Module 1- Introduction to Economics
What is economics?
Economics is a social science that studies how individuals, and the societies
allocate scarce resources to satisfy unlimited human wants.
Microeconomics & Macroeconomics:
Microeconomics is the study of economics at a micro level where individual
consumers/producers/firms/household units are being talked about or discussed.
On the other hand, macroeconomics is the branch of economics that studies the
economy as a whole by taking into consideration aggregate variables.
Microeconomics Macroeconomics
Individual market Whole economy (GDP)
Effect on price of a good Inflation (general price level)
Individual labour market Employment/unemployment
Individual consumer behaviour Aggregate demand (AD)
Supply of goods Productive capacity of economy
Scarcity and Efficiency
Scarcity:
Scarcity leads to efficiency. Comment on this statement- 10 mark question
Scarcity is a condition or a situation where the resources are limited, but
the wants are unlimited.
How scarcity leads to efficiency:
The scarcity in resources leads consumers and producers to maximise how
optimally they utilise said resource, leading to efficiency in its
consumption and production.
When there is a scarcity of resources, it leads to better utilisation of
resources as the limited resources are used in one of the most productive
ways, there is cost minimization, it leads to innovation and encourages the
development of new technologies and methods to use the resources more
efficiently.
The Three Problems:
There are three basic problems in the economy, they are:
1. What to produce- as resources are scarce in the economy, the producer
has to make wise decisions in the allocation of resources across different
goods and services
2. How to produce- the producer has to decide between labour-intensive
and capital-intensive techniques of production to carry out the production
activity
3. For whom to produce- the producer has to identify the audience, that is,
the goods and services are to be distributed among whom
Positive and Normative Economics:
There are two approaches in economics: positive economics and
normative economics
Positive economics discusses about data and evidence that is tested and is
scientifically proven
Example: the inflation rate has increased by 5%
Normative economics discusses about opinions, ethical considerations,
value-based statements and is subjective in nature
Which out of the two approaches is essential, normative economics or
positive economics?
Answer to above example question will be that both approaches are
essential as positive economics is taken as the base and then normative
economics is applied where policies and decisions are made.
Key economic systems:
Market Economy- In a market economy the main aim is of profit
maximization, hence this system is highly efficient in utilization of
resources. Goods produced here are commodity goods, luxury goods, etc.
Command Economy- in a command economy the main aim is to
maximize social welfare that leads to inefficient allocation of resources.
The goods produced in this type of economy are healthcare, defence,
infrastructure, etc.
Mixed Economy- a mix of command and mixed economy. The state is
responsible for command economy-related goods, and private companies
and parties are responsible for businesses.
Module 2- Opportunity Cost and Production Possibility
Curves
Production Possibility Frontier- PPF:
Possibility Food Market
A 0 150
B 10 140
C 20 120
D 30 90
E 40 50
F 50 0
PPF Graph
160
1; 150
140 2; 140
120 3; 120
100
4; 90
80
60
5; 50
40
20
0 6; 0
1 2 3 4 5 6
Series1
A PPF represents the maximum amounts of a pair of goods or services that
can be produced with an economy’s given resources, assuming that the
resources in the economy are scarce and are fully employed
All the points on the PPF or PPC are efficient points.
But any point that lies inside the PPF or outside the curve (points I and J on
the graph) are inefficient points
Point I shows that there is underutilization of resources, because of which
it is considered as an inefficient point
On the other hand, point J is an unattainable point because the resources
in the economy are scarce, and the producer cannot produce till that point
Possible question- can PPF shift inwards or outwards?
Answer- in the economy, technological advancements, increase in the
resources (labor, capital, land, subsidies that are given) and improvement
in human capital which includes education, skills, and health are factors
that lead to a rightward shift in the PPF.
Why is a PPF curve a concave to the origin?
Answer- increasing opportunity cost leads to a concave PPF.
Opportunity cost refers to the value of the next best alternative forgone.
The sacrifice that is done is called opportunity cost.
Module 3- Utility
Utility Approaches
The “want” satisfying part of a commodity is called as utility
There are two approaches to measuring utility
1. Cardinal approach: Utility is measurable. Based on rating the
commodities with a number.
2. Ordinal approach: Utility is not measurable. This approach relies on
commodity rankings.
Total utility and Marginal utility
Total utility- the total amount of satisfaction that we derive after
consuming a particular good or after the consumption of goods and
services is called as total utility
Marginal utility (MU)- marginal utility is the additional utility that is
derived when one more unit of the same good is consumed.
MU= Change in total utility / change in total quantity
Law of Diminishing Marginal Utility
This law states that as the consumption of a particular good (same
commodity) increases, the marginal utility tends to fall.
