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Karl E. Case
Wellesley College
Ray C. Fair
Yale University
Sharon M. Oster
Yale University
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Library of Congress Cataloging-in-Publication Data
Case, Karl E.
Principles of economics / Karl E. Case, Ray C. Fair, Sharon M. Oster. — 10th ed.
p. cm.
Includes bibliographical references and index.
ISBN-13: 978-0-13-255291-2
ISBN-10: 0-13-255291-4
1. Economics. I. Fair, Ray C. II. Oster, Sharon M. III. Title.
HB171.5.C3123 2012
330—dc22
2010049925
Credits and acknowledgments borrowed from other sources and reproduced, with permission, in this textbook appear
on appropriate page within text.
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Many of the designations by manufacturers and sellers to distinguish their products are claimed as trademarks. Where
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printed in initial caps or all caps.
ISBN 13: 978-0-13-255291-2
ISBN 10: 0-13-255291-4
Dedicated To
Professor Richard A. Musgrave
and
Professor Robert M. Solow
and
Professor Richard Caves
10 9 8 7 6 5 4 3 2 1
Karl E. Case is Professor of Economics Emeritus at Wellesley College where he has taught for 34
years and served several tours of duty as Department Chair. He is a Senior Fellow at the Joint
Center for Housing Studies at Harvard University and a founding partner in the real estate
research firm of Fiserv Case Shiller Weiss, which produces the S&P Case-Shiller Index of home
prices. He serves as a member of the Index Advisory Committee of Standard and Poor’s, and along
with Ray Fair he serves on the Academic Advisory Board of the Federal Reserve Bank of Boston.
Before coming to Wellesley, he served as Head Tutor in Economics (director of undergradu-
ate studies) at Harvard, where he won the Allyn Young Teaching Prize. He was Associate Editor of
the Journal of Economic Perspectives and the Journal of Economic Education, and he was a member
of the AEA’s Committee on Economic Education.
Professor Case received his B.A. from Miami University in 1968; spent three years on active
duty in the Army, and received his Ph.D. in Economics from Harvard University in 1976.
Professor Case’s research has been in the areas of real estate, housing, and public finance. He
is author or coauthor of five books, including Principles of Economics, Economics and Tax Policy,
and Property Taxation: The Need for Reform, and he has published numerous articles in profes-

sional journals.
For the last 25 years, his research has focused on real estate markets and prices. He has authored
numerous professional articles, many of which attempt to isolate the causes and consequences of
boom and bust cycles and their relationship to regional and national economic performance.
Ray C. Fair is Professor of Economics at Yale University. He is a member of the Cowles
Foundation at Yale and a Fellow of the Econometric Society. He received a B.A. in Economics
from Fresno State College in 1964 and a Ph.D. in Economics from MIT in 1968. He taught at
Princeton University from 1968 to 1974 and has been at Yale since 1974.
Professor Fair’s research has primarily been in the areas of macroeconomics and econometrics,
with particular emphasis on macroeconometric model building. He also has done work in the areas
of finance, voting behavior, and aging in sports. His publications include Specification, Estimation,
and Analysis of Macroeconometric Models (Harvard Press, 1984); Testing Macroeconometric Models
(Harvard Press, 1994); and Estimating How the Macroeconomy Works (Harvard Press, 2004).
Professor Fair has taught introductory and intermediate macroeconomics at Yale. He has
also taught graduate courses in macroeconomic theory and macroeconometrics.
Professor Fair’s U.S. and multicountry models are available for use on the Internet free of
charge. The address is . Many teachers have found that having stu-
dents work with the U.S. model on the Internet is a useful complement to an introductory
macroeconomics course.
Sharon M. Oster is the Dean of the Yale School of Management, where she is also the Frederic
Wolfe Professor of Economics and Management. Professor Oster joined Case and Fair as a coau-
thor in the ninth edition of this book. Professor Oster has a B.A. in Economics from Hofstra
University and a Ph.D. in Economics from Harvard University.
Professor Oster’s research is in the area of industrial organization. She has worked on problems of
diffusion of innovation in a number of different industries, on the effect of regulations on business,
and on competitive strategy. She has published a number of articles in these areas and is the author of
several books, including Modern Competitive Analysis and The Strategic Management of Nonprofits.
Prior to joining the School of Management at Yale, Professor Oster taught for a number of
years in Yale’s Department of Economics. In the department, Professor Oster taught introductory
and intermediate microeconomics to undergraduates as well as several graduate courses in indus-

trial organization. Since 1982, Professor Oster has taught primarily in the Management School,
where she teaches the core microeconomics class for MBA students and a course in the area of com-
petitive strategy. Professor Oster also consults widely for businesses and nonprofit organizations
and has served on the boards of several publicly traded companies and nonprofit organizations.
About the Authors
v
Brief Contents
PART I Introduction to Economics 1
1 The Scope and Method of Economics 1
2 The Economic Problem: Scarcity and Choice 25
3 Demand, Supply, and Market Equilibrium 47
4 Demand and Supply Applications 79
5 Elasticity 97
PART II The Market System: Choices
Made by Households and
Firms 117
6 Household Behavior and Consumer Choice 121
7 The Production Process: The Behavior of Profit-
Maximizing Firms 147
8 Short-Run Costs and Output Decisions 167
9 Long-Run Costs and Output Decisions 189
10 Input Demand: The Labor and Land Markets 215
11 Input Demand: The Capital Market and the
Investment Decision 233
12 General Equilibrium and the Efficiency of Perfect
Competition 253
PART III Market Imperfections and the
Role of Government 269
13 Monopoly and Antitrust Policy 269
14 Oligopoly 293

15 Monopolistic Competition 313
16 Externalities, Public Goods, and Social Choice 329
17 Uncertainty and Asymmetric Information 353
18 Income Distribution and Poverty 367
19 Public Finance: The Economics of Taxation 389
PART IV Concepts and Problems in
Macroeconomics 409
20 Introduction to Macroeconomics 409
21 Measuring National Output and National
Income 423
22 Unemployment, Inflation, and Long-Run
Growth 441
PART V The Core of Macroeconomic
Theory 457
23 Aggregate Expenditure and Equilibrium Output 459
24 The Government and Fiscal Policy 477
25 The Money Supply and the Federal Reserve
System 501
26 Money Demand and the Equilibrium Interest
Rate 525
27 Aggregate Demand in the Goods and Money
Markets 541
28 Aggregate Supply and the Equilibrium Price
Level 559
29 The Labor Market In the Macroeconomy 581
PART VI Further Macroeconomics
Issues 599
30 Financial Crises, Stabilization, and Deficits 599
31 Household and Firm Behavior in the Macroeconomy:
A Further Look 615

32 Long-Run Growth 635
33 Alternative Views in Macroeconomics 649
PART VII The World Economy 663
34 International Trade, Comparative Advantage, and
Protectionism 663
35 Open-Economy Macroeconomics: The Balance of
Payments and Exchange Rates 687
36 Economic Growth in Developing and Transitional
Economies 713
Glossary 735
Index 751
Photo Credits 781
vi
Contents
PART I Introduction To Economics 1
1
The Scope and Method of
Economics 1
Why Study Economics? 2
To Learn a Way of Thinking 2
To Understand Society 4
To Understand Global Affairs 5
To Be an Informed Citizen 5
ECONOMICS IN PRACTICE iPod and the World 6
The Scope of Economics 6
Microeconomics and Macroeconomics 6
The Diverse Fields of Economics 7
ECONOMICS IN PRACTICE Trust and Gender 9
The Method of Economics 9
Descriptive Economics and Economic Theory 10

