Sorting Out the Different Economic Models

The difference among economic models all comes down to how much control the central government has over the economy and people’s lives. The four main economic models you’re likely to encounter on the GED Social Studies test are these:

Capitalism: The most famous is Adam Smith’s classic capitalism, which he developed in his 1776 work The Wealth of Nations. It called for a marketplace that would regulate itself through supply and demand.
Socialism: Socialism argues that the state should intervene to ensure economic opportunity for all, to avoid exploitation of the working class, and promote the good for all.
Communism: Communism is an extreme form of socialism in which the state owns all methods of production, and all economic activities are regulated. Unlike the Marxist model, communist states are also a police state with limited individual rights.
Keynesian economics: Keynesian economics is less concerned about the relationships between workers and employers or prices and the market place and more concerned with controlling the inevitable economic slumps and booms of capitalist society.

In the following sections, we explain these different economic models in greater detail.

Grasping the basics of capitalism

Under classic capitalism, government plays no role in the economy. Smith argues that “the invisible hand” of the market place will regulate the economy. Ideally, capitalists produce goods to meet demand. If demand increases, increasing production to meet that demand is in the manufacturers’ self-interest. Prices respond to the demand for goods. If demand is high, prices will rise, and manufacturers will increase production. As more manufacturers enter that particular market, more goods enter the market. As demand is satisfied and competition increases, prices will drop, and less-efficient manufacturers will leave the market. Having fewer producers will cause prices to rise again. Ideally, a balance will develop between prices and demand.

example.eps What does Adam Smith mean by “the invisible hand”?

(A) the hand of God

(B) government intervention

(D) economic regulations

Nothing in the text suggests a religious explanation, so Choice (A) is wrong. The text suggests that government plays no role in the economy, so Choices (B) and (D) are also wrong. The only answer the text supports is Choice (C), the pressures of demand on prices and production.

However, Smith wasn’t blind to the rapacious effects of unbridled capitalism:

In regards to the price of commodities, the rise of wages operates as simple interest does, the rise of profit operates like compound interest…. Our merchants and masters complain much of the bad effects of high wages in raising the price and lessening the sale of goods. They say nothing concerning the bad effects of high profits. They are silent with regard to the pernicious effects of their own gains. They complain only of those of other people.

example.eps What suggests that Smith left open the door to ideas of market regulations?

(A) Nothing in the text supports that statement.

(B) statements about merchants complaining about high wages

(D) complaints about government intervention

Choice (A) is wrong because Smith does in fact raise concerns. The text suggests Choice (B), but that choice doesn’t answer the question. Choice (D) isn’t supported by the text. Choice (C) is the correct answer; Smith states merchants never talk about the bad effects of high profits and are silent about the pernicious effects of their own gains.

Laissez-faire capitalism is an extreme version of capitalism whose proponents argue that the state should never interfere in any way with the economy. They want no government regulation of any kind, no minimum wages, no laws to prevent monopolies or price fixing, and no unions or any other restrictions. Although the United States and many other democracies operate with a version of capitalism, none have totally unfettered capitalism. Government regulations of various kinds, including safety and human rights laws, environmental, and anticollusion laws, govern business operations and transactions to varying degrees.

There are no truly laissez-faire economies to date, not even the United States. All capitalist countries, including the United States, regulate banking and business, set minimum wages, and provide state-backed insurance and pensions. At what point these regulations become socialism (discussed later in the chapter) is an open debate.

Coming to terms with communism

On the opposite end of the economic spectrum from laissez-faire capitalism is Soviet-style communism. The state owns all means of production and regulates inputs and outputs along with wages and prices. The state allocates resources and sets priorities, deciding how much of any item is produced and what it will cost. It sets quotas workers must meet. Because of state priorities, consumer goods are often in short supply, or of limited variety, and often of mediocre quality.

Karl Marx, a German philosopher and economist, popularized communism with the publication of his Communist Manifesto. The principle on which pure communism is based is “From each according to his ability, to each according to his need,” a slogan that predated the Communist Manifesto but that was popularized by Marx.

