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Supply and Demand / Money Supply and Inflation / Theories of Interest / Business Cycles / Indian economy and various sectors of the Economy / Economic
Reforms Monetary Policy and Fiscal Policy / GDP Concepts / Union Budget / Challenges Facing Indian Economy
Fundamentals of Economics, Economics deals with the production, allocation and use of goods and services. It is for how resources can best be distributed to meet the needs of the
Microeconomics and Macroeconomics
greatest number of people.
and types of economics. It is the science which studies human behaviors as a relationship between ends and scarce means which have alternative uses.
As per Adam Smith, it is the study of how wealth is produced and consumed Wealth Definition in his book An enquiry into the Nature and Causes of the wealth of Nations)
As per Prof. Alfred Marshal, economics is a study of mankind in the ordinary business of life. It is a science of human welfare. So called as Welfare Definition.
As per Lionel Robbins, Economics as a study of means and ends. The means or resources are less in relation to their demand. So it is known as Scarcity Definition.
As per Robbins (i) Man has unlimited wants(ii)The man to satisfy human wants are limited(iii)Resources not only limited but hv alternative uses(iv)Man has to make a choice.
Microeconmics and Macroecnomics Microeconomics deals with individuals, and firms where as macroeconomics is with the overall performance of the economy. Its John Maynard Keynes,
publicly a book General Theory of Employment, Interest and Money and make it public. Macroeconomics is a branch of Economics that deals with the performance, structure and behavior of a national or
regional economy as a whole. It is the study of behavior and decision making of entire economics. It aggregated indicators such as GDP, unemployment rates and price indices to understand how the whole
economy functions. It develop models that explain the relationship among such factors as national income, output, consumption, unemployment, inflation, savings, investment, international trade and
international finance.
Types of Economy Market /Capitalistic Economy: When Individuals and Private Firms make the major decisions about production and consumption, the government does
not interfere any economic decisions, In the extreme case of Market economy where government does not interfere is also called Laissez-faire economy. Socialistic/Command Economy: In this government
makes all the decisions about production and distribution. Mixed Economy: No contemporary society or economy falls completely into either of these extreme categories. All societies are mixed economic,
with elements of both market and command economies.
Supply and Demand Supply and Demand is a powerful tool for explaining the changing market, which are dynamic like weather and shows how consumer preferences determine
consumer demand for commodities, while business costs determine the supply of commodities.
Demand Schedule Both common sense and careful scientific observation shows that the amount of a commodity people buy depends on its price. The higher the price of an
article, other things held constant, the fewer units consumers are willing to buy. The lower is its market price, the more units of it are bought. There exists a definite relationship between the market price of a
good and the quantity demanded of that good, other things held constant. This relationship that exists between price and quantity bought is called the demand schedule, or the demand curve.
Demand Curve The graphical representation of demand schedule in demand curve.
Law of Downward-sloping Demand When the price of a commodity is raised (and other things being constant), buyers tend to buy less of the commodity. Similarly, when the price is lowered,
other things being constant, quantity demanded increases. Quantity demanded tends to fall as price rises for two reasons. First is the substitution effect. For instance, when the price of a particular good rises, I
will substitute other similar goods for it (as the price of mutton rises, I eat more chicken). Second is the income effect. This comes into play when a higher price reduces quantity demanded. Because when
price goes up, I find myself somewhat poorer than I was before. If petrol prices double, I have in effect less real income, so I will naturally curb my consumption of petrol and other goods.
The Market Demand: It represents the sum total of all individual demands. It is what observable in the real world. It is found by adding together the quantities demanded by all individuals at each price
Supply Schedule It relates the quantity supplied of a good to its market price, other things being constant. It shows the relationship between its market price and the amount
of that commodity that producers are willing to produce and sell, other things being constant. The upward-sloping method is at the Supply Schedule.
Equilibrium of Supply and Demand The market equilibrium (balance) comes at that price and quantity where the forces of supply and demand are in balance. At the equilibrium price, the
amount that buyers want to buy is just equal to the amount that sellers want to sell. The reason we call this equilibrium is that, when the forces of supply and demand are n balance, there is no reason for price
to rise or fall, as long as other things remain unchanged. A market equilibrium comes at the price at which quantity demanded equals quantity supplied. It is also called market-clearing price.
Money Supply and Inflation Money: Money, which performs (i) Medium of Exchange, (ii) A measure of Value (iii) A store of value over time (iv) Standard for deferred payments.
Money supply refers to the stock of money in circulation in the economy at a given point of time. This is decided by the government and the central bank. It is partly exogenous and partly endogenous.
The four most common measures of money supply, which are used in India, are as follows: Narrow Money (M1) =Currency with the public +Demand Deposits with the banking system+other deposits with
the RBI. M2=M1+Savings deposits of post office savings banks, M3(Broad Money)=M1+Time deposits with the banking system,M4=M3+All deposits with post office savings banks(excluding National Savings
Inflation It leads to fall in purchasing power. When the price level rises, each unit of currency buys fewer goods and services.