Theories and Models 10
Economic Policy 13
An Invitation 15
Summary 15 Review Terms and Concepts 16 Problems 16
Appendix: How to Read and Understand Graphs 17
2
The Economic Problem: Scarcity
and Choice 25
Scarcity, Choice, and Opportunity Cost 26
Scarcity and Choice in a One-Person Economy 26
Scarcity and Choice in an Economy of Two or
More 27
ECONOMICS IN PRACTICE Frozen Foods and
Opportunity Costs 28
The Production Possibility Frontier 33
The Economic Problem 38
ECONOMICS IN PRACTICE Trade-Offs among the
Rich and Poor 39
Economic Systems and the Role of
Government 39
Command Economies 40
Laissez-Faire Economies: The Free Market 40
Mixed Systems, Markets, and Governments 42
Looking Ahead 42
Summary 43 Review Terms and Concepts 43 Problems 44
3
Demand, Supply, and Market
Equilibrium 47
Firms and Households: The Basic Decision-
Making Units 47

Input Markets and Output Markets: The Circular
Flow 48
Demand in Product/Output Markets 50
Changes in Quantity Demanded versus Changes in
Demand 51
Price and Quantity Demanded: The Law of
Demand 51
Other Determinants of Household Demand 54
ECONOMICS IN PRACTICE Kindle in the College
Market? 55
Shift of Demand versus Movement Along a
Demand Curve 56
From Household Demand to Market Demand 58
Supply in Product/Output Markets 60
Price and Quantity Supplied: The Law of
Supply 61
Other Determinants of Supply 62
Shift of Supply versus Movement Along a Supply
Curve 63
From Individual Supply to Market Supply 65
Market Equilibrium 66
Excess Demand 66
Excess Supply 68
Changes in Equilibrium 69
ECONOMICS IN PRACTICE High Prices for
Tomatoes 70
Demand and Supply in Product Markets: A
Review 72
Looking Ahead: Markets and the Allocation of
Resources 72

ECONOMICS IN PRACTICE Why Do the Prices of
Newspapers Rise? 73
Summary 74 Review Terms and Concepts 75 Problems 76
4
Demand and Supply
Applications 79
The Price System: Rationing and Allocating
Resources 79
Price Rationing 79
vii
ECONOMICS IN PRACTICE Prices and Total
Expenditure: A Lesson From the Lobster Industry in
2008–2009 81
Constraints on the Market and Alternative
Rationing Mechanisms 82
Prices and the Allocation of Resources 86
Price Floor 86
Supply and Demand Analysis: An Oil Import
Fee 86
ECONOMICS IN PRACTICE The Price Mechanism at
Work for Shakespeare 87
Supply and Demand and Market Efficiency 89
Consumer Surplus 89
Producer Surplus 90
Competitive Markets Maximize the Sum of
Producer and Consumer Surplus 91
Potential Causes of Deadweight Loss From Under-
and Overproduction 92
Looking Ahead 93
Summary 93 Review Terms and Concepts 94 Problems 94

5
Elasticity 97
Price Elasticity of Demand 98
Slope and Elasticity 98
Types of Elasticity 99
Calculating Elasticities 100
Calculating Percentage Changes 100
Elasticity Is a Ratio of Percentages 101
The Midpoint Formula 101
Elasticity Changes Along a Straight-Line Demand
Curve 103
Elasticity and Total Revenue 105
The Determinants of Demand Elasticity 107
Availability of Substitutes 107
The Importance of Being Unimportant 107
ECONOMICS IN PRACTICE Who Are the Elastic
Smokers? 108
The Time Dimension 108
ECONOMICS IN PRACTICE Elasticities at a
Delicatessen in the Short Run and Long Run 109
Other Important Elasticities 109
Income Elasticity of Demand 110
Cross-Price Elasticity of Demand 110
Elasticity of Supply 111
Looking Ahead 111
Summary 112 Review Terms and Concepts 112 Problems 113
Appendix: Point Elasticity (Optional) 115
viii Contents
PART II The Market System: Choices Made by
Households and Firms 117

6
Household Behavior and Consumer
Choice 121
Household Choice in Output Markets 121
The Determinants of Household Demand 122
The Budget Constraint 122
The Equation of the Budget Constraint 125
The Basis of Choice: Utility 126
Diminishing Marginal Utility 126
Allocating Income to Maximize Utility 127
The Utility-Maximizing Rule 129
Diminishing Marginal Utility and Downward-
Sloping Demand 129
Income and Substitution Effects 130
The Income Effect 130
The Substitution Effect 131
Household Choice in Input Markets 132
The Labor Supply Decision 132
ECONOMICS IN PRACTICE Substitution and Market
Baskets 133
The Price of Leisure 134
Income and Substitution Effects of a Wage
Change 134
Saving and Borrowing: Present versus Future
Consumption 135
ECONOMICS IN PRACTICE What Happens When
the Cost of Self-Discovery Falls? 136
A Review: Households in Output and Input
Markets 137
Summary 138 Review Terms and Concepts 138 Problems 138

Appendix: Indifference Curves 141
7
The Production Process: The
Behavior of Profit-Maximizing
Firms 147
The Behavior of Profit-Maximizing Firms 148
Profits and Economic Costs 148
Short-Run versus Long-Run Decisions 150
The Bases of Decisions: Market Price of Outputs,
Available Technology, and Input Prices 151
The Production Process 152
Production Functions: Total Product, Marginal
Product, and Average Product 152
Production Functions with Two Variable Factors of
Production 155
Contents ix
Long-Run Adjustments to Short-Run
Conditions 200
ECONOMICS IN PRACTICE The Long-Run Average
Cost Curve: Flat or U-Shaped? 201
Short-Run Profits: Moves In and Out of
Equilibrium 201
ECONOMICS IN PRACTICE The Fortunes of the
Auto Industry 204
The Long-Run Adjustment Mechanism: Investment
Flows Toward Profit Opportunities 204
ECONOMICS IN PRACTICE Why Are Hot Dogs So
Expensive in Central Park? 205
Output Markets: A Final Word 206
Summary 206 Review Terms and Concepts 207 Problems 207

Appendix: External Economies and Diseconomies and the Long-Run
Industry Supply Curve 210
10
Input Demand: The Labor and
Land Markets 215
Input Markets: Basic Concepts 215
Demand for Inputs: A Derived Demand 215
Inputs: Complementary and Substitutable 216
Diminishing Returns 216
ECONOMICS IN PRACTICE Sometimes Workers Play
Hooky! 217
Marginal Revenue Product 217
Labor Markets 219
A Firm Using Only One Variable Factor of
Production: Labor 219
A Firm Employing Two Variable Factors of
Production in the Short and Long Run 222
ECONOMICS IN PRACTICE What is Denzel
Washington’s Marginal Revenue Product in Broadway’s
Fences? 223
Many Labor Markets 224
Land Markets 224
Rent and the Value of Output Produced on
Land 225
ECONOMICS IN PRACTICE Time Is Money:
European High-Speed Trains 226
The Firm’s Profit-Maximizing Condition in Input
Markets 226
Input Demand Curves 227
Shifts in Factor Demand Curves 227

