therefore prices fall. However, there are instances where supply cannot be increased, at least in a short period. Since supply falls, prices of such scarce products rise. And this is inflation for such particular products. The Business Cycle The idea in the study of the business cycle is to understand such concepts as recovery, recession depression, full employment and unemployment. Understanding the business cycles will be useful in understanding the phases which an economic system undergoes to bring about the use of the resources> Thus this discussion Phases of the Business Cycle 1. Prosperity: This is the peak of the business cycle. There is full employment, and the national output is at full capacity. Output can no longer be increased because productive resources are at full capacity or fully employed.

2. Recession: Both production and employment are falling down. 3. Depression: Both production and employment are at their lowest levels. Under such condition, no businessman is willing to invest because the demand for goods and services is also at its lowest point. 4. Recovery: Both production and employment rise towards full employment. Business Cycle Theories 1. Exogenous theory: Forces outside the economic system create the business cycles. Examples of these forces are wars, political developments, natural disasters, or major innovations. Typhoons and floods can easily wipe out in a week's time the output of an agricultural country. Civil wars have destroyed the economies of all countries which have been afflicted with said human misunderstandings or greediness for political powers among the leaders. 2. Endogenous theory: Forces within the economic system cause the fluctuations in the economy. Examples are accelerators, multipliers, innovations or monetary policies.

Full Employment When there is an available job for every person who is willing and able to work, it is full employment. Theories of employment (1) Classical theory of employment states that employment increases at lower wages. Employers are willing to hire more workers at lower wages because it is more profitable. Keynes did not agree with such theory. He said that during depression, workers are willing to accept any wage but could not find jobs. He argued that high wage could not be the main cause of unemployment. (2) The Keynesian theory of employment - which is the modern theory of employment - states that employment is determined by aggregate or total demand for goods and services. The Different Types of Unemployment Disguised unemployment is a situation where individuals are actually worknig but they do not contribute to production. Types (1) Frictional unemployment is caused by interruptions in production for technical reasons, or when workers are temporarily laid off due to renovation works.

(2) Structural unemployment: A change in technology renders the skills and talents of some workers obsolete. (3) Cyclical unemployment: This is caused by the fall of business activities in the economy. When aggregate demand decreases, production declines. Some workers have to be laid off. (4) Seasonal unemployment: During slack periods , many workers in farming and construction are laid off. Conclusion The concepts of recovery, recession, expansion, depression are terms we have encountered since time immemorial. These concepts dealt with how we have attained levels of growth in relation to the employment and unemployment of our resources. As we understand the concepts, we are also made aware of the different effects of the same in our society Measuring National Output & Income Objectives To introduce the students to the different concepts in relation to measuring National Income accounts To introduce the students to the concept of the Price System To enable the students to understand the different concepts related to National Income Accounts and the Price System To encourage the students to be analytical by comparing and contrasting the different terms Introduction National Income - is the measure of the money value of the total flow of goods and services produced in an economy over a specified period of time National Income consists of the following: Wage or Salary Interest Rent Profit Net Factor Gross National Product It is the total market value of all final goods and services produced by citizens in one year.