In practice, communism has never achieved the ideal Marx had envisioned. Here’s one example of how communism tends to fall short in terms of efficiency: After WWII, the East German government approved the production of private cars, including the Trabant. Because of steel shortages, the car body was made of a cotton and plastic resin body, and the car was equipped with a two-stroke engine. Consumers had to pay the full price in advance, the equivalent of several years’ wages for the average worker, and then wait, sometimes several years, for delivery. When the Trabant’s designers wanted to introduce a new and better model, the state regulators denied permission. That was a common theme throughout the communist states. The Soviet workers’ car, the Lada, was a reproduction of a Fiat. It continued in production virtually unchanged for 30 years.

example.eps In what way can Soviet communism be viewed as a form of capitalism?

(A) It can’t.

(B) The state, rather than private individuals, owns all the businesses in the country.

(D) The government controls all sales.

In Soviet communism, the state owned all businesses just as individuals own businesses in a capitalist system. The correct answer is Choice (B). Choice (A) is wrong because, in a way, Soviet communism is capitalistic; the only difference is that the state, rather than individuals, owns and profits from the businesses. Choices (C) and (D) are partially correct if you view the state as a private business owner, but in capitalism, the state isn’t the only employer in the country, nor does it control all sales.

Another problem with communism is that in the USSR and other communist states, consumer goods were not a priority. That was often given to industrial expansion to earn foreign currency to support the regime and for increasing production of military goods to expand borders and put down revolts, so shortages of consumer goods are common. However, communism does deliver some benefits to the people. In most communist countries, for example, healthcare and education are available at no cost.

Some experts are careful to point out that communism is an economic system and not a political system. As an economic system, it calls only for a reasonable approach to the division of labor and goods. However, the political system that often develops around communism is usually more dictatorial than democratic, giving rise to power and corruption that directs the flow of wealth to the country’s leaders at the expense of the people.

Exploring the middle ground with socialism

Socialism falls between the two extremes of laissez-faire capitalism and communism, and it’s practiced in several different forms. Some countries, including Sweden and Norway, combine private ownership of commercial enterprises with publicly owned corporations. Some socialist states have a highly regulated economy combined with high income taxes. Others, including Canada and Italy, may not consider themselves as socialist; they have less emphasis on public ownership but still provide many government services, ranging from free healthcare to free education and subsidized housing, paid for by taxes. However, socialist countries offer all the democratic benefits of free speech, free association, and other freedoms to all their citizens. The confusion between socialism and communism comes from the fact that many communist countries refer to themselves as socialist republics. In fact, communist countries are generally police states with few democratic rights.

Norway combines state and private enterprise with free education through graduate school and a free public healthcare system, all supported by high taxes. The wealthiest pay an income tax of 50 percent in addition to a wealth tax on all their assets. To avoid tax cheating, the government posts all tax returns on a publicly accessible website. As a result, the richest 20 percent in Norway own only 3.9 times the assets of the bottom 20 percent. (By comparison, that figure is 8.5 times for the wealthiest 20 percent in the United States.)

Canada’s economic model is closer to that of the United States. Taxes are relatively low, but the government provides social services including subsidized housing and free medical care for all. Regulations are similar to those of the United States, from health and safety laws to environmental protection, while other areas such as banking are more heavily regulated. The federal government and provinces also own state enterprises known as Crown corporations. (In theory, they’re owned by the Crown in the name of the people.) Air Canada started as a Crown corporation when a passenger airline was needed and no private enterprise was forthcoming. The Canadian Broadcasting Corporation (CBC) is still government owned, providing radio and television services across the country right up to the arctic. The provinces also own and operate electrical power corporations, and in one province, public automobile insurance. Provincially, alcohol sales are a government monopoly; all sales are through provincial Crown corporations. In Ontario, that Crown corporation earns the provincial treasury over a billion dollars a year.

example.eps Could the United States be considered a socialist country?

(A) yes

(B) no

(D) not enough information in the passage

Based on the text, the best answer is Choice (A). Though the United States government doesn’t generally own and operate businesses that compete with the private sector, it does own many corporations that benefit the public. These include various credit and banking companies, the Corporation for Public Broadcasting, and the Tennessee Valley Authority. The government does, however, regulate commerce and trade, set minimum wages, and provide various social services. That exceeds the idea of “limited extent” in Choice (C).

Getting to know Keynesian economics

Keynesian economics is a special case. John Maynard Keynes developed his famous theory in England during the Great Depression. He was trying to understand why the Depression happened and how to solve the problem. He could see that classic economics didn’t work to solve the crisis. In recession or depression, demand drops. People are reluctant to buy, fearing unemployment and the resulting lack of income. As demand continues to drop, companies lay off workers. However, prices are sticky, meaning they don’t drop as the classic economic model would predict. Wages are also sticky because most workers won’t agree to wage cuts. When companies lay off workers, unemployment and fear of unemployment cause demand for goods to drop even farther. Production continues to drop, unemployment continues to rise, and recovery from that cycle is much more difficult. In effect, recession and depression form a downward spiral in which reduced demand leads to unemployment, which leads to further reduction in demand, and so on.

