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What is Economics?
The two Greek roots of the word economics are “oikos” – meaning household – and “nomus” - meaning system or
management. Oikonomia or oikonomus means the “management of household.”
Economics - is a social science that studies the allocation of scarce resources to satisfy unlimited human wants.
- efficient allocation of the scarce means of production toward the satisfaction of human needs and wants.
Scarce means of production – refers to our economic resources like land, labor and capital, which we use to produce all the
goods and services that we need and want.
Branches of Economics
Branches of Economics
1. Macroeconomics - is the study of the entire economy -- its behavior, main elements and overarching
systems. The scale of these macroeconomic discussions are typically on a country level and utilizes facts
from that country's economic performance -- gross domestic product, inflation, government interest rates
and unemployment. This also touches upon international trade and the overall impact of imports and
exports has on a country's economic growth.
Macroeconomics – branch of economics that deals with economic theory and the economic decisions of large bodies
like the government.
Macroeconomics – is a branch of economics dealing with the performance, structure, behavior, and
decision-making of an economy as a whole, rather than individual markets.
Macroeconomics – is the branch of economics that studies the relationship among broad economic
aggregates like national income, national output, money supply, bank deposits, total volumes of savings,
investment, consumption expenditures, general price level of commodities, government spending,
inflation, recession, employment, and money supply. The term macro implies that it seeks to understand
the behavior of the economy as a whole.
Macroeconomics focuses on the four specific sectors of the economy: the behavior of the aggregate
household (consumption); the decision-making of the aggregate business (investment); the policies and
projects of the government (government spending); and the behavior of external/foreign economic
agents, through trading (export and import).
2. Microeconomics - is the study of transactions between people and businesses and how the flow of money
operates between these basic entities. This includes business investment and personal savings.
Microeconomics also focuses on the supply and demand relationship between buyer and seller and how
this ultimately determines equilibrium prices of goods and services.
Microeconomics – branch of economics that deals with behavior and decisions of smaller unit like individuals and
businesses.
Families, businesses, and communities
Domestic economies
Microeconomics – branch of economics that studies the behavior of individuals and firms in making
decisions regarding the allocation of limited resources
Scarcity – commodity or service being in short supply, relative to its demand (Kapur 1997) which implies a constant
availability ofa economic resources relative to the demand for them.
Figure 1.1 - Problem of Scarcity
Scarcity
The figure illustrates the interaction of limited resources available and the unlimited wants of man and society. If the
unlimited resources fall short to meet the unlimited wants of the society, it will eventually create a problem, which is called
“scarcity”. (Not enough resources to meet demand)
Allocation
The figure depicts the relationship between available limited resources and the unlimited wants of man and society. It shows
that when limited resources fail to meet the unlimited wants of the society, economics comes into play in order to effectively
and efficiently allocate resources.
1. Land – refers to all natural resources, which are given by, and found in nature, and are therefore, not manmade. It
does not solely mean the soil or the ground surface, but it also refers to all things and powers that are given free to
mankind by nature. Land is the main source of raw materials (timber, mineral ores) which are utilized in the
production of goods and services.
2. Labor – is any form of human effort exerted in the production of goods and services. Labor covers a wide range of
skills, abilities, and characteristics.
3. Capital – is a manmade goods used in the production of other goods and services. (buildings, factories, machinery,
and other physical facilities used in the production process.
4. Entrepreneurship - is the process of designing, launching and running a new business, which typically
begins as a small business, such as a startup company, offering a product, process or service for sale or
hire, and the people who do so are called 'entrepreneurs'.
entrepreneur - is a person who organizes, manages and assumes the risks of a firm, taking a new idea or a new
product and turning it into a successful business.
BUSINESSES HOUSEHOLDS
-Buy resources - sell resources
-sell products - buy products
The figure illustrates the flow of resources and payments for their use as well as the flow of goods and services and payment
for them. Thus, the household sector sells resources to and buys products from the business sector while the business sector
buys resources from and sells products to the household sector.
The upper half of the circular flow diagram represents the resource market - the place where resources or the services of
resource suppliers are bought and sold. In the resource market, households sell resources (land, labor, capital) and businesses
buy and use them in the production of goods and services. Households own all economic resources either directly as workers
or entrepreneurs or indirectly through their ownership of business corporation.
The lower half of the circular flow of diagram represents the product market – the place where the goods and services
produced by businesses are bought by and sold to the households. In the product market, businesses combine the resources
owned by the households (land, labor, capital) to produce and sell goods and services.
Opportunity cost (economics) - refers to the foregone value of the next best alternative.
- It is the value of what is given-up when one makes a choice. The thing thus given-up is called the opportunity
cost of one’s choice.
Opportunity cost however is expressed in relative price. This means that the price of one item should be relative to the price
of another.
Savings (Firm/Individual)
The figure illustrates the concept of opportunity cost. The savings of the firm/individual is subject to two choices between
credit and investment. If the savings of an individual will be put on credit, there is a possibility of earning interest or a bad
debt (not getting the money back), on the other hand, when savings of individual is invested, it may earn profit or may be
subject to loss.
Some decision problems that households, firms, the government, and society must think about in order to properly manage
their resources.
1. Consumption. Members of society, with their individual wants, determine what types of goods and services they
want to utilize or consume.
2. Production. The problem of production is generally a concern of producers. They determine the needs, wants, and
demands of consumers, and decide how to allocate their resources to meet these demands.