The real economic achievements of any country are measured by the number of goods and services its citizens have produced in a given year. If we depend on the market value of final goods and services, it is not most of the time accurate because of price fluctuations. In case of inflation (high prices), the market value of GNP naturally increases. In case of deflation (low prices), the market value of GNP is low. GNP at current prices is money GNP. It is obtained by multiplying the number of final products and services by prevailing market prices. It is expressed as: P X Q = GNP. Measuring GNP GNP can be measured in at least two different ways, both of which yield the same result. One way of measuring the GNP is from the buyer's point of view, or in terms of aggregate demand. Also known as the expenditure approach to measuring GNP, this method calculates the value of the GNP as the sum of the four components of GNP expenditures: consumption, investment, government purchases, and net exports. The expenditure method accounts for the source of the monetary demand for products and services. The largest component, consumption, includes the value of all the goods and services purchased by consumers during the year. The investment category includes the production of buildings and equipment as well as the net accumulation of inventories. Financial investments, which involve only transfer payments rather than the production of capital goods, are not counted. Government purchases include only expenditures for goods and services, not transfer payments such as Social Security. Net exports include the value of all goods produced in the United States but sold abroad, minus the value of goods produced abroad and imported into the United States. Since every transaction involves a buyer and a seller, the GNP can also be calculated from the seller's point of view, which focuses on where money payments go. The method, also known as the income approach, measures GNP as the sum of all the incomes received by all owners of resources used in production. Such income payments are known as factor payments, because they are paid to various factors involved in the production of goods and services. These include employee compensation, rental income, proprietary income, corporate profits, interest income, depreciation, and indirect business taxes. Employee compensation includes all payments relating to labor, including fringe benefits and taxes paid on labor. Rental income is paid for the use of capital goods. Proprietary income represents payments to owners of business firms. Corporate profits are earned by the shareholders of a business. Interest income is received for lending financial resources. Depreciation is a charge against assets used in production. The indirect business tax refers to sales tax, which represents part of the payments for goods and services that are not paid to any of the income recipients. The measurement of GNP is fairly complex and follows a set of rules that, while generally agreed upon, may nevertheless appear somewhat arbitrary. For example, housing is treated in a manner that protects GNP calculations from changes in the rate of home ownership. All occupant-owned housing, as opposed to rental housing, is treated in the GNP accounts as if rented. Thus, the rental value of occupant-owned housing is included as a service in the GNP along with the rental value of houses that are actually rented.

GNP measures the value of final products and services, so it is necessary to avoid double-counting the many intermediary products that are bought and sold in the economy. Products and services are counted as part of the GNP when they reach their final form. Some important final products are actually excluded from the GNP. Many household activities are excluded, as are all illegal goods and services. In the case of housework, the services of a hired maid are considered part of the GNP, but not if the same services are performed by a member of the household. The exclusion of domestic chores has a greater effect on the calculation of the GNP of lesser-developed countries, where households may produce their own food and clothing to a greater extent. The treatment of government expenditures also affects GNP calculations. All government expenditures are considered final; there is no attempt to categorize them as intermediate and final. The effect of this rule is an upward bias in the GNP. In addition, all government expenditures are considered as current consumption rather than as investments; they are measured only once, in the year in which they occur. Finally, government goods and services, which are usually not sold in the marketplace, are valued at cost in the GNP. Limitations of GNP 1. It does not show the allocation of goods and services among the members of society. It only shows the number of goods and services produced by citizens in a given period. An increase in GNP does not necessarily mean that the economic and social welfare of the masses has improved. In a society where there is a widespread mal-distribution of wealth, an increase in GNP only benefits the very rich who own the productive resources. 2. GNP accounting in less developed countries in understated. There are many economic transactions especially in the rural areas that are not registered in the market. For example, backyard poultry, fishing and other small-scale income-producing activities whose products are only intended for family consumption. Only market transactions are reflected in the GNP. 3. The evils of economic growth like pollution, congestion and dirty environment are not reflected in the GNP. The cost of such destruction to the health of human beings, and to the balance of nature is very high. And this is not subtracted from the GNP. 4. 5. GNP only measures the number of goods and services but not the quality of goods and services. Needless to say, quality is an important feature as it affects the well-being of people. Income or products from illegal sources are not included in the GNP. Examples are gambling, unlicensed money lending, and narcotics business. Price Index When newspapers tell us inflation is rising, they are really reporting the movement of a price index. A price index is a measure of the general price level; more precisely, it is a weighted average of the prices of a number of goods and services. The most important price indexes are the consumer price index, the GDP deflator, and the producer price index.