Looking Ahead 228
Summary 229 Review Terms and Concepts 230 Problems 230
ECONOMICS IN PRACTICE Learning about Growing
Pineapples in Ghana 156
Choice of Technology 156
ECONOMICS IN PRACTICE How Fast Should a
Truck Driver Go? 157
Looking Ahead: Cost and Supply 158
Summary 158 Review Terms and Concepts 159 Problems 159
Appendix: Isoquants and Isocosts 162
8
Short-Run Costs and Output
Decisions 167
Costs in the Short Run 168
Fixed Costs 168
Variable Costs 169
Total Costs 175
Short-Run Costs: A Review 177
ECONOMICS IN PRACTICE Average and Marginal
Costs at a College 178
Output Decisions: Revenues, Costs, and Profit
Maximization 179
Perfect Competition 179
Total Revenue and Marginal Revenue 180
Comparing Costs and Revenues to Maximize
Profit 180
ECONOMICS IN PRACTICE Case Study in Marginal
Analysis: An Ice Cream Parlor 182
The Short-Run Supply Curve 184
Looking Ahead 185

Summary 185 Review Terms and Concepts 186 Problems 186
9
Long-Run Costs and Output
Decisions 189
Short-Run Conditions and Long-Run
Directions 190
Maximizing Profits 190
Minimizing Losses 192
The Short-Run Industry Supply Curve 194
Long-Run Directions: A Review 194
Long-Run Costs: Economies and Diseconomies of
Scale 195
Increasing Returns to Scale 196
ECONOMICS IN PRACTICE Economies of Scale in
the World Marketplace 197
ECONOMICS IN PRACTICE Economies of Scale in
Solar 198
Constant Returns to Scale 199
Decreasing Returns to Scale 200
U-Shaped Long-Run Average Costs 200
x Contents
PART III Market Imperfections and the Role
of Government 269
13
Monopoly and Antitrust
Policy 269
Imperfect Competition and Market Power: Core
Concepts 269
Forms of Imperfect Competition and Market
Boundaries 270

Price and Output Decisions in Pure Monopoly
Markets 271
Demand in Monopoly Markets 271
Perfect Competition and Monopoly
Compared 276
Monopoly in the Long Run: Barriers to Entry 277
ECONOMICS IN PRACTICE Managing the Cable
Monopoly 280
The Social Costs of Monopoly 281
Inefficiency and Consumer Loss 281
Rent-Seeking Behavior 282
Price Discrimination 283
Examples of Price Discrimination 285
Remedies for Monopoly: Antitrust Policy 285
Major Antitrust Legislation 285
ECONOMICS IN PRACTICE Antitrust Rules Cover
the NFL 287
Imperfect Markets: A Review and a Look
Ahead 287
Summary 288 Review Terms and Concepts 289 Problems 289
14
Oligopoly 293
Market Structure in an Oligopoly 294
ECONOMICS IN PRACTICE Why Are Record Labels
Losing Key Stars Like Madonna? 296
Oligopoly Models 297
The Collusion Model 297
The Price-Leadership Model 298
The Cournot Model 299
Game Theory 300

Repeated Games 303
A Game with Many Players: Collective Action Can
Be Blocked by a Prisoner’s Dilemma 304
ECONOMICS IN PRACTICE Price Fixing in Digital
Music 306
Oligopoly and Economic Performance 306
Industrial Concentration and Technological
Change 307
11
Input Demand: The Capital
Market and the Investment
Decision 233
Capital, Investment, and Depreciation 233
Capital 233
ECONOMICS IN PRACTICE Investment Banking,
IPOs, and Electric Cars 235
Investment and Depreciation 235
The Capital Market 236
Capital Income: Interest and Profits 237
Financial Markets in Action 239
Mortgages and the Mortgage Market 240
ECONOMICS IN PRACTICE Who Owns Stocks in the
United States? 241
Capital Accumulation and Allocation 241
The Demand for New Capital and the Investment
Decision 241
Forming Expectations 242
ECONOMICS IN PRACTICE Chinese Wind
Power 243
Comparing Costs and Expected Return 243

A Final Word on Capital 245
Summary 246 Review Terms and Concepts 246 Problems 247
Appendix: Calculating Present Value 248
12
General Equilibrium and the
Efficiency of Perfect
Competition 253
Market Adjustment to Changes in Demand 254
Allocative Efficiency and Competitive
Equilibrium 256
Pareto Efficiency 256
ECONOMICS IN PRACTICE Ethanol and Land
Prices 257
Revisiting Consumer and Producer Surplus 258
The Efficiency of Perfect Competition 259
Perfect Competition versus Real Markets 262
The Sources of Market Failure 262
Imperfect Markets 262
Public Goods 263
Externalities 263
Imperfect Information 264
Evaluating the Market Mechanism 264
Summary 264 Review Terms and Concepts 265 Problems 265
17
Uncertainty and Asymmetric
Information 353
Decision Making Under Uncertainty: The
Tools 353
Expected Value 354
Expected Utility 354

Attitudes Toward Risk 356
Asymmetric Information 357
Adverse Selection 358
ECONOMICS IN PRACTICE Adverse Selection in the
Health Care Market 360
Market Signaling 360
ECONOMICS IN PRACTICE How to Read
Advertisements 361
Moral Hazard 362
Incentives 363
Labor Market Incentives 363
Summary 364 Review Terms and Concepts 365 Problems 365
18
Income Distribution and
Poverty 367
The Sources of Household Income 367
Wages and Salaries 367
Income from Property 369
Income from the Government: Transfer
Payments 370
The Distribution of Income 370
Income Inequality in the United States 370
The World Distribution of Income 372
ECONOMICS IN PRACTICE The New Rich
Work! 373
Causes of Increased Inequality 373
Poverty 375
The Distribution of Wealth 376
The Utility Possibilities Frontier 376
The Redistribution Debate 377

Arguments Against Redistribution 378
Arguments in Favor of Redistribution 378
Redistribution Programs and Policies 380
Financing Redistribution Programs: Taxes 380
Expenditure Programs 381
ECONOMICS IN PRACTICE Does Price Matter in
Charitable Giving? 384
Government or the Market? A Review 385
Summary 385 Review Terms and Concepts 386 Problems 386
The Role of Government 307
Regulation of Mergers 308
A Proper Role? 310
Summary 310 Review Terms and Concepts 311 Problems 311
15
Monopolistic Competition 313
Industry Characteristics 314
Product Differentiation and Advertising 315
How Many Varieties? 315
How Do Firms Differentiate Products? 316
ECONOMICS IN PRACTICE An Economist Makes
Tea 318
Advertising 318
ECONOMICS IN PRACTICE Can Information Reduce
Obesity? 321
Price and Output Determination in Monopolistic
Competition 322
Product Differentiation and Demand Elasticity 323
Price/Output Determination in the Short Run 323
Price/Output Determination in the Long Run 324
Economic Efficiency and Resource Allocation 326

Summary 326 Review Terms and Concepts 327 Problems 327
16
Externalities, Public Goods, and
Social Choice 329
Externalities and Environmental Economics 329
Marginal Social Cost and Marginal-Cost
Pricing 330
ECONOMICS IN PRACTICE Ban on Oil Drillers 332
Private Choices and External Effects 333
Internalizing Externalities 334
ECONOMICS IN PRACTICE Externalities Are All
Around Us 338
ECONOMICS IN PRACTICE Climate Change 341
Public (Social) Goods 341
The Characteristics of Public Goods 341
Public Provision of Public Goods 342
Optimal Provision of Public Goods 343
Local Provision of Public Goods: Tiebout
Hypothesis 345
Social Choice 346
The Voting Paradox 346
Government Inefficiency: Theory of Public
Choice 348
Rent-Seeking Revisited 348
Government and the Market 349
Summary 349 Review Terms and Concepts 350 Problems 350
Contents xi
19
Public Finance: The Economics
of Taxation 389

