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Economic Environment

Not only is it difficult to specify a definitive set of economic indicators, but it is often difficult to understand the systematic relationship of one variable to another. However, by reducing the economic environment to its fundamental components, it is possible to begin to determine (i) how they shape the market and (ii) how they subsequently interact with one another. Key elements in economic environment include income, purchasing power, market size, market type, and economic freedom.

ELEMENTS OF THE ENVIRONMENT


Gross National Income :

ECONOMIC

Gross national income (GNI) measures the income generated both by total domestic production plus the international production activities of national firms, i.e., it is the market value of all final goods and services newly produced by a countrys domestically-owned firms plus the net flows of factor income (i.e., rents, profits, and labor income) in a given

year.

ELEMENTS OF THE ENVIRONMENT

ECONOMIC

Gross Domestic Product. Gross domestic product (GDP) measures the value of production generated by both domestic and foreign-owned firms within a nations borders in a given year. Improving the Power of GNI. Managers improve the usefulness of GNI by adjusting it for the population of a country, its growth rate, economic sustainability, and the local cost of living.

ELEMENTS OF THE ECONOMIC ENVIRONMENT


Per Capita Conversion. GNI per capita is the value of all goods and services produced in the economy divided by the population. In 2005 highincome countries accounted for less than 15 percent of the worlds population but nearly 75 percent of the worlds GNI. b. Rate of Change. Generally, the GNI growth rate provides a broad indicator of economic potential; if GNI grows at a higher (or lower) rate than the population, standards of living are said to be rising (or falling).

ELEMENTS OF THE ECONOMIC ENVIRONMENT


Purchasing Power Parity. While exchange rates define the number of units of one currency that are required to purchase one unit of another currency, they do not determine what a unit of currency can buy in its home country, i.e., exchange rates do not incorporate differences in the cost of living. Purchasing power parity (PPP) represents the number of units of a countrys currency required to buy the same amount of goods and services in the domestic market that one unit of income would buy in another country. PPP is estimated by calculating the value of a universal basket of goods that can be purchased with one unit of a countrys currency.

ELEMENTS OF THE ECONOMIC ENVIRONMENT

Degree of Human Development. The Human Development Index (HDI) measures longevity, knowledge (primarily the adult literacy rate), and standard of living and is designed to capture long-term progress rather than short-term changes. (Note: the UN also reports a development index that adjusts for gender-related inequalities, gender empowerment, and poverty.)

FEATURES OF AN ECONOMY Inflation Unemployment Debt Income Distribution Poverty Labor Costs Productivity

FEATURES OF AN ECONOMY
The Balance of Payments : The balance of payments
(BOP), officially known as the Statement of Inter- national Transactions, records a countrys international transactions among companies, governments, and/or individuals. It reports the total of all money flowing into a country less all money flowing out of that country to any other country during a given period.

Current and Capital Accounts. The two primary accounts are: (a) the current account, which tracks all trade activity in merchandise and services, and (b) the capital account, which tracks both loans given to foreigners and loans received by citizens.

FEATURES OF AN ECONOMY Also included in the current account are income and compensation receipts and payments as well as unilateral transfers, which reflect both government and private relief grants and income transferred abroad. Whereas a trade surplus indicates that the value of exports exceeds the value of imports, a trade deficit indicates that the value of imports exceeds the value of exports. The statistical discrepancy reflects the difference between the sums of the credits and debits.

FEATURES OF AN ECONOMY
BOP and Economic Stability. Managers use the BOP to assess a country's economic stability. By measuring a country's transactions with the rest of the world, the BOP estimates a country's financial stability. BOP and Company Strategy. Monitoring trends in BOP gives managers more date in order to chart strategic choices.

Types of Economic Systems


An economic system is the set of structures and processes that guides the allocation of scarce resources and shapes the conduct of business activities in a nation. The spectrum of systems is anchored on one end by capitalism and on the other by communism. Free-market (capitalistic) economies are built upon the private ownership and control of the factors of production.

Types of Economic Systems


Market Economy. A market economy describes the system where individuals, rather than government, make the majority of economic decisions. Key factors include consumer sovereignty, the freedom of market entry and exit, and the determination of prices according to the laws of supply and demand. Credited to Adam Smith, the laissez-faire principle, i.e., nonintervention by government in a countrys economic activity, states that producers are driven by the profit motive, while consumers determine the relationship between price and quantity demanded. Thus, scarce resources are allocated efficiently and effectively.

Types of Economic Systems


Command Economy. Also known as centrallyplanned economies, command economies are built upon the government ownership and control of the factors of production. Central planning authorities determine what products will be produced in what quantities and the prices at which they will be sold. Most often, the totalitarian aims of communism gave the highest priority to industrial investments and military spending at enormous expense to the consumer sector.

Types of Economic Systems


Mixed Economy. Mixed economies fall between the extremes of market and command economies. While economic decisions are largely market-driven and ownership is largely private, government nonetheless intervenes in many economic decisions. The extent and nature of such intervention may take the form of government ownership of certain factors of production, the granting of subsidies, the taxation of certain economic activities, and/or the redistribution of income and wealth.

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