➢ ECONOMICS

Economics is the social science that studies how societies use limited resources to
produce, distribute, and consume goods and services to satisfy unlimited wants and needs.
The two branches of economics are microeconomics and macroeconomics.
Economics focuses on efficiency in production and exchange.
Core concepts

Scarcity:
The fundamental problem that wants and needs are unlimited, but the resources
to satisfy them are limited, forcing choices to be made.
Production:
How goods and services are created using resources like labour, land, and capital.
Distribution:
How the goods and services produced are allocated among different people
and groups in society.
Consumption:
The process of using goods and services to satisfy needs and wants.

➢ ECONOMIC RESOURCES / FACTORS OF PRODUCTION

In Economics : resources are classified into 4
1. Land (La) : Surface soil + Natural resources
2. Labour (L) : Mentally and Physically fit for work
3. Capital (K) : All Manmade aids to production
4. Organization / Entrepreneurship: Combines all factors of production

➢ BASIC ECONOMIC PROBLEMS

• Basic concern Scarcity of Resources( Limited Resources and Unlimited Wants)
• Basic Economic Problems or Central Problems Economy as follows :
1. The Problem of Allocation of Resources.
2. The Problem of Fuller Utilization of Resources.
3. The Problem of Growth of Resources.
4. The Problem of Efficiency

THE PROBLEM OF ALLOCATION OF RESOURCES

The major concern is,
1. What to Produce ? ( Produce according to the current needs of an economy)
 2. How to Produce ? ( L or K, Depends on Price and Availability)
3. For whom to Produce ? ( For society and household)

➢ SCARCITY AND CHOICE

Scarcity means that resources are not available in the
required quantity to satisfy all the wants and needs. Since we face Scarcity, people have to
make choice between goods and services

➢ PRODUCTION POSSIBILITY CURVE (PPC)-OR -

PRODUCTION POSSIBILITY FRONTIER (PPF)

PPC or PPF shows the various combinations of two commodities that can be
produced with latest technology available and within given resources utilised fully and
efficiently.

Assumptions
➢ Only 2 commodities
➢ Latest technology
➢ Fuller utilisation of resources
• Any point on PPC shows fuller utilisation of resources
• Any point above or beyond PPC shows point cannot be attained, beyond the scope
• Any point below the PPC shows the under utilisation of resources.
• PPC is downward slopping curve and concave in shape shows resources are
transferred from one use to other use, that’s why it is known as transformation curve.
• It is also known as production boundary or production frontier.

FEATURES OF PRODUCTION POSSIBILITY CURVE

• PPC slopes downward: Production of one good can be increased only after
sacrificing production of some quantity of the other good.
• PPC is concave to the origin: A production possibility curve is concave to the point of
origin because of increasing marginal rate of transformation (MRT) or increasing
marginal opportunity cost (MOC).
• Slope of PPC is defined as the quantity of good Y given up in exchange for additional
unit of good X

• SHIFT IN PPC
• Shift in PPC shows technological growth in the economy

• With discovery of new stock of resources or an advancement in technology, the

productive capacity of an economy increases.

a) PPC will shift to the right when:

• new stock of resources is discovered.
• There is advancement in technology.
b) PPC will shift to the left when
 • Resources are destroyed because of national calamity like earthquake, fire,
war, etc.
• There is use of outdated technology..
• There is use of outdated technology.
Applications of the Production Possibility Curve
1. Illustrating opportunity cost
2. Identifying inefficiencies
3. Modeling economic growth:
4. Analyzing specialization and trade
5. Guiding optimal production decisions
6. Understanding economic trade-offs

➢ LAW OF DIMINISHING MARGINAL UTILITY

• Utility
The want satisfying capacity of a commodity is known as utility. It is expressed in
Utils. Utility is a cardinal concept ie., it can be measured. Benham formulated the unit
of measurement of utility as utils.
• Total Utility ( TU)
TU refers to the total satisfaction derived by the consumer from the
consumption of a given quantity of a commodity.

TUn = MU1 + MU2 + .....+ Mun

• Marginal Utility (MU)

MU refers to the additional utility derived by the consumer from the
consumption of an additional unit of a commodity

MU = TU n – TU n-1

MU = d(TU)/d(Q)

➢ LAW OF DIMINISHING MARGINAL UTILITY THEORY

(DMU) / THEORY OF CONSUMER BEHAVIOUR
Theory has been developed by [Link] Marshall
Assumptions of the Theory
• Rationality
• Commodities should be homogenous and normal
• No time gap between the consumption of goods
 • No change in taste and preferences
• No change in price of the commodity
• Statement of Theory:
• As the consumer consumes more and more units of a same good, the additional utility
(MU) from each additional units goes on decreasing.

