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Learn about the fundamental concepts of economics, including scarcity, allocation of resources, and maximizing utility. Discover how economics can be used to make rational decisions and improve understanding of societal issues.
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1. Introduction • Economics, whether you look it in a micro or macro perspectives, is mainly concerned with scarcity of the economic resources. • Economists are enthusiastic to understand how the scarce resource can be used, allocated or distributed among the people so as to maximize their level of satisfaction or in economic jargon, their level of utility.
Introduction cont…. • While economic resources are scarce the human wants are unlimited, people want more than the resource can provide them. • You can think of yourself what you want, Good cars, big standard houses, Music systems and things of the like. • However what you have in your pocket to purchase all what you want, the resource you have (think of cash money) are not enough to buy all goods and services you want.
Introduction cont…. • Economists thus are eager to see how the resources you have can be used in the best way to buy those goods and services so that you get the maximum satisfaction or happiness. Simply we can say economics is the study of how to economize scarce resources. • The word Economize is controversial to many people who are not economists or do not have economic knowledge.
Introduction cont…. • Most individuals think that to economize is to have for example Tshs500,000; spend little fraction of it and save the remaining. • However, in the spirit of the word economics this is not the case. To economize means to use the resources in the best way (even if you use all Tshs 500,000) so as to maximize the satisfaction or simply happiness/utility.
Introduction cont…. • Thus economists are not misers as many would believe; rather they are efficient in utilizing the resources to maximize people’s happiness/utility. • Some writers use different approaches to express economic ideals, some use mathematics, some use descriptions and simple graphs and most use all approaches. In the course for simple understanding we will use both approaches.
1.1 Definition • What Is Economics? People make choices as they try to attain their goals. Choices are necessary because we live in a world of scarcity. • Economics is the study of the ALLOCATION of SCARCE resources to meet UNLIMITED human wants. • Scarcity: A situation in which unlimited wants exceed the limited resources available to fulfill those wants; Economics is the study of these choices.
Definition cont…….. • Economics studies how the society decides what, how and for whom to produce goods and services using scarce resources to satisfy unlimited wants. • Economists study these choices using economic models, simplified versions of reality used to analyze real-world economic situations. • Economics is a part of social sciences that describe human behavior in relation to production, exchange, consumption and distribution.
2. Economics; A science or an art? • Economics is about human behaviouryet we describe it as a social science rather than a subject within art or humanity. • This is because the description of economics reflect the way in which economists describe and analyze economic problems by developing theories of human behaviour and test them against facts.
Economics; A science or an art? Cont...... • Although it differs significantly with natural sciences as it does not have a specified laboratory, yet the economic system as a whole save as a laboratory because within it, hypothesis and theories are tested against real world facts.
3. The uses of Economics • Economics knowledge serve people in understanding the society, manage their own life and improve the world as a whole. • It helps improve knowledge of crucial national issues such as unemployment, inflation, world economic crisis etc. • Economics play two distinct roles in promoting the analysis of national issues
The uses of Economics cont • It helps to understand the society to describe it, explain and predict economic behaviors e.g. the causes of inflation, poverty and unemployment. • Upon understanding the society, this knowledge will help to design policies that will build a better society.
4. Typical “Economics” Questions We will learn how to answer questions like these: • How are the prices of goods and services determined? • Why does government control the prices of some goods and services, and what are the effects of those controls? But you can also use economics to answer questions like… •Why do people have so many (or so few) children? •How do people choose between hours spent working and hours spent relaxing?
5. Three Key Ideas • Fact 1: People Are Rational • Rational: Using all available information to achieve your goals. • Rational consumers and firms weigh the benefits and costs of each action and try to make the best decision possible. • Example: a producer doesn’t randomly choose the price of its product; it chooses the price(s) that it thinks will be most profitable.
