CHAPTER-1

INTRODUCTION TO MICRO ECONOMICS

I. Choose the correct answer (Each question carries 1 mark)

1. The scarce resources of an economy have

(a) Competing usages (b) Single usages
(c) Unlimited usages (d) None of the above
Competing usages

2. Which of the following in an example of micro economic study?

(a) National income (b) Consumer Behaviour
(c) Unemployment (d) Foreign trade
Consumer behaviour

3. Central problems of an economy includes

(a) What to produce (b) How to produce
(c) For whom to produce (d) All of the above
All of the above

4. Traditionally, the subject matter of economics has been studied under the following
broad branches.
(a) Micro and Macro Economics (b) Positive and Normative Economics
(c) Deductive and Inductive (d) Market and mixed economy
Micro and Macro Economics.

II. Fill in the blanks (Each question carries 1 marks)

1. Scarcity of resources gives rise to..................... Problem of choice

2. In a centrally planned economy, all important decisions are made by ……
Government
3. ……….. is a set of arrangements where economic agents can freely exchange their
endowments or products with each other. Market
4. In reality, all economies are ……………… Mixed Economies.

III. Match the following (Each question carries 1 mark)

1. Market economy a. Government

2. Service of a Teacher b. Private
3. Centrally planned economy c. Skill
4. Positive economics d. Evaluate the Mechanism
5. Normative economics e. Functioning of Mechanism

Ans: 1 - b; 2- c; 3- a; 4- e; 5- d.

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IV Answer the following questions in a sentence/word. (Each question 1 mark)

1. Why does the problem of choice arise?

An economic problem arises because of limited resources, unlimited wants, and
alternative uses of resources.

2. Give an example of Market Economy?

Example- USA, UK.

3. What do you mean by Production Possibility Set?

The collection of all possible combinations of the goods and services that can be
produced from a given amount of resources and a given stock of technological
knowledge is called the production possibility set of the economy.

4. Give the meaning of Microeconomics.

Microeconomics is the study of individual economic units like a consumer, a
producer, a firm etc.

5. What does a combination below the Production Possibility Frontier indicate?

A combination below the Production Possibility Frontier indicates a combination

that will be produced when all or some of the resources are either underemployed
or are utilized in a wasteful fashion.

V. Answer the following in 4 sentences. (Each question carries 2 marks)

1. Mention the Central problems of an economy.

The central problems (basic problems / fundamental problems) of an economy
are as follows:
[Link] to produce (Problem of choice)
2. How to produce (Problem of technology)
[Link] whom to produce (Problem of distribution)

[Link] out the basic economic activities.

1. Production
[Link]
[Link] and
[Link]

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[Link] is Production Possibility Frontier (Production Possibility Curve / Transformation
Curve)

The production possibility frontier (PPF) is a graphical representation of the

combinations of two commodities that can be produced with the given resources which
are fully utilized and with the given technique of production.

[Link] do you mean by Mixed economy? Give an example.

Mixed economies are those, where some important decisions are taken by the
government and the private sector - Example: India

5. Distinguish between Micro and Macroeconomics.

Microeconomics Macro economics

Microeconomics deals with individual Macro Economics deals with aggregates so
units so its scope is narrow its scope is wider
Microeconomics follows slicing method Macro Economics follows lumping method
Micro economics studies partial Macroeconomics studies general
equilibrium in the economy. equilibrium in the economy
Eg: Individual income individual saving, Eg: National income, aggregate saving,
price of a commodity etc. general price level etc.

[Link] between Positive and Normative Economics

Positive Economics Normative Economics

It is the study of ‘what was’ and ‘what is’ Normative economics studies ‘what ought
under the given set of circumstances. to be’.
It deals with the scientific explanation of It deals with evaluation of mechanism. In
the working of the economy (functioning normative economics we try to understand
of mechanism). whether the mechanisms are desirable or
not.

Positive statements are capable of empirical Normative statements are subjective, and
verification (it can be tested or proved). value based or sometimes called matters of
opinion. (It cannot be tested).It explains
about ‘what should be and should not be
done’.

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VI. Answer the following question in 12 sentences. (Each question 4 mark)
1. Briefly explain, how the family farm, weaver, teacher can use their resources to
fulfill their needs in a simple economy.
People in the society needs many goods and services in their everyday life including
food, clothing, shelter, transport facilities ,poster services and various other
services like that of teachers and doctors. Infact the lists of goods and services that
any individual needs is so large that no individual in society has all the things he
/she needs.
Every individual has some amount of only a few of the goods and services that he
/she would like to use.
A family farm may own a plot of land, farming implements, some seeds, a pair
of bullocks and labour services of the family members.
A weaver may have some yarn, cotton and other instruments required for weaving
cloth.
The teacher in a school has the skills required to impart education to the students.
Each of these decision-making units can produce some goods or services by using
the resources that it has and use part of the produce to obtain other goods and
services which it needs.
Eg: The family farm can produce corn, use part of the produce for consumption
and procure(buy) clothing, housing, and various services in exchange of corn.
Similarly, the weaver can get goods and services she wants in exchange for the
cloth she produces.
The teacher can earn some money by teaching students in the college / school and
use the money for obtaining goods and services that she/he wants.
Each individual can thus use his/her resources to fulfill his/her needs. It goes
without saying that no individual has unlimited resources compared to his/ her
needs.

2. Briefly explain the Production Possibility Frontier (PPF/PPC).

The PPF is a graphical representation of the combinations of two commodities
(eg:cotton and wheat) that can be produced when the resources of the economy
are fully utilized and with given technology. It is also called as Production possibility
curve (PPC) or transformation curve.