Units of Commodity Total Utility (TU) Marginal Utility (MU)
1 25 25
2 47 22
3 66 19
4 76 10
5 80 4
6 80 0
7 75 -5
8 68 -7
Assumptions of this law:
Humans are rational
Utility is measured in cardinal terms
Constant tastes and preference
Fixed income and prices of the goods
Continuous consumption
Relationship between TU and MU:
When marginal utility diminishes (MU falls but is positive), total utility
increases.
When MU is 0, total utility is maximum
When MU becomes negative, total utility diminishes.
Consumer’s Equilibrium:
A consumer is said to be at equilibrium when the marginal utility of the
commodity is equal to the price of the commodity.
We study marginal utility to identify the willingness of the consumer to pay
for a particular product.
If marginal utility is less than the price of a commodity, the consumer will
reduce the consumption of the commodity,
and on the other hand, if marginal utility is more than the price of the
commodity, the consumer will increase the consumption of the
commodity.
Formula for Consumer’s Equilibrium= ratio of marginal utility : price of
the commodity
Law of Equi-Marginal Utility
This law states that the consumer will be at equilibrium when he allocates
his money income on different commodities in such a manner that the
satisfaction that he derives from spending his money income is equal to
the ratio of marginal utility : price of the commodity
Numerical:
Units MUx MUy Px Py
Income=50 Px=5 Py=4
1 50 36 10 9
2 45 32 9 8
3 40 28 8 7
4 35 24 7 6
5 30 20 6 5
6 25 16 5 4
7 20 12 4 3
8 15 8 3 2
MU= Marginal utility and P is price of commodity
In the table above, MUx/Px and MUy/Py as formulas for each column
These divisions are the ratios
M stands for Money Income
MUx/Px = MUy/Py
px * qx + py * qy = M
for the above table the consumer will be at equilibrium when consumer
gets 6 units of good X and 5 units of good Y
Units MUx MUy Px Py
Income=22 Px=5 Py=2
1 30 20 6 10
2 25 18 5 9
3 20 16 4 8
4 15 14 3 7
5 10 12 2 6
6 5 10 1 5
px * qx + py * qy = M
5*2 + 6*2 = 22
Therefore, consumer will be at equilibrium when he consumes 2 units of
good x and 6 units of good y such that the consumption equals his money
income.
Module 4- Supply and Demand
Demand Analysis:
The willingness of an individual to pay for a commodity at different prices
during a given point of time is called as demand
The tabular representation of different quantities demanded at different
prices is represented by a demand schedule,
While the graphical representation of this schedule is called as a demand
curve
Law of demand- as the price of commodities goes down, quantity
demanded goes up and vice versa, given that all other factors are
constant.
Why does a demand curve slope down?
This question can be given as a 10-mark question
Due to the law of demand, the demand curve slopes downwards
Due to substitution effect and income effect also, the demand curve
slopes downwards.
In substitution effect, as the price of the commodity increases, the
consumer substitutes his good with a different good which leads to a fall in
the quantity demanded of that good.
In income effect, the price of the commodity falls because of which the
real income of the consumer increases (the purchasing power of the
individual goes up) and with the same money income, the individual buys
more commodities
Other factors are average income, size of the market, prices of related
goods, tastes and special influences.
Shifts and movement in demand curve:
Movement:
When prices fluctuate and other factors are kept constant, we discuss
about a movement along a demand curve in this situation
Price- P and quantity- q
An upward movement means price increases, and quantity falls
A downward movement indicates P falls, q increases.
Shift:
This can be inward or outward, rightward or leftward, increase or decrease.
When prices are kept constant and other factors change, the demand
curve shifts either left or right.
Reasons behind shifts are: average income, population, price of related
goods, tastes and special influences
In the following cases, identify the shifts and give reasons:
After a viral fitness trend, more people start buying protein powder-
rightward shift, special influence
The price of petrol rises, and fewer people buy large SUVs- leftward shift,
price of related goods
A popular coffee brand increases the price, leading to more consumers
buying tea- rightward shift, price of related goods
Growing population leads to a higher purchase of rental apartments-
rightward shift, population
Price of ink increases the demand for printers is impacted- leftward shift,
price of related goods
Supply Analysis:
The willingness of the supplier to sell the commodities at different prices
during a given period of time, keeping other things constant, is called as
supply.
The positive relationship between quantity supplied and price of the
commodity gives an upward sloping supply curve
Determinants of supply:
Cost of input resources
Technology and productivity
producer expectations
Taxes of subsidies
The number of producers.