An Introduction to Economics

By Khoy Rada (MSc.; BSc.; B.Ed.)

Tel: 015 900601

Email: radakhoy@gmail.com

An introduction to economics Definition of economics Division of economics Economic systems Government intervention

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Definition of economics Economics is popularly known as the “Queen of

Social Sciences”. It studies economic activities of a man living in a society.

Economics is a social science of analyzing the use of scarce resources to achieve desired needs.

So economic activities are those activities, which are concerned with the efficient use of scarce means that can satisfy the wants of man.

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Definition of economics After the basic needs have been satisfied, the

priorities shift towards other wants. Human wants are unlimited, in the sense, that as

soon as one want is satisfied another crops up. Resources being scarce in nature ought to be

utilized productively within the available means to derive maximum satisfaction.

Definition of economics The knowledge of economics guides us in making

effective decisions. The tools of economics help us, individually and

collectively, to decide what, when, where, for whom, how and how much to produce.

As with most disciplines, considerable skill is required in applying economic principles to solve practical problems.

Wealth Definition of Economics Adam smith defined Economics as

“ An enquiry into the nature and causes of wealth of nations” in his book “Wealth of Nations”. He is regarded as the “Father of Economics”.

Welfare Definition of Economics Alfred Marshall in his book “Principles of

Economics” defined “Political Economy or Economics as a study of mankind in the ordinary business of life, it examines that part of individual and social action which is most closely connected with the achieve and with the use of the material requisites of well-being.

Thus it is on the one side a study of wealth, and on the other, and more important side, a part of the study of man.

Scarcity Definition of Economics In his publication “Nature and Significance

of Economic Science” Lionel Robbins formulated his conception of Economics based on the scarcity concept. “Economics is the science which studies human behavior as a relationship between ends and scarce means which have alternative uses.”

Growth Definition of Economics John Maynard Keynes is known as the

Father of Modern Economics. He defined economics as “the study of the administration of scarce resources and of the determinants of employment and income”.

Economics? Economics is the study of the allocation of

scarce resources to satisfy unlimited human wants.

Economics?Three key words in our definition and

discussion?

1. Scarcity

2. Choice

3. Time

Law of ScarcityEconomic resources are scarce! There are never enough at any given time to

produce all the things that people want at a price = 0.

Choice Scarcity forces every economic system,

every business, every individual to make choices.

A decision to produce one commodity frequently implies a decision to produce less of another commodity.

Choice Often, the decision to produce a particular

commodity may lead to the decision to completely stop production of another.

In other words, some tradeoffs must be made since we do not have the resources to produce the variety and quantity of

commodities we would like to produce.

ChoicePRICES assist us in determining which

choices to make concerning:

What to produce ?

How much to produce ?

Time Production requires time, consumption

requires time, choice requires time, adjustments to price changes or resource limitations requires time.

Nothing about economics is instantaneous. Time itself is scarce. Do we ever have

enough time?

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Definition of economics, cont. The study of economics is about

• use scarcity of resources• making choices and trade offs• investment in assets• costs of production and marketing• benefits of efficiency and making a profit.

Divisions of Economics Economics can be explained under two

approaches:• Traditional approach and • Modern approach

Divisions of Economics, cont. Traditional Approach

• It considered economics as a science of wealth and divided it into four divisions

1. consumption,

2. production,

3. exchange

4. and distribution

Consumption: It means the use of wealth to satisfy human wants. Production: It is defined as the creation of utility. It involves the processes and methods employed in transformation of tangible inputs (raw materials, semi-finished goods, or subassemblies) and intangible inputs (ideas, information, know-how) into goods or services.Exchange: It implies the transfer of goods from one person to the other. It may occur among individuals or countries.Distribution: Distribution refers to sharing of wealth that is produced among the different factors of production.

Divisions of Economics, cont. Modern Approach :

• This approach divides subject matter of economics into two divisions

1. Micro-economics

2. and macro-economics. • Theses terms were first coined and used by

Ragnar Frisch in 1933.

Micro-economics Microeconomics is concerned with the

study of production decisions by individual firms and farmers, and how these decisions can be made more efficient and more profitable.

Importance of Micro-Economics Functioning of free enterprise economy: It tells us how

millions of consumers and producers in an economy take decisions about the allocation of productive resources among millions of goods and services.

Distribution of goods and services: It also explains how goods and services produced in the economy are distributed.

Determination of prices: It tells us the relative prices of various products and productive services.

Efficiency in consumption and production: It explains the conditions of efficiency both in consumption and production.

Limitations of Micro-Economics

It does not give an idea of the functioning of the economy as a whole.

Macro-economics Macroeconomics studies the economic

management of the country. It is about the monetary & fiscal policy, taxation, trade, tariffs, how to control inflation & reduce unemployment, national income, gross domestic product, total employment, total output, total consumption, aggregate demand, aggregate supply, etc.

Importance of Macro-Economics It is helpful in understanding the functioning of a

complicated economic system. It also studies the functioning of global economy. With growth of globalization and WTO regime, the study of macro-economics has become more important.

It is very important in the formulation of useful economic policies for the nation to remove the problems of unemployment, inflation, rising prices and poverty.

Through macro-economics, the national income can be estimated and regulated. The per capita income and the people’s living standard are also estimated through macroeconomic study.