Causes of Inflation Demand-Pull Inflation: It is a rise in general prices caused by increasing aggregate demand for goods and services. Demand exceeds supply then
shortage an increase in price. Cost-Push: It is a type of inflation caused by substantial increases in the cost of production of important goods or services where no suitable alternative is available.
Measures of Inflation Inflation denotes a rise in the general level of prices. It is measured by a price index. A price index is a weighted average of the prices of a selected basket
of goods and services relative to their prices in some designated base-year. Inflation= (Price Index in Current Year-Price Index in Base Year) x 100. The important price indexes are; (i) Wholesale Price
Index- It reflects the change in the level of process of a basket of goods at the wholesale level. It focuses on the price of goods traded between corporations at the wholesale stage, rather than goods bought
by consumers. In India WPI (Headline Inflation) is the official inflation index used for policy decision. (ii) Food Inflation Index: Recently it has been decided by government that WPI will be announced
monthly. However the indices for the food group and fuel group will be announced weekly. (iii) Consumer Price Index: It reflects the change in the level of prices of a basket of goods and services purchased /
consumed by the households. It measures the prices at the retail level. It is the measure of inflation more relevant for the consumers. It is the cost of living index popularly known as Core Inflation. There are
four different index numbers of Consumer Prices, these are (i) CPI for Industrial Workers (CPI-IW) (ii) CPI for agricultural labourers (CPI-AL), (iii) CPI for rural workers (CPI-RW) and (iv) CPI for urban
non-manual employees (CPI-UNME).. CPI in India is released by Labour Bureau, Ministry of Labour and Employment, Government of India.
GDP Deflator It is a measure of the level of prices of all new, domestically produced, final goods and services in an economy.
Theories of Interest Interest is a payment made by a borrower for the use of a sum of money for a period of time. It is one of the four types of income,, the others being rent,
wages, and profit. 3 points can b distinguished in interest(i) payment for the risk involved in making the loan; (ii)payment for the trouble involved (iii), pure interest, that is a payment for the use of the money.
Keynes Liquidity Preference Theory J.M. Keynes as per his popular book The General Theory of Employment, Interest and Money, the rate of interest is a purely monetary phenomenon and
is determined by demand for money and supply of money. The theory is called as Liquidity Preference Theory. Demand Curve is known as Liquidity Preference Curve. According to J.M. Keynes rate of
interest and bond prices are related inversely. LM stands for Liquidity Preference and Money Supply Equilibrium.
Hicks and Hansen Synthesis Renowned economists, Sir John Richard Hicks and Alvin Hansen, have brought about a synthesis between the Classical and Keynes theories of Interest which
[ IS-LM Curve Model ]
is called IS and LM Curves. Through derivation, the IS curve from the classical theory and L,M curve from Keyness liquidity preference theory,.
The IS curve tells us what will be the various rates of interest at different levels of income, given the investment demand curve and family of saving curves at different levels of income. On the other hand, from
Keynes formulation, the LM curve is obtained from a family of liquidity preference curves corresponding to various income levels together with the given stock of money supply. The IS and LM curve relate the
two variables; (a) income and (b) the rate of interest. Intersection point of these two curves is the equilibrium rate of interest.
Business Cycles Business Cycle simply means the whole course of business activity which passes through the phases of prosperity and depression. A business cycle is not
a regular, predictable, or repetitive phenomenon like the swing of the pendulum of a clock. Its timing is random and, to a large degree, unpredictable. It influences business decision. It affects not only the
economy in general, but each individual business firm. Characteristics: A business cycle is synchronic (the fact of two or more things happening at exactly the same time), A business cycle shows a wave-like
movement. The period of prosperity and depression can be alternatively seen in a cycle. Cyclical fluctuations are recurring in nature. A boom is followed by depression and the depression again is followed by
boom. Four Phases of a Business Cycle: (i) Boom : During the boom phase, production capacity is fully utilized and also products fetch an above normal price which gives higher profit. This attracts more
and more investors. To manufacture more number of products entrepreneur purchases new machines and also employees work at higher wage rate. (ii) Recession: Once economy reaches the peal the
course changes. A downward tendency in demand is observed. But the producers who are not aware of this trend go on producing. The supply now exceeds demand. Now the producers come to notice that
their stocks are increasing. The failure of one firm affects other firms with whom it has business connections. This phase of the business cycle is known as the crisis. (iii) Depression: Underemployment of
both men and materials is a characteristic of this phase. Producers are compelled to sell their goods at a price which will not even cover the full cost. Manufactures of both capital goods an consumers goods
are forced to reduce the volume of production. As a consequence, workers are thrown out, The remaining workers are poorly paid (iv) Recovery: Depression phase does not continue indefinitely. The idle
workers now come forward to work at low wages and the economic activity now starts picking up, The depression phase then gives way to recovery.