Three key ideas cont …… Fact 2: People Respond to Economic Incentives • Example: Changes in several factors have resulted in increased obesity in Americans over the last couple of decades, including: • Decreases in the price of fast food relative to healthy food • Increased availability of health care and insurance, protecting people against the consequences of their actions
Three key ideas cont…… • Fact 3: Optimal Decisions are made at the Margin • Marginal cost and benefit (MC and MB): the additional cost or benefit associated with a small amount extra of some action. • Example: Should you watch an extra hour of TV, or study instead? • What are the benefits of an extra hour of TV? • What are the costs (i.e. the benefits of studying instead)? • (Comparing MC and MB is known as marginal analysis.)
6. Definition of Microeconomics • This is the branch of economics which deals with the microscopic individual elements of economic system and not system as a whole. • It deals with the choice and decision making behaviors and the relationship between price and quantity of goods and services among economic agencies in an individual level. • For example, Household, Firms and other individual markets.
Microeconomics • Microeconomics studies specific economic units and a detailed consideration of the behaviour of these individual units • Microeconomics seek to explain the workings of individuals, firms, households, individual prices, wages, particular industries • Microeconomics is the study that focuses on individual decision about particular commodities. It analyzes the behavior of individual components like firms and households and how the prices are determined by market mechanisms
6.1 Microeconomics vs Macroeconomics • Macroeconomics on the other hand emphasizes on interaction and the functioning of the economy as a whole and examines how the level and growth of output are determined. • It analyses inflation, employment, asks about total money supply and investigates why some countries in the world are striving while others are stagnating. • Thus macroeconomics is mainly concerned with aggregate behaviors, relationship and nature of variables such as national income, total consumption, saving andinvestment, total employment, price level, aggregate expenditure and supply.
Microeconomics vs Macroeconomics • Though macro and micro economics are two different concepts yet they are interrelated and complimentary parts of economics. • For example determination of general wage level is a subject of macroeconomics but determination of wage in a particular industry is the subject of microeconomics.
Microeconomics vs Macroeconomics….. • However when we take decision regarding wage rate in a particular industry, this decision will definitely be influenced by the prevailing general wage rate in an economy. • Thus macroeconomics affects microeconomics and vice versa.
6.2 Main components of Microeconomics • Microeconomics also known as the Price Theory • The main components of microeconomics are as follows: • Theory of Supply • Theory of Demand • Theory of Price determination • Theory of factor price
Main Components ……. cont • 1. Theory of Consumer Behaviour: This theory study how consumers attain maximum satisfaction with his given income and how he chooses from various alternatives • 2. Theory of Producer Behaviour: This theory study how producers attain maximum profits by producing and selling products worth given level of resources and technology
Main Components ……. cont • 3. Theory of Price: This theory studies how price is determined in the market, although at points where demand and supply curved meet. That point is fixed as price • 4. Theoryof factor prices: As we know that persons pay rent and wages to avail factors of production
6.3 Main topics • Microeconomics is concerned with the following topics • 1.Commodity Pricing: • Prices of individual commodities are determined by market forces of demand and supply. • So Microeconomics makes demand analysis (individual consumer behaviour) and supply analysis (individual producer behaviour)
Main topics • 2. Factor pricing: • Land, labour, capital and entrepreneur, all factors contribute in the production process. So they get reward in the form of rent, wages, interest and profit respectively. • Microeconomics deals with such rewards i.efactor prices. • So Microeconomics is also called “Price theory” or “Value theory
Main topics • 3. Welfare theory: • Microeconomics deals with optimum allocation of available resources and maximisation of social welfare. It provides answers for: • What to produce • When to produce • How to produce • For whom it is to be produced • In short Microeconomics guides the utilisation of scarce resources of the economy to maximise public welfare.
6.4 Microeconomics Subject matter • It deals with determinants of product prices • In short it is concerned with the determination of prices like theory of production , theory of rent, wages, profit and economic welfare.
6.5 Merits of Microeconomics • A worm’s eye view of a small specific unit • Formulating economic policies and efficient use of scarce resources of the country • Achieve maximum output with minimum costs • It is helpful for Macroeconomic studies.
