Worksheet #4 Wealth and the Economy
#1. How does wealth affect production? How does wealth affect consumption?
Part of wealth is capital (machines, tools, factories, etc.). If we have more capital we can produce more output. Greater wealth produces greater output. If the stock market rises or the bond market rallies then individual wealth increases and people feel wealthier. They do not need to save so much, so they consume more. These effects are called wealth effects.
#2. Explain why that national saving can be defined as the net change in national
wealth?
Y = C + S S = Additional Wealth of Households = ΔWEALTH
#3. A corporation usually has a name list of customers, brand name recognition, and
an established position in the market. This is considered an asset with a value.
It is called “goodwill”. Explain why this is an asset and part of national
wealth.
Something which can earn money or services now and in the future is an asset. An asset is part of the national wealth. Goodwill allows a company to make more money now and in the future. Therefore it is an asset. It is part of national wealth
#4. Society’s national wealth decreased when Albert Einstein died April 18, 1955.
Do you agree or disagree? Explain your answer.
Yes, we lost his human capital or his intellect. It could not be sold to someone else before he died. Human capital has a value and can be produced, but it can’t be sold on a market like a tool or a machine.
#5. Is it possible that a country with a small amount of wealth can have a high
economic growth rate? And, is it possible that a country with a large amount
of wealth can have a low economic growth rate? Explain.
Yes, of course. Thailand does not have a lot of wealth. But, its economy can grow at 10% per year. The US is a wealthy country, but even during the best years it seldom achieves a growth rate of above 4%.
#6. When you buy stock on Taiwan’s stock exchange the GDP increases. Explain.
The reason is NOT because we are investing. Actually we are not investing in a macroeconomic sense. There is no change in capital. However, the GDP increases because of the commissions earned by the securities brokers.
#7. Suppose that government borrows money by issuing government bonds.
Explain how this might affect private consumption, both directly and indirectly.
If the consumer has more bonds then the consumer feels wealthier. The consumer will buy more. This is a wealth effect. Also, if more bonds are issued, then bond prices will fall. This causes interest rates to rise. The rise in interest rates reduces spending and increases saving. This is an indirect effect.
#8. Adam Smith wrote “The Wealth of Nations” published in 1776. He defined wealth and explained what would increase national wealth. What was Adam Smith’s definition of wealth and what did he say about wealth creation?
Adam Smith felt that a country’s wealth was its productive capacity. A country which has a large labor force, lots of capital, good human capital, high technology is a wealthy country. To get more wealth a country must become more productive. To become more productive a country must increase the scale of its markets. This allows the economy to enjoy economies of scale and higher productivity. The country should have free trade to increase its market size. Both imports and exports must increase in a balanced way.
#9. Why do we say that the value of an asset is determined by the capitalized stream
of services flowing from that asset? Give an example.
Suppose we have a machine which can be used 20 years. Each year it can bring in rents equal to R. The interest rate (long term) is r, then roughly, we can say the price of the machine is equal to
P = R/r or R = rP
Price = Rent / Interest Rate
#10. Give some examples of public, not private, wealth. How could we value
these public assets? Do these assets have a rate of return?
(1)Airport
(2)Highway
(3)Street Lights
(4)Traffic Lights
(5)Dams
(6)Power Station
(7)Fighter Jet (F-16)
(8)Submarine
(9)Weapons
We have to determine what the monetary benefit is to using the asset. Call that R.
Next, we must ask what a reasonable rate of return is on producing these kinds of assets. You can use the long term interest rate. Call that r.
Value of the asset = R/r
The rate of return should be roughly the same as private assets.