3. Distribution. This problem is primarily addressed to the government. There must be proper allocation of all the
resources for the benefit of the whole society.
4. Growth over Time. This is the last basic decision problem that a society or nation must deal with. Societies continue
to live on. They also grow in numbers.
To address the problem of scarcity and solve the basic decision problems, the society must answer the basic economic
questions of:
1. What to produce? This question tells us that an economy must identify what are the goods and services needed to be
produced for the utilization of the society in the everyday life of man.
2. How to produce? This question tells us that there is a need to identify the different methods and techniques in order to
produce goods and services. In other words, the society must determine whether to employ labor intensive production
or capital intensive production.
3. How much to produce? This question identifies the number of goods and services needed to produced in order to
answer the demand of man and society. Underproduction (shortage) results to failure to meet the needs and wants of
the society. On the other hand, overproduction results to excess (surplus) goods and services going to waste.
4. For whom to produce? This question identifies the people or sectors who demand the commodities produced in a
society. Economists must determine the “target market” of goods and services which are to be produced to understand
their consumption behaviors and patterns.
3 Es in Economics
1. Efficiency - refers to the productivity and proper allocation of economic resources. It also refers to the relationship
between scarce factor inputs and outputs of goods and services. This relationship can be measured in physical terms
(technological efficiency) or cost terms (economic efficiency). Being efficient in the production and allocation of
goods and services save time, money, and increases a firm’s output.
2. Effectiveness - means attainment of goals and objectives.
3. Equity – means justice and fairness. Thus, while technological advancement may increase production, it can also
bear disadvantages to employment of workers.
Positive economics - is an economic analysis that considers economic conditions “as they are”, or consider economics “as it
is”. This simply answer the question “what is”.
Ex. The economy is now experiencing a slowdown because of too much politicking and corruption in the
government.
Normative economics – is an economic analysis which judges economic conditions “as it should be”. It answer the question
“what should be”
Ex. The Philippine government should initiate political reforms in order to regain investor confidence, and
consequently uplift the economy.
To address economic problems, several economic system have been created and applied throughout history.
1. Traditional economy – is basically a subsistence economy. A family produces goods only for its own consumption.
The decisions on what, how, how much, and for whom to produce are made by the family head, in accordance with
traditional means of production.
2. Command economy - is a type of economy, wherein the manner of production is dictated by the government. The
government decides on what, how, how much, and for whom to produce.
3. Market economy or capitalism’s basic characteristic - is that the resources are privately owned, and that the people
themselves make the decisions. It is an economic system wherein most economic decisions and means of
production are made by the private owners. Under this economic system, factors of production are owned and
controlled by individuals, and people are free to produce goods and services to meet the demand of consumers,
who, in turn, are also free to choose goods according to their own likes.
4. Socialism - is an economic system wherein key enterprise are owned by the state. In this system, private ownership
is recognized. However, the state has control over a large portion of capital assets, and is generally responsible for
the production and distribution of important goods.
5. Mixed economy – this economy is a mixture of market system and the command system
1. Wealth – refers to anything that has a functional value (usually money), which can be traded for goods and services.
Accordingly, wealth is the stock of net assets owned by individuals or households.
2. Consumption – refers to the direct utilization or usage of the available goods and services by the buyer (individual) or
the consumer (household) sector. It is also the satisfaction obtained by consumers for the use of goods and services.
3. Production – is defined as the formation or creation by firms of an output (products or services). It is basically the
process by which land, labor and capital are combined in order to produce outputs of goods and services.
4. Exchange – this is the process of trading or buying and selling of goods and/or services for money and/or its
equivalent. It also includes the buying of goods and services either in the form of barter or through market.
5. Distribution – this is the process of allocating or apportioning scarce resources to be utilized by the household, the
business sector, and the rest of the world. It also refers to the process of storing and moving products to customers
often through intermediaries such as wholesaler and retailers.
Demand - pertains to the quantity of a good or service that people are ready to buy at a given prices within a given time
period, when other factors besides price are held constant.
Demand for product – is the quantity of a good or service that buyers are willing to buy given its price at a particular time.
(Take note that when there is a demand for a good or service, there is market)
Kinds of market
1. Wet market – is where people usually buy vegetables, meat and fish.
2. Dry market – is where people buy shoes, clothes, or other dry goods.
1. Demand schedule
2. Demand curve
3. Demand function
Demand schedule – is a table shows the relationship of prices and the specific quantities demanded at each of these prices.
Generally, the information provided by a demand schedule can be used to construct a demand curve showing the price-
quantity demanded relationship in graphical form.
ELASTICITY OF DEMAND
Elasticity (Physics) – refers to the expansion of or contraction of physical mater. Ex. Rubber band.
Elasticity (economics) – means responsiveness or sensitivity.
Demand elasticity – is a measure of the degree of responsiveness of quantity demanded of a product to a given change in one
of the independent variables which affect demand for that product.
1. Price elasticity of demand – is the responsiveness of consumers’ demand to change in price of the good sold.
2. Income elasticity of demand – is the responsiveness of consumers’ demand to a change in their income.
3. Cross price elasticity of demand – is the responsiveness of demand for a certain good, in relation to changes in price
of other related goods.
We can therefore define elasticity of demand as the percentage in quantity demanded caused by a 1 percentage change in
price. We can now derive price elasticity of demand using the following equation:
The most common method used by economics textbooks in the measurement of price elasticity demand is the arc elasticity.
