Introductory Economics

Category Archive Introductory Economics

Role of price mechanism

Role of price mechanism in full utilization of productive resources in free enterprise economy

  1. Explain the role of “Price mechanism” in assuring proper allocation and full utilization of productive resources in free enterprise economy.

Ans) Price mechanism refers to the process of price determination by the interaction between demand and supply forces without any external interference. That price will come to prevail in the market at which demand for a commodity is equal to its supply. Such a price is called equilibrium price. Operation of price mechanism in a market is explained with the help of the following figure. In this figure, price  per unit of the commodity is shown on Y-Axis and quantity demanded and supplied are shown on X-axis.

At OP1 price ,supply (P1B) is more than demand (P1A), ie; there is AB excess supply .In this situation there will be a tendency for the price to fall ,as there will arise competition among the sellers.

On the contrary, at OP2 price, demand (P2G) will be more than supply (P2F) ie; there will be excess demand equal to FG. In this situation, there will be a tendency for the price to rise ,as it will lead to competition among the buyers.

At OP price, demand is equal to supply. Thus, OP price is called equilibrium price. At this price, demand for a commodity is equal to its supply.

Role of price mechanism:

The price mechanism solves the problem of allocation of resources which is associated with what ,how and for whom to produce.

  • What to produce?

         In a free market economy,producers are guided by profit motive. When price of a commodity increases with the increase in demand ,the profits  increase and this would encourage the production of this commodity.Producers would shift resources from the production of other commodities to this commodity.Therefore,the price mechanism would automatically solve the problem what to produce.

  • How to produce?

          It is the question of choice of production technique .There are generally two techniques of production available:

  1. Labour-intensive technique (in which more of labour is used than capital)
  2. Capital-intensive technique (in which more of capital is used than labour)

      If capital is available at alower rate, firms adopt capital-intensive technique of production.If labour is available at lower rate,firms adopt labour intensive techniques.

Therefore, it is the price of labour or the price of capital that will help the producer in deciding whether they should choose capital intensive or labour intensive technique.

  • For whom to produce?

       In a market economy,the producers must produce for those who have the ability and willingness to pay the highest price.The income of the consumers determines the ability to pay ie; there is a direct relationship between income and consumption pattern. Hence,both the ability and willingness to pay determines who gets the available commodities.

  • Fuller Utilization of the factors

         It is through price-mechanism that fuller utilization of the factors is attained in a capitalist economy .Volume of full employment depends upon the volume of production which in its turn ,depends upon the level of investment. Amount of investment  depends upon saving.Equality between saving and investment is brought about by change in price of capital ie; rate of interest.If at any given time ,total savings are large and condition of unemployment prevails in the economy ,the rate of interest will fall.Due to fall in the rate of interest there will be increase in investment.Increase in investment will result into increase in production and the condition of less than fuller utilization of the factors will become possible. Classical economists were of the view that under condition of less than full employment of labour,price of labour, ie; wage will fall. Fall in wage rate will stimulate demand and condition of full employment of labour will be achieved . In this way,price mechanism will help to achieve fuller utilization of the factors.

 

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Microeconomics- Business Decision making

Microeconomics- Business Decision making

  • a)Explain the role of microeconomics in business decision making.

Ans) The role of microeconomics in business decision making can be explained as under:

1) Optimal resource utilization:

The productive resources are scarce in the economy and microeconomics tells how the productive resources are allocated in the production of various goods and services .It also helps to find out ,what to produce, how much to produce and for whom to produce.

2) Demand analysis:

With the help of microeconomic analysis ,the business firms try to forecast the demand for their product. As we know ,the demand for the firm’s product would change in response to change in price of the firm’s product ,prices of other goods ,which may be substitute or complementary,consumer’s income ,his testes and fashion ,his expectations about future changes in price ,changes in the age composition  of population ,change in total population etc. These are the determinants of demand ,a study of which is essential for forecasting future demand for the product as well as the present sales.

3) Cost analysis:

Cost analysis is an important area of microeconomics .There are many theories to explain different condition of cost in microeconomics such as fixed cost and variable cost,average cost and marginal cost,short-run cost and long-run cost. These all help the business manager to compare cost of production of different periods and thereby to evolve suitable policies in controlling costs and deriving suitable profits.

4) Optimal production decision:

The production decision is concerned with proper product mix.What factors are to be combined in what manner to produce a given product ? Microeconomics deals with different production techniques that help to find out the optimal production decision.

5) Pricing policy:

We know that pricing of the product is the chief function of a firm. This depends upon the cost of production and at the same time price of substitutes and the nature of competition. Price affects profits which in turn determine the existence and the growth of the firm.The microeconomic analysis provides the business manager a thorough knowledge of the theories of production and pricing in order to make sure that the firm gets profits continuously.

Thus ,the role of microeconomics is both positive and normative .It not only tells us how the economy operates but also how it should be operated to promote general welfare.

 

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Cardinal Utility Approach

Cardinal Utility Approach

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Very Short Questions

  • Define utility.