The Consumer Price Index (CPI) In economics, a Consumer Price Index (CPI, also retail price index) is a statistical measure of a weighted average of prices of a specified set of goods and services purchased by wage earners in urban areas. It is a price index which tracks the prices of a specified set of consumer goods and services, providing a measure of inflation. The CPI is a fixed quantity price index and a sort of cost-of-living index. The CPI can be used to track changes in prices of all goods and services purchased for consumption by urban households. User fees (such as water and sewer service) and sales and excise taxes paid by the consumer are also included. Income taxes and investment items (like stocks, bonds, life insurance, and homes) are not included. For example assume that consumers buy three commodities: food, shelter, and medical care. Using 1995 as the base year, we reset the price of each commodity at 100 so that differences in the units of commodities will not affect the price index. This implies that the CPI is also 100 in the base year. [= (0.20 X 100) + (0.50 X 100) + (0.30 X 100)]. Next, we calculate the consumer price index. Suppose that in 1996 food prices rise by 2 percent to 102, shelter prices rise 6 percent to 106, and the medical care prices are up 10 percent to 110. We recalculate the CPI for 1996 as follows: CPI (1996) = (0.20 X 102) + (0.50 X 106) + (0.30 X 110) = 106.4 In other words, if 1995 is the base year in which the CPI is 100, then in 1996 the CPI is 106.4. Gross Domestic Product It is the total market value of all final goods and services produced within the territories of a country in one year. Incomes derived from investments or wealth in foreign countries is excluded. In a country whose economy is dominated by multinational corporations or foreigners, the GDP is bigger than GNP. GDP is used for many purposes, but the most important one to measure the overall performance of an economy. Conclusion Measuring the success of an economy is an undertaking that is necessary for various groups, especially government policy makers. Determining the national income is one way of knowing the achievements of the economy. Thus understanding the concepts of GNP and GDP and knowing the means by which these are measured would really be beneficial. Taxation To introduce the students to the inherent power of taxation

To enable the students to understand the different concepts related to the fundamentals of taxation To encourage the students to be analytical by comparing and contrasting the different terms Introduction Taxation is a means of raising funds for the operations of the government, especially its public services. In developing countries, like Philippines, more funds are needed for social and economic infrastructures such as roads, bridges, transportation and communication facilities, schools, hospitals, electrification, irrigation system and so on. In such countries, the government plays very active and direct roles in both social and economic development. Taxes are very important, as they constitute the life of our economy and society. It is not possible for a government to exist permanently if it has no funds. Tax revenues finance most of our programs and projects. The rest are funded by local and foreign loans. Essential Characteristics of Tax 1. 2. 3. 4. 5. It is an enforced contribution. A tax is not a voluntary payment or donation and its imposition is in no way dependent upon the will or assent of the person taxed. It is generally payable in money. It is proportionate in character. A tax is laid by some rule of apportionment according to which persons share the public burden. It is ordinarily based on the ability to pay. It is levied of persons or property. A tax may also be imposed on acts, transactions, rights or privileges. In each case, however, it is only a person who pays the tax. It is levied by the state which has jurisdiction over the person or property. The object to be taxed must be subject to the jurisdiction of the taxing state. This is necessary in order that the tax can be enforced. 6. 7. It is levied by the law-making body of the state. The power to tax is a legislative power which under the constitution only Congress can exercise through the enactment of tax statutes. It is levied for public purpose or purposes. Taxation involves, and a tax constitutes, a charge or burden imposed to provide income for public purposes the support of the government, the administration of the law, or the payment of public expenses. Classification of Taxes They are: 1. As to subject matter or object: (a) Personal, poll, or capitation. Tax of a fixed amount imposed on persons residing within a specified territory, whether citizens or not, without regard to their property or the

occupation or business in which they may be engaged. Example: Community (formerly residence) tax. (b) Property. Tax imposed on property, whether real or personal, in proportion either to its value, or in accordance with some other reasonable method of apportionment. Example: Real estate tax. (c) Excise. Any tax which does not fall within the classification of a poll tax or property tax. It is said that an excise tax is a charge imposed upon the performance of an act, the enjoyment of a privilege, or the engaging in an occupation, profession or business. Examples: Income tax, value-added tax, estate tax Note: This tax is not to be confused with excise tax imposed on certain specified articles manufactured or produced in, or imported into, the Philippines, for domestic sale or consumption or for any other disposition. (2) (a) As to who bears the burden: Direct. Tax which is demanded from the person who also shoulders the burden of the tax; or tax for which the taxpayer is directly liable or which he cannot shift to another. Example: Corporate and individual income taxes. (b) Indirect. Tax that is demanded from one person in the expectation and intention that he shall indemnify himself at the expense of another. Examples: Value-added tax; excise taxes on certain specific goods; customs duties. (3) As to determination of amount:

