Introduction to Economics Concepts in Microeconomics · 2021. 1. 6. · 4 factors of Production Law of Demand and Supply ... quantity demanded would be low and vice a versa. Economy

Economy : Module I (Introduction and Micro-economics)Economy: Module I- (Introduction and Micro-economics)

Introduction to Economics

Concepts in Microeconomics

Economy


Points to be covered

● Definition of economics

● Micro and Macro Economics

● Evolution of Economics - Capitalism, Socialism and Mixed Economy

● 4 factors of Production

● Law of Demand and Supply

● Market Equilibrium

● Types of Goods

● Elasticities

● Savings, Investment and Capital Formation

● Questions


Micro and Macro Economics

Micro Macro

Study if individual units Study of Economy as a whole

Deals with individual income, individual

units, individual outputs, etc.

Deals with aggregates such as National

Income, Employment, etc.

Main tools are demand and supply.Tools are aggregate demand and

supply.


Features Capitalism Socialism Mixed Economy

Factors of production are owned by

Private Enterprises Government By both

Role of the government

Minimal MaximumMore of providing a

conducive environment

Price determinationMarket forces will

decideGovernment to decide

Both (government in some cases and market

in others)

Competition Very high Almost absent high

Motive Profits Social welfare both

Exploitation (of factors of

production)Yes No No

OutcomesSocial strata, increasing

income gap, thriving private sector etc

Wage gaps absent, prominent role of PSEs

Prominence given to both public and private

sector enterprises

Economy : Module I (Introduction and Micro-economics)

We like it more the better we understand it. As long as a lack of economic

understanding prevails among the general public, making good policy choices will take

a lot of political courage.

What Economics is about?


ECONOMISTS

RESEARCH PAPER

STUDENTS TRAINED

PUBLIC

Problem with Economics Writings

COMMENTATORS

The new demands that society makes are legitimate, but they sometimes open a gap between those who create knowledge and those who convey it.


Paul Krugman, a Nobel Laureate says there are three types of Writings in economics:

1. Greek-letter

2. Up-and-down: Share market and TV debates

3. Airport: found at airport book shops. These books are usually fun, rarely well-

informed, and never serious.


Economy Is A System Of Truly Bewildering Size And Complexity. Consider What Is Involved

When:

YOU BUY A CHOCLOLATE

COCOA FROM

GHANA

PROCESSED

IN AACRRA

SUGAR IN

MAURITIUS

MILK IN

HOLLAND

MADE & PACKED IN

BELGIAN FACTORY

SHIPPED ON A

GREEK SHIP

SHIP REGISTERED IN

PANAMA

CREW

INDIAN

IN MUMBAI DOCK

WORKERS ARE MARATHI

TRUCK DRIVER IS

SIKH

WHOLESELLER

MARWARI

SALES PERSON

HARYANAVI

SALES PERSON

HARYANAVI


Despite Having Such A Big Chain Why Isn’t Economy A Chaotic

Mess?

The Fundamental Problem Of Economics Then Is That Of

Coordination.


• Economics consists of 4 human behaviour

1. Production-Economic Growth

2. Exchange and Evaluation-Flow

3. Social Distribution-Economic Development

4. Accumulation-Stock


Here Growth and Development chapter has to be clubbed

• Growth v. Development

• Growth v. Environment

• Inclusive and Exclusive Growth



What

• It is a behavioural science.

• Wealth Theory-Adam Smith. Economics is a science of wealth. Optimisation of resources

and its use. There are 3 most important stakeholders: Households, private sector and the

Government. Maximisation of wealth remains valid though it is narrow.


• Welfare Theory-Alfred Marshall. It is the study of mankind how we acquire material

and non-material prerequisites for improving his welfare. Because wealth is just a

means and cannot be an end.

• Scarcity and unlimited want Theory-Robbins (Scarcity of resources having

alternative use). Scarcity or choice definition. With limited resources, we have to

optimise unlimited wants. Though these limited resources have alternative uses.


Evolution

1. Mercantilism-England (Trade). An economy can grow only through Trade

2. Physiocrates-France (Production). An economy can grow only through production.


3. Classical Theory- Adam Smith (invisible hand theory, market mechanism and price

system, Price mechanism)- Synthesised Mercantilism and Physiocrats. Laissez fair or

free economy. Non-interventionist economy. No intervention by the state. Market

forces are: Demand and Supply.