Ans) Utility is defined as the wants satisfying capacity of a commodity .In other words,it is the satisfaction obtained from the consumption of commodity.

  • What do you mean by cardinal utility approach?

Ans) Cardinal Utility approach is the method of analyzing utility which believes that utility is a quantitative concept i.e, utility can be measured numerically .Its unit of measurement is Utils.

  • List any four assumptions of cardinal utility analysis.

Ans) The  four assumptions of cardinal utility analysis are as follows:

  1. The consumer is rational.
  2. Utility can be measured in cardinal number.
  3. Marginal utility of money remains constant.
  4. Units of consumption are suitable.

 

  • Define the total utility.

Ans) Total utility is the total satisfaction obtained from the consumption of a given units of a commodity .It is obtained by the summation of marginal utility.

  • Define the marginal utility.

Ans) Marginal utility is the addition made to the total utility from one additional unit of consumption.

  • Define the concept of ordinal utility approach.

Ans) Ordinal utility approach is the method of analyzing utility as a subjective phenomenon. According to this approach,utility cannot be expressed quantitatively. However,ranking is possible.

  • Define indifference curve.

Ans) Indifference curve is defined as the locus of all combinations of two goods which yields the same level of satisfaction to the consumer.It is also called equal satisfaction curve. It is downward slopping and convex to the origin.

  • Write any four assumptions of indifference curve analysis.

Ans) The four assumptions of indifference curve analysis are as follows:

  1. Rational consumer.
  2. Ordinal measurement of utility.
  3. Diminishing marginal rate of substitution.
  4. Transitivity and consistency.

 

  • Make a list of properties of indifference curve(IC).

Ans) The list of properties of indifference curve are as follows:

  1. An IC slopes downward from left to right.
  2. An IC is convex to the origin.
  3. ICs never intersect each other.
  4. Higher the indifference curve,higher will be level of satisfaction.

 

  • Define the meaning of marginal rate of substitution (MRS).

Ans) Marginal rate of substitution is the rate at which one commodity is substituted for another so that total satisfaction remains the same. It is the slope of indifference curve.

  • Why does marginal rate of substitution diminish?

Ans) The marginal rate of substitution diminish because of the following reasons:

  1. Goods are not perfect substitute for each other.
  2. The particular want is satiable.
  3. Increase in the quantity of one good does not increase the want satisfying power of the other.
  • Why indifference curve is convex to origin?

Ans) Indifference curve is convex to origin because of diminishing marginal rate of substitution between two goods. The rate of substitution goes on diminishing as we move downward to the right.

  • Higher the indifference curve yields higher level of satisfaction .Why?

Ans) Higher the indifference curve contains more units of at least one good. More is preferred to less. Therefore,higher indifference curve yields higher level of satisfaction.

  • What do you mean by consumer’s equilibrium?

Ans) Consumer’s equilibrium means the situation in which the consumer derives maximum satisfaction or utility from his given money income and market price of the goods.

  • What is price (budget) line?

Ans) Price line is the locus of all combinations of two goods which can be purchased with the given money income of the consumer.

  • Why does a budget or price line shift?

Ans) The budget or price line shift when there is change in money income of the consumer or change in price of goods.

  • Write down the conditions required for the consumer’s equilibrium according to the ordinal utility approach.

Ans) The conditions required for the consumer’s equilibrium according to the ordinal utility approach are as follows:

  1. Price line must be tangent to the indifference curve.
  2. Indifference curve should be convex to the origin.

 

  • When does the consumer’s equilibrium change?

Ans) There will be change in consumer’s equilibrium when there is change in income of the consumer or change in price of good.

  • Define price effect.

Ans) Price effect is defined as the change in consumer’s equilibrium with the change in price of a commodity .Purchase of goods will be affected with the change in price of a commodity,Keeping other things constant.

  • What is price consumption curve (PPC)?

Ans) Price consumption curve is the locus of different equilibrium points obtained due to change in price of a commodity. In other words, PPC is the curve that joins different equilibrium points of price effect.

  • Define income effect.

Ans) Income effect is defined as the change in equilibrium due to change in income of the consumer. It shows the effect of change in income to the quantity demanded. It is positive in case of normal goods ,negative in case of inferior goods and zero in case of neutral goods.

  • What do you mean by income consumption curve?

Ans) Income Consumption Curve (ICC) is defined as the locus of different consumer’s equilibrium points obtained at different income of the consumer. In other words, ICC is the curve that joins different equilibrium points of income effect.

  • Define substitution effect.

Ans) Substitution effect is defined as the effect of price change on quantity demanded when income is compensated such that consumer’s utility is unchanged. It is part of price effect.

Price effect= Substitution effect + Income effect

  • What do you mean by Engel curve?

Ans) An Engel curve is a curve which shows optimum quantity of a commodity purchased at different levels of income .In other words Engel’s curve indicates how much quantity of a commodity a consumer will consume at different levels of his income in order to be in equilibrium.