The Economics of Taxation 389
Taxes: Basic Concepts 389
ECONOMICS IN PRACTICE Calculating Taxes 392
Tax Equity 392
What Is the “Best” Tax Base? 393
ECONOMICS IN PRACTICE The Yankees and the
Estate Tax 396
The Gift and Estate Tax 396
Tax Incidence: Who Pays? 396
The Incidence of Payroll Taxes 397
The Incidence of Corporate Profits Taxes 400
The Overall Incidence of Taxes in the United States:
Empirical Evidence 402
Excess Burdens and the Principle of
Neutrality 402
How Do Excess Burdens Arise? 402
Measuring Excess Burdens 403
Excess Burdens and the Degree of Distortion 404
The Principle of Second Best 405
Optimal Taxation 406
Summary 406 Review Terms and Concepts 407 Problems 407
PART IV Concepts and Problems in
Macroeconomics 409
20
Introduction to
Macroeconomics 409
Macroeconomic Concerns 410
Output Growth 410
Unemployment 411
Inflation and Deflation 412

The Components of the Macroeconomy 412
The Circular Flow Diagram 413
The Three Market Arenas 414
The Role of the Government in the
Macroeconomy 415
A Brief History of Macroeconomics 415
ECONOMICS IN PRACTICE Macroeconomics in
Literature 417
The U.S. Economy Since 1970 417
ECONOMICS IN PRACTICE John Maynard
Keynes 419
Summary 420 Review Terms and Concepts 421 Problems 421
xii Contents
21
Measuring National Output and
National Income 423
Gross Domestic Product 423
Final Goods and Services 424
Exclusion of Used Goods and Paper
Transactions 424
Exclusion of Output Produced Abroad by
Domestically Owned Factors of Production 425
Calculating GDP 425
The Expenditure Approach 426
ECONOMICS IN PRACTICE Where Does eBay Get
Counted? 427
The Income Approach 429
ECONOMICS IN PRACTICE GDP: One of the Great
Inventions of the 20th Century 431
Nominal versus Real GDP 432

Calculating Real GDP 432
Calculating the GDP Deflator 434
The Problems of Fixed Weights 434
Limitations of the GDP Concept 435
GDP and Social Welfare 435
The Underground Economy 436
Gross National Income per Capita 436
Looking Ahead 437
Summary 437 Review Terms and Concepts 438 Problems 439
22
Unemployment, Inflation, and
Long-Run Growth 441
Unemployment 441
Measuring Unemployment 441
Components of the Unemployment Rate 443
ECONOMICS IN PRACTICE A Quiet Revolution:
Women Join the Labor Force 445
The Costs of Unemployment 446
Inflation 447
The Consumer Price Index 448
The Costs of Inflation 449
ECONOMICS IN PRACTICE The Politics of Cost-of-
Living Adjustments 450
Long-Run Growth 452
Output and Productivity Growth 452
Looking Ahead 454
Summary 455 Review Terms and Concepts 455 Problems 455
Contents xiii
PART V The Core of Macroeconomic
Theory 457

23
Aggregate Expenditure and
Equilibrium Output 459
The Keynesian Theory of Consumption 460
Other Determinants of Consumption 463
ECONOMICS IN PRACTICE Behavioral Biases in
Saving Behavior 464
Planned Investment (I) 464
The Determination of Equilibrium Output
(Income) 465
The Saving/Investment Approach to
Equilibrium 468
Adjustment to Equilibrium 469
The Multiplier 469
The Multiplier Equation 471
ECONOMICS IN PRACTICE The Paradox of
Thrift 472
The Size of the Multiplier in the Real World 473
Looking Ahead 473
Summary 474 Review Terms and Concepts 474 Problems 474
Appendix: Deriving the Multiplier Algebraically 476
24
The Government and Fiscal
Policy 477
Government in the Economy 478
Government Purchases (G), Net Taxes (T), and
Disposable Income (Y
d
) 478
The Determination of Equilibrium Output

(Income) 480
Fiscal Policy at Work: Multiplier Effects 482
The Government Spending Multiplier 482
The Tax Multiplier 484
The Balanced-Budget Multiplier 486
The Federal Budget 487
The Budget in 2009 488
Fiscal Policy Since 1993: The Clinton, Bush, and
Obama Administrations 489
The Federal Government Debt 491
The Economy’s Influence on the Government
Budget 492
Automatic Stabilizers and Destabilizers 492
ECONOMICS IN PRACTICE Governments Disagree
on How Much More Spending Is Needed 493
Full-Employment Budget 493
Looking Ahead 494
Summary 494 Review Terms and Concepts 495 Problems 495
Appendix A: Deriving the Fiscal Policy Multipliers 497
Appendix B: The Case in Which Tax Revenues Depend on
Income 497
25
The Money Supply and the
Federal Reserve System 501
An Overview of Money 501
What Is Money? 501
Commodity and Fiat Monies 502
ECONOMICS IN PRACTICE Dolphin Teeth as
Currency 503
Measuring the Supply of Money in the United

States 504
The Private Banking System 505
How Banks Create Money 505
A Historical Perspective: Goldsmiths 506
The Modern Banking System 507
The Creation of Money 508
The Money Multiplier 510
The Federal Reserve System 511
Functions of the Federal Reserve 512
Expanded Fed Activities Beginning in 2008 513
The Federal Reserve Balance Sheet 513
How the Federal Reserve Controls the Money
Supply 515
The Required Reserve Ratio 515
The Discount Rate 516
Open Market Operations 517
Excess Reserves and the Supply Curve for
Money 520
Looking Ahead 521
Summary 521 Review Terms and Concepts 521 Problems 522
26
Money Demand and the
Equilibrium Interest Rate 525
Interest Rates and Bond Prices 525
ECONOMICS IN PRACTICE Professor Serebryakov
Makes an Economic Error 526
The Demand for Money 526
The Transaction Motive 527
The Speculation Motive 530
The Total Demand for Money 530

ECONOMICS IN PRACTICE ATMs and the Demand
for Money 531
The Effect of Nominal Income on the Demand for
Money 531
The Equilibrium Interest Rate 532
Supply and Demand in the Money Market 532
xiv Contents
Changing the Money Supply to Affect the Interest
Rate 534
Increases in P•Y and Shifts in the Money Demand
Curve 534
Zero Interest Rate Bound 535
Looking Ahead: The Federal Reserve and
Monetary Policy 535
Summary 535 Review Terms and Concepts 536 Problems 536
Appendix A: The Various Interest Rates in the U.S. Economy 537
Appendix B: The Demand For Money: A Numerical Example 539
27
Aggregate Demand in the Goods
and Money Markets 541
Planned Investment and the Interest Rate 542
Other Determinants of Planned Investment 542
ECONOMICS IN PRACTICE Small Business and the
Credit Crunch 543
Planned Aggregate Expenditure and the Interest
Rate 543
Equilibrium in Both the Goods and Money
Markets: The IS-LM Model 544
Policy Effects in the Goods and Money
Markets 545