STAGE 1 > Increasing Returns

• TU , MU increases at an increasing rate
STAGE 2 > Diminishing Returns
• MU starts falling
• TU increases at a diminishing rate
• At the end of second stage , MU reaches zero and TU reaches at its maximum (Point M )
STAGE 3 > Negative Returns
• After point M, MU becomes negative
 • TU starts falling

➢ DEMAND

• Demand is the desire backed by the ability and willingness to pay for a commodity.
• Price is the value of a thing expressed in terms of money.
• Demand for a commodity : it refers to the qty of a commodity demanded in the
market in a given period of time at a given price.

DETERMINANTS OF DEMAND / FACTORS AFFECTING DEMAND

1. Price of the commodity (P rises, DD falls and vice versa )
2. Exceptional cases: Giffen goods (Essential) and Veblen goods (Luxury)
3. Income of the consumer (Y)
4. Y rises, DD rises and vice versa (Normal Goods)
5. Y rises ,DD decreases (Inferior Goods)
6. Y increases or decreases , DD remains constant (Exceptional goods)
7. Taste and preferences of consumer
8. Price of other commodity

❖ Substitute goods

❖ Complementary goods

❖ Consumer Expectations
9. Size of population
DEMAND FUNCTION
It shows the functional relationship between the demand for a commodity and factors
affecting demand is called demand function.

Dn = f( Pn, P1…Pn-1, Y , T , E , H , G …. U)

➢ LAW OF DEMAND
The law of demand states that if remaining things are constant then as price of a
commodity increases demand for the commodity decreases and as price of a commodity
decreases demand for the commodity increases.
 DEMAND SCHEDULE

• It is thetable that shows different quantities of a commodity that would be demanded a

different prices.

CHANGES IN DEMAND

• Two types of changes in demand

• Change in demand due to change in price –Expansion and Contraction of Demand –
Movement along demand curve
• Change in demand due to factors other than price Increase and Decrease in demand –
Shift in demand curve.

➢ ELASTICITY OF DEMAND
• It refers to the degree of responsiveness change in quantity demanded of a
commodity due to change in price or any other factors.
• It was put forward by Alfred Marshall
• 3 Types of elasticity of demand
 • Price Elasticity
• Income Elasticity
• Cross Elasticity
1. PRICE ELASTICITY OF DEMAND: MEASUREMENT USING PERCENTAGE
METHOD

• Percentage method is also called proportionate method. The absolute value of

the coefficient of elasticity of demand ranges from zero to infinity.

PRICE ELASTICITY OF DEMAND (EP)

• It refers to the degree of responsiveness change in qty demanded of a commodity due

to change in price.

❖ Types of price elasticities of Demand

Perfectly elastic demand
• With a small change in price there would be an infinite change in qty demanded.
• It is an ideal and imaginary situation.
• Demand curve would be a horizontal straight line parallel to x - axis
• In this case price elasticity would be infinity

▪ Perfectly inelastic demand

• With a small change in price there would be no change in qty demanded. It exists in case of
essentials like life saving drugs.
• Demand curve would be a vertical straight line parallel to Y – axis
• In this case price elasticity would be Zero
1. Unit elastic demand / Unitary elastic demand
With a given change in price there would be an equal and proportionate change in
qty demanded for the commodity. It exists in case of normal goods
ep = 1

▪ Elastic demand / More elastic demand

• With a given change in price there would be a more than proportionate change in qty
demanded of the commodity. It exists in case of luxuries.

• Ep > 1
 ▪ Inelastic demand / Less elastic demand
With a given change in price there would a less than proportionate change in
qty demanded of the commodity. It exists in case of necessities like food, fuel,
etc

[Link] Elasticity of Demand

Income elasticity of demand measures the relationship between the consumer’s
income and the demand for a certain good. It may be positive or negative, or even
non-responsive for a certain product. The consumer’s income and a product’s demand
are directly linked to each other, dissimilar to the price-demand equation.