 

 

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Elasticity

images (3)Very short questions of Elasticity

  • Define elasticity of demand.

Ans) The elasticity of demand is the measure of responsiveness of demand for a commodity to the change in any of its determinants like price of the same commodity,price of the related commodity,income of the consumer,etc.

  • What are the types of elasticity of demand?

Ans)There are three types of elasticity of demand.They are:

  1. Price elasticity of demand(Ep)
  2. Income elasticity of demand(Ey)
  3. Cross elasticity of demand(Ec)

 

  • Define price elasticity of demand.

Ans) The price elasticity of demand is the measures the degree of responsiveness of quantity demanded for a commodity to the change in its price.

  • What are the types of price elasticity of demand?

Ans)The types of price elasticity of demand are as follows:

  1. Perfectly elastic demanded(Ep=infinity)
  2. Relatively  elastic demand(Ep>1)
  3. Unitary elastic demand(Ep=1)
  4. Relatively inelastic demand(Ep<1)
  5. Perfectly inelastic demand(Ep=0)

 

  • Give the name of four determinants of price elasticity of demand.

Ans) The main determinants of price elasticity of demand are as follows:

  1. Nature of commodity
  2. Substitute
  3. Goods having several uses
  4. Income of the consumer
  • What is meant by price elasticity of demand?

Ans) Income elasticity of demand shows the degree of responsiveness of quantity demanded for a good to the change in the income of the consumer.

  • State three degrees of positive income elasticity of demand.

Ans) There are three degrees of positive income elasticity of demand.They are:

  1. Unitary Income elasticity of demand (Ey=1)
  2. Less than Unitary Income elasticity of demand (Ey>1)
  3. More than Unitary Income elasticity of demand (Ey<1)

 

  • Define cross elasticity of demand.

Ans) The cross elasticity of demand is defined as the percentage change in the quantity demanded for X resulting from a percentage change in the price of Y .

  • What is the cross elasticity of demand of pens with respect to change in price of motor cars?

Ans) Cross elasticity of demand in case of independent good like pens and motor cars is zero. It means there is no effect on the demand for pens with respect to the change in price of motor cars.

  • What are the types of cross elasticity of demand?

Ans) There are three types of cross elasticity of demand:

  1. Positive cross elasticity of demand (Ec>0)
  2. Negative cross elasticity of demand (Ec<0)
  3. Zero cross elasticity of demand (Ec=0)

 

  • Define elasticity of supply.

Ans) The elasticity of supply measures the degree of responsiveness of quantity supplied of a commodity to the change in its price .

 

  • What are the types of price elasticity of supply?

Ans)The types of price elasticity of supply are as follows:

  1. Perfectly elastic supply (Es=infinity)
  2.  Relatively elastic supply (Es>1)
  3.  Unitary elastic supply (Es=1)
  4.  Relatively inelastic supply (Es<1)
  5. Perfectly inelastic supply (Es=0)

 

  • Give the name of four determinants of price elasticity of supply.

Ans) The main determinants of price elasticity of supply are as follows:

  1. Nature of the commodity
  2. Cost of production
  3. State of technology
  4. Time period

 

 

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Demand and Supply

Very short questions,Demand and Supply

  • What do you mean by demand?

Ans) Demand means the quantity of goods and services which consumers would buy in a market at a given time and price.In order to change desire into demand ,it is essential that the consumer should have both willingness and ability to pay.

  • Define Demand function.

Ans) Demand function is defined as the relationship between demand for a commodity and its determinants.It can be expressed as:

Dx=f(Px,Y,Pr,A,T….)

Where,Dx=Demand for X-Commodity

             Px=Price of X-commodity

            Y=Income of the consumer

            Pr=Price of related goods

            A=Advertisement expenditure

            T=Taste and Preference of the consumer

  • Define linear demand function.

Ans) A demand function is said to be linear when the slope of the demand curve remains constant throughout its length.The simplest form of a linear demand function is  given by the equation

      Dx=a-bPx

In this equation ,The alphabet ’a’denotes total demand at zero price and ‘b’ a constant ,denotes slope of the demand curve .

  • Define non-linear demand function.

Ans) A demand function is said to be non-linear or curvilinear when the slope of a demand curve changes all along the demand curve.A non-linear demand function,generally,takes the form of a power function as

     D=aPx^-b

  • Name four determinants of demand.

Ans ) The four determinants of demand are as follows:

a)Price of  a commodity

b)Income of the consumer

c)Price of related goods

d)Size and composition of population

  •       What do you mean by law of demand?

Ans) Demand for a commodity increases with the fall in price and decreases with the rise in price.There is inverse relationship between price and quantity demanded for a commodity.This inverse relationship between price and quantity demanded is called law of demand.

  • Define normal good.

Ans)Normal good is a good whose demand increases with an increase in income and decrease with a decrease in income of the consumer.There is positive relationship between income and demand.

  • Define Inferior goods.

Ans)When demand for a commodity increase with the decrease in income and decreases with the increase in income of the consumer ,The good is called inferior goods.