➢ But they failed on 2 counts :

a) Why diamond is costlier than water.

b) Could not address the causes of great depressions during 1929-33.


4. Keynesian Theory (Pump priming) of Cambridge University. If S>D then do not cut

production. It will not solve the issue.


5. Monetarism (Milton J Friedman) from Chicago school. He said Money matters.

Monetary policy is the product of this school


6. Neo Classical Theory: All pricing theories were given by them. According to them

Prices of factor is determined by Marginal Productivity and Prices of Products are

determined by Marginal Utility


7. Rational Expectation Theory: People make choices based on their rational

outlook, available information and past experiences. The current expectations in the

economy are equivalent to what people think the future state of the economy will

become. This contrasts with the idea that government policy influences people's

decisions.


Four factors of Production


Cost and revenue

Cost on the company

FoP Revenue to the providers

Rent Land Rent

Salary/wage/income Labour Salary/wage/income

Interest Capital Interest

Profit Entrepreneurship Profit


Law of Demand by Leon Walres

• Under normal circumstances, if price is high; quantity demanded would be low and

vice a versa


Determinants of Demand

1. Price of commodity

2. Income of consumers

3. Price of related commodities

4. Taste/preferences

5. Expectation of changes in price

6. Change in weather


Law of Supply by William Stanley Jevons

• Under normal circumstances, higher the prices; the quantity supplied is more as

profit will increase.


Determinants of Supply

1. Prices

2. Cost of production

3. Changes in prices

4. Change in technology

5. Natural factors


Consumer Surplus

• Consumer Surplus is the area under the demand curve that represents the

difference between what a consumer is willing and able to pay for a product and

what the consumer actually ends up paying.

Producer Surplus

• The Producer Surplus is the area under the supply curve that represents the

difference between what a producer is willing and able to accept for selling a

product and what the producer sells it for.


Law of Market by Alfred Marshall

• That price is market price where supplier is willing to supply and buyer is ready to

buy


1. Perfect competition

a) Large no. of firms

b) Homogenous products

c) Firms cannot exploit consumers

d) Free entry and exit

e) No interdependence

f) Prices are determined by the market

g) Firm is price taker and not maker


2. Monopoly

a) Single firm

b) Unique product

c) No close substitute

d) Undesirable

e) Restricted entry

f) Firm is price maker

g) No interdependence as there is only one firm


3. Monopolistic competition

a) Large no. of firms

b) Differentiated products

c) Close substitutes such as soaps, cosmetics etc.

d) Some scope of exploitation

e) Firms have some control over prices

f) Free entry and exit

g) No interdependence


4. Oligopoly

a) Few firms

b) Interdependence among other firms (automobiles, communication etc.)

5. Cartel: It refers to an agreement among firms to jointly determine their output

and prices to collectively maximise their profits but such agreements are illegal.

6. Monopsony: It is a type of market in which there is only one buyer of product

such as defence sector, but if buyer is one and seller is also one then such

situation is called Bilateral Monpsony.


Opportunity cost

● The scarcity of resources will lead to making difficult choices

● How much is forgone of A in order to get some of B

● The allocation will lead to a mix of goods/services


Types of Goods:

1. Giffin Goods: P down—D also down

2. Inferior goods: I increases—D decreases

3. Necessary goods: No impact on demand with the change in price.

4. Normal goods: I increases—D also increases

5. Luxury or white goods: Slight change in P—Bigger change in D

• Elasticity: To what extent demand changes with change in price.


• Law of Consumption by Ernst Engel in 1857. It says:

• If an individual’s income increases by X%, then

1. Consumption of Giffin goods and inferior goods decreases

2. Consumption of necessary goods increases at the rate less than X%.

3. Consumption of normal goods increases at the rate equal to X%.

4. Consumption of white/luxury goods increases at the rate more than X%.


● Elasticity measures the change in the demand with the change in the variables (ex-

price, income etc) or it is a measure of responsiveness of demand with variables

such as price, income etc

○ Price elasticity of demand

○ Income elasticity of demand

○ Cross elasticity of demand

Elasticities


Price elasticity of demand

Elasticity note

PED<1 Inelastic Usually the essentials

PED=1 Unitary elasticA unit change in price leads to unit change in

demand

PED>1 Elastic luxuries


Income Elasticity of demand

Note Type of

good

IED<0 There is fall in the demand with the increase in the

income

Inferior good

IED>0 There is rise in the demand with the increase in the

income

Normal good


Cross elasticity of demand

Note

CED<0 Complementary goods

CED=0 Unrelated goods

CED>0 Substitutes


Determinants

• Availability of substitutes

• Is the good essential or non-essential?