Keynes argued that the traditional conservative way of cutting costs and instituting austerity (cost-cutting) programs isn’t the way to get the economy running again. Austerity programs generally result in more layoffs. He argued that governments should encourage spending, increase hiring, and even use deficit financing to spur the economy.

After the recession of 2008, the U.S. federal government used that approach. The administration supported the banking sector (avoiding a collapse), invested billions in public-works programs, and even bailed out manufacturing companies including General Motors and Chrysler, saving tens of thousands of jobs. By 2015, unemployment in the United States was at 5.6 percent, a historic low; weekly earnings had started to climb again, corporate profits tripled, and the stock market recovered all the losses of 2008. However, the recovery was uneven. People at the lower end of the economic scale saw few benefits, even as more than 6 million jobs were created.

The major criticism of Keynesian economics is that it provides little guidance on how to end government spending when the recession or depression ends. Large government stimulus spending increases the risk of inflation. The question, then, is when and how to cut back on that spending and recover the money spent stimulating the economy. Governments are reluctant to raise taxes, and the economy may not yet be able to accept cutbacks to balance the books.

example.eps What do economists mean when they refer to sticky prices?

(A) prices that have too many agencies involved in their management

(B) prices that tend to remain low even when they should be rising

(D) prices that “stick” to changes in the value of currency

The term sticky prices refers to the stability of prices despite changes in demand. Your best answer is Choice (C). Choice (B) is partially true but not the best answer. Nothing in the passage supports Choice (A) or Choice (D).

Finding Out What’s New About the New Deal

When Franklin Delano Roosevelt (FDR) won the 1932 election, the Great Depression was in its second year. The previous Hoover administration had focused on providing indirect aid to banks and limited spending on public work projects, but refused to provide direct aid to citizens. FDR’s first 100 days changed that. He began with legislation to bring stability to the banking system. Numerous banks had failed, and depositors lost millions. FDR brought in the Emergency Banking Relief Act and other banking reforms to protect people’s savings if banks failed. Then his government created the Federal Deposit Insurance Corporation (FDIC) and implemented various regulations to limit speculation, one of the causes of the crash of 1929. The legislation prohibited banks from investing in the stock market, and the new Securities and Exchange Commission regulated stock market speculation.

The second stage was to deal with individuals and aid to the unemployed. The Civilian Conservation Corp, created in 1933, hired millions of unemployed young men to perform conservation work. In return for wages, food, and shelter, single young men worked outdoors to build and improve national parks and public roads. The Federal Emergency Relief Administration (FERA) and the Civilian Works Administration (CWA) provided financial relief to individual state and local governments and direct financial help to unemployed and destitute individuals.

The New Deal also boosted industry. The Tennessee Valley Authority (TVA) was created to build a huge hydroelectric project in the Tennessee River Valley. Construction of this project created thousands of jobs and provided training and housing for many people, and the resulting cheap electricity was a major benefit to the region. Despite criticism that the project represented socialism, the approach worked so well that the government built similar power projects, including the Hoover Dam, in other areas of the United States. The government also created other public works projects, building roads, public buildings, and other infrastructure, all to provide immediate employment.

By 1936, FDR faced growing opposition by the Republican Party in Congress. Resentment was building against higher taxes on corporations and wealthy individuals, and conservative judges in the Supreme Court overturned many of FDR’s proposals on constitutional grounds. Roosevelt’s campaign for the 1936 presidential elections proposed even more government interventions and social program changes. He won by a landslide.

The second New Deal emphasized social legislation. Just before the election, FDR introduced the Social Security and Wagner Acts, arguably the most important pieces of social legislation ever in the United States The Social Security Act provided state pensions and unemployment and disability insurance. The Wagner Act reinstated collective bargaining rights for unions.

The major opposition to the New Deal came from the conservative Supreme Court. It had overruled both a New York state law creating a minimum wage and New Deal legislation. The Court, supported by big business, threatened to do the same again. FDR proposed to reform the Supreme Court and appoint a large number of new justices who agreed with him. The Supreme Court didn’t overrule the Social Security Act or the Wagner Act, both of which continue to this day.

example.eps Why was FDR’s stabilization and regulation of the financial system in the first 100 days in 1932 significant?