  • Define complementary goods.

Ans)When two or more commodities are demanded simultaneously for the satisfaction of a particular want ,they are called complementary goods .

For example,car and petrol,tea and sugar,etc.

  • Define substitute goods.

Ans) Substitute goods are those goods which compete with each other and which can be used interchangeably,like Mayos and Waiwai ,Pepsi and Coke.

  • Define demand schedule.

Ans) A demand schedule is a table which shows the relationship between the price of a commodity and its quantity demanded.

  • What do you mean by movement along demand curve?

Ans) If demand for a commodity changes due to the change price of the same commodity,it can be shown by the different point on the same demand curve which is called movement along demand curve.It is also called change in quantity demanded.

  • What is meant by extension in demand?

Ans)Other things remaining constant ,when the demand for a commodity goes up due to fall in price of the same commodity,it is referred to as an extension in demand.This results in downward movement along the same demand curve.

  • Define contraction in demand.

Ans) Other things remaining constant ,when the demand for a commodity decreases due to rise in price of the same commodity,it is referred to as a contraction in demand.This results in upward movement along the same demand curve.

  • What do you mean by shift in demand curve?

Ans)If demand for a commodity changes due to change in other factor keeping its price constant,the entire demand curve move either rightward or leftward,it is called shift in demand curve or change in demand.

  • Write any four causes for shifting demand curve.

Ans) The following are the causes of shift in demand curve:

  1. Change in income of the consumer.
  2. Change in the price of substitute goods and complementary goods.
  3. Change in taste and preference of the consumer.
  4. Change in size and composition of population.

 

  • What is meant by increase in demand?

Ans)When more quantities of a commodity are demanded due to the favourable change in other factors, ie. Income of the  consumer,price of the related goods,etc,it is referred to as increase in demand.This results in the demand curve for the commodity shifting rightwards.

  • What is meant by decrease in demand?

Ans) As the quantity demanded falls due to unfavourable change in other factors, i.e. income of the consumer,price of related goods,etc., it is referred to as decrease in demand.This results in the demand curve for the commodity shifting leftwards.

  • What are the causes of increase in demand?

Ans) The following are the main causes of increase in demand:

  1. Increase in income of the consumer.
  2. Rise in price of the substitute goods.
  3. Fall in price of the complementary goods.
  4. Expectation of further rise in price.

 

What are the causes of decrease in demand?

Ans) The following are the causes of decrease in demand:

  1. Decrease in income of the consumer.
  2. Fall in price of the substitute goods.
  3. Rise in price of the complementary goods.
  4. Expectation of further fall in price.

 

  • What is meant by individual demand curve?

Ans) An individual demand curve is a curve that shows different quantities of a commodity demanded by an individual consumer at different prices.It is the graphical representation of individual demand schedule.

  • What is market demand curve?

Ans) Market demand curve is a curve that represents the aggregate demand of all the consumers in the market at different prices of a particular commodity.It is horizontal summation of individual demand curves.

  • Define Supply function.

Ans) Supply function is defined as the relationship between supply for a commodity and its determinants.It can be expressed as:

Sx=f(Px,Pf,Pr,G,T…)

Where Sx=Supply function for X-commodity

Px=Price of X-commodity

Pf=Prices of factors of production

Pr=Price of related goods

G=Goal of the producer

T=Technology

  • Define linear supply function .

Ans)A supply function is said to be linear when the slope of the supply curve remains constant throughout its length.The simplest form of a linear supply function is given by the equation,

 Sx=a+bPx

In this equation ,the alphabet ‘a’ denotes total supply at zero price and ‘b’ a constant ,denotes slope of the supply curve.

  • Define non-linear supply function.

Ans) A supply function is said to be non-linear or curvilinear when the slope of the supply curve changes all along the supply curve.A non-linear supply curve function ,gemerally,takes the form of a power function as

Dx=aPx^b

  • Define supply schedule.

Ans) A supply schedule is a table showing various quantities of a good that the sellers would supply at various prices during a period of time .It is of two types: ie; Individual supply schedule and Market supply schedule.

  • Define individual supply schedule.

Ans) Individual supply schedule is defined as the table which shows quantities of a given commodity which an individual firm will supply at all possible prices at a given time.It is a graphical representation of individual supply schedule.

  • What is meant by individual supply curve?

Ans) An individual supply curve is a curve that shows different quantities of a commodity suppliedby an individual consumer at different prices.It is the graphical representation of individual supply schedule.

  • What is meant by market supply schedule?

Ans)Market supply schedule is the table which shows the total quantity of a commodity all firms would supply at each market price per period of time.It is obtained by the summation of individual supply schedule.

  • What is meant by market supply curve?

Ans) Market supply curve is a curve that represents the aggregate supply of all the producers in the market at different prices of a particular commodity.It is horizontal summation of individual supply curves.

  • What is meant by extension in supply?

Ans)Other things remaining constant ,when the supply for a commodity goes up due to rise in price of the same commodity,it is referred to as an extension in supply.This results in upward movement along the same supply curve.