Income Elasticity of Demand = % Change in Demand Quantity / % Change in Income

of Consumer

Where:
• % Change in Demand Quantity = Change in Demand Quantity / Original Demand
Quantity
• % Change in Income of Consumer = Change in Income of Consumer / Original
Income of Consumer

1. Positive income elasticity of demand

It refers to a condition in which demand for a commodity rises with a rise in
consumer income and declines with a decline in consumer income.
2. Negative income elasticity of demand
It refers to a condition in which demand for a commodity decreases with a rise in
consumer income and increases with a fall in consumer income. Inferior goods are
such commodities
3. Zero income elasticity of demand
It corresponds to the situation when there is no impact of rising household
income on commodity production. Such goods are termed essential goods.
 [Link]-Price elasticity
• Cross-price elasticity measures how sensitive the demand of a product is over a shift
of a corresponding product’s price.
• A price increase of a complementary product will lead to lower demand or negative
cross-price elasticity, and a price increase in a substitute product will lead to increased
demand or a positive cross-price elasticity.
• Unrelated products have zero cross-price elasticity.
Cross-Price Elasticity Formula

Where:
• Qx = Average quantity between the previous quantity and the changed quantity,
calculated as (new quantity X + previous quantity X) / 2
• Py = Average price between the previous price and changed price, calculated as (new
pricey + previous pricey) / 2
• Δ = The change of price or quantity of product X or Y

➢ SUPPLY
• Supply refers to the quantities of a commodity which a seller offers for sale at a
particular price in a given period of time.
• It refers to the desired qty of commodity that the seller offer for sale in the market.
FACTORS AFFECTING SUPPLY

• Price of the commodity ( P rises S rises)

• Goals of the firm
• Price of other commodities
• Price of factors of production
 • State of technology
• Government Taxation
SUPPLY FUNCTION

• It shows the functional relationship between supply and factors affecting the supply
• Sn = f(Pn, Pn...Pn-1, Gf, T, E, Gt, N….U)
LAW OF SUPPLY
The law of supply is an economic principle stating that, all other factors being equal,
an increase in the price of a good or service leads to an increase in its quantity supplied, and a
decrease in price leads to a decrease in quantity supplied.
SUPPLY CURVE

CHANGES IN SUPPLY

Two types of changes in Supply

• Change in supply due to change in price –Expansion and Contraction of supply –
Movement along supply curve
Price changes other factors remains the same
 • Change in supply due to factors other than price – Increase and Decrease in supply –
Shift in supply curve Other factors changes and price remains the same

EFFECTS OF CHANGES IN DEMAND AND SUPPLY ON EQUILIBRIUM PRICE

• Increase in Demand
• Decrease in Demand.
• Increase in Supply
• Decrease in supply

➢ THE LAW OF VARIABLE PROPORTION

• It is also known as Law of Diminishing Returns, Returns to Factor , Short run
Production Function
• The law examines the short run relationship between one variable input and output
produced, while keeping all other factor inputs constant
Statement of Law:
• The law of variable proportion states that as more and more units of a variable factor
are applied to a given quantity of a fixed factor , the total product increase at an
increasing rate initially and then at a diminishing rate and eventually decreases,
provided there is no change in technology.
 STAGE 1 : Increasing Returns to Factor (IRF)
• TP , AP , MP increases at an increasing rate in the initial stage of production .
• This is due to fuller utilization of fixed factors and
division of labour
 STAGE 2 : Diminishing Returns to Factor (DRF)
• Most relevant stage in production
• MP falls and TP increases at a diminishing rate
• At the end of second stage , TP reaches max and MP reaches zero
• AP also falls
STAGE 3 : Negative Returns to Factor (NRF)
• MP becomes negative ,TP falls but remains positive.
• AP remains falling
Observations
• When MP > AP , AP Rises
• When MP = AP , AP remains constant
• When MP < AP , AP falls

➢ ECONOMIES OF SCALE
• It means advantages of large scale production which help in reducing the average
cost of production.
• It can be broadly classified into two:
1. Internal Economies
• Labour Economies
• Technical Economies
• Managerial Economies
• Marketing Economies
2. External Economies
• Economies of localization
• Economies of Information
• Economies of vertical disintegration
• Economies of by - product

➢ COBB – DOUGLAS PRODUCTION FUNCTION

• It was proposed by Wickseed for the first time

• It was statistically tested by Charles .W. Cobb and Paul. H. Douglas in 1928
• They used the data from manufacturing sector of USA for the years 1899 to 1922

• Output elasticity measures the responsiveness of output to a change in levels of

either labor or capital used in production.
• C - D Production function is a homogenous production function
• C-D Production function always exhibits constant returns to scale.
α+β=1

➢ Revenue
• Revenue is the total income a business generates from its core operations, like selling goods
or services, before any expenses are deducted.
• It is calculated by multiplying the price of a product by the quantity sold, and can also
include other income sources like interest or royalties.