(A) It stopped the runs on the bank that threatened to bankrupt thousands of private depositors.

(B) It prevented the kind of speculation by banks and stock market investors that had caused the crash of 1929.

(D) All of the above.

The correct choice is Choice (D), all of the above. FDR needed to provide financial stability before he could implement any of his other measures. Without that financial stability, neither individuals nor corporations would be willing to make the kinds of investments that would turn the Depression around.

example.eps How was the New Deal an example of Keynesian economics in action?

(A) It used deficit financing to create employment.

(B) It provided economic stimulus by significantly lowering income taxes.

(D) It created a minimum wage law to support workers.

The correct answer is Choice (A). Although Choices (B) and (C) may be true, nothing in the text supports those choices. The text also doesn’t mention the creation of a minimum wage law (Choice (D)). You must select the best answer based on the information given, which means Choice (A) is your only choice. (If Keynesian economics sounds like Greek to you, flip to the earlier section “Getting to know Keynesian economics” for details.)

Wrapping Your Brain around Microeconomics and Macroeconomics

In Economics For Dummies (Wiley), Sean Flynn explains the difference between microeconomics and macroeconomics as follows:

Microeconomics focuses on individual people and individual businesses. For individuals, it explains how they behave when faced with decisions about where to spend their money or how to invest their savings. For businesses, it explains how profit-maximizing firms behave individually and when competing against each other in markets.
Macroeconomics looks at the economy as an organic whole, concentrating on factors such as interest rates, inflation, and unemployment. It also encompasses the study of economic growth and how governments try to moderate the harm caused by recessions.

In the following sections, we explain micro- and macroeconomics in greater detail.

Digging into microeconomics

On a microeconomic level, individuals make decisions about savings, spending, starting or closing businesses, and even investments. If enough people make decisions to buy a particular product, that may influence prices to rise or manufacturers to increase production of that product. Similarly, new products that don’t find sufficient customers will quickly disappear in accordance with consumer choice theory. Adam Smith’s “invisible hand” will determine success or failure. (Head to the earlier section “Grasping the basics of capitalism” for more on Smith’s economic theory.) That "invisible hand" also influences the price of a product because a high demand coupled with a limited supply raises its price. As more manufacturers produce that product, increasing supply results in falling prices. Microeconomics also studies wages, employment, personal debt, and consumer choice.

Wages and employment

A number of forces influence both employment levels and employee income levels. Government can affect employment levels by imposing various taxes and by setting minimum wages. Unions can influence wage levels and job security through collective bargaining. An over- or under-supply of workers in a given economic sector has the same effect on wages as demand for goods has on prices. If unemployment is high and many workers are available, wages tend to remain low and stable. If unemployment is low, the reduced availability of workers applies an upward pressure on wages. Social action, such as the demand for a $15/hour minimum wage, can also create pressures to which employers respond, even without an accompanying shortage of labor.

example.eps A law that increases the minimum wage is most likely to

(A) increase job security

(B) lead to a recession

(D) encourage employers to hire more workers

A law that increases the minimum wage would probably cause employers to raise prices or lay off workers to mitigate the loss of profit from having to pay higher wages, so Choice (C) is the best answer.

Debt

Debt also affects the economy. Most people can’t afford to pay cash for major purchases, so they borrow money to finance cars, homes, and even higher education. As long as debtors are able to repay their loans, the debt isn’t a problem. The issue is bad debts, debts that can’t be repaid or recovered. The crash in 2008 was caused in part because of a high volume of bad debts. Lenders had issued a large number of variable rate mortgages to individuals who couldn’t afford their monthly payments when interest rates increased. In addition, lenders often approved loans in excess of the value of the homes used to secure those loans. When housing prices dropped, the value of many homes wasn’t enough to cover the balance remaining on the loan. When homeowners couldn’t make their monthly mortgage payments, they had to sell their homes, often for less than they had paid for them and less than they owed on their mortgages. Or they simply abandoned their homes, leaving the bank to deal with the financial shortfall. Banks foreclosing on these mortgages lost money — so much money that they faced serious financial problems.

Financial regulation can limit risks from certain types of loans and discourage speculation in the housing market by requiring minimum down payments, restricting the degree of debt leverage, or changing tax laws to discourage speculation and riskier loan types.