  • Define contraction in supply.

Ans) Other things remaining constant ,when the supply for a commodity goes down due to fall in price of the same commodity,it is referred to as a contraction insupply .This results in downward movement along the same supply curve.

  • What do you mean by shift in supply curve?

Ans)When supply for a commodity increases or decreases ,the whole supply curve is drawn rightward or leftward ,this is referred to as shift in supply curve.Rightwaed shift in supply curve is called increase in  whereas leftward shift is called decrease in supply.

  • What is meant by increase in supply?

Ans)When more quantities of a commodity are supplied due to the favourable change in other factors, ie. goal of the producer,price of the related goods,etc,it is referred to as increase insupply.This results in the supply curve for the commodity shifting rightwards.

  • What is meant by decrease in supply?

Ans) As the quantity supplied falls due to unfavourable change in other factors, i.e. goal of the producer,price of related goods,etc., it is referred to as decrease insupply.This results in the supply curve for the commodity shifting leftwards.

  • What are the causes of increase in supply?

Ans) The following are the main causes of increase in supply:

  1. Increase in price of the related goods.
  2. Decrease in price of factors of production.
  3. Decrease in tax rate.
  4. Favourable weather condition.

 

  • What are the causes of decrease in supply?

Ans) The following are the causes of decrease in supply:

  1. Decrease in price of the related goods.
  2. Increase in price of factors of production.
  3. Increase in tax rate.
  4. Unfavourable weather condition.

 

  • Define market equilibrium.

Ans) The point of interaction between the demand and supply curve is known as equilibrium point.Every market is in equilibrium when total quantity demanded and quantity supplied of a commodity are equal.

 

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Introduction to Microeconomics

Some very short questions of Introduction to Microeconomics

1)Define an economic theory.

Ans) An economic theory is defined as a model along with the specified and empirical economic variables, concepts and facts used to explain and predict the changes.

2).List out the elements of well defined economic theory.

Ans)  The elements of well defined economic theory are as follows:

i)Definition

ii)Assumptions

iii)Predictions

iv)Test

3)What are the economic resources?

Ans)Economic resources refer to the services of the various types of labour,capital equipment,land,and entrepreneurship.Since the supply of these resources is limited or scare ,they command a price(i.e they are economic resources.

4) What do you mean by scarcity?

Ans) Scarcity in economics always refers to relative scarcity. Anything is said to be scare if its demand exceeds corresponding supply ie. Anything having finite supply is called the scare thing.

5)Why do central problems arise in an economy?

Ans) The central economic  problems arise out of two basic facts:

i)Human wants for goods and services are unlimited and

ii)Resources to produce those goods and services are limited or scarce.

6)What do you understand by allocation of resource?

Ans) Allocation of resources is the basic problem related to efficient utilization of resources for the production of different good s and services.It is concerned with what to produce,how to produce and for whom to produce.

7)Define microeconomics.

Ans)Microeconomics is defined as the branch of economics which deals with the action of individuals and small groups of individuals of an economy.These small groups of individuals may be households,firms and industries consisting of several firms.

8)Why microeconomics is also called slicing method?

Ans) Microeconomics is also called ‘slicing method’ because it splits up the entire economy into smaller parts for the purpose of intensive study.

9)Microeconomics is also called price theory.Why?

Ans) Microeconomics is also called price theory because it deals with the determination of price of goods and services.It studies how prices of a particular commodity like paddy is determined;how wages,interest,rent profit are determined.

10)What are the principle variables of microeconomics?

Ans)The principle variables of microeconomics are individual income,individual expenditure,demand and supply of an individual product,relative prices,cost of production of an individual firms,etc.

11)List out the scope of microeconomics.

Ans) The scope of microeconomics are as follows:

i)Theory of demand

ii)Theory of production

iii)Theory of product pricing

iv)Theory of factor pricing

v)Theory of welfare economics

12)What are the different types of microeconomics analysis?

Ans) The different types of microeconomics analysis are as follows:

i)Micro static

ii)Comparative micro static

iii)Micro dynamics

13)Define Micro Static.

Ans) Micro static is the study of static relationship between different microeconomic variables.It deals with the final equilibrium condition which do not involve any variation in the time element.

14)Definine Comparative Micro Static.

Ans) Comparative Micro Static is the comparartive study of different equilibrium position at different points of time.It simply compares the initial equilibrium position with the final position of equilibrium.

15)Define Micro Dynamics.

Ans) Micro economic is  the study of the process through which the final position of equilibrium  is reached through a series of adjustment over a series of time.

16)List the functions of Microeconomics Theory.

Ans) The functions of Microeconomics Theory are as follows:

i)To analyze behavior of an individual economic entities.

ii)To provide tools for business decision making.

iii)To provide basis for product pricing.

iv)To provide tools to formulate economic policies.

17)Write any four importance of Microeconomics.