Indian Economy and Various Sectors of Indian economy is classified in three main sectors Agriculture and allied, Industry and Services. Agriculture includes Forestry and Logging, Fishing and
the Economy
related activities. Industry sector includes Manufacturing, Electricity, Gas, Water Supply and Construction. Services Sector includes Trade repair, hotels and
restaurants, transport, storage, communication and services related to broadcasting, financial , real estate and professional services, community, social and personal services. Services sector is the largest
sector of India. Gross Value Added at current prices for services sector is estimated at Rs. 61.18 lakh crore in 2014.15. The GDP growth was 9.2% in 2005-06, 9% in 2006-07, 6.0 % till 1980-81. 7.4% in 200708 to 08-09. Micro and Small Enterprises: The major policies in regard to credit delivery that collateral should not be taken for loan up to Rs. 5lac to MSE units and providing credit guarantee for collateral
free loans from the Credit Guarantee Trust Fund administered by SIDBI. The MSMED Act 2006(Micro, Small and Medium Enterprises Development Act) classifies broadly into two categories (i) manufacturing
(ii) service enterprises. These broad categories are further classified into micro enterprises, small enterprises and medium enterprises, depending upon the level of investment in plant and machinery and
equipment as the case may be. The Act also provides for constitution of a National Board for Micro, Small and Medium Enterprises under the chairmanship of the Union Minister for MSME, with wide
representation of stakeholders. Structural Changes in Indian Economy: During the first 50 yeas of the nineteenth century, the average GDP groth rate has been just 0.7%, which picked up to 3.5%
(popularly called as Hindu Rate of Growth) Agriculture sector is primary sector, Industrial Sector is secondary sector and Service Sector is Tertiary Sector. CSO classifies the industrial sector into 3
segments: Mining and Quarrying, Manufacturing and Electricity, Gas and Construction.
Economic Reforms Internationally, two major events questioned the basic premise of our earlier social consensus regarding the development strategy. First was the collapse of
erstwhile USSR and the East European socialist regimes and their march towards market oriented economic system. Second, the spectacular success of socialist market economy of China with the
aggressive opening up since 1978 and its associated success in poverty reduction raised concerns about the efficacy of Indias inward oriented strategy.
Economic Transformation Financial sector reforms have been carried out in accordance with the recommendations made by basically three committees: (a) Narasimham Committee
Financial Sector
report on financial sector reforms(b) Narasimhan committee report on banking sector reforms and (c) S.H. Khan report of the working group for harmonizing
the role and operations of Development Financial Institutions and banks Reforms in financial sector complemented the real sector developments.
Money Market: Reforms in money market were essentially aimed at providing avenues for the market players to deploy or access to short-term funds and a platform to the monetary authority to modulate
liquidity in the system. Government Securities Market: It is not now a capite market. Investment in G-Sec by the banks is based on their commercial judgement rather than being dictated by the reserve
requirement. As a part of reforms, concessinary financing was aliminated with introduction of market auction system and phasing out of automatic monetization with Ways and Means Advances.
Monetary Policy Itsa process by whch th government, central bank, monetary authority of a country control (i)supply of money(ii)availability of money and (iii) cost of money
Tools of Monetary Policy: Bank Rate:It is the rate of interest which a central bank charges on the loans and advances that it extends to commercial banks and other financial intermediaries. Cash Reserve
Ratio: It refers to thisi liquid csh that banks have to maintain with the Reserve Bank of India as a certain percentage of their net demand and time liabilities. SLR: It refers to the amount that all bans require
maintain in cash or in the form of Gold or approved securities. MSS(Market Stabilisation Scheme) Repo Rate: It is the rate at which the RBI lends short-term money to the banks. Reverse Repo Rate: It is
the rate at which banks park their short-term excess liquidity with the RBI. OMO (Open Market Operation, where the RBI buys or sells government bonds in the secondary market.
Fiscal Policy
It is the use of government spending and revenue collection to influence the economy. The two main instruments of fiscal policy are government spending and
Taxation. FRBM Act: Fiscal Responsibility and Budget Management Act headed by Mr. E.A.S. Sarma which enacted as Law in August 2003. It has four main requirements. (i)It requires the Government to
place before Parliament three statements wach year along with the Budget. (ii) The act lays down fiscal management principles. Making it incumbent on the centre (iii) In ts most stringent provision, it prohibits
the centre from borrowing from the Reserve Bank ofIndia-that is, it bans deficit financing through money creation. (iv) The finance minister is required to keep parliament informed through quarterly revies on
the implementation, and to take corrective measures if the reviews sho deviations.

GDP Concepts
It is the total market value of all the final goods and service produces within the territorial boundary of a country, using domestic resources, during a given period of time, usually one year.
Gross National Income at Market Prices= GDP at market prices + taxes less subsidies on production and imports+Compensarion of Emplyees+Property Income. Gross National Product (GNP) = GDP+
Net Income Receipts.
Deficit Concepts
Revenue deficit is the excess of revenue expenditure over revenue receipts. Gross Fiscal Deficit: is the excess for total expenditure including loans, net of recoveries over revenue
Receipts and non-debt receipts. Net Fiscal Deficit is the difference between gross fiscal deficit and net lending. Gross Primary Deficit is the difference between the gross fiscal deficit and interest payments.
Net primary deficit denotes net fiscal deficit minus net interest payments.