Economics: GED Test Prep (page 2)
On the GED Social Studies Exam, questions about economics will include the areas of supply and demand, inflation and deflation, and economic systems. Many economics questions will ask you to interpret and analyze a chart or graph, so practice in working with visual aids will be helpful in your preparation.
Economics is defined as the study of the ways that goods (and services) are bought, sold, distributed, and used. The economics questions on the GED Social Studies Exam will require that you have a good grasp of the relationship of supply and demand, recession and depression, how economic growth is measured, and how the U.S. government is involved in the nation's economy.
Scarcity is the central concept of economics. We do not have unlimited time and resources, unfortunately; it is impossible to study for the GED and play basketball at the same time. For that same reason, it is impossible to buy all available consumer goods and services. There are limits to our time and money, and so we must make choices. Economics studies the factors that determine how individuals and businesses make these choices (this field of economics is called microeconomics). It also studies the way the economy as a whole behaves in response to individual choices, business choices, government intervention, international trade, and other large-scale influences (this field of economics is called macroeconomics).
Types of Economic Systems
In political terms, there are three basic economic systems operating in the modernized nations of the world: capitalism, socialism, and communism. The table lists defining characteristics of each. None of these systems exists in pure form; modern capitalist states typically also allow for some times of government planning and intervention, while communist states have grown more open to free trade and allowing citizens to profit from their businesses in recent years.
The terms capitalism, socialism, and communism describe economic systems, but they are not the terms economists favor. Economists prefer the terms market economy, which describes an economic system in which prices, wages, and production are set by markets; command economy, which describes an economic system in which the government plans production; and traditional economy, which describes an economic system in which certain jobs are reserved to certain classes of society (feudalism is one historic example of a traditional economy). Nearly all the world's economies are mixed economies, combining in different degrees elements of market, command, and traditional economies.
Consider the United States. In many areas, the United States allows markets to determine the amount of goods produced, the price at which goods are sold, and the wages paid to workers. However, the government imposes a minimum wage that prevents employers from paying workers an unfair, unlivable wage. The government also intervenes to provide goods and services that the market will not provide because they are not profitable enough. Health insurance and housing for the poor are two areas in which the government intervenes. Thus, the U.S. economy is a mixed economy in which markets usually, but don't always, drive economic activity.
Command economies have been disappearing from the world since the demise of the Soviet Union. North Korea is one of the world's few remaining command economies. Because all economic decisions, from the development of raw materials to production to shipping to retail sales, are made centrally by the government, command economies lack efficiency. They are characterized by frequent shortages of goods, underemployment, and poor economic growth.
In predominantly market economies like the United States, prices are determined by the principle of supply and demand. Supply is the amount of goods and services available for purchase. Demand is determined by how many people want to buy those goods and services. Generally, when demand increases, supply increases, because more producers want to get into the market. Similarly, when demand decreases, supply decreases, because producers stop producing the unpopular product and instead start producing something they believe will sell better.
Producers and consumers both act out of self-interest. Businesses attempt to earn a profit—money in excess of the amount it costs to manufacture a product or deliver a service. Thus, they will charge the highest price they believe they can get for their goods or services. Consumers, on the other hand, look for the lowest price they can find. This, along with competition among producers for consumer dollars, is what drives prices down. (When there is no competition, there is no force to drive prices down. Businesses that control a market—called monopolies—may essentially set prices at whatever level they wish.)
When companies make the exact amount of a product or service at a price that customers are willing to buy, they have reached a point of equilibrium. If the price is greater than this point, demand drops and there may be a surplus, which is when there are more goods produced than customers are willing to buy. If the price falls below the point of equilibrium, demand may increase and create a shortage in supply.
For example, Company X is introducing a new cell phone model, the XLZ. (See graph.) The business wants to find out the equilibrium point so that it will not have a surplus or shortage of the product. To cover its costs and make a profit, Company X can supply 10 phones for $1,100.As the price increases, the company can offer more phones for sale. However, few customers are willing to pay high prices for the phones. As the price drops, demand increases.
Exercise 1 (see answers below)
Refer to the graph "Supply and Demand Curves for Cell Phone XLZ" to answer the following questions.
- At what price does the supply of cell phone model XLZ equal that of demand?
- If the market price for cell phone model XLZ increased to $1,600, what would be the likely result?
- Stores would quickly run out of product.
- Demand would decrease.
- The manufacturer would not be able to keep up with demand.
- The manufacturer would produce the cell phone model at the same rate.
- The manufacturer would go out of business.
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