The formula for this indicator is:
Q2 – Q1 P2 – P1
EP = ----------------------- ÷ ---------------------
( Q1 + Q2)/2 (P1 + P2)/2
The numerator of this coefficient (Q 2 - Q1)/ ( Q1 + Q2)/2], indicates the percentage change in the quantity demanded. The
denominator, (P2 – P1)/[(P1 + P2)/2], indicates the percentage change in the price.
Ex. Suppose the following price and quantity schedule for good A.
P Q
6 0
4 10
2 20
0 30
10 – 0 4–6
EP = ----------------------- ÷ ---------------------
( 0 + 10)/2 (6 + 4)/2
= 10 ÷ (-2)
5 5
= 50
(-10)
= -5
Demand for a product is sad to be inelastic if consumers will pay almost any price for the product, while demand for a product
may be elastic if consumers will only pay a certain price, or a narrow range of prices, for the product.
Inelastic demand – means that a producer or seller can raise prices without much hurting demand for its product.
Elastic demand- means that consumers are sensitive to the price at which a product is sold and will only buy it if the price
rises by what they consider too much.
The demand for a good is inelastic when the change in quantity demanded is less than the change in price. So, the demand is
inelastic if the computed elasticity coefficient is less than 1 (E P<1). Goods and services for which there are no close substitute
are inelastic. (ex. of goods that are inelastics Rice, pork, beef, vegetables, medicines (antibiotics)
The demand for a good is elastic if the change in quantity demanded is greater than the change in price. So, the demand is
elastic if the computed elasticity coefficient is greater than (E P>1). Goods and services that have many substitutes which
consumers may switch to as elastic. (clothes, appliances, cars)
GRAPHICAL ILLUSTRATION
1. Ease of substitution
2. Proportion of total expenditures
3. Durability of product which may include:
- Possibility of postponing purchase
- Possibility of repair
- Used product market
4. Length of time period
The figure illustrates an inelastic demand curve. An elastic demand curve is steeper than a typical demand curve. This is
because a large change in price (broken line ab) calls forth a smaller change in quantity demanded (broken line bc).
The figures above are the two extreme types of demand elasticity.
Income elasticity of demand measures the degree to which consumers respond to a change in their incomes buy purchasing
more or less of a particular good. The coefficient of income elasticity of demand E i is determined with the formula:
In discussing income elasticity of demand, we have to distinguish a normal good from an inferior good.
A good is considered a normal good if a rise in income brings an increase in demand and a fall in income brings a decrease in
demand. On the other hand, a good is an inferior good if a rise in income brings a decrease in demand and a fall in income
brings an increase in demand. In other words, the consumption of other products decreases (increases) as income increase
(decrease).
Cross price elasticity of demand measures the responsiveness of demand to changes in the prices of other goods, indicating
how much more or less of a particular product is purchased as other prices change.
Cross elasticity –is the percentage change in quantity demanded of one good (X) divided by the percentage change in the
price of a related good (y). Thus, the formula for cross price elasticity of demand is:
Elasticity of Supply
Supply elasticity refers to the reaction or response of the sellers or producers to price changes of goods sold. In other words,
it is a measure of the degree of responsiveness of supply to a given change in price. Moreover, it is the percentage change in
quantity supplied given a percentage change in price. Thus,
If a percentage change in price results in a more proportionate change in quantity supplied then quantity supplied is said to
be price elastic.
Supply Elastic
0 Q
5 10 15 20 25 30
The figure illustrates an elastic supply curve. An elastic supply curve is flatter than a normal supply curve. This is because a
smaller change in price (broken line ba) calls for a greater change in quantity supplied (broken line cb)
Supply Inelastic
If a change in price produces a less than proportionate change in the quantity supplied then supply is considered price
inelastic.
0 Q
5 10 15 20 25 30
The figure illustrates an inelastic supply curve. An inelastic supply curve is more vertical than a normal supply curve. This is
because a smaller change in price (broken line ba) calls forth a smaller change in quantity supplied (broken line cb).
Supply Elasticity Determinants
1. Time – is a determinant of supply elasticity as producers respond to changes in prices from time to time, given a
certain period.
2. Time horizon involved with which production can be increased – the degree of responsiveness of supply to changes
in price.
Goods – refer to anything that provides satisfaction to the needs, wants, and desires of the consumer. They can be any
tangible economic products.
Services – are any intangible economic activities, that likewise contribute directly or indirectly to the satisfaction of human
wants.
Tangible goods can be classified according to, but not limited to, the following:
1. Consumer goods – these are the goods that yield satisfaction directly to any consumer. These goods are primarily
sold for consumption, and not to be used for further processing or as an input or raw material needed in producing
another good. Usually, these are the goods that are easily accessible to consumers (ex. soft drinks, bread, crackers,
cellular phone loads, clothes)
2. Essential or necessity goods – are goods that satisfy the basic needs of man. In other words, these are goods that are
necessary in our daily existence as human beings. These are also goods that we cannot live without such as food,
water, shelter, clothing, electricity, medicine).
3. Luxury goods are those which men may do without, but which are used to contribute to his comfort and well being.
Ex. private jet, yacht, luxury cars, perfumes, jewelry.
4. Economic and free good - is that which is both useful and scarce. If a good is so abundant that there is enough of it
to satisfy everyone’s needs without anybody paying for it, that good is free.
Tastes and preferences – are determined by age, income, education, gender, occupation, customs and traditions as well
as culture. Preferences are the choices made by us consumers as to which products or services to consume.