Ans ) The four importance of microeconomics are as follows:

i)Helpful to understand working of the economy.

ii) Helpful to formulate economic policies.

iii) Helpful to study human behaviours.

iv) Helpful in business decision making.

18)List out the limitations of microeconomics.

Ans)The following are the limitations of microeconomics:

i)Microeconomics is static in nature .

ii)Conclusion drawn from microeconomics may be wrong from the society’s point of view.

iii)It has limited scope.

iv)It ignores the role of the government.

19)Define macroeconomics.

Ans) Macroeconomics is the branch of economics which deals with aggregate economic variables such as national income,aggregate saving,aggregate consumption,etc. It examines how general price level is determined and how resources are allocated at the level of the economic system as a whole.

20)Write any four principles of economics.

Ans)The following are the four principles of economics:

i)People face tradeoffs

ii)The cost of something is what you give up to get it.

iii)Rational people think at the margin.

iv)People respond to incentives.

21)Define normative economics.

Ans)Normative economics is that which studies things as they should be.It is related to the criteria of ‘What ought to be’ or what should be done.For example,it suggest us about what should be done to solve the problem of inflation.

22)Define Positive economics.

Ans) Positive economics is that which studies things as they happen in reality.It explains whatis,what was,and what will be.It studies cause and effect relationship between economic phenomena.For example,the law of demand studies cause and effect relationship between price and demand for a commodity.

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Demand

Demand ,Determinants of Demand

Demand:

The quantity of goods and services that consumer are willing and able to purchase in the market at various prices during a period of time is called demand.

Determinants of Demand(Factors affecting demand):

The various factors that affects demand of a commmodity are as follows:

a. Price of a commodity:

This is the main determinant of market demand.When price of a commodity increases ,demand for a commodity decreases and vice-versa.There is the indirect relationship between price and quantity.

b. Income:

A rise in a person’s income will lead to an increase in demand (shift demand curve to the right), a fall will lead to a decrease in demand for normal goods. Goods whose demand varies inversely with income are called inferior goods (e.g. Hamburger Helper).

c. Number of Consumers:

When the no. of consumer (population of a country ) increases then the demand for a commodity also increases and vice -versa.

d. Price of related goods:

It consists of two goods :

i.Substitute goods (those that can be used to replace each other): price of substitute and demand for the other good are directly related.

Example: If the price of coffee rises, the demand for tea should increase.

ii. Complement goods (those that can be used together): price of complement and demand for the other good are inversely related.

Example:An incresase in price of a petrol causes a decrease in the demand for car ,othe things remaining the same.

e.Taste and preferences:

This is also major determinants of demand.When the taste and preferences of people is matcched with the commodity then the quantity demanded also increases and vice-versa.There exists direct relationship between them.

f. Feast and festivals:

When the festivals come ,then the quantity of goods demanded also increases and vice-versa.So,there exists direct relationship between festivals and quantity of goods demanded.

g. Climate:

With the change in the climate ,the quantity of goods  demanded also increases .So there exists direct relationship between climate and quantity of goods demanded.

h. Advertisement expenditure:

When the money invested in advertisement is more ie;the more the advertisement will be shown, that  will lead to more no. of quantity demanded.So,there exists direct relationship between price and quantity.

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Ten principles of Economics

Nicolas Gregory Mankiw’s Ten Principles of Economics:

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Nicolas Gregory Mankiw is an macroeconomist and Professor of economics at Harvard University.Mankiw proposed 10 principles of economics which is unified by several central ideas.These 10 principles of economics offer an overview about what economics is all about.

How people make decisions

1.People face trade off: To get one thing you have to give up something else.Making decisions require s trading off one goal against another.

2.The cost of something is what you give up to get it:Decision makers have to consider both the ovious and implicit costs of their actions.

3.Rational people think at the margin:A rational decision maker takes action if and only if the marginal benefit of the action exceeds the marginal cost.

4.People respond to incentives:Behaviour changes when the cost and benefit changes.

How people interact

5.Trade can make everyone better Off: Trade allows each person to specialize in the activities he or she does best.By trading with others,people can buy a greater  variety of goods or services.

6.Market are usually a good way to organize economic activity: Households and firms that interact in market economics act as if they are guided by an “invisible hand” that leads the market to allocate resources efficiently.The opposite of this economic activity that is organized by a central planner within the government.

7.Government can sometimes improve market outcomes: When the market fails to allocate resources efficiently,the government can change the outcome through public policy.Examples are regulations against monopolies and pollution.

How economy works as a whole

8.A country’s standard of living depends on its ability to produce goods and services: Countries whose workers produce a large quantity of goods and services per unit of time enjoy a high standard of living.Similarly,as a nation’s productivity grows,so does its average income.

9.Price rise when the government prints too much money:When a government create large quantity of nation’s money,the value of the money falls.As a result, prices increase,requiring more of the same money to buy the goods and services.

10. Society faces a short-run tradeoff between inflation and unemployment:Reducing inflation often causes a temporary rise in unemployment. This tradeoff is crucial for understanding the short-run effects of changes in taxes,govenment spending and monetary policy.