Consumer choice

Governments often use taxes to influence consumer behavior on a microeconomic scale. For example, the government charges a “sin” tax on tobacco and alcohol sales to discourage the use of these substances and collect money to help offset the medical and related costs (including lost tax revenue) associated with the consumption of these substances.

The government also uses a host of tax incentives to encourage certain behaviors, such as owning a home, investing in green energy products, making charitable contributions, obtaining health insurance, pursuing educational opportunities, and much more. These incentives come in the form of tax deductions and tax credits. A tax deduction is an amount you subtract from your income before calculating the taxes due on that income. A tax credit is an amount you subtract directly from the amount of taxes due.

example.eps A sin tax is designed to

(A) discourage certain consumer behaviors

(B) encourage certain consumer behaviors

(D) reward consumers

A sin tax is designed to discourage certain consumer behaviors, such as the purchase of potentially harmful products, so Choice (A) is the correct answer.

Understanding macroeconomics fundamentals

Macroeconomics looks at the factors that affect the economy on a national and international level. It tries to explain the effect of government policies on the entire economy and what influences prices overall. Countries measure their economies by gross domestic product (GDP), and overall productivity by GDP per person. GDP represents the monetary value of all goods produced in a country over a given time, usually annually. The GDP per person divides that amount by the population of the country. It allows comparisons of year-to-year changes in one economy as well as comparisons of the economies worldwide. Two measures of how well the economy is doing are economic growth and inflation/deflation. Growth is monitored in terms of the annual increase or decrease in GDP, while inflation measures the rate at which prices are rising (or dropping, in the case of deflation).

Governments can influence macroeconomics in various ways, including the following:

Setting or removing tariffs: They can charge fees on products coming into the country from foreign markets to prevent competition and lower prices that negatively affect domestic producers. Or they can remove tariffs to encourage the importation of goods, often resulting in lower prices for consumers. Tariffs tend to discourage trade for obvious reasons.
Increasing or decreasing government spending: To create jobs and stimulate the economy, a government may increase spending. Of course, when the government has insufficient funds to cover its increased spending, they must resort to deficit spending, borrowing to spend, which increases the national debt and could result in problems down the road.

National debt is the total amount the federal government owes. When you hear politicians discuss the budget deficit, they’re talking about the annual shortfall, the difference between how much the government collects in revenue (mostly from taxes) and the amount it spends in any given year. With a deficit reduction, the national debt continues to grow. The government would need to have a budget surplus rather than a deficit for it to lower the national debt.
Increasing or decreasing interest rates: In the United States, the Federal Reserve monitors economic conditions and either lowers or raises the interest rate on the money it lends to banks. The Federal Reserve attempts to maintain GDP growth at a rate of 2 to 3 percent annually. If the GDP grows slower than that, the Federal Reserve tends to lower interest rates to encourage consumer and business spending to stimulate the economy. When the GDP grows faster than that, the Federal Reserve tends to raise interest rates to keep inflation in check.

example.eps Why is GDP per person a more accurate measure of an economy than just the GDP?

(A) It shows individual incomes.

(B) It takes total population into account.

(D) All of the above.

GDP per person puts international comparisons on an equal footing. Economies like China may be producing far more than the economy of Great Britain or France, but taking China’s huge population into account shows economic production more accurately. Your best option is Choice (B). Although Choices (A) and (C) are partially true, they’re not the best choices.

Examining Income Inequality and Related Issues

In 2013, President Obama spoke out about income inequality, calling it the defining issue of our times:

… Since 1979, when I graduated from high school, our productivity is up by more than 90 percent, but the income of the typical family has increased by less than 8 percent. Since 1979, our economy has more than doubled in size, but most of that growth has flowed to a fortunate few….

The top 10 percent no longer takes in one-third of our income — it now takes half. Whereas in the past, the average CEO made about 20 to 30 times the income of the average worker, today’s CEO now makes 273 times more. And meanwhile, a family in the top 1 percent has a net worth 288 times higher than the typical family, which is a record for this country….
… This increasing inequality is most pronounced in our country, and it challenges the very essence of who we are as a people. Understand we’ve never begrudged success in America. We aspire to it….