Maslow’s hierarchy of needs identifies the basic priorities of every consumer. Maslow saw human needs in the form of a
hierarchy, ascending from the lowest to the highest. He concluded that when one set of needs is satisfied, this kind of need
ceases. The basic human needs placed by Maslow in an ascending order of importance are (like a pyramid): a. physiological
needs; b) security or safety needs; c) social needs; d) esteem needs; and e) self-actualization needs.
Physiological needs – these are the basic needs for sustaining human life itself.
Safety needs – these are the needs to be free of physical danger and the fear of losing one’s work, property, food or shelter.
Social needs - these needs cover the value of the sense of belongings, love, care, acceptance and understanding of family,
relatives and friends, and to be accepted by others.
Esteem needs – these needs explain the importance of self-esteem, recognition, status of an individual and the general
acceptance of the society to an individual. This kind of need produces such satisfaction as power, prestige, status, and self-
confidence.
Self-actualization needs - these needs explain the worth of a person’s self-development, growth and realization and
achievement. According to Maslow, this is the highest need in the hierarchy. It is the desire to become what is capable of
becoming – to maximize one’s potential and to accomplish something.
Utility (economics) – refers to the satisfaction or pleasure that an individual or consumer gets from the consumption of a good
or service that she/he purchases. For purposes of economic analysis, utility is also measured by how much a consumer is
willing to pay for a good/service.
1. Marginal utility – is the additional satisfaction that an individual derives from consuming an extra unit of a good or
service. Marginal means “additional” or “extra”. The marginal utility of a commodity is the increase in total utility or
satisfaction derived from the consumption of an additional or extra unit of such commodity; it is the loss of utility or
satisfaction if one unit less is consumed.
2. Total utility - is the total satisfaction that a consumer derives from the consumption of a given quantity of a good or
service in a particular time period. It is also the total benefit that a person gets from the consumption of a good or
service.
The table shows that as you continue to buy siopao, your willingness to pay for it continuously declines because your
satisfaction from the good declines as you consume more of it.
As a consumer gets more satisfaction in the long-run, he/she experiences a decline in his satisfaction for goods and services.
The table shows the various units purchased, the total utility for each unit purchased, and the corresponding marginal utility.
Marginal utility is simply the change in total utility divided by the change in quantity. Thus,
∆TU
MU = ----------
∆Q
Expanding our equation, we can solve for marginal utility using the following equation:
TU2 – TU1
MU = ----------------
Q2 – Q1
Where:
TU2 = the new total utility
TU1 = the original utility
Q2 = the new quantity consumed
Q1 = the original quantity consumed
Applying the formula, determine the marginal utility from the consumption of 2 pieces of siopao to 3 pieces using the total
utility presented in the table above.
Consumer Surplus
Consumer surplus – is a measure of the welfare we gain from the consumption of goods and services, or a measure of the
benefits that we derive from the exchange of goods.
Consumer surplus – is the difference between the total amount that we are willing and able to pay for a good or service and
the total amount that we actually pay for that good or service.
Consumer Surplus
Another important concept used in explaining consumer behavior is the indifference curve. An indifference curve is a line
that shows combinations of goods among which a consumer is indifferent.
Combination Meat (kg) Price of Meat (P) Fish (kg) Price of Fish (P)
A 5 500 1 100
B 4 400 2 200
C 3 300 3 300
D 2 200 4 400
E 1 100 5 500
The Table shows the various combinations of kilos of meat and fish consumed with corresponding prices that eventually yield
equal satisfaction to consumer. Regardless of the combinations chosen, all of them shall provide an equal amount of
satisfaction to the consumer.
The concept of the marginal rate of substitution is the key to “reading” a preference map. The marginal rate of substitution is
the rate at which a person will give up good Y (the good measured on the y-axis) to get more of good X (the good measures on
the x-axis) and at the same time remain indifferent (remain on the same indifference curve). The MRS is measured by the
magnitude of the slope of an indifference curve.
If the indifference curve is steep, the MRS is high. This implies that the person is willing to give up a large quantity of good Y,
to get a small quantity of good X, while the remaining indifferent. But if the indifference curve is flat, the MRS is low. In other
words, the person is willing to give up only a small quantity of good Y to get a large amount of good X to remain indifferent.
Budget Line
A budget or consumption-possibility line shows the various combination of two products that can be purchased by the
consumer with his income, given the prices of the products. In other words, a consumer, given his fixed budget, must spend
wisely and efficiently in order to maximize his satisfaction.
Unit A Units B
(Beans in kg) Price A (Onions in kg) Price B Budget
5 125 1 25 150
4 100 2 50 150
3 75 3 75 150
2 50 4 100 150
1 25 5 125 150
The table shows the budget given for various combinations of the consumption of beans and onions with corresponding
prices. Given the various combinations, each combination equals the budget of P150.00, which will eventually provide equal
satisfaction to the consumer.
Purpose of Budget
The purpose of budget is to not spend more than what you have. It tracks the incoming and outgoing monies.
Production – refers to an economic activity, which combines the four factors of production to form an output that will give
direct satisfaction to consumers. It includes material goods or provision of any services that satisfy the wants of people.
- Is the act of combining the factors of production by firms or institutions in order to produce outputs of goods
and services.
- Is the process of converting inputs into outputs.
Inputs – these are commodities that are used to produce goods and services
Technology – is the body of knowledge applied to how goods are produced. In other words, technology is the production
process employed by firms in creating goods and services.