Expansionary Policy Effects 545
Contractionary Policy Effects 547
The Macroeconomic Policy Mix 548
The Aggregate Demand (AD) Curve 549
The Aggregate Demand Curve: A Warning 549
Other Reasons for a Downward-Sloping Aggregate
Demand Curve 551
Shifts of the Aggregate Demand Curve from Policy
Variables 551
Looking Ahead: Determining the Price
Level 553
Summary 553 Review Terms and Concepts 554 Problems 554
Appendix: The IS-LM Model 555
28
Aggregate Supply and the
Equilibrium Price Level 559
The Aggregate Supply Curve 559
The Aggregate Supply Curve: A Warning 559
Aggregate Supply in the Short Run 560
Shifts of the Short-Run Aggregate Supply
Curve 561
The Equilibrium Price Level 562
The Long-Run Aggregate Supply Curve 563
ECONOMICS IN PRACTICE The Simple “Keynesian”
Aggregate Supply Curve 564
Potential GDP 564
Monetary and Fiscal Policy Effects 565
Long-Run Aggregate Supply and Policy Effects 567
Causes of Inflation 567
Demand-Pull Inflation 567

Cost-Push, or Supply-Side, Inflation 568
Expectations and Inflation 568
Money and Inflation 569
ECONOMICS IN PRACTICE Inflationary
Expectations in China 570
Sustained Inflation as a Purely Monetary
Phenomenon 571
The Behavior of the Fed 571
Targeting the Interest Rate 571
The Fed’s Response to the State of the Economy 572
ECONOMICS IN PRACTICE Markets Watch the
Fed 573
Fed Behavior Since 1970 574
Interest Rates Near Zero 575
Inflation Targeting 576
Looking Ahead 576
Summary 576 Review Terms and Concepts 577 Problems 577
29
The Labor Market In the
Macroeconomy 581
The Labor Market: Basic Concepts 581
The Classical View of the Labor Market 582
The Classical Labor Market and the Aggregate
Supply Curve 583
The Unemployment Rate and the Classical
View 583
Explaining the Existence of Unemployment 584
Sticky Wages 584
Efficiency Wage Theory 585
ECONOMICS IN PRACTICE Does Unemployment

Insurance Increase Unemployment or Only Protect the
Unemployed? 586
Imperfect Information 587
Minimum Wage Laws 587
An Open Question 587
The Short-Run Relationship Between the
Unemployment Rate and Inflation 588
The Phillips Curve: A Historical Perspective 589
Aggregate Supply and Aggregate Demand Analysis
and the Phillips Curve 590
Expectations and the Phillips Curve 592
Inflation and Aggregate Demand 592
The Long-Run Aggregate Supply Curve,
Potential Output, and the Natural Rate of
Unemployment 593
Contents xv
The Nonaccelerating Inflation Rate of
Unemployment (NAIRU) 594
Looking Ahead 595
Summary 595 Review Terms and Concepts 596 Problems 596
PART VI Further Macroeconomics Issues 599
30
Financial Crises, Stabilization,
and Deficits 599
The Stock Market, the Housing Market, and
Financial Crises 600
Stocks and Bonds 600
Determining the Price of a Stock 600
The Stock Market Since 1948 601
ECONOMICS IN PRACTICE Bubbles or Rational

Investors? 603
Housing Prices Since 1952 604
Household Wealth Effects on the Economy 604
Financial Crises and the 2008 Bailout 604
Asset Markets and Policy Makers 605
ECONOMICS IN PRACTICE Financial Reform
Bill 606
Time Lags Regarding Monetary and Fiscal
Policy 606
Stabilization 607
Recognition Lags 608
Implementation Lags 608
Response Lags 608
Summary 609
Government Deficit Issues 610
Deficit Targeting 610
Summary 612 Review Terms and Concepts 613 Problems 613
31
Household and Firm Behavior in
the Macroeconomy: A Further
Look 615
Households: Consumption and Labor Supply
Decisions 615
The Life-Cycle Theory of Consumption 615
The Labor Supply Decision 617
Interest Rate Effects on Consumption 619
Government Effects on Consumption and Labor
Supply: Taxes and Transfers 619
A Possible Employment Constraint on
Households 620

A Summary of Household Behavior 621
The Household Sector Since 1970 621
ECONOMICS IN PRACTICE Household Reactions to
Winning the Lottery 622
Firms: Investment and Employment
Decisions 624
Expectations and Animal Spirits 624
Excess Labor and Excess Capital Effects 625
Inventory Investment 625
A Summary of Firm Behavior 627
The Firm Sector Since 1970 627
Productivity and the Business Cycle 629
The Short-Run Relationship Between Output and
Unemployment 630
The Size of the Multiplier 631
Summary 632 Review Terms and Concepts 633 Problems 633
32
Long-Run Growth 635
The Growth Process: From Agriculture to
Industry 636
Sources of Economic Growth 637
Increase in Labor Supply 638
Increase in Physical Capital 639
Increase in the Quality of the Labor Supply
(Human Capital) 640
ECONOMICS IN PRACTICE Education and Skills in
the United Kingdom 641
Increase in the Quality of Capital (Embodied
Technical Change) 641
Disembodied Technical Change 642

More on Technical Change 642
U.S. Labor Productivity: 1952 I–2010 I 643
Growth and the Environment and Issues of
Sustainability 644
Summary 646 Review Terms and Concepts 647 Problems 647
33
Alternative Views in
Macroeconomics 649
Keynesian Economics 649
Monetarism 650
The Velocity of Money 650
The Quantity Theory of Money 650
Inflation as a Purely Monetary Phenomenon 652
The Keynesian/Monetarist Debate 653
Supply-Side Economics 653
The Laffer Curve 654
Evaluating Supply-Side Economics 654
New Classical Macroeconomics 655
The Development of New Classical
Macroeconomics 655
Rational Expectations 656
xvi Contents
ECONOMICS IN PRACTICE How Are Expectations
Formed? 657
Real Business Cycle Theory and New Keynesian
Economics 658
Evaluating the Rational Expectations
Assumption 659
Testing Alternative Macroeconomic Models 660
Summary 660 Review Terms and Concepts 661 Problems 661

PART VII The World Economy 663
34
International Trade,
Comparative Advantage, and
Protectionism 663
Trade Surpluses and Deficits 664
The Economic Basis for Trade: Comparative
Advantage 665
Absolute Advantage versus Comparative
Advantage 665
Terms of Trade 669
Exchange Rates 670
The Sources of Comparative Advantage 672
The Heckscher-Ohlin Theorem 672
Other Explanations for Observed Trade
Flows 673
Trade Barriers: Tariffs, Export Subsidies, and
Quotas 673
U.S. Trade Policies, GATT, and the WTO 674
ECONOMICS IN PRACTICE Tariff Wars 676
Free Trade or Protection? 676
The Case for Free Trade 676
The Case for Protection 678
ECONOMICS IN PRACTICE A Petition 679
An Economic Consensus 682
Summary 682 Review Terms and Concepts 683 Problems 683
35
Open-Economy
Macroeconomics: The Balance
of Payments and Exchange

Rates 687
The Balance of Payments 688
The Current Account 688
The Capital Account 690
ECONOMICS IN PRACTICE The Composition of
Trade Gaps 691
The United States as a Debtor Nation 691
Equilibrium Output (Income) in an Open
Economy 692
The International Sector and Planned Aggregate
Expenditure 692
Imports and Exports and the Trade Feedback
Effect 694
ECONOMICS IN PRACTICE The Recession Takes Its
Toll on Trade 695
Import and Export Prices and the Price Feedback
Effect 695
The Open Economy with Flexible Exchange
Rates 696
The Market for Foreign Exchange 696
Factors That Affect Exchange Rates 699
The Effects of Exchange Rates on the
Economy 701
ECONOMICS IN PRACTICE China’s Increased
Flexibility 702
ECONOMICS IN PRACTICE Losing Monetary Policy
Control 704
An Interdependent World Economy 705
Summary 705 Review Terms and Concepts 706 Problems 707
Appendix: World Monetary Systems Since 1900 708