The problem is that alongside increased inequality, we’ve seen diminished levels of upward mobility in recent years. A child born in the top 20 percent has about a 2-in-3 chance of staying at or near the top. A child born into the bottom 20 percent has a less than 1-in-20 shot at making it to the top. He’s ten times likelier to stay where he is. In fact, statistics show not only that our levels of income inequality rank near countries like Jamaica and Argentina, but that it is harder today for a child born here in America to improve her station in life than it is for children in most of our wealthy allies — countries like Canada or Germany or France … the idea that a child may never be able to escape that poverty because she lacks a decent education or healthcare, or a community that views her future as their own, that should offend all of us and it should compel us to action. We are a better country than this.
… These trends are bad for our economy…. When families have less to spend, that means businesses have fewer customers, and households rack up greater mortgage and credit card debt; meanwhile, concentrated wealth at the top is less likely to result in the kind of broadly based consumer spending that drives our economy, and together with lax regulation, may contribute to risky speculative bubbles.

And rising inequality and declining mobility are also bad for our families and social cohesion — not just because we tend to trust our institutions less, but studies show we actually tend to trust each other less when there’s greater inequality. And greater inequality is associated with less mobility between generations. That means it’s not just temporary; the effects last. It creates a vicious cycle….

And finally, rising inequality and declining mobility are bad for our democracy. Ordinary folks can’t write massive campaign checks or hire high-priced lobbyists and lawyers to secure policies that tilt the playing field in their favor at everyone else’s expense. And so people get the bad taste that the system is rigged….

Recent protests against the income inequality in the United States started with the Occupy Wall Street (OWS) movement in 2011. Though OWS has faded from the news, the frustrations continue, exemplified today by the $15/hour minimum wage movement. As fast food and retail giants are making major profits, workers are often left struggling with two or three jobs to make ends meet. This situation is exacerbated by the fact that many corporations won’t offer minimum wage workers more than part-time work. That means many of these workers have no benefits, and their hours can be cut at will. Quite often minimum wage workers need government programs such as food stamps to survive. These programs have become a subsidy to employers because it enables them to continue to pay their workers such low wages.

Demonstrations in major cities across the United States reflect the anger of these workers, and the movement has met with some success. Governor Cuomo agreed to study creating a $15 minimum wage for New York State. Some cities such as Los Angeles and Seattle have set a $15 minimum wage, and San Francisco is raising minimum wages. New York Mayor Bill de Blasio in 2015 raised the minimum hourly wage for New Yorkers to $13.13

In his speech, President Obama also highlighted a different issue: massive student loan debt. That debt is estimated to be in excess of $1.2 trillion with 7 million debtors in default. Many students estimate they’ll need decades to repay student loans. The problem is so significant because it limits educational opportunities for poor Americans. That debt load also affects the economy because failure to make payments on those loans reduces the amount of money available for other uses, limiting economic growth. The federal government has taken some steps recently to help alleviate the problem, including an option of tying repayment rates to income and family responsibilities.

Income disparity also has other serious effects. Studies have shown that life expectancy and health decrease as income decreases. A strong correlation between poverty and school dropout rates also exists. Dropout rates in poor U.S. states are significantly higher than in the wealthier ones. Many European countries have social programs specifically aimed at helping the poorest achieve better education. Some countries, like Germany, Norway, and Sweden, offer free university education to all. The income disparity is also reduced by higher taxes on the wealthy, and free healthcare.

example.eps Why would a poor child in countries like France or Germany (according to President Obama) have better chances for upward social mobility than a poor child in the United States?

(A) Those countries offer targeted social programs for the poor.

(B) France and Germany have higher taxes on the wealthy.

(D) All of the above.

European countries have stronger socialist leanings, which means they offer many subsidies and other forms of help for the disadvantaged. This help is paid for by higher taxes on corporations and wealthy individuals. That means the best answer to this question is Choice (D).

Investigating Economic Causes and Fallout Related to War

Prior to the Industrial Revolution, wars were fought by largely mercenary armies out in a field somewhere to decide which king should sit on which throne. Dynastic succession triggered all the great wars of the 18th century.

Starting with the Industrial Revolution, economics became a much more significant factor. The American Civil War is a case in point. For the South, the survival of slavery was an economic issue, not a moral issue. Southern society couldn’t survive as it was without the cotton trade, and the cotton trade depended on slavery.

World Wars I and II had similar economic components among the list of causes. World War I came about in part because of economic rivalries among Germany, Britain, and France. German industrialization since unification in 1871 had made it a modern industrial powerhouse. It outpaced Great Britain, where the Industrial Revolution had started. Germany’s industries were more modern and its technology more up to date. Part of the hostility with France came from the Germans’ seizure of Alsace and Lorraine, which also became an economic issue because it deprived France of much-needed coal.