1. Labor intensive technology - utilizes more labor resources than capital resources. Labor intensive technology is
usually employed by economics where labor resources are abundant and cheap.
2. Capital intensive technology - utilizes more capital resources that labor resources in the production process. Capital
intensive technology is employed by industrialized economies since capital resources in these economics ar cheaper
than labor.
Short run – it is the period of time so short that there is at least one fixed input therefore changes in the output level must be
accomplished exclusively by changes in the use of variable inputs.
Long run - is a period of time so long that all inputs are considered variable. The long run is therefore known as the planning
horizon. (why planning? This is bec. In the long run, the firm can already build new plants or purchase new machinery instead
of just hiring additional labor or increase the purchase of raw materials.
1. Fixed inputs – is any resource the quantity of which cannot readily be changed when market conditions indicate that
a change in output is desirable.- is any economic resource the quantity of which can be easily changed in reaction to
changes in output level.
2. Variables inputs
Production function – is the functional relationship between quantities of inputs used in production and outputs to be
produced. In other words, production function specifies the maximum output that can be produced with a given quantity of
inputs given the existing technology of a firm.
For instance, in order to produce a t-shirt, its production function may appear as follows:
1. Total product – refers to the total output produced after utilizing the fixed and variable inputs in the production
process.
2. Average product (total product divided by total units of input used)
3. Marginal product – is the extra output produced by 1 additional unit of that input while other inputs are held
constant.
∆TP
MP =------
∆IL
TP2 – TP1
MP = -------------
IL2 – IL1
Input (labor) TP MP AP
0 0 0 0
1 8 8 8
2 20 12 10
3 37 17 12
4 57 20 14
5 72 15 14
6 80 8 13
7 85 5 12
8 88 3 11
9 86 -2 10
10 82 -4 8
The table shows the total amount of t-shirts that can be produced for different inputs of labor when other inputs and the
state of technical knowledge are held constant. From total product, we can derive important production concepts like the
marginal and average products.
The Law of Diminishing Returns holds that we will get less and less extra output when we add additional doses of an input
while holding other input fixed. In other words, the marginal product of each unit of input will decline as the amount of that
input increases, holding all other inputs constant.
Increasing marginal returns happen when the marginal product of an additional worker exceeds the marginal product of the
previous worker. Or there is increasing marginal returns when a small number of workers are employed and arise from
increased specialization and division of labor in the production process.
Decreasing marginal returns occur when the marginal product of an additional worker is less than the marginal product of the
previous worker hired to do the same task. Decreasing marginal returns arise from the fact that more and more workers use
the same equipment and work space. Thus, as more and more workers are employed, there is less and less production for
the additional worker to do.
Returns to Scale
Cost – refers to all expenses acquired during the economic activity or the production of goods or services. It includes
expenditures incurred for the utilization of the various factors of production in the creation of goods.
Economic Profit
A firm’s economic profit equals total revenue minus total cost. Total revenue is the amount received from the sale of the
product. It is the price of the output multiplied by the quantity sold. Total cost is the sum of the explicit costs and implicit
costs and is the opportunity cost of production.
Fixed cost or overhead or supplementary cost are those expenses which are spent for the use of fixed factors of production.
These expenses do not change regardless of a change in quantity of output produced. In other words, fixed costs stay the
same no matter how much output changes. These costs are such expenses that a firm has to incur or bear even if production
has stopped temporarily.
Fixed costs are sometimes call sunk costs because once we have obligated ourselves to pay them, that money has been sunk
into our business firm. Fixed costs are the firm’s overhead.
Variable costs or prime or operating costs are those expenses which change as a consequence of a change in quantity of
output produced. In other words, variable costs are those costs which are incurred on variable factors inputs.
Total Fixed Cost (TFC) consists of costs that do not vary as output varies and that must be paid even if output is zero. These
are payments that the firm must take in the short run, regardless of the level of output. This implies that even a firm does not
produce any output, still it must pay rent, property taxes. Total Variable Cost (TVC) consists of costs that are zero when output
is zero and vary as output increases (decreases). These costs relate to the costs of variable inputs. Total Cost is the sum of
total fixed cost and total variable cost at each level of output. Thus;
TC = TFC + TVC
Short Run Cost Schedule (in peso)
In addition to total cost, firms are interested in the per-unit cost, or average costs. Thus, average costs are stated on a per-unit
basis. Average costs include average fixed cost (AFC), average variable cost (AVC), and average total cost (ATC).
Average fixed cost is total fixed cost divided by the quantity of output produced. You will note that as output increases,
average fixed cost falls continuously. This is because we are dividing a larger and larger denominator into a numerator that is
constant.
AFC = FC/Q
Unlike average fixed cost, average variable cost rises with output. Average variable cost is total variable cost divided by the
quantity of output produced. Usually it declines for a while as output increase, but eventually it levels off and then begins to
rise as more outputs are produced.
AVC = VC/Q
Average total cost is total cost divided by the quantity of output produced. It is also the sum of the average fixed cost and
average variable cost. Average total cost is sometimes referred to as per-unit cost. Like AVC, ATC declines with output for a
while but eventually levels off and then begins to rise as more and more outputs are produced.
ATC = TC/Q or ATC = AFC +AVC
Marginal Cost
Marginal cost is the cost of producing one additional unit of output. Marginal cost is the change in total cost when one
additional unit of output is produced. Marginal cost is the ration of the change in total cost to a one-unit change in output.
