GK session # 01

GK session # 01
 Economics
Economics can be defined as the
science that studies human
behavior as a relationship between
ends and scarce means, which
have alternative uses.
(Lionel Robbins, 1932)
 Economics
• Economics is a social science that seeks to
analyze & describe the production,
distribution, & consumption of goods and
services.
• The word "economics" is of Greek origin –
from oikos (house) and (nomos) (custom or
law) – hence “rule of the house(hold).”
An Economy is usually
analyzed by the use of
Microeconomics
or
Macroeconomics
 Microeconomics
Microeconomics - where the
unit of analysis is the
individual agent, such as a
household, firm or
government department.
 Microeconomics
Microeconomics examines the
economic behavior of individual
factors such as businesses and
households with a view to
understand decision making in
the face of scarcity and the
economic consequences of
these decisions on other actors.
 Economics
Macroeconomics - where the
unit of analysis is the
nation state.
 Macroeconomics
Macroeconomics examines an
economy as a whole with a
view to understanding the
interaction between economic
aggregates such as national
income, employment and
inflation. It also studies effects
of Monetary Policy and Fiscal
Policy.
 Important thought
Good macroeconomics
has solid microeconomic
foundations.
 Important Economic terms
• Value
• Utility and its meaning
•Total & Marginal utility
•Diminishing Marginal utility
• Market
• Demand / Supply
• Price
 Value
• Value can be defined as the underlying
activity which economics describes and
measures. It is what is "really" happening.
• Value cannot be separated from the price
set by the market. Market incorporates all
available information into price.
• Value of an object is what an object is
worth to each person.
• The value of any object varies from
person to person.
 Utility
• It is defined as the “power of a service or
commodity to satisfy a human want.”
• It relates to inner sentiments and has no
physical or material existence and
resides in the mind of the consumer.
• It cannot be equated with usefulness and
carries no moral or legal significance.
• An indirect measure of utility is the
price, which is paid by a consumer for
that particular commodity.
 Total Utility
Total Utility is the amount of utility
derived from the consumption of
all the units at the disposal of the
consumer. For example, if the
consumer consumes m units of a
commodity X, then the aggregate
of the utilities derived from m
units will be referred to as the
Total Utility of the commodity X.
 Marginal Utility
The Marginal Utility of m units of a
commodity is the difference
between the total utilities of m and
m+1 units. Thus, marginal utility
of a given amount of a commodity
is the difference made to the total
utility when one extra unit of the
commodity is consumed.
Diminishing Marginal Utility
According to the law of diminishing
marginal utility, as a person purchases
more units of a commodity, its
marginal utility declines. The marginal
utility of the commodity to the
consumer depends upon the volume of
the stock of the commodity purchased
or possessed by him. The larger the
stock purchased or possessed by him,
the smaller is the utility derived from
an additional unit of the commodity.
Diminishing Marginal Utility
No. of Total Marginal
Breads Utility Utility
0 0 0
1 20 20
2 35 15
3 45 10
4 50 5
5 50 0
6 45 -5
7 35 -10
 Market
• The existence of markets is one of the key
components of capitalism.
• A market is a social arrangement that allows
buyers and sellers to discover information
and carry out a voluntary exchange.
• The information function of a market requires
that the buyer and seller are both aware of
what is being sold. It is assumed that such
knowledge is perfect, including knowledge of
alternatives and other factors affecting the
proposed sale/purchase.
 Scarcity
• Scarcity = Poverty
• Scarcity is the problem of infinite
human needs and wants, in a world
of finite resources
• In economic terms, it simply means
that needs and wants exceed the
resources available to meet them,
which is as common in rich
countries as in poor ones.
 Demand
• Demand is the quantity of a product that a
consumer or buyer would be willing and able to
buy at any given price in a given period of time.
• Demand is often represented as a table or a
graph relating price and quantity demanded.
• Most economic models assume that
consumers make rational choices about how
much to buy in order to maximize their utility -
they spend their income on the products that
will give them the most happiness at the least
cost.
 Supply
• Supply is the quantity of goods that a producer
or a supplier is willing to bring into the market
for the purpose of sale at any given price in a
given period of time.
• Supply is often represented as a table or a
graph relating price and quantity supplied.
• Like consumers, producers are assumed to be
utility-maximizing, attempting to produce the
amount of goods that will bring them the
greatest possible profit.
 Laws of Demand & Supply
• The law of demand states that (in general)
price and quantity demanded are inversely
related. In other words, the higher the price
of a product, the less of it consumers will
buy.
• The law of supply states that price and
quantity supplied are directly proportional. In
other words, the higher the price of a
product, the more of it producers will create.
Simple Demand-Supply curve
Demand curve shifts
Supply curve shifts
 Elasticity
• Is defined as a measure of the responsiveness
of one variable to changes in another. There
are four main types of Elasticity.
•Price Elasticity – how supply / demand changes
with a change in price.
•Income Elasticity – how demand changes with a
change in income.
•Cross Elasticity – how the demand for one good
changes when the price of another good changes
•Elasticity of Substitution – how easily one input in
the production process can be substituted for
another.
 Price Elasticity of Demand