(a) Specific. Tax of a fixed amount imposed by the head or number, or by some standard of weight or measurement; it requires no assessment (valuation) other than a listing or classification of the objects to be taxed. Examples: Taxes on distilled spirits, wines, fireworks, and others. (b) Ad valorem. Tax of a fixed proportion of the value of the property with respect to which the tax is assessed; it requires the intervention of assessors or appraisers to estimate the value of such property before the amount due from each taxpayer can be determined. Examples: Real estate tax; excise taxes on cigarettes, gasoline and others; customs duties (4) As to purpose:

(a) General, fiscal, or revenue. Tax imposed for the general purposes of the government i.e., to raise revenue for governmental needs. Examples: Income tax; value-added tax, and almost all taxes. (b) Special or regulatory. Tax imposed for a special purpose, i.e., to achieve some social or economic ends irrespective of whether revenue is actually raised or not. Example: Protective tariffs or customs duties on imported goods. (5) As to scope:

(a) National. Tax imposed by the national government. Examples: National internal revenue taxes; customs duties and national taxes imposed by special laws. (b) Municipal or local. Tax imposed by municipal corporations or local government units. Examples: Real estate tax; professional tax. (6) A to graduation or rate: (a) Proportional. Tax based on a fixed percentage of the amount of the property, receipts, or other bases to be taxed. Examples: Real estate taxes; value-added tax; and other percentage taxes. (b) Progressive or graduated. Tax the rate of which increases as the tax base or bracket increases. Examples: Income tax; estate tax; donors tax. (c) Regressive. Tax the rate of which decreases as the tax base or bracket increases, i.e., the tax rate and the tax base move in opposite directions. We have no regressive taxes. Tax Distinguished from other Terms (1) Toll. It has been defined as a sum of money or the use of something, generally applied to the consideration which is paid for the use of a road, bridge or the like, of a public nature. (a) (b) (c) A toll is a demand of proprietorship, while a tax is a demand of sovereignty; A toll is paid for the use of anothers property, while tax is paid for the support of the government. The amount of toll depends upon the cost of construction or maintenance of the public improvement used, while there is generally no limit on the amount of tax that may be imposed; and (d) A toll may be imposed by the government or private individuals or entities, while a tax may be imposed only by the government. (2) Penalty. It is any sanction imposed as a punishment for violation of law or acts deemed injurious. Thus, the violation of tax laws may give rise to imposition of penalty. (a) (b) A penalty is designed to regulate conduct, while a tax is generally intended to raise revenue; and A penalty may be imposed by the government or private individuals or entities, while a tax may be imposed only by the government. (3) (a) (b) (c) Special assessment. It is an enforced proportional contribution from owners of lands especially benefited by public improvements. A special assessment is levied only on land; It is not a personal liability of the person assessed, i.e., his liability is limited only to the land involved; It is based wholly on benefits; and

(d)

It is exceptional both as the time and place. A tax, on the other hand, has general application.

(4)

License or permit fee. It is a charge imposed under the police power for the purposes of regulation. License is rather in the nature of a special privilege, of a permission or authority to do what is within its terms.

(a)

License fee is the legal compensation or reward of an officer for specific services, while tax is an enforced contribution assessed by sovereign authority to defray public expenses;

(b) (c) (d)

It is imposed for regulation, while a tax is levied fro revenue; It involves an exercise of police power, while a tax involves the exercise of the taxing power; Its amount should be limited to the necessary expenses of inspection and regulation, while there is generally no limit on the amount of tax that may be imposed;

(e) (f)

It is imposed on the right to exercise a privilege, while a tax is imposed also on persons and property; and Failure to pay a license fee makes the act or business illegal while failure to pay a tax does not necessarily make the act or business illegal.

(5) (a) (b) (c) (d) (e) (f)

Debt. A tax is not a debt in the ordinary sense. A debt is generally based on contract, express or implied, while tax is based on law; A debt is assignable, while a tax cannot generally be assigned; A debt may be paid in kind, while a tax is generally payable in money; A debt may be the subject of set-off or compensation, while a tax is generally not; A person cannot be imprisoned for the non-payment of debt, while imprisonment is a sanction for non-payment of tax; A debt draws interest when it is so stipulated or when there is default, while a tax does not draw interest except only when delinquent.

What is a Good Tax System? Requirements of a good tax system: 1. 2. 3. The distribution of the tax burden should be equitable. This means that a person has to pay tax based on his ability to pay. Taxes should not ruin the efficient market system. Taxes should serve as tools in facilitating economic stability and economic growth. Taxes can greatly help solve or minimize the economic problems of inflation and unemployment.

4. 5.

Tax administration should be efficient. This refers to the productivity of tax collection. The cost of tax administration and its compliance should be economical.

What is a Good Tax System? Requirements of a good tax system: 1. 2. 3. The distribution of the tax burden should be equitable. This means that a person has to pay tax based on his ability to pay. Taxes should not ruin the efficient market system. Taxes should serve as tools in facilitating economic stability and economic growth. Taxes can greatly help solve or minimize the economic problems of inflation and unemployment. 4. 5. Tax administration should be efficient. This refers to the productivity of tax collection. The cost of tax administration and its compliance should be economical.

Approaches to Equitable Taxation Good citizens have the responsibility to contribute a fair share to the cost of government. Certainly, the payment of tax is a burden to all those who have the duty to pay because of their income and wealth. But such burden can be made less painful by the government trough the concepts benefit received and ability to pay. 1. Benefits received. People pay their taxes in accordance with the benefits they received from government projects. It is like buying goods and services in the market. Those who do not receive benefits do not pay taxes. However, there are government projects in which it is not possible to exclude those who do not pay, like antipollution project. Moreover, there are spillover benefits whose payments are difficult to determine. 2. Ability-to-pay. Such ability is determined by their income and wealth. Those who have more incomes or wealth pay more taxes than those with less incomes or wealth. Tax Structures The following tax structures show the relationship between rates and incomes:

1. 2.

Progressive tax is one whose rate increases as income increases. Regressive tax is when its rate decreases as income increases. Actually, there are no regressive taxes. Our tax system is said to be regressive because the main portion of our tax revenues comes from indirect taxes.

3.

Proportional tax is one whose rate remains constant regardless of the size of the income.

Exemptions from Taxation It has been the policy of the government to give tax exemptions to certain economic activities in order to encourage and promote their growth such as cooperatives, cottage industries, infant industries and rural banks among others. In addition, organizations or institutions which are engaged in non-profit undertakings, together with some specific financial benefits or incomes, are exempted by the Tax Code and special laws. Examples are: 1. 2. 3. 4. 5. Conclusion Taxation is an inherent power of the State. It is the power of the State to enforced contributions from individuals in order that government may be able to defray the necessary expenses of the State in providing services to its constituents. The power to levy tax which is the amount collected by the government lies in the Legislative Department. This means that no tax may be imposed without a law imposing the same. The law must always emphasize that the tax is imposed and collected for a public purpose-for the benefit of the public in general. Review Questions What is the Power of Taxation? What are taxes? What are the different types of taxes? Who are exempted from paying tax? Reference Corporations or associations organized and operated solely for religious, charitable, scientific, athletic, or cultural purposes. Benefits received by members from GSIS. Social security benefits, retirement gratuities, pensions, and other similar benefits received by retired employees. Benefits received from the U.S. government through the U.S. Veterans Administration. Donations to special welfare, cultural and charitable institutions.

Republic Act 8424 ( The National Internal Revenue Code Of 1997) The Fundamentals of Taxation by Hector de Leon