∆TC
MC = -----------
∆Q
∆TVC
MC = -----------
∆Q
Profit - is simply the difference that arises when a firm’s total revenue is greater than its total cost.
Profit maximization - is the process by which a firm determines the price and output level that returns the greatest profit.
There are several approaches to this problem. The total revenue - total cost (TR-TC) method relies on the fact that profit
equals revenue minus cost, that is;
Profit = TR - TC
On the other hand, the marginal revenue - marginal cost (MR - MC) method is based on the fact that total profit in a perfectly
competitive market reaches its maximum profit where marginal revenue equals marginal cost, that is:
MR = MC
Output Price (P) TR (P) MR (P) TC (P) ATC (P) MC (P) TPr (P)
1 500 500 500 1,000 1,000 - -500
2 500 1,000 500 1,500 750 500 -500
3 500 1,500 500 1,800 600 300 -300
4 500 2,000 500 2,000 500 200 0
5 500 2,500 500 2,300 460 300 200
6 500 3,000 500 2,850 475 550 150
7 500 3,500 500 3,710 530 860 -210
The table depicts the cost ans revenue schedule of a hypothetical firm selling t-shirts. The last column shows the total profit
(TPr) that the firm obtains after selling outputs of t-shirts. The output at which the firm maximizes its total profit is five (TPr =
P200)
MARKET STRUCTURES
1. Perfect or pure competition - is a market structure characterized by a large number of small firms, homogeneous product,
and very easy entry or exit from the market.
- is a market structure with many well-informed sellers and buyers of an identical product and no barriers to
entering or leaving the market.
large number of small firms - it composed of many firms and buyers, that is, a large number of independently-acting firms
and buyers, each firm and buyer being sufficiently small to be unable to influence the price of product transacted in the
market.
homogeneous or identical product - is a products offered by the competing firms are identical not only in physical attributes
but are also regarded as identical by buyers who have no preference between the products of various producers. In other
words, all firms produce a standardized or homogeneous product.
Very easy entry and exit - this means that there are no barriers to entry of new sellers or impediments to the exit of existing
sellers.
Ex. If you own a store, you get to decide how much to charge your customers. But if you happen to be a perfect competitor,
you do not have that privilege; you are a price taker, not a price maker. What price do you take? You take the market price.
2. Monopoly - is a market structure characterized by a single seller or producer, a unique product, and impossible entry into
the market.
- refers to a market situation where there is only one seller or producer supplying unique goods and
services. It is a single seller who has a complete control over a specific industry.
single seller or producer - comprised of a single supplier selling to a multitude of small independently-acting buyers. In other
word, a monopoly means that a single firms is the industry.
unique product - means that there are no close substitutes for the monopolist’s product.
impossible entry - barriers to entry are so severe in a monopoly so that it is impossible for new firms to enter an industry.
Barriers to entry include (1) sole ownership of a vital resource, (2) legal barriers like government franchises and licenses, and
(3) economies of scale.
Monopolist definitely makes the price for his products or services. In other words it is the monopolist who dictates the price
of his commodities because the products or services offered are unique and have no close substitute in the market.
Monopolist are price makers yet they are still subject to the law of demand. Thus, the higher the price they set on their
product, the lower the amount that is bought by consumers.
TP = (P12 - P10) x 5
=2x5
= P10
Natural monopoly - is a situation where economies of scale are no significant that costs are only minimized when the entire
output of an industry is supplied by a single producer so that supply costs are lower under monopoly than under conditions of
perfect competition and oligopoly.
Natural monopoly exist when there is a great scope for economies of scale to be exploited over a very large range of output.
Determinants of Monopoly
a. Government laws and policies -
b. Technology
c. Business policies and practices
d. Economic freedom
3. Monopolistic competition - is a type of market structure characterized by many small firms, differentiated product, and
easy market entry and exit.
Many small sellers - comprised of a large number of independently-acting firms and buyers.
Differentiated product - these products is offered by competing firms under a monopolistically competitive market are
differentiated from each other in one or more respect.
Easy entry and exit - there are no barriers to entry preventing new firms entering the market or obstacle in the way of existing
firms leaving the market. So in monopolistically competitive market there are barriers to entry, but these barriers are
relatively small.
Arguments for advertisements
a. Advertising is informative;
b. Advertising increases sales and permits economies of scale;
c. Advertising increases sales and contributes to economic growth;
d. Advertising support the media; and
e. Advertising increases competition and lowers prices.
4. Oligopoly - is a market structure or an industry characterized by few sellers, either a homogeneous or a differentiated
product, and difficult market entry.
Few sellers - the bulk of market supply is in the hands of a relatively few large firms who sell their products to many small
buyers. (ex. Petron, shell)
homogeneous or a differentiated product - the products offered by suppliers may be identical or, more commonly,
differentiated from each other in one or more respects.
Features of oligopoly
1. Product branding - each fir in the market is selling a branded (differentiated) product.
2. Entry barriers - significant entry barriers into the market prevent the dilution of competition in the long run which
maintains super normal profits for the dominant firms.
3. Interdependent decision-making - interdependence means that firms must take into account likely reactions of their rivals
to any change in price, output or forms of non-price competition.
4. Non-price competition - is a consistent feature of the competitive strategies of oligopolistic firms.. Ex. Free deliveries and
installation, extended warranties, longer opening hours (supermarket, petron station)
Price leadership - this is happen when one firm has a clear dominant position in the market and the firms with lower market
shares follow the pricing changes prompted by the dominant firm.