Perfectly elastic Perfectly inelastic

demand demand
 Price Elasticity of Supply

Perfectly Perfectly
elastic inelastic
supply supply
 Perfect competition
Perfect competition is a rare, almost a non-existent
situation. It requires the following to be fulfilled:

• Large number of buyers and sellers

• Existence of homogenous product or products.
• Absence of artificial restrictions on demands,
supplies, prices of goods and factors of production
in market.
• Free entry, and free exit for firms.
• Perfect knowledge, on the part of the buyers and
sellers.
• Perfect mobility of factors of production.
• Non-existence of transportation costs.
 Monopoly
Monopoly is defined as a
persistent market situation where
there is only one provider of a kind
of product or service. Monopolies
are characterized by:
• lack of economic competition for the
good or service that they provide, and
• a lack of viable substitute goods.
 Other types of Market
• Oligopoly
• Cartel
• Monopolistic Competition
• Monopsony
 Oligopoly
• When a few firms dominate a
market. Often they can together
behave as if they were a single
Monopoly
• Because what one firm can do
depends on what the other firms do,
the behavior of oligopolists is hard
to predict.
 Cartel
• An agreement among two or more
firms in the same industry to co-
operate in fixing prices and/or
carving up the market and
restricting the amount of output
they produce.
• The aim of such collusion is to
increase profit by reducing
competition.
 Monopolistic Competition
Somewhere between Perfect Competition and Monopoly,
it is also known as imperfect competition. It describes
many real-world markets.
• In monopolistic competition, there are fewer firms
than in a perfectly competitive market and each can
differentiate its products from the rest somewhat,
perhaps by advertising or through small differences
in design.
• These small differences form barriers to entry.
• As a result, firms can earn some excess profits,
although not as much as a pure monopoly, without a
new entrant being able to reduce prices through
competition.
• Prices are higher and output lower than under
perfect competition.
 Monopsony
• A market dominated by a single
buyer.
• A monopsonist has the market
power to set the price of
whatever it is buying (from raw
materials to labor).
Macro-Economics
 GROSS DOMESTIC PRODUCT
• GDP is the total measure of the flow of goods
and services at market value resulting from
current production during a year in a country,
excluding net income from abroad.
• It is a measure of economic activity in a country
• GDP = private consumption + investment +
public spending + the change in inventories +
(exports - imports).
• It is usually valued at market prices; by
subtracting indirect tax and adding any
government subsidy
 Other terms
• Gross National Product (GNP) = GDP +
income earned by domestic residents from
their investments abroad - income paid
from the country to investors abroad.
• Net National Product (NNP) = GNP –
Depreciation
• Disposable Income refers to the actual
income, which can be spent on
consumption by individuals and families.
 Money
• Money can be defined as a legal tender that gives the
possessor liquidity in hand. It fulfills three functions –
each of them providing a criterion of moneyness –
* a unit of account
* a medium of exchange, and
* a store of value.
• The other near money assets are
Bonds, Securities and Debentures
Bills of Exchange
Treasury Bills
Insurance Policies
 Inflation
• Inflation can be defined as a
persistent and appreciable rise
in the general level of prices.
• Inflation can also be defined as
a continuing rise in prices as
measured by an index such as
the Consumer Price Index
(CPI).
 Different Types of Inflation
• Creeping Inflation : less than 3% p.a.- this
kind of a price increase is regarded as very
essential for economic growth.
• Walking or Trotting Inflation : usually between
3 to 7% per annum or less than 10% per
annum.
• Running Inflation : 10 to 20% p.a. To control
requires the imposition of strong monetary
and fiscal measures.
• Hyperinflation : 20 to 100% p.a. or more.
Uncontrollable rise in prices in which prices
rise many times in a day and the monetary
system totally collapses.
 Inflation
Inflation is caused
when the aggregate
demand exceeds the
aggregate supply of
goods and services.
 Inflation: Factors affecting demand
• Increase in money supply
• Increase in disposable income.
• Increase in public expenditure by Govt.
• Increase in consumer spending
• Cheap monetary policy because of
which credit expands, raising money
income of the borrowers which in turn
raises aggregate demand relative to
supply.
 Inflation: Factors affecting demand