36
Economic Growth in
Developing and Transitional
Economies 713
Life in the Developing Nations: Population and
Poverty 714
Economic Development: Sources and
Strategies 715
The Sources of Economic Development 716
ECONOMICS IN PRACTICE Corruption 718
Strategies for Economic Development 719
ECONOMICS IN PRACTICE Cell Phones Increase
Profits for Fishermen in India 722
Two Examples of Development: China and
India 723
Development Interventions 723
Random and Natural Experiments: Some New
Techniques in Economic Development 723
Education Ideas 724
Health Improvements 725
Population Issues 726
The Transition to a Market Economy 727
Six Basic Requirements for Successful Transition 727
Summary 731 Review Terms and Concepts 732 Problems 733
Glossary 735
Index 751
Photo Credits 781
Our goal in the 10th edition, as it was in the first edition, is to instill in students a fascination
with both the functioning of the economy and the power and breadth of economics. The
first line of every edition of our book has been “The study of economics should begin with a

sense of wonder.” We hope that readers come away from our book with a basic understand-
ing of how market economies function, an appreciation for the things they do well, and a
sense of the things they do poorly. We also hope that readers begin to learn the art and sci-
ence of economic thinking and begin to look at some policy and even personal decisions in a
different way.
What’s New in This Edition?
Ⴇ The years 2008–2009 became the fifth recession in the United States since 1970. One of
the new features of this edition is a discussion of this recession in the context of the
overall history of the U.S. economy. This most recent recession, however, required more
than the usual revisions, both because of its severity and because of the unusual nature
of both the events leading up to it and some of the remedies employed by the govern-
ment to deal with it.
Ⴇ In June 2010, the balance sheet of the Federal Reserve had assets of $2.3 billion. Of these
assets, half, or just over $1.1 billion, was held in the form of mortgage-backed securities.
In 2007, the Fed held no mortgage-backed securities. In June 2010, commercial banks in
the United States held more than $900 billion in excess reserves at the Fed. In the past,
banks have held almost no excess reserves. These extraordinary changes at the Fed fol-
low on the heels of interventions by the federal government in financial operations of
numerous private banks like J.P. Morgan and Goldman Sachs, as well as in companies
like AIG and General Motors. These extraordinary actions required substantial changes
throughout the macroeconomic chapters of this book. New material describing these
interventions appear in a number of chapters, both in the text itself and in the Economics
in Practice boxes. Revisions were also necessary in the background discussions of mone-
tary policy, since the existence of excess reserves considerably complicates the usual
workings of monetary policy.
Ⴇ In the microeconomics area, there has been a good deal of exciting new work in the areas
of economic development, behavioral economics, and experimental economics. This
edition has added material in various places throughout the microeconomics chapters
that describe this work. A particular highlight is Chapter 36, which carefully lays out the
methodological approach used by researchers doing randomized experiments in the

economic development area and describes some of the results of that work.
Ⴇ This edition has augmented the current research focus of many of the Economics in
Practice boxes. Historically, the boxes have focused principally on newspaper excerpts
related to the subject of the chapter. Beginning last edition and pushed through more
strongly this edition, we have added boxes that we hope will demonstrate more clearly
the ideas that lie at the heart of economic thinking. Thus, two thirds of the boxes in the
microeconomics and macroeconomics chapters relate an economic principle either to a
personal observation (why does Denzel Washington get paid what he does?) or to a
recent piece of economic research (new work by Emmanuel Saez on the fact that much
of modern wealth comes from wages rather than interest, Carola Frydman’s work on
executive compensation, and Rachel Croson’s work on gender and trust). When possi-
ble, we focus on work by younger scholars and on more recent research. It is our hope
that new students will be inspired by the wide breadth and exciting nature of the
research currently going on in economics as they read these boxes.
xvii
Preface
Ⴇ A number of the chapters have been reworked to improve their readability. On the
microeconomics side, Chapters 9, 12, and 18 have been most affected. On the macroeco-
nomics side, the growth chapter, Chapter 32, has been completely rewritten. The other
major changes concern the new discussion needed for the 2008–2009 recession and the
new policy initiatives.
Ⴇ We have added many new problems in the end-of-chapter materials, aiming for more
text-specific questions.
Economics is a social science. Its value is measured in part in terms of its ability to help
us understand the world around us and to grapple with some of the social issues of the
times: How do markets work, and why are they so powerful? Why do firms earn profits, and
how are wages determined? Does it matter to consumers if there are many firms in an indus-
try or only one? In 2006, the top 20 percent of the households in the United States earned
48 percent of all income generated. Why do we see this income inequality, and why has it
been growing? There is enormous poverty in many parts of the world. Are there ways to

intervene, either at the country level or the individual level? In almost any marketplace in
the United States we see goods that were produced in countries from all over the world. U.S.
goods also travel to far corners of the world to be sold to consumers in Europe, Asia, and
Latin America. Why do we see the pattern we do? Across the globe, people are increasingly
worried about global warming. What tools can an economist bring to the table in helping to
solve this complex problem? These questions are microeconomic questions. To answer
them, we need to learn how households and firms make decisions and how those decisions
are interconnected. As we begin to see the way in which market outcomes—like prices, prof-
its, industry growth, and the like—emerge from the interplay of decisions made by a legion
of households and firms, acting largely in their own interests, we hope that the reader’s sense
of wonder will grow.
As we go to press in 2010, the U.S. economy is slowly recovering from a very difficult
downturn, with many people still unsuccessfully seeking work. What causes an economy to
falter and unemployment rates to grow? More generally, how do we measure and under-
stand economic growth? Are there government policies that can help prevent downturns or
at least reduce their severity? In 2010, in the United States we hear increasing worries about
the growing size of the government debt. Where did this debt come from, and are people
right to be worried? These question are macroeconomic questions. The years 2008–2010
have been very challenging years in the macroeconomy for most of the world. In the United
States the government has used policies never used before, and we have all—macroecono-
mists and policy makers alike—struggled to figure out what works and what does not. For
someone studying macroeconomics, we are in the middle of an enormously exciting time.
The Foundation
The themes of Principles of Economics, 10th edition, are the same themes of the first nine edi-
tions. The purposes of this book are to introduce the discipline of economics and to provide
a basic understanding of how economies function. This requires a blend of economic theory,
institutional material, and real-world applications. We have maintained a balance between
these ingredients in every chapter. The hallmark features of our book are its:
1. Three-tiered explanations of key concepts (stories-graphs-equations)
2. Intuitive and accessible structure