 

 

 

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Difference between Microeconomics and Macroeconomics

Difference Between Microeconomics and Macroeconomics 

The difference between microeconomics and macroeconomics are as follows:

Basis                                                                            Microeconomics Macroeconomics
     
Origin

Microeconomics is originated from Greek word’MIKROS’ which means small.

Macroeconomics is originated from Greek word ‘MAKROS’ which means large.
Definition Microeconomics is the study of how individual households and firms make decisions and how they interact in markets. Macroeconomics is the study of economywide phenomena,including inflation ,unemployment and economic growth.
Theory Microeconomics is known as Price Theory. Macroeconomics is known as Income theory.(Policy Science).
Objective Microeconomics studies principles,problems and policies concerning the optimum allocation of resources with maximim satisfaction . Macroeconomics studiesthe problems,policies and principles,BOP connection,poverty reduction,etc  relating to full employment and growth of resources.
Price Microeconomics studies relative price ie; price of a particular commodity. Macroecomics studies general price ie; average price of goods and services available.
Equilibrium Microeconomics studies partial equilibrium analysis.It studies equilibrium at a particular point of time.It doesn’t consider other factor.So,regarded as a static analysis. Macroeconomicsstudies general equilibrium analysis ie; all variables changes with time.So,it is regarded as dynamic analysis.
Employment Microeconomics provides full employment equilibrium. Macroeconomics provides under employment equilibrium .
Limitation Microeconomics fails to take into account of aggregates. Macroeconomics fail to take into account of individuals.
Subject matter The subject matter of microeconomics deals with the determination of price,consumer’s equilibrium,distribution and welfare,etc. The subject matter of macroeconomics studies full employment .price level ,national income ,trade cycles,etc.
Methodology Laws of microeconomics are formulated on assumptions. Laws of macroeconomics are far from assumptions.
Scope Microeconomics has very narrow scope that is an individual market. Macroeconomics has very wide scope that is a whole nation.

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Introduction to Economics

Definition of Economics ,Economics is both Science and Art,Origin of Economics,Scarcity and Choice

Economics:

Economics is the study of how people allocate their limited resources to their alternative uses to produce and consume goods and services to satisfy their endless wants or maximize their gains. Economics is the social science that studies how people use scarce resources to satisfy unlimited needs and wantsEconomics studies economic phenomena systematically and methodically.This approach to economic inquiry imparts economics the status of a ‘social science’.

The subject mmatter of economics continues to grow and expand in scope,size and character right from the days of its founders,Adam Smith to date.Boundaries of economics science are not yet precisely marked ,nor can it be.In the opinion of some economists,”Economics is still a very young science and many problems in it are almost untouched”(Charles Schultz) and “Economics is an unfinished science”(Zeuthen).Yet, economics is claimed to be “the oldest and best developed of the ‘social sciences’ and continues to grow in content and level of analytical sophistication.However, the mainstream economics is divided,though imperfectly,into two major branches.ie;Microeconomics and Macroeconomics.  

Economics is both Science and Art:

Economics is both art and science. It is called a science because it is the scientific study of relationships between economic variables, behavior of consumers and firms, nature of market and economy, effect of change in one or more economic variables on the others and so on. The different theories, laws and principles are studied in economics. All of them are generalized and simplified on the basis of facts so as to make them easily understandable. Therefore, economics is said to be science.
Economics is an art. The different theories, laws are explained with the help of graphs, figures, tables, charts, equations etc simplifying and generalizing them. Simplification is to make them easily understandable and generalization is to make them applicable to all economies. In order to explain theories, laws and relationships between economic variables we make some assumptions. The assumptions define the conditions for the application of theories, laws and the relationships. That’s why economics is an art.
 

Origin of Economics:

The term economics is derived from the word “oeconomicus” by Xenophon in 431 B.C. It is derived from two words economy and science. Economy means proper utilization of resources. It means economics is the science of economy or science of proper utilization of resources. It is comprised of theories, laws, principle related to utilization of resources so as to solve the economic problems, satisfy the human wants or need and so on. However, the economics is defined in different ways by different economists. There are mainly three definitions of economics:-
a. classical or wealth definition (Adam Smith)-1776 A.D
b. neo-classical or welfare definition (Alfred Marshall )-1890 A.D
c. modern or scarcity and choice definition (Lionel Robbins)-1932 A.D
 
a. classical or wealth definition (Adam Smith)-1776 A.D:
The famous classical economist Adam smith for the firs time defined economics as “science of wealth”. The definition was given in the book “an enquiry to the nature and the causes of wealth of nations” published in 1776 A.D. the book is popularly known as “wealth of nations”. According to smith, labor is the main source of income or wealth. More wealth is accumulated only if more labor is used. Economics explains the human behavior and activities they do for wealth. This definition was based upon the assumptions of full employment, perfect competition, no governmental interventions, money just as a medium of exchange and so on.
                                                                                                                             This definition has following main proposition:-
i. economics is science of wealth
ii. labor is the only source of income
iii. there is perfect competition in product as well as labor market
iv. the government should not interfere the activities of people and business organizations
v. this definition is influenced by physiocracy and mercantilism.
 