• There may not always be a change in the demand as a reaction

to price take a bit of time (time horizon)

• Effect on the budget/expenditure


Savings, Investment and Capital Formation



Savings, Investment and Capital Formation


Which of the following can add to the aggregate demand

1) Lowering of income tax rates

2) Increase in the cost of raw materials

3) Increase in the VAT

Choose the correct option

(a)Only 1 is correct

(b)1 and 2 are correct

(c)1 and 3 are correct

(d)All are correct

Previous Year Questions


Which of the following can add to the aggregate demand

1) Lowering of income tax rates

2) Increase in the cost of raw materials

3) Increase in the VAT


(a)Only 1 is correct

(b)1 and 2 are correct

(c)1 and 3 are correct

(d)All are correct



Expansion / Contraction of demand is because of

1. Change in the price of the good

2. Change in the tastes/preferences of the consumer

3. Change in the income of the consumer


a) Only 1 is correct

b) 1 and 2 are correct

c) 1 and 3 are correct

d) All are correct



Expansion / Contraction of demand is because of

1. Change in the price of the good

2. Change in the tastes/preferences of the consumer

3. Change in the income of the consumer


a) Only 1 is correct



d) All are correct



The income effect on the demand of Inferior goods will be __________

a) Positive

b) Negative

c) Zero

d) No effect as both are independent of each other




The income effect on the demand of Inferior goods will be __________

a) Positive

b) Negative

c) Zero

d) No effect as both are independent of each other




Giffen goods are the goods where _______________

a) Demand goes up as the prices go up

b) Demand goes down as the prices go down

c) Demand goes up as the income goes up

d) Demand goes up as the income goes down


a) 1 and 3 are correct



d) All are correct



Giffen goods are the goods where _______________

a) Demand goes up as the prices go up

b) Demand goes down as the prices go down

c) Demand goes up as the income goes up

d) Demand goes up as the income goes down





d) All are correct



Engel’s law observes that as the income of a person increases, ___________

1) The absolute expenditure on food increases

2) The absolute expenditure on food decreases

3) The proportionate expenditure on food increases

4) The proportionate expenditure on food decreases





d) 2 and 4 are correct



Engel’s law observes that as the income of a person increases, ___________

1) The absolute expenditure on food increases

2) The absolute expenditure on food decreases

3) The proportionate expenditure on food increases

4) The proportionate expenditure on food decreases





d) 2 and 4 are correct



Which of the following statement(s) is/are correct regarding public goods?

a. Public goods are excludable but non rivalrous

b. Public goods are non- excludable but rivalrous

c. Public goods are neither excludable nor rivalrous

d. Public goods are both excludable and rivalrous



Which of the following statement(s) is/are correct regarding public goods?

a. Public goods are excludable but non rivalrous

b. Public goods are non- excludable but rivalrous

c. Public goods are neither excludable nor rivalrous

d. Public goods are both excludable and rivalrous




If a commodity is provided free to the public by the Government, then

a. the opportunity cost is zero.

b. the opportunity cost is ignored.

c. the opportunity cost is transferred from the consumers of the product to the tax-paying public.

d. the opportunity cost is transferred from the consumers of the product to the Government.



If a commodity is provided free to the public by the Government, then

a. the opportunity cost is zero.

b. the opportunity cost is ignored.

c. the opportunity cost is transferred from the consumers of the product to the tax-paying public

d. the opportunity cost is transferred from the consumers of the product to the Government.

Economy : Module I (Introduction and Micro-economics)Economy : Module II - (National Income Aggregates)

Economic growth in country X will necessarily have to occur if

(a) there is technical progress in the world economy

(b) there is population growth in X

(c) there is capital formation in X

(d) the volume of trade grows in the world economy


Economy : Module I (Introduction and Micro-economics)Economy : Module II - (National Income Aggregates)

Economic growth in country X will necessarily have to occur if

(a) there is technical progress in the world economy

(b) there is population growth in X

(c) there is capital formation in X

(d) the volume of trade grows in the world economy



Thank You.

Documents

Introduction to Economics Concepts in Microeconomics · 2021. 1. 6. · 4 factors of Production Law of Demand and Supply ... quantity demanded would be low and vice a versa. Economy