3. International coverage
Three-Tiered Explanations: Stories-Graphs-Equations
Professors who teach principles of economics are faced with a classroom of students with
different abilities, backgrounds, and learning styles. For some students, analytical mater-
ial is difficult no matter how it is presented; for others, graphs and equations seem to
come naturally. The problem facing instructors and textbook authors is how to convey
the core principles of the discipline to as many students as possible without selling the
xviii Preface
better students short. Our approach to this problem is to present most core concepts in
the following three ways:
First, we present each concept in the context of a simple intuitive story or example in
words often followed by a table. Second, we use a graph in most cases to illustrate the story
or example. And finally, in many cases where appropriate, we use an equation to present the
concept with a mathematical formula.
Microeconomic Structure
The organization of the microeconomic chapters continues to reflect our belief that the best
way to understand how market economies operate—and the best way to understand basic
economic theory—is to work through the perfectly competitive model first, including dis-
cussions of output markets (goods and services) and input markets (land, labor, and capi-
tal), and the connections between them before turning to noncompetitive market structures
such as monopoly and oligopoly. When students understand how a simple, perfectly com-
petitive system works, they can start thinking about how the pieces of the economy “fit
together.” We think this is a better approach to teaching economics than some of the more
traditional approaches, which encourage students to think of economics as a series of dis-
connected alternative market models.
Learning perfect competition first also enables students to see the power of the market sys-
tem. It is impossible for students to discuss the efficiency of markets as well as the problems
that arise from markets until they have seen how a simple, perfectly competitive market system
produces and distributes goods and services. This is our purpose in Chapter 6 through 11.
Chapter 12, “General Equilibrium and the Efficiency of Perfect Competition,” is a piv-

otal chapter that links simple, perfectly competitive markets with a discussion of market
imperfections and the role of government. Chapter 13 through 15 cover three noncompeti-
tive market structures—monopoly, monopolistic competition, and oligopoly. Chapter 16
covers externalities, public goods, and social choice. Chapter 17, which is new to this edition,
covers uncertainty and asymmetric information. Chapters 18 and 19 cover income distribu-
tion as well as taxation and government finance. The visual at the top of the next page
(Figure II.2 from page 118), gives you an overview of our structure.
Macroeconomic Structure
We remain committed to the view that it is a mistake simply to throw aggregate demand and
aggregate supply curves at students in the first few chapters of a principles book. To under-
stand the AS and AD curves, students need to know about the functioning of both the goods
market and the money market. The logic behind the simple demand curve is wrong when it
is applied to the relationship between aggregate demand and the price level. Similarly, the
logic behind the simple supply curve is wrong when it is applied to the relationship between
aggregate supply and the price level.
Part of teaching economics is teaching economic reasoning. Our discipline is built
around deductive logic. Once we teach students a pattern of logic, we want and expect them
to apply it to new circumstances. When they apply the logic of a simple demand curve or a
simple supply curve to the aggregate demand or aggregate supply curve, the logic does not
fit. We believe that the best way to teach the reasoning embodied in the aggregate demand
and aggregate supply curves without creating confusion for students is to build up to those
topics carefully.
In Chapter 23, “Aggregate Expenditure and Equilibrium Output,” and Chapter 24,
“The Government and Fiscal Policy,” we examine the market for goods and services. In
Chapter 25, “The Money Supply and the Federal Reserve System,” and Chapter 26, “Money
Demand and the Equilibrium Interest Rate,” we examine the money market. We bring the
two markets together in Chapter 27, “Aggregate Demand in the Goods and Money
Markets,” which explains the links between aggregate output (Y) and the interest rate (r)
and derives the AD curve. In Chapter 28, “Aggregate Supply and the Equilibrium Price
Level,” we introduce the AS curve and determine the equilibrium price level (P). We then

explain in Chapter 29, “The Labor Market in the Macroeconomy,” how the labor markets
Preface xix
fits into this macroeconomic picture. The figure at the top of the next page (Figure V.1
from page 457) gives you an overview of this structure.
One of the big issues in the organization of the macroeconomic material is whether
long-run growth issues should be taught before short-run chapters on the determination of
national income and countercyclical policy. In the last three editions, we moved a significant
discussion of growth to Chapter 22,“Unemployment, Inflation, and Long-Run Growth,” and
highlighted it. However, while we wrote Chapter 32, the major chapter on long-run growth,
so that it can be taught before or after the short-run chapters, we remain convinced that it is
easier for students to understand the growth issue once they have come to grips with the
logic and controversies of short-run cycles, inflation, and unemployment.
International Coverage
As in previous editions, we continue to integrate international examples and applications
throughout the text. This probably goes without saying: The days in which an introductory
economics text could be written with a closed economy in mind have long since gone.
Tools for Learning
As authors and teachers, we understand the challenges of the principles of economics course.
Our pedagogical features are designed to illustrate and reinforce key economic concepts
through real-world examples and applications.
Economics in Practice
As described earlier, the Economics in Practice feature presents a real-world personal observa-
tion, current research work, or a news article that supports the key concept of the chapter
and helps students think critically about how economics is a part of their daily lives. The
xx Preface
CHAPTER 6
CHAPTERS 10–11
CHAPTER 12
CHAPTERS 13–19
Household Behavior

• Demand in
output markets
• Supply in
input markets
CHAPTERS 8–9
Equilibrium
in Competitive
Output Markets
• Output prices
• Short run
• Long run
Competitive
Input Markets
• Labor/land
- Wages/rents
• Capital/Investment
- Interest/profits
The
Competitive
Market System
• General equilibrium
and efficiency
Market
Imperfections
and the Role of
Government
• Imperfect market
structures
- Monopoly
- Monopolistic

competition
- Oligopoly
• Externalities, public
goods, imperfect
information, social
choice
• Income distribution
and poverty
• Public finance: the
economics of taxation
Perfectly Competitive Markets Market Imperfections
and the Role of
Government
CHAPTERS 7–8
Firm Behavior
• Choice of technology
• Supply in
output markets
• Demand in
input markets
İ
FIGURE II.2 Understanding the Microeconomy and the Role of Government
end-of-chapter problem sets include a question specific to each Economics in Practice feature.
Students can visit www.myeconlab.com for additional updated news articles and related
exercises.
Graphs
Reading and interpreting graphs is a key part of understanding economic concepts. The
Chapter 1 Appendix,“How to Read and Understand Graphs,” shows readers how to interpret
the 200-plus graphs featured in this book. We use red curves to illustrate the behavior of
firms and blue curves to show the behavior of households. We use a different shade of red

and blue to signify a shift in a curve.
Preface xxi
The Labor Market
• The supply of labor
• The demand for labor
• Employment and
unemployment
The Goods-and-Services
Market
• Planned aggregate
expenditure
Consumption (C)
Planned investment (I)
Government (G)
• Aggregate output
(income) (Y)
The Money Market
• The supply of money
• The demand for money
• Interest rate (r)
Aggregate Supply
• Aggregate supply curve
• Equilibrium interest
rate (r*)
• Equilibrium output
(income) (Y*)
• Equilibrium price
level (P*)
P
Y

Connections between
the goods-and-services
market and the money
market
r Y
CHAPTERS 23–24
CHAPTER 27
CHAPTER 28
CHAPTER 29
CHAPTERS 25–26
Aggregate Demand
• Aggregate demand
curve
P
Y
İ
FIGURE V.1 The Core of Macroeconomic Theory
S
D
50,00035,00025,0000
2.50
1.75
Price of soybeans per bushel ($)
Bushels of soybeans
Equilibrium point
Excess demand
= shortage
P
Q
Ĩ

FIGURE 3.9 Excess
Demand, or Shortage
At a price of $1.75 per bushel,
quantity demanded exceeds
quantity supplied. When excess
demand exists, there is a tendency
for price to rise. When quantity
demanded equals quantity sup-
plied, excess demand is elimi-
nated and the market is in
equilibrium. Here the equilib-
rium price is $2.50 and the equi-
librium quantity is 35,000
bushels.
Problems and Solutions
Each chapter and appendix ends with a problem set that asks students to think about and
apply what they’ve learned in the chapter. These problems are not simple memorization
questions. Rather, they ask students to perform graphical analysis or to apply economics to a
real-world situation or policy decision. More challenging problems are indicated by an aster-
isk. Additional questions specific to the Economics in Practice feature have been added.
Several problems have been updated. The solutions to all of the problems are available in the
Instructor’s Manuals. Instructors can provide the solutions to their students so they can
check their understanding and progress.
MyEconLab
Both the text and supplement package provide ways for instructors and students to assess
their knowledge and progress through the course. MyEconLab, the new standard in person-
alized online learning, is a key part of Case, Fair, and Oster’s integrated learning package for
the 10th edition.
For the Instructor
MyEconLab is an online

course management, testing,
and tutorial resource.
Instructors can choose how
much or how little time to
spend setting up and using
MyEconLab. Each chapter
contains two Sample Tests,
Study Plan Exercises, and
Tutorial Resources. Student
use of these materials requires
no initial setup by their instructor. The online Gradebook records each student’s performance
and time spent on the Tests and Study Plan and generates reports by student or by chapter.
Instructors can assign tests, quizzes, and homework in MyEconLab using four resources:
Ⴇ Preloaded Sample Tests
Ⴇ Problems similar to the end-of-chapter problems
Ⴇ Test Item File questions
Ⴇ Self-authored questions using Econ Exercise Builder
Exercises use multiple-choice, graph drawing, and free-response items, many of which
are generated algorithmically so that each time a student works them, a different variation is
presented. MyEconLab grades every problem, even those with graphs. When working home-
work exercises, students receive immediate feedback with links to additional learning tools.
Customization and Communication MyEconLab in CourseCompass™ provides additional
optional customization and communication tools. Instructors who teach distance learning
courses or very large lecture sections find the CourseCompass format useful because they
can upload course documents and assignments, customize the order of chapters, and use
communication features such as Digital Drop Box and Discussion Board.
Experiments in MyEconLab
Experiments are a fun and engaging way to promote active learning and mastery of important
economic concepts. Pearson’s experiments program is flexible and easy for instructors and stu-
dents to use.

Ⴇ Single-player experiments allow your students to play an experiment against virtual
players from anywhere at anytime with an Internet connection.
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Preface xxiii
Ⴇ Multiplayer experiments allow you to assign and manage a real-time experiment with
your class. In both cases, pre- and post-questions for each experiment are available for
assignment in MyEconLab.
For the Student
MyEconLab puts students in control of their learning through a collection of tests, practice, and
study tools tied to the online interactive version of the textbook, as well as other media resources.
Within MyEconLab’s structured environment, students practice what they learn, test their under-
standing, and pursue a personalized Study Plan generated from their performance on Sample
Tests and tests set by their instructors. At the core of MyEconLab are the following features:
Ⴇ Sample Tests, two per chapter
Ⴇ Personal Study Plan
Ⴇ Tutorial Instruction
Ⴇ Graphing Tool
Sample Tests Two Sample Tests for each chapter are
preloaded in MyEconLab, enabling students to practice
what they have learned, test their understanding, and
identify areas in which they need further work. Students
can study on their own, or they can complete assign-
ments created by their instructor.
Personal Study Plan Based on a student’s performance
on tests, MyEconLab generates a personal Study Plan
that shows where the student needs further study. The
Study Plan consists of a series of additional practice exer-
cises with detailed feedback and guided solutions that
are keyed to other tutorial resources.
Tutorial Instruction Launched from many of the exer-

cises in the Study Plan, MyEconLab provides tutorial
instruction in the form of step-by-step solutions and
other media-based explanations.
Graphing Tool A graphing tool is integrated into the
Tests and Study Plan exercises to enable students to make
and manipulate graphs. This feature helps students
understand how concepts, numbers, and graphs connect.
Additional MyEconLab Tools MyEconLab includes the
following additional features:
1. Economics in the News—This feature provides weekly
updates during the school year of news items with links
to sources for further reading and discussion questions.
2. eText—While students are working in the Study Plan
or completing homework assignments, one of the
tutorial resources available is a direct link to the relevant page of the text so that students
can review the appropriate material to help them complete the exercise.
3. Glossary—This searchable version of the textbook glossary provides additional examples
and links to related terms.
4. Glossary Flashcards—Every key term is available as a flashcard, allowing students to quiz
themselves on vocabulary from one or more chapters at a time.
5. Research Navigator (CourseCompass™ version only)—This feature offers extensive help
on the research process and provides four exclusive databases of credible and reliable source
material, including the New York Times, the Financial Times, and peer-reviewed journals.
MyEconLab content has been created through the efforts of:
Charles Baum, Middle Tennessee State University; Sarah Ghosh, University of Scranton;
Russell Kellogg, University of Colorado–Denver; Bert G. Wheeler, Cedarville University; and
Noel Lotz and Douglas A. Ruby, Pearson Education
Resources for the Instructor
The following supplements are designed to make teaching and testing flexible and easy.
Instructor’s Manuals

Two Instructor’s Manuals, one for Principles of Microeconomics and one for Principles of
Macroeconomics, were prepared by Tony Lima of California State University, East Bay
(Hayward, California). The Instructor’s Manuals are designed to provide the utmost teaching
support for instructors. They include the following content:
Ⴇ Detailed Chapter Outlines include key terminology, teaching notes, and lecture
suggestions.
Ⴇ Topics for Class Discussion provide topics and real-world situations that help ensure that
economic concepts resonate with students.
Ⴇ Unique Economics in Practice features that are not in the main text provide extra real-
world examples to present and discuss in class.
Ⴇ Teaching Tips provide tips for alternative ways to cover the material and brief reminders
on additional help to provide students. These tips include suggestions for exercises and
experiments to complete in class.
Ⴇ Extended Applications include exercises, activities, and experiments to help make eco-
nomics relevant to students.
Ⴇ Excel Workbooks, available for many chapters, make it easy to customize numerical
examples and produce graphs.
Ⴇ Solutions are provided for all problems in the book.
Six Test Item Files
We have tailored the Test Item Files to help instructors easily and efficiently assess student
understanding of economic concepts and analyses. Test questions are annotated with the fol-
lowing information:
Ⴇ Difficulty: 1 for straight recall, 2 for some analysis, 3 for complex analysis
Ⴇ Ty pe: Multiple-choice, true/false, short-answer, essay
Ⴇ Topic: The term or concept the question supports
Ⴇ Skill: Fact, definition, analytical, conceptual
Ⴇ AACSB: See description in the next section.
The Test Item Files include questions with tables that students must analyze to solve for
numerical answers. The Test Item Files also contain questions based on the graphs that appear in
the book. The questions ask students to interpret the information presented in the graph. Many

questions require students to sketch a graph on their own and interpret curve movements.
Microeconomics Test Item File 1, by Randy Methenitis of Richland College: Test Item
File 1 (TIF1) includes over 2,700 questions. All questions are machine gradable and are
either multiple-choice or true/false. This Test Item File is for use with the 10th edition of
Principles of Microeconomics in the first year of publication. TIF1 is available in a computer-
ized format using TestGen EQ test-generating software and is included in MyEconLab.
Microeconomics Test Item File 2, by Randy Methenitis of Richland College: This additional
Test Item File contains another 2,700 machine-gradable questions based on the TIF1 but regener-
ated to provide instructors with fresh questions when using the book the second year. This Test
Item File is available in a computerized format using TestGen EQ test-generating software.
Microeconomics Test Item File 3, by Richard Gosselin of Houston Community College:
This third Test Item File includes 1,000 conceptual problems, essay questions, and short-
answer questions. Application-type problems ask students to draw graphs and analyze
tables. The Word files are available on the Instructor’s Resource Center
(www.pearsonhighered.com/educator).
Macroeconomics Test Item File 1, by Randy Methenitis of Richland College: Test Item
File 1 (TIF1) includes over 2,900 questions. All questions are machine gradable and are either
xxiv Preface