• Deficit financing of the Govt.

(borrowing from the public & printing
more notes.)
• Expansion of the private sector.
• Black money (raises the spending
capacity of people)
• Repayment of public debt
• Increase in exports.
 Inflation: Factors affecting supply
• Shortage of factors of production such as labor, raw
materials etc.
• Industrial disputes such as trade union disputes etc.
• Natural calamities such as drought or floods.
• Artificial scarcities created by hoarders and speculators
indulging in black marketing
• Lop-sided production in which there is more stress on the
comfort items rather than on basic necessity items.
• Law of diminishing returns.
• International factors such as an increase in oil prices
affects all economies of the world.
 Measures to Control Inflation
Monetary Measures

• Monetary Measures aim at reducing money

incomes and they also help in :
• Credit control
• Demonetization of currency of higher
denominations.
• Issue of new currency in the place of the old
currency.
 Measures to Control Inflation
Fiscal Measures
• Fiscal Measures are highly effective for controlling
Government expenditure, personal consumption and
expenditure and private and public investment. The
principle fiscal measures are as follows:
• Reduction in unnecessary expenditure such as on non-
development activities.
• Increase in taxes on individuals, corporate houses and
commodities and also the levy of new taxes.
• Increase in savings on the part of the people so that
disposable income with people is checked.
• Surplus budgets which means doing away with deficit
financing by the Govt.
• Stopping or postponing the repayment of public Debt.
 Measures to Control Inflation
Other Measures
• Other Measures aim at increasing aggregate
supply and reducing aggregate demand directly,
such as:
• To increase production of essential consumer
goods. Efforts should also be made to raise
productivity.
• Rational Wage Policy. The Govt. should freeze
wages, incomes, profits, dividends, bonus etc.
But, this is a very drastic and short-term measure.
• Price control and rationing of the prices of
essential consumer goods.
Please welcome
Money Kumar !
 Do you think?

Enough money can solve

all the problems.
 Do you think?

Enough money can solve

all the problems.
The kids queue up to play games. At
Rs. 100 a game it's very affordable

But slowly, many other kids join the

queue
But what about the
space? There is
hardly any space in
this room for all of
us to stand, where
will they keep more
consoles any way?
 Why is it that in spite of having
loads of money, we cannot afford
to do what we want? Why are
there not enough things
available?
That's what
happens when
there is a lot of
money but fewer
goods. It's called
Inflation!
Money kumar arrives in a
flash
 When too much money
chases too few goods,
the prices of goods
increase. That's
inflation. Though it
hurts everybody alike,
it hurts the poor the
most.
Inflation
?
 Of course I can !
Can you not do Come, I will show
anything about you something
it?

Because poor
people are not
protected. They
earn their daily
livelihood and
cannot save
enough for a rainy
day
 No Money Kumar. We now
understand price stability

Does it still sound too

complicated?
 Food for Thought
• The invisible hand of Capitalism
• Opportunity Cost
• Laissez Faire
• Giffen Goods
• Capitalism / Communism / Socialism
• Theory of Interest
• Theory of Rent
That’s it for today!