Limitations of Macro-Economics Individual is ignored altogether. For example, in

macro-economics national saving is increased through increasing tax on consumption, which directly affects the consumer welfare.

The macro-economic analysis overlooks individual differences. For instance, the general price level may be stable, but the prices of food grains may have gone up which ruin the poor, but the agriculturists will be happy.

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Economic systemsThere are three different economic systems: Free market economy/ pure capitalistic system:

• The institution of private property• Free enterprise and free choice • Self interest• Competition and unrestricted markets• The market system• The limited role of government

The Institution of Private Property Ownership of most property is held by

individuals or groups of individuals (corporations, partnerships, etc.).

The state is not the owner of productive resources that are important forms of property.

The Institution of Private Property Private property is controlled and enforced

through the legal framework of laws, police, and courts.

Therefore one function of government is the protection of private property rights.

Individuals are usually free to use their private property as they choose, so long as they do not infringe on the legal property rights of others.

Individuals are usually allowed to enter into private contractual agreements that are mutually satisfying.

The Institution of Private Property

Free Enterprise and Free Choice (An Extension of Property Rights)

Exists when private individuals are allowed to obtain resources, to organize those resources, and to sell the resulting product in any way the individual chooses.

As long as their actions do not infringe on the property rights of others

Free Enterprise and Free Choice (An Extension of Property Rights)

Workers are free to enter any line of work for which they are qualified, and consumers can buy the desired basket of goods and services that they feel is best for them.

Free Enterprise and Free Choice (An Extension of Property Rights)

The ultimate voter is the consumer, he/she votes with dollars, and decides which product will survive• This reasoning is known as consumer

sovereignty, where the ultimate purchaser of goods and services determines what is produced.

Self InterestNormally implies the maximization of profits

or the minimization of losses.

Consumers: strive to maximize the amount of satisfaction possible from spending a given amount of money income. (as little as possible!)

Self Interest Producers : strive to maximize the amount

of net income possible from selling commodities at the highest possible price (get as much as possible!)

Self Interest Employees (Workers): strive to obtain the

highest level of income possible for least amount of work.

Employers : strive to obtain the most amount of work from employees for the least cost.

Competition and Unrestricted Markets

Competition is Rivalry among sellers who wish to attract customers and rivalry among buyers to obtain desired goods and services.

Competition and Unrestricted Markets

Competition requires a minimum of two conditions:• A relatively large number of independently

acting sellers and buyers.

• Freedom of sellers and buyers to enter or exit a particular industry without restrictions (unrestricted markets).

Competition and Unrestricted Markets

Economic competition imposes limits on the self interest of buyers and sellers. Competition is a regulating force in capitalist systems.• i.e. Raise prices Consumers go to another

one of many sellers.• Economic profit earned New firms will

enter the industry.

The Market System An institution that develops from the

• Private Property Rights• Free Choice and Free Enterprise• Self-Interest• Competition and Unrestricted Markets

Also referred to as the “Price System”

The Market System Capitalism is a market economy. That

is, buyers and sellers relate their opinions by expressing how much they are willing to pay for, or how much they demand of goods and services.

The Market System Prices are used to signal the value of individual

resources and commodities. Therefore, prices provide valuable information to consumers and producers.

Prices are the "guiding light" to which resource owners, businesses, and consumers follow when economic choices must be made.

Therefore, we can say that the market system (price system) IS the organizing force in capitalist systems.

The Limited Role of Government Someone or some entity has to define and

enforce private property rights.

• The government protects the rights of individuals and business persons to keep private property private, and keep the control of that property vested with the owners.

The Limited Role of Government Reconcile Negative Externalities

through Legislative Action or Civil Process to Settle Disputes Judicially

The Limited Role of Government Eliminate monopolies that would

restrain trade, Issue money, Prescribe a standard of weights

measures,

The Limited Role of Government Raise funds through taxation and other

means (BORROW) for public goods such as national defense.

Therefore, government is essential to the existence of a pure capitalist economic system.

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Economic systems, cont. Controlled market economy

• central government planning & control production• consumption & prices regulated• cooperation with government direction• producers required to respond as directed• resources directed into socially useful investments• collective incentives & rewards• social benefit & political motives• extensive regulation & control (North Korea, Cuba)

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Economic systems, cont. Mixed market economy

• perhaps government ownership and control of key resources and investment

• but the price of goods and services determined by supply and demand in free markets (eg. Vietnam)

• or private ownership of resources and controlled or strongly regulated markets (eg. Japan and South Korea)

• or mixed ownership of resources and decentralized planning and regulation (eg. Malaysia and Indonesia)

Mixed Economic System In reality, most economic systems are a

combination of market and political systems.

Economic SystemsFree Market Mixed Market Controlled Market

Pure Capitalism Socialism Pure Marxist

Communism

Hong Kong

Singapore

United States

Canada

Japan

W. Germany

Economic SystemsFree Market Mixed Market Controlled

Market

Pure Capitalism Socialism Pure Marxist

Communism

Great Britain Cuba

France North Korea

Sweden

China

Former USSR

How about Cambodia?

Government Intervention Why? Support/protect an infant industry Curb market powers of imperfect

competitors to promote social good Provide for food security Provide for consumer health and safety Provide for environmental quality

Forms of Government Intervention in Agriculture

Adjusting production to market demand Price and income support payments Foreign trade enhancements Crop insurance Subsidized credit Other forms