Economics also contributed to the outbreak of World War II. Germany had a large population and a booming industrial economy but only limited raw materials and agricultural output. A common theme of Hitler’s speeches was the requirement for more Lebensraum (living space) for the German people. Similarly, Japan risked war with the United States because it needed access to raw materials in China. The United States tried to force Japan to pull back from China and proposed an oil embargo as a pressure tactic. That oil embargo became a major trigger for the Japanese attack on Pearl Harbor.

example.eps Why would a possible oil embargo cause Japan to attack the United States?

(A) Japan wanted to seize U.S. oil fields.

(B) Japan’s continuing military power depended on access to oil for its military.

(D) All of the above.

The immediate cause was Japan’s need for oil to maintain its military. Japan had no oil resources, and its leadership knew that an oil embargo would have a serious impact on its military combat readiness. The correct answer is Choice (B). Though Japan may have wanted to seize American oil fields (Choice (A)) or develop its own oil resources (Choice (C)), the text doesn’t support these answers. (Tip: For more detail on the lead-up to major U.S. historical events, including the wars mentioned here, check out Chapter 9.)

The economic fallout of wars is obvious. According to a Congressional Budget Office (CBO) document from 2007, “total spending for U.S. operations in Iraq and Afghanistan and other activities related to the war on terrorism would amount to between $1.2 trillion and $1.7 trillion for fiscal years 2001 through 2017.” Much of this cost is financed by borrowing because successive governments have reduced taxes and increased spending. That means the debt will be around for a long time. Table 10-1 compares U.S. war costs in dollars.

Table 10-1 Cost of U.S. Wars

War or Conflict	Year of Spending	Cost in Fiscal Year 2011 Dollars
World War I	$20 billion	$334 billion
World War II	$296 billion	$4.1 trillion
Korea	$30 billion	$341 billion
Vietnam	$111 billion	$738 billion
Persian Gulf War	$61 billion	$102 billion
Iraq	$715 billion	$784 billion
Afghanistan	$297 billion	$321 billion

Source: Congressional Research Service, June 29, 2010 (cironline.org/sites/default/files/legacy/files/June2010CRScostofuswars.pdf)

The Vietnam War contributed to a unique economic problem: a combination of high inflation and a stagnant economy. Massive spending on the war put more money into circulation, increasing inflation. That increased interest rates, which impacted average Americans and the business community. Because much of the conflict was financed through debt, the government deficit increased significantly, with a major impact on the government’s ability to provide other services.

example.eps What is the significance of presenting the costs of war in fiscal year 2011 dollars?

(A) It creates larger numbers.

(B) It makes the comparisons more accurate.

(D) All of the above.

Representing the cost of each war in 2011 dollar amounts provides a clearer comparison of the actual costs of the wars, Choice (B). For example, you may pay 65 cents for a candy bar now that would have cost a dime in 1970, but median household income was less than $10,000 in 1970 compared to over $50,000 in 2014. By translating the value of the dollar to a set time, you can compare expenditures over years on the same scale. Choice (A) is just silly. Choice (C) may be partially true, but accumulated interest charges are already calculated into the debt, so no extra calculations are required.

Weighing the Impact of the Agricultural, Industrial, and Technology Revolutions

The agricultural, industrial, and technology revolutions created profound changes in social organization, wealth, and social mobility. When nomadic herders learned how to grow crops, they created permanent settlements. While living as a nomadic tribe, individuals shared the wealth of the tribe. Because the animals in the tribe’s herd were wealth, members of the tribe were equally wealthy. However, the creation of sedentary societies meant that land on which to grow crops equaled wealth. Individuals who were more successful in raising crops could buy more land on which to grow more crops and thus accumulate wealth, and less successful farmers became poor farmers. That’s how society developed a class structure based on wealth. Sedentary agriculture also led to surplus food, which allowed some individuals other options for making a living. Now not everyone had to farm to survive, so some could specialize in pottery, weaving, or any other area dictated by their skills. That too allowed some to become wealthier than others.

