Professional Documents
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MICRO ECONOMICS
Q1 a) How can you justify that Professor HICK’s approach is
better approach for analyzing the consumer’s behavior?
Ans: The indifference curve analysis approach was first introduced by
Slustsky, a Russian Economist in 1915. Later it was developed by J.R.
Hicks and R.G.D. Allen in the year 1928.
These economists have the view that it is wrong to base the theory of
consumption on two assumptions:
(i) That there is only one commodity which a person will buy at one time.
Assumptions:
Example:
Various Combinations:
In the figure 3.14, it is shown that with the rise in money income, the
purchase of wheat has increased from M1 to M4 indicating positive income
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effect on the purchase of normal good wheat. The income effect on inferior
good is negative. The income consumption curve ICC is starts bending
towards the horizontal axis which shows that wheat is a normal good and
rice is inferior good.
"The percentage change in the demand of one good as a result of the percentage
change in the price of another good".
Formula:
The numerical value of cross elasticity depends on whether the two goods in
question are substitutes, complements or unrelated.
(i) Substitute Goods. When two goods are substitute of each other, such as coke
and Pepsi, an increase in the price of one good will lead to an increase in demand
for the other good. The numerical value of goods is positive.
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For example there are two goods. Coke and Pepsi which are close substitutes. If
there is increase in the price of Pepsi called good y by 10% and it increases the
demand for Coke called good X by 5%, the cross elasticity of demand would be:
Since Exy is positive (E > 0), therefore, Coke and Pepsi are close substitutes.
On the other hand, for certain professions mobile phones are very necessary. On-
call doctors, many upper-level businesspeople, anybody who *must* be
reachable as a part of their work, they all will exhibit inelastic buying behavior.
Whether the phone cost Rs.5000 or Rs.15000, if they have to have it to do their
job, they'll spend the money so they can continue to work.
In a competitive market, the supply curve of a firm is derived from its marginal
cost curve. Supply curve is that portion of the marginal cost curve which lies
above the average variable cost curve.
As we already know, the aim of the firm is to maximize profits or minimize losses. The profits
are increased it the difference between total receipts and total costs is maximized. When a firm
undertakes the production of a particular commodity, it has to pay remuneration to all the
factors of production employed. The remuneration or cost of the firm for a short period can be
divided into two parts, fixed costs and variable costs. If from the sale of the commodity
produced, a firm is earning much more than what it has to spend on it. We say a firm is earning
abnormal profits if the total revenue of the firm is equal to total cost, the firm is getting normal
profits. In both these cases, it is profitable for the firm to produce the commodity. But if the
total receipts fall short of total costs, then three situations can arise.
(iii) A firm is covering its full variable costs and a part of the fixed costs.
(1) In the figure. (15.7) there are three costs curves, AVC curve, ATC curve and MC
curve. ATC curve includes the average variable cost and average fixed cost of a
firm. Average variable cost is represented by the AVC curve which lies below the
ATC curve. Let us suppose now that at price OM, a firm supplies an
output equal to 01 because MR = MC at point I.
The total receipts of the firm at OM price are thus, equal to OILM, while the total
costs are equal to OIKN. At this price, a firm is undergoing too many losses which
are represented by the area MLKN. It is not even meeting its full variable cost as
the AVC curve lies much above this price line. A firm shall have to close down its
operations for minimizing losses in the short run (shut down cases).
(3) In case the price settles somewhere between F and G, then the firm will be
meeting its full variable costs and a part of the fixed costs. It, may prefer to
produce because if the concern is closed down the whole of the fixed cost is to be
met. This, of course can happen in a short period. When the period is long the
total receipts of the firm must be equal to total cost and the firm must earn
normal profit.
(4) If the price in the market is OG, the firm is in equilibrium at point B. Here the
total receipts of the firm, i.e., OABG are equal to the total cost, i.e., OABG. A firm
is earning normal profits and it is profitable for it to carry on production. By
normal profits in economics we mean the level of profit which is just sufficient to
induce an entrepreneur to stay in the industry. The amount is equal to the
remuneration which an entrepreneur can get in alternative occupations. If the
entrepreneur is not paid the amount equal to this normal profit, he will move to
the other alternative industry where he could get this amount.
If price, rises above OG, then firm is getting abnormal profits. For instance, the
firm is producing best level of output by equating MR = MC at point U and selling
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at price OZ, the total revenue of the firm will be OWUZ and total cost OWVP.
There is thus an abnormal profit equal to PVU2.
Summing up, we can say, that if price falls below the lowest point on the AVC
curve, the firm will not produce any output because it is not able to cover even its
total variable costs. But if the price is such that it covers its total variable costs,
then the firm may carry on production for a short period. So is also the case when
it covers its full variable costs and a part of the fixed costs. In the long period, if
the firm does not cover its full costs, it will have to dose down its operations
sooner or later. So we conclude that the supply curve of the firm that can be
regarded as that portion of the MC curve which lies above the AVC curve and not
which lies below the AVC curve because it is only at the lowest point on the AVC
curve that some output is forthcoming and not below this point.