Criticism:-
            Wealth definition has over emphasized wealth. Economics is science of human activities rather than only wealth. Adam smith considers only material things or wealth as subject matter of economics but human beings require some immaterial things like self esteem or dignity, social prestige, national identity and so on too. The immaterial things are called essential things for human satisfaction. Wealth definition is based upon the theory of subsistence wage which is known as iron law of wage. The law was against the workers and in favor of employers. Adam smith doesn’t explain about scarcity
of resource and choice of best alternative for the use of resources. The problem of scarcity and choice is burning issue in the modern economics but he fails to explain about the problems of scarcity and choice. The wealth definition is based upon assumptions of full employment and perfect competition but none of these two is in existence. This definition is based upon the assumption of no intervention of government in economic activities of people and business organization but we find in every country more or less governmental intervention.
 
b. neo-classical or welfare definition (Alfred Marshall )-1890 A.D
                                 In 1890, Alfred Marshall, a famous neo-classical economist and a great contributor to micro economics defined economics as the science of material welfare. Here, the material welfare means the quantities of physical goods consumed by people. if the people are consuming large quantities of goods, they are said to have high level of welfare into two types
1.       material welfare
2.       immaterial welfare
 According to him, only the material welfare is the subject matter of economics. He assumes every person is rational and s/he uses the resources in his/her possession very properly so as to maximize their own welfare. Economics is therefore the science that studies the rational behavior revealed by the people. Major propositions of Marshall’s welfare definition are:-
1. Economics is science of material welfare
2. Economics is social science i.e. science of mankind
3. Economics is the study of rational behavior of people revealed for maximization of material welfare.
 
Criticisms:-
This definition of economics a science of material welfare was assumed correct until the arrival of Lionel Robbins. He criticized the definition under the following aspects:-
1. Classificatory activities of Marshall into material non material welfare, economics and non economic goods is only classificatory not analytical because single human cannot be material as well as non material according to the nature and purpose of work.
2. Non material activities like feeling of social service, human desire also satisfy human needs. This idea has not been prioritized
3. Non welfare consumption like harmful drugs, tobacco, and alcohol don’t promote social welfare but still are in the study of economics
4. Economics should study about total human beings but wealth definition doesn’t study about isolated people like saints, nuns, monks etc.
 
c. modern or scarcity and choice definition (Lionel Robbins)-1932 A.D
   According to Lionel Robbins, economics is the science of scarcity of the resources and the choice of best alternative for their utilization. The resources are limited in supply. Each resource is usable for different purposes. The wants or need of people are unlimited. The wants differ in importance. They differ from place to place, from time to time and from person to person. Some wants are more important whereas some are not. All wants cannot be fulfilled because of insufficiency of resources. Therefore, we have to go on utilizing the resources in such a way, so that, our more wants can be fulfilled leaving no one in most important wants unfulfilled. For it, we must select best ways for the utilization of the resources. We should have the complete information of resources available, needs of the country and their importance and ways for the utilization of resources. This definition is given in 1930 A.D after WWI. During third decade of the twentieth century, the European countries were badly in need of large quantities of resources for rehabilitation, construction of infrastructures, renovation etc. they were destructed in war. This definition is both normative and positive in nature. The major propositions are:-
1. there is unlimited human needs or wants
2. there is scarce means of resources
3. there are alternative use of resources
4. there is need of choice
 
Criticisms:
         The definition is criticized in the following ways:-
1. economic problems arises not only due to scarcity but due to under, miss  or over utilization of resources
2. economic problems arises due to inequality too
3. there is political consideration
4. needs and resources may vary
 
Superiority of Robbins definition over Marshall’s definition:-
1. the definition is scientific
2. the definition is universally accepted
3. the definition has wide scope
4. the definition has science of choice
 

Scarcity and Choice(Basic economic problems/issues):

Scarcity, in general terms, means that the demand for something is much greater than the supply, or there is not enough money to buy it. The exact definition in economics is that there are insufficient resources to satisfy everyone’s needs and wants. Whether you’re talking about oil, from which we get the gasoline that powers most of our cars, or corn, even seats in a movie theater, there isn’t enough for everyone to get what they want at a zero price. You know something is scarce if you try to offer it for free, and you don’t have enough of it for everyone who stands in line to get it.

So, how does a society decide who gets what? Producers charge a price for it. That way, whoever values it the most will pay the most for it. This is how scarce resources are allocated, or divided up and distributed, efficiently in our economy. When you go to the store, you can’t buy everything you want, so you must make choices to buy one thing instead of another. If you walk into the store with $50 and the store offers you 500 different items, you’re only going to walk out of that store with a cart full of stuff that totals $50. Scarcity always leads to choice, and people can actually make better decisions because they have a better understanding of how much each choice costs.

 

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