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 Assumptions of PPF:
1. Resources are given, and they can be transferred
2. Technology remains constant
3. Given resources are fully and efficiently utilized
4. Only 2 goods are considered (eg: cotton and wheat).

The following table shows combinations of cotton and wheat that can be produced
when the resources of the economy are fully utilized.

Production possibilities Wheat (in lakh tons) Good Y Cotton (in lakh tons) Good X

A 100 0

B 90 10

C 70 20

D 40 30

E 0 40

As per the table if the country uses all its resources to grow wheat, it can grow a maximum
of 100, which is shown in combination A. Similarly if all the resources are used to grow
cotton, it can grow a maximum of 40. If the resources are to be used to grow both the
commodities, the combinations of B, C or D can be chosen.

This can be graphically represented as follows:

Y A
wheat B .F G – attainable comb
F - unattainable comb
D
.G
E
O cotton X
As per the above graph, the points lying strictly below the production possibility curve
represents a combination of cotton and wheat that will be produced when all or some of
the resources are underemployed (point G).

The points lying on the PPC (A B C D E) shows that the resources are fully utilized (full
employment and efficient use of resources). The point F shows unattainable
combination.

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The change in PPC:

1. Shift in PPC: When there is change in productive capacity with respect of both
the goods. The PPC can shift due to
a) Change in resources (resources are increased or decreased)
b) Change in technology (improvement in technology or deterioration)

2. Rotation of PPC: When there is change in productive capacity with respect to

only one good, good X or good Y.

Characteristics of PPF:

[Link] slopes downward: More of one good can be produced only by taking
resources from the production of another good.

[Link] is concave to the origin: PPF is concave to the origin because of increasing
Marginal rate of transformation (MRT).

3. What are the THREE Central Problems of an economy. Explain?

The problem of choice arising out of limited resources and unlimited wants are called
economic problem. Every economy whether developed or underdeveloped, Capitalistic
or socialistic or mixed economy, there will be three basic economic problems viz., What
to produce, how to produce and For Whom to produce.

a) What to Produce (problem of choice)

As resources are scarce, economy cannot produce everything in infinite quantities.
So, this problem arises. The problem of what to produce has two dimensions. They
are
[Link] goods and services are to be produced (Whether to produce more guns or
more food grains should be grown or whether more capital goods like machines,
tools, etc., should be produced or more consumer goods (electrical goods, daily
usable products etc.) will be produced.
2. In what quantity the goods are to be produced
What goods to be produced and in what quantities depends on the economic
system of the country.
In socialistic economy, the Government decides and in Capitalistic economy
market forces decides and in mixed economy both the Government and market
forces provide solutions to this problem.

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 b) How to Produce (problem of technology):
Since resources are limited, it becomes necessary to choose a technology which
uses resources most economically. There are various alternative techniques of
producing a product.
There are two types of techniques of production viz.,
(a) Labour intensive technology (greater use of labour)
(b) capital intensive technology (greater use of capital)
The society has to decide whether production should be based on labour intensive
or capital-intensive techniques. The choice of technology would depend on the
availability of different factors of production (land, labour, capital) and their
relative prices (rent, wages, interest).
c) For whom to produce (problem of distribution).
Another important decision which an economy has to take is for whom the goods
should be produced. The economy cannot satisfy all wants of all the people.
Therefore, it has to decide who should get what and how much of the total output
of goods and services. The society has to decide about the shares of different
groups of people- poor, middle class and the rich, in the national output

4. Write about Centrally Planned Economy.

A centrally planned economy also called as socialistic economy is that economy
where the economic activities are controlled and governed by the central
Government. Here, the Government takes decisions about the allocation of
resources in accordance with predetermined goals and objectives to attain
economic and social welfare. Social welfare is the main motive of production.
Example, Russia, China, North Korea etc.
In a centrally planned economy, Government decides what to produce, how
to produce and what prices are to be fixed.
 Regarding what to produce, the Government may produce those goods and services
which are most useful for its society.
 Regarding how to produce, the most suitable technique of production is adopted -
whether labour intensive or capital intensive in accordance with the situation in the
economy.
 Regarding whom to produce, the goods and services are produced to those people
who are suffering from hunger.
 Centrally planned economy gives importance to the quality of life rather than quantity
of production.

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 [Link] does the Market Economy work?

 A market economy also known as capitalistic economy, is that economy in

which the economic decisions are undertaken based on market mechanism
by the private entrepreneurs.
 It functions on demand and supply conditions. Eg: USA, Japan, Australia, UK.
 In market economy, private individuals own the factors of production. Here,
the profit is the main goal of business.
 There is least intervention of Government in the economic activities.
 Price mechanism plays a major role in market economy. Prices are the
balancing wheel of the market mechanism because it coordinates the
decisions of the producers (supply)and consumers(demand). The price is
determined by demand and supply in the market. No individual organization
or Government is responsible for the production and distribution or pricing of
goods. All depend on market mechanism.
Regarding basic problems of an economy,
The problem of what to produce is solved based on demand and profit. The
producers produce those goods which are high in demand and less in supply which
in turn bring more income.
The problem - how the goods are to be produced is determined by the competition
among different entrepreneurs. They select least cost combination of technology
so that they can get more returns with less cost.
The problem of whom to produce is decided based on purchasing power of
consumers. The producers produce commodities to the rich as they can afford to
pay more but poorer sections of the society are neglected.

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