The supply curve of the firm or the rising portion of the MC curve which lies above
the AVC curve can be split up into two parts. One part consists of that portion
which lies above the lowest point of the ATC curve. If the price line representing
MR = AR intersects the MC curve at any point on this rising portion, the firm will
be earning abnormal profit (see fig. 15.7). The second part of the supply curve of
the firm extends from the lowest point of the AVC curve to the lowest, point of
the ATC curve. If price line representing MR = AR passes through the lowest point
of the AVC curve, the firm is covering only total variable costs. If the price line cuts
the MC curve at any point above the lowest point of the AVC curve and below the
lowest point of ATC curve, the firm will be meeting its total variable costs and a
part of the fixed costs but not the total costs. The total costs are met only when
the price line forms a tangent to the ATC curve.
b) When a firm shuts down his business? Discuss with the help
of diagram.
Short Run Shut Down:
The price taker firm in the short-run minimizes losses by closing it down if the
market price is less than average variable cost. The shut down position of a
Competitive firm is explained with the help of a diagram.
In this figure (15.6) we assume that the market price is OP. The firm, is in
equilibrium at point Z where MR = MC. The firm produces OK output and sells at
OP unit cost. The total revenue of the firm is equal to the area OPZK. Whereas
.the total cost producing OK output is OTFR. The firm is suffering a net loss of total
fixed cost equal to the area PTFZ. The firm at point Z is just covering average
variable costs.
If the price falls below Z, the competitive firm will minimize its losses by closing
down. There is no level of output which the firm can produce and realize a loss
smaller than its fixed costs. It is therefore a shut down point for the firm. Operate
When Price is > average variable cost.
The average total cost curve is U-shaped. Average total cost is relatively
high for small quantities of output, then as production increases, it
declines, reaches a minimum value, then rises.
As the output of a firm increases, average total cost like the average variable cost
decreases in the beginning reaches a minimum and then it increases. The reasons
for decline of ATC in the beginning are that it is the sum of AFC and AVC.
Average fixed cost and average variable costs have both the tendency to fall as
output is increased. Average total cost will continue falling so long average
variable cost does not rise. Even if average variable cost continues rising, it is not
necessary that the average total cost will rise. It can be due to the fact that the
increase in average variable cost is less than the fall in average fixed cost. The
increase in average variable cost is counterbalanced by a rapid fall of average
fixed cost. If the rise in the average variable cost is greater than the fall in average
fixed cost, then the average total cost will rise.
The tendency to rise on the part of average total cost-in the beginning is slow,
after a certain point it begins to increase rapidly.
ii) Why marginal and average revenue curve are downward slope shape in
imperfect competition?
Under imperfect competition, the behavior of MR curve is that it lies below the AR curve. As
production expands, the distance between the two curves increases. The AR line and the price
line is the same as is clear from the schedule given below:
Schedule:
1 15 15 15 15
2 14 28 13 14
3 12 36 8 12
4 9 36 0 9
5 7 35 -1 7
6 5 30 -5 5
lt is clear from the above figure (14.4) that average revenue curve and marginal
revenue curve both have a negative slope. MR curve lies below the AR curve
because the output is solid at the falling prices.
Traditional Point of View. The classical economists were of the opinion that the
law of diminishing returns applies only to agriculture and to some extractive
industries, such as mining, fisheries urban land, etc. The law was first stated by a
Scottish farmer as such. It is the practical experience of every farmer that if he
wishes to raise a large quantity of food or other raw material requirements of the
world from a particular piece of land, he cannot do so. He knows it fully that the
producing capacity of the soil is limited and is subject to exhaustation.
As he applies more and more units of labor to a given piece of land, the total
produce no doubt increases but it increases at a diminishing rate.
For example, if the number of labor is doubled, the total yield of his land will not
be double. It will be less than double. If it becomes possible to increase the. yield
in the very same ratio in which the units of labor are increased, then the raw
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"As Increase in capital and labor applied to the cultivation of land causes in
general a less than proportionate increase in the amount of the produce raised,
unless it happens to coincide with the improvement in the act of agriculture".
iv) What is the relation between price and total expenditure in the case of
necessary goods?
We know that the price of a good and the demand for the good are
inversely related to each other. So, responsiveness of demand in
relation to change in price (i.e. price elasticity of demand) determines
the change in expenditure.
Total Expenditure method suffers from one defect. It fails to give the exact
magnitude of elasticity. By this method, we can only know whether the elasticity
is equal to one, greater than one or less than one. Hence, this method is
restrictive and provides only a rough measure of elasticity.
MACRO ECONOMMICS
Q5) If GNP is 20,000 million rupees. Depreciation cost is
10,000 million rupees, indirect taxes are 50,000 million
rupees, and subsidies are 80,000 million rupees then calculate
the National Income at market price and National Income at
factor cost.
RS
MILLION
GNP 20,000
Now as regards the income approach, the seller’s receipts must equal what the
buyers spend. The seller’s receipts in turn equal the total income generated by
the economic activity. Thus, total expenditure must equal total income generated
implying that the expenditure and income approach must also produce the same
result.
1. Quantitative instruments
2. Qualitative instruments.
7. Direct action: The central bank may initiate direct action against the
member banks in case these do not comply with its directives
1) The multiplier will vary across countries, depending on the size and structure
of those countries: In a large country such as the US, an increase in spending
(both direct and indirect) will be met primarily by supplies originating in the
US. The multiplier will then be relatively large. In contrast, higher spending in a
small and open economