Economics can be an intimidating subject but, by understanding the fundamental definitions of economic terms, you can start to get a sense of why economic changes happen, what drives and economy, and how they affect your daily life.
Supply and demand are the forces that drive the U.S. economy. Supply includes labor, represented by employment, and natural resources, such as oil, land, and water. Oil prices drive over 50% of the cost of gas. Demand, or personal consumption, drives almost 70% of the economy. A lot of this occurs during the holiday shopping season, which starts on Black Friday.
Trickle-down economics assumes investors, savers, and company owners are the real drivers of growth. It promises they’ll use any extra cash from tax cuts to expand businesses. Investors will buy more companies or stocks. Banks will increase lending. Owners will invest in their operations and hire workers. All of this expansion will trickle down to workers.
Economic growth is the increase in the value of an economy's goods and services, which creates more profit for businesses. As a result, stock prices rise. That gives companies capital to invest and hire more employees.
Although the U.S. government doesn't have an official definition of middle-class income, the Pew Research Center considers a household income to be "middle-class" if it's between 67% and 200% of the median household income.
An economic depression is a severe downturn that lasts several years. Fortunately, the world has only experienced one economic depression. That was the Great Depression which lasted for 10 years. The decline in the gross domestic product growth rate was bigger than anything experienced since then.
A bear market occurs when the price of an investment falls at least 20% from its high.
A bull market is the condition of a broad market or a single market in which prices are continuously rising. Investors make money at any price at which they buy an investment because prices generally continue to rise.
Financial capital is money, credit, and other forms of funding that build wealth. Individuals use financial capital to invest. For instance, they might make a down payment on a home, or contribute to an IRA. Businesses use capital to grow which helps them increase revenue.
Welfare programs are government subsidies for low-income families and individuals. Recipients must prove their income falls below a target. There are six major U.S. welfare programs that provide assistance with things like housing, food, and health care.
A derivative is a financial contract that derives its value from an underlying asset. The buyer agrees to purchase the asset on a specific date at a specific price. Derivatives are often used for commodities, such as oil, gasoline, or gold. Another asset class is currencies, often the U.S. dollar. There are derivatives based on stocks or bonds. Others use interest rates, such as the yield on the 10-year Treasury note.
Stagflation occurs when high inflation happens during a period of stagnant economic growth and high unemployment. Stagflation presents a challenge to policymakers because the tools used to combat inflation typically raise unemployment and vice versa.
Volatility is the amount and frequency of price changes. It measures how wildly they swing and how often they move higher or lower. These can be prices of just about anything. Volatility has been most exhaustively studied, measured, and described in the stock market. Here, the focus has been on the volatility of total return (income received plus price changes, relative to beginning price). When viewed from a historical context, it is known as realized volatility.
Fannie Mae is a quasi-governmental agency that makes buying or renting a home more affordable, while also reducing the risks for lenders. It plays a crucial role in maintaining the 30-year fixed-rate mortgage, the most popular home-loan option on the market.
Common stocks are shares of ownership in a corporation that afford their holders voting rights. They vary from preferred stocks in two key ways. Shareholders who own preferred stocks receive dividend payments before shareholders of common stocks, but preferred stocks do not come with voting rights.
Freddie Mac is a shareholder-owned corporation operating under a federal charter. It buys mortgages and packages them into mortgage-backed securities. Its official title is the Federal Home Loan Mortgage Corporation or “FHLMC.”
Standard & Poor's (S&P) is a business intelligence company that falls under the corporate umbrella of S&P Global. Its purpose is to provide high-grade credit risk research on public and private company debt, including governments.
Universal basic income (UBI) is a government-guaranteed payment that each citizen receives. It is also called a citizen’s income, guaranteed minimum income, or basic income. The intention behind the payment is to provide enough to cover the basic cost of living and establish a sense of financial security for everyone.
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