INTRODUCTION TO MICRO ECONOMICS

1.

DEFINITION OF ECONOMICS Several definitions of Economics have been given. For the sake of convenience let us classify the various definitions into four groups: 1. Science of wealth 2. Science of material well-being 3. Science of choice making and 4. Science of dynamic growth and development Name

Year

Definition

Book

Adam Smith (Father of Economics)

1776

Wealth

An Enquiry into the nature and cause of wealth of nation

Alfred Marshall (Father of modern economics)

1890

Welfare

Principle of economics

Lionel Robbins

1932

Scarcity

Significant of economics

Paul A. Samuelson

1964

Growth

Foundation of economic analysis

Problem faced by Indian economy: 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.

Inflation Poverty Over population Exploitation of natural resources Scarcity of resouce Low per capita income Unemployment Energy crisis Illiteracy Corruption

Central problem of an economy: 1. Problem of allocation of resource a) What to produce? And what quantity? b) How to produce c) For whom to produce 2. Problem of fuller employment of resources 3. Problem of growth of resources

1

What to produce? And what quantity? An economy has to make choice to produce food, clothing, housing, military items etc. In other words economy has to decide whether to have more of consumption goods or to have investment goods. How to produce? It is related to method of production. There are 2 type of production technique they are • •

Labour intensive production technique (Lipt): Here we use more amount of labour and less amount of capital Capital intensive production technique (Cipt): Here we use more amount of capital and less amount of labour

The economy has to make the choice which of the available technologies to adopt in the production of each of the goods. For whom to produce? This problem is related to the distribution of goods and service. Distribution are two type they are • •

Personal distribution: It is the distribution of goods and service among the individual or consumers in the society for satisfy their wants. Functional distribution: It is the process of sharing or distributing the value of goods and service among the factors of production such as land, labour, capital and organization in the form of rent, wages, interest and profit.

Production possibility frontier / production possibility curve:

Production possibility A

Rice

Gun

0

15

B

1

14

C

2

12

D

3

9

E

4

5

F

5

0

Gun

Production possibility frontier refers to the curve that gives the combination of two commodities that can be produced when the resources of the economy are fully utilized. Each point lying on the PPF/PPC represent the full utilization of resources. A point lying below the PPF shows a combination of 2 goods that will be produced when all or some of the resources are either under employed or are utilized in a wasteful manner.

Rice 2

Shift of PPC In our diagram AE represent the PPC. The PPC shows the fuller employment of available resources. When there is a growth of resources the economy can able to produce more quantity of either good1 or good2 or both the goods.

Underutilization of resources K PPF (optimum utilization of resource) A PPC with growth of resource

P The point P is below the PPC which shows the underutilization of resources. The rightward shift of PPC shows the economy with the growth of resources. E C When there is a destruction of resources in an economy, the economy can`t able to produce the existing quantity of commodity. Here the PPC shifts leftward or downward or inward. It shows the destruction of resources like natural calamities, external aggression etc.

Opportunity cost The value of next best alternative which has forgone for obtaining a thing Marginal opportunity cost (MOC): The rate at which one commodity is sacrificed for production of additional unit of the other. Nature of MOC gives the shape of PPC. Production possibilities

A

B

A

0

15

B

1

14

1

C

2

12

2

D

3

9

3

E

4

5

4

F

5

0

5

Moc Nature of MOC

Nature of curve

Increasing

Concave to origin

Decreasing

Convex to origin

Constant

Straight line

Branches of economics Economics is divided under two broad branches 1. Micro economics 2. Macro economics

3

Micro economics

Macro economics

1. It studies the individual economic unit

1. It studies the economy as a whole

2. Price determination and allocation of resources are the central problems of economics

2. Determination of income and employment are the central problem of macro economics

3. Demand and supply are the main tools of this branch of economics

3. Aggregate demand and aggregate supply are main tools of macro economics

4. It analyses the equilibrium of consumer, producer or an industry

4. It analyses the equilibrium of national income and employment

5. Very narrow scope

5. Wide scope

6. Also called Price theory

6. Also called Income theory or employment theory

Organisation of economic activities a) The centrally planned economy (Socialism) b) The market economy (Capitalism) c) The mixed economy Centrally planned economy (Planning mechanism) All the important economics activities are planned by central authority. Important decisions related to production, exchange, consumption etc are taken by the central authority. Market economy (price mechanism/ market mechanism) All the important economic activities are determined by the market through the action of demand and supply. In a market economic agents can freely exchange their endowments or products with each other Mixed economy It is the combination of price mechanism and centrally planned mechanism. Positive economics and normative economics Positive economics: it explains, What is, What was and what will be. Positive economics which deals the different mechanism or method to solve the economic problem. It discuss the functioning of the different mechanism. There is no value of judgment. Normative economics: It explains What ought to be. And there is a value of judgment. Normative analysis of economics deals with desirability of economic mechanisms and events. It deals with what is desirable and what is not desirable or what should and what should not be.

4