The Industrial Revolution in the late 1700s had equally profound effects on society. Prior to that time, manufacturing was small scale on a family level. Guilds and an apprentice system trained individuals in the skills required. The guilds regulated the skills required and the number of individuals who could become masters. A master smith (such as a blacksmith) would run a family operation, usually in a facility attached to the home. He would train the oldest son to follow in the trade, while the wife and other children looked after the home and performed tasks required for the family’s well-being. To be a master of the trade, the individual had to know all aspects of the trade and be able to manufacture an item from start to finish.

The Industrial Revolution changed that. The invention of the factory system of production meant that highly specialized tasks could be broken down into tiny pieces, each of which could be performed by individuals with minimal training. That also meant the individuals concerned could be paid far less for their skills, and the factory owners would make much higher profits. Machinery replaced skilled workers so that the number of people and the skill levels required to produce goods was reduced while the output of goods increased dramatically. That meant the cost of goods dropped significantly, too, and more members of society could afford to buy the products.

This shift created a vast dislocation within society. The wool and cotton industry in England is a good example. Traditionally, weavers controlled production and were able to set prices and earn a decent living. Beginning in the 1800s, factory owners replaced skilled weavers with automated looms. These machines worked around the clock without breaks and made no demands for salaries. The factory required only unskilled workers to feed the machines. Thousands of skilled weavers were displaced. Weavers were unemployed, and replacement factory workers earned starvation wages. Ned Ludd gave his name to the Luddite movement, which tried to stop the industrialization of the weaving trade. Luddites smashed weaving equipment whenever they could. They were so effective at slowing down the industrialization of their trade that the government was forced to offer a 200-pound reward for the capture of anyone guilty of such sabotage. The British government, under pressure from industrialists, made destroying machinery a hanging offense.

example.eps Who were the Luddites?

(A) unemployed weavers

(B) opponents of the mechanization of the weaving industry

(D) none of the above

The correct answer is Choice (B), opponents of the mechanization of the weaving industry. They may also have been unemployed workers (Choice (A)) or opponents of the factory system (Choice (C)), but those choices aren’t the most precise answers.

Changes in technology had other effects. When Johannes Gutenberg created the printing press with movable type in 1440, he did more than print books; he made knowledge widely available. Before his printing press, books were handwritten, highly prized commodities that only the wealthy could afford. Because books were rare, few people needed to read. Gutenberg’s printing press democratized knowledge and enabled the distribution of new ideas. It made books, and therefore knowledge, much more widely available. When Martin Luther nailed his famous Ninety-five Theses to the door of the church in Wittenberg, his message reached only those few who actually saw it. A friend copied the document and sent it to a printer. Within months, people throughout Europe had seen it. It became one of the instigating documents for the Protestant Reformation.

The impact of technology continues. The invention of transistors allowed the development of small portable radios. The integrated circuits that followed it allowed even greater miniaturization. The first computers occupied entire large rooms and required dust-free environments and temperature controls but offered less computing power than today’s hand-held calculators. The computer equipment onboard the space capsules that carried astronauts to the moon had less calculating power than a Commodore 64, and yet were a massive advance over previous technology.

The technology has also had social effects. In Gutenberg’s days, sending the knowledge contained in a book from London to Berlin took weeks. Today that knowledge transfers around the whole world electronically in seconds. Thirty years ago, when workers left the office, they were done work for the day. Today cellphones and computers are an electronic leash requiring people to be available 24 hours a day. Technology has also created a new social dislocation as robotic assembly replaces skilled workers, leaving fewer well-paid jobs. At the same time, this displacement has created a new set of jobs requiring high skills to design, build, and maintain those robots.

example.eps Which of the following was a social effect of the introduction of the printing press in Europe?

(A) It led to the creation of public libraries.

(B) It made society more democratic.

(D) It led to a more standardized spelling.

Gutenberg’s printing press had a profound social impact because it allowed for a much wider distribution of knowledge, Choice (C). The other choices are all true but not supported by the text. You need to choose the best answer based on the material presented.

Shaking the Money Tree: Economics

Sorting Out the Different Economic Models

Grasping the basics of capitalism

Coming to terms with communism

Exploring the middle ground with socialism

Getting to know Keynesian economics

Finding Out What’s New About the New Deal

Wrapping Your Brain around Microeconomics and Macroeconomics

Digging into microeconomics

Wages and employment

Debt

Consumer choice

Understanding macroeconomics fundamentals

Examining Income Inequality and Related Issues

Investigating Economic Causes and Fallout Related to War

Looking into Economic Drivers of Exploration and Colonization

Weighing the Impact of the Agricultural, Industrial, and Technology Revolutions