Tacit collusion - occurs when firms undertake actions that are likely to minimize a competitive response. Ex. Avoiding price
cutting or not attacking each other’s market
1. Enforcement problem
2. Falling market demand
3. Successful entry of non-cartel firms into the industry
1. Single or sole proprietorship - is a form of business owned by a single person, known as the proprietor.
2. Partnership - is a business organization that is an association of at least two or more persons who agree to place money,
property or industry in a common fund with the aim of sharing the profits among themselves.
3. Corporation - is an artificial being created by operation of law having the right of succession and the powers, attributes and
properties expressly authorized by law or incident to its existence. (private corporations is governed by the Corporation Code
of the Philippines, per Batasang Pambansa Blg. 68)
4. Cooperative - only organization composed primarily of small producers and consumers who voluntarily join together to
form business enterprises which they themselves own, control, and patronize.
Types of Partners
1. General partner - is one who is liable for partnership problems, particularly the debts of the business. His liability for
business debts extends to his personal property after partnership assets are exhausted.
2. Limited partner - is one whose liability for partnership problems is limited. His liability is only limited to the extent of his
capital contribution.
Advantages of Partnership
1. Easy to form.
2. Flexibility of operations
3. Efficiency in operations.
4. Partners are expected to have great interest in the operation of the partnership.
5. Possibility of bigger resources.
Disadvantages of Partnership
Organizing a Corporation
Rights of Stockholders
Advantages of Corporation
Disadvantages of Corporation
Classification of Corporation
1. Common stock - represents the basic issue of shares, and has all the basic rights of a share of stock so that it is often
referred to as the basic ownership in a corporation.
2. Preferred stock - is a type of stock having certain preferences over common stock.
3. Class A shares - these are the available stock offered to Filipino shareholders
4. Class B shares - these are the available stock offered to foreign investors
5. Par Value shares - this refers to shares of capital stock that have been assigned a definite or fixed value in the articles of
incorporation, so as to fix its minimum subscription or original issue price.
6. No Par Value shares - are shares which have not been assigned a definite or fixed value.
7. Founders’ shares - are those classified as such in the articles of incorporation and may be given certain rights and privileges
not enjoyed by other stockholders.
Dividends
It is also called as the distributed profits of the corporation. It represents the corporation’s profit, which are
distributed to stockholders according to the proportionate interest of their shareholding.
Kinds of Dividends
Cooperatives
Principles of Cooperative
PRINCIPLES OF TAXATION
Taxation - is an inherent power of the state to demand enforced contributions from the people for public purposes. Hence, a
tax is levy imposed by government on the income, wealth and capital gains of persons or businesses, on spending on goods
and services, and on properties.
1. To raise revenue for the government to cover its own expenditure on the provision of social services such as education,
health, public infrastructure, as well as the salaries and benefits of public servants.
2. As an instrument of fiscal policy in regulating the level of total spending (or aggregate demand in the economy so as to
stabilize the economy.
3. To alter the distribution of income and wealth (redistribution of income and wealth).
4. To control the volume of imports (and sometimes exports of certain goods) into the country.
Types of Taxes
1. Direct taxes - are taxes levied by government on the income and wealth received by households and businesses in order to
raise government revenue and as an instrument of fiscal policy. Taxes that are levied on household are called individual
income taxes. Taxes on businesses are called corporate income tax.
2. Indirect taxes - are taxes levied by the government on goods and services in order to raise revenue and as an instrument of
fiscal policy.
Progressive taxes - are taxes that a place a greater burden on those best able to pay and little or no burden on the poor. (ex.
Individual tax payer)
Proportional taxes - are taxes that place an equal burden on the rich, the middle class, and the poor. In other words, taxes are
levied at a constant rate as income rises.
Regressive taxes - are taxes that fall heavily on the poor than on the rich.
- it is a structure of taxation in which taxes are levied at a decreasing rate as income rises.
1. Adequacy, that is, taxes should be just enough to generate revenue required for provision of essential public services like
health, education, and national defense and police protection.
2. Broad basing, meaning that taxes should be spread over as wide as possible to all sectors of the population or economy so
as to minimize the individual tax burden.
3. Compatibility, that is, taxes should be coordinated to ensure tax neutrality and overall objectives of good governance.
4. Convenience, meaning taxes should be enforced in a manner that facilities voluntary compliance to the maximum extent
possible.
5. Earmarking - meaning that tax revenue from a specific source should be dedicated to a specific purpose only when there is
a direct cost-and-benefit link between the tax source and the expenditure.
6. Efficiency - meaning that tax collection efforts of government should not cost an inordinately high percentage of tax
revenues.
7. Equity - taxes should equally burden all individuals and entities in similar economic circumstances.
8. Neutrality - taxes should not favor any one group or sector over another, and should not be designed to enterfere with or
influence individual decision making.
9. Predictability - collection of taxes should reinforce their inevitability and regularity.
10. Restricted exemption - tax exemption must only be for specific purposes (such as to encourage investment) and for a
limited period.
11. Simplicity - tax assessment and determination should be easy to understand by an average taxpayer.
APPROACHES TO TAXATION
1. The Ability to pay principle state that taxation should be levied according to an individual’s ability to pay. This approach to
taxation is usually the basis for progressive taxation.
2. The Benefit approach proposes that taxation should be levied broadly in relation to the benefits that people receiv in public
services.
3. The tax incident approach - proposes that the major duty of a tax system is to analyze the effect of a particular tax on the
distribution of tax welfare.
1. A tax is proportional. A proportional tax means that the government takes an amount of money from a person which is
indirect proportion to his income. Ex. Juan salary is P10,000 and the government is deducting 10% of his salary for tax. After
a year, his income increases to P15,000 and the government now deducts 12% of his salary for tax.
2. A tax is regressive. A regressive tax means that the government takes a larger percentage of a person’s income for tax,
while he is receiving a lower income. Ex. Juan salary is P10,000 and the government is asking him to pay 15% of his salary for
tax which is contrary to our ex. No.1
3. A tax is progressive. A progressive tax means that the government takes a larger percentage of his salary for tax due to his
high salary. Ex. Juan has a monthly income of P30,000 and the government deducted 20% of his salary for tax. Here, the tax
amount is proportionately equal to someone’s status in the society. A rich man should pay more than a poor man.
Classification of Taxes
1. As to subject matter
a. Personal, Poll or Capitation Tax. This tax means that there is a fixed amount upon all persons residing within a specified
territory without regard to their property or the occupation in which they may be engaged. Ex. Residence tax
b. Property tax - this tax refers to one assessed on all property located within a certain territory on a specified date in
proportion to its value, or in accordance with some other reasonable methods of apportionment, the obligation to pay which
is absolute and unavoidable and is not based upon any voluntary action of an individual’s assessment. Ex. Real estate tax
c. Excise tax - this refers to any tax which does not fall within the classification of a poll tax or a property tax and embraces
every form of burden not laid directly upon a person or property. Ex. Revised VAT
VAT means a tax on value, added by every seller to his purchases of goods and services.
2. As to who bears the burden
a. Direct tax. This is a tax which demanded from a person whom it is intended or desired for a particular good or service. Ex.
Income tax
b. Indirect tax. This refers to a tax paid primarily by a person who can shift the burden upon someone else, or who is under no
legal obligation to pay him. Ex. Buying of goods and services (RVAT)
3. As to determination of account
a. Specific tax.this tax is a fixed or determinate sum imposed by the head or number or some standard of weight or
measurement, and requires no assessment beyond a listing and classification of the object to be taxed. Ex. Taxes on wines.
b. Ad Valorem Tax. It is a tax of a fixed proportion of the value of the property with respect to which the tax is assessed, and
requires the intervention of assessors or appraisers to estimate the value of such property before the amount due from each
taxpayer can be determined. Ex. Tax according to value such as Real Estate tax.
4. As to purpose
a. General tax. It refers to a tax levied to an individual for a general public purposes.
b. Special tax. This is a tax levied to an individual for a particular or specific purpose.
5. As to scope
a. National tax. This tax is imposed by the state itself and is effective within the entire jurisdiction thereof. Ex. National
revenue taxes
b. Local tax. This tax is imposed by a political subdivision of the state and is effective only within the territorial boundaries
thereof.
1. Shifting - is one way of passing the burden of tax from one person to another. Ex. Tax of manufacturer shifted consumers
2. Capitalization this refers to the reduction in the price of the taxed object to the capitalized value of future taxes which the
purchaser expects to be called upon to pay.
3. Transformation - occurs when the manufacturer or producer upon whom the tax has been imposed pays the tax and
endeavor to “recoup” himself by improving his process of production.
4. Tax evasion -is the practice by the taxpayer thorough illegal or fraudulent means of defeat or lessen the amount for tax.
This is also known as “tax dodging”.
5. Tax avoidance - is the exploitation by the taxpayer of legally permissible methods in order to avoid or reduce tax liability.this
is also known as “tax minimization”.
6. Tax exemption - is the grant of immunity or freedom from a financial charge or obligation or burden to which others are
subjected
Classification of Taxpayers
1. Individual taxpayer (resident citizens, non-resident citizens resident aliens, non-resident aliens)
2. Corporate taxpayer (domestic corp., foreign corp,, resident corp, non-resident corp.
3. General professional partnership ((CPA, Lawyer)
4. Estates and Trusts
INCOME TAXATION
Income refers to all wealth which flows into the taxpayer other than as mere return on capital.
Capital - refers to the investment made which is the source of income.
Income tax - refers to the tax imposed on the net income or on the entire income received by a taxpayer in one taxable
period.
1. Taxable income. This is the pertinent items of gross income specified in the tax code less deduction of personal and/or
additional exemption.
2. Passive income- this refers to income such as interest on banks, deposits, dividends, royalties, prizes, and other winnings.
3. Net income. It refers to gross income less allowable deductions.
4. Deductions. These refer to all items or amounts which the law allows to be deducted from the gross income.
Land reform - refers to the full range of measures that may or should be taken to improve or remedy the defect in the
relations among men with respect to the rights in the use of land. In other words, it is a set of integrated measures designed
to eliminate obstacles to economic and social development arising out of defects in the agrarian structure.
1. On agricultural productivity. Agrarian reform may decrease the agricultural productivity if collectivization and land
fragmentation are introduced.
2. On poverty. Agrarian reform can minimize the extent of poverty and also improve the real per capita income of rural
workers.
3. Income and living standards. Agrarian reform measures increase the productivity and thus result to rice in income of rural
farmers which will in turn improve the living standard of rural people.
4. Employment. Agrarian reform measures result in better employment.
5. Investment and capital formation. Agrarian reform can change the labor-capital ratio that is needed for any economic
development
6. Impartiality in rural population. Agrarian reform has a significant influence in the economic and political structure of the
rural areas.