6.6 Limitations of Microeconomics • It provides a snapshot of the economy and not the whole economy i.e. the area of study covered is limited • It cannot be abruptly applied to the study of macro economic problems
7. Macroeconomics • Macroeconomics is the study of the economy as a whole, including topics such as inflation, unemployment, and economic growth. • It is the study of economic behaviour of the economy as a whole and not the individual economic units of the economy
Macroeconomics deals not with individual quantities but with the aggregates of these quantities, • not with individual incomes but national income, • not with individual prices but with price levels, • not with individual outputs but with national output
7.1 Macroeconomics Subject matter • It deals with total consumption, total savings, total output or national income, inflation, deflation and economic growth • In other words it is concerned with the analysis of income and employment in the economy as a whole
7.2 Main Components The main components of Macroeconomics are as follows: • Theory of income and employment • Theory of distribution • Theory of fiscal and monetary policy
7.3 Merits of Macroeconomics • Provides a bird’s view of the entire economy • Macroeconomics is more useful in solution of economy problems • It is quite useful in formulation of Government economic policies • Study of macroeconomics is useful to microeconomic studies
Summing up • Macroeconomic and microeconomic approaches are inter-related, inter-dependent and complementary to each other. • Therefore, they are both necessary for a perfect study of economics
8. The circular flow model of income (Two Sector Model) • The circular flow model of income is an analytical frame work which presents the flow of goods and services and income from firms to households or from household to firms via products or factor market. • The model assume that the economy is operating at full employment level and the income that are received by firms or households are all used to purchase factor inputs and goods and services respectively.
The circular flow model of income (Two Sector Model)…… Figure1.1 The Circular Flow Model of Income (Two sector)
The circular flow model of income (Two Sector Model)…… Output Flow • Household supply factor inputs (land, labor, capital etc.) to the firms through factor market, the firms transform these resources into commodities and then supply back to the households through product market. Input Flow • Households receive income (wage, rent, interest etc.) from firms after selling their inputs in the factor market and spend all of it to purchase goods and services in the product market. On the other hand firms receive revenue from selling those good and services and use the revenue to buy factor inputs from households.
8. The Scientific Nature of Economics • When analyzing human behavior, we can perform: • • Positive analysis: the study of “what is?”; and/or • • Normative analysis: the study of “what ought to be?” • Economists generally perform positive analysis.
8.1 Positive economics and normative economics • NORMATIVE analysis- This can be defined as the analysis of questions with answers involving value judgments. The questions being “What ought to be”. • That means from public point of view we analyze how certain policies used by government are good or bad. For example, is it better to follow a command economy, free market economy or mixed economy? • There is no straight answer here as the question involves value judgments and people’s opinion.
Positive economics and normative economics…… • POSITIVE analysis- This is the analysis that asks “What is” and does not involve people’s opinion or value judgementrather it involves the facts. • So we analyze the consequences of a certain policy in economic activities. For example, what are the consequences of fertiliser price support policy to farmers?
Example: Should Medical School Be Free? • Forecasts indicate a significant shortage of doctors, especially primary care physicians, by 2020. • Would more people become primary care physicians if medical school were free? And if so, would it be worth the cost? • Economic models can find answers to the positive aspects of this debate.
9. Economic problems • Economic problems are a concern of the use of scarce resources among the alternatives/unlimited human wants towards the ends of satisfying people as fully as possible. • Thus economists are concerned with the issue of scarcity of resources in the world. In this case we can say that the fundamental problem in economics is SCARCITY. • There will be a scarcity of commodities since those commodities are produced from those scarce resources.
Fundamental Principle of Economic Theory • Fundamental economic questions
9. 1 What to produce • A major problem facing a society is decide what goods and services to produce and in what quantity they should be produced with limited resources. Thus for this the society/country has to make CHOICE. • Choice between consumption goods and capital goods • Choice between civil goods and war goods • Choice between private goods and public goods
9.2 How to Produce • This problem arises because there are more than one possible ways of which goods and services can be produced. Thus the problem of how to produce is basically the issue of technicality. This problem therefore involves the aspect such as; • Location of production • Techniques of production • The size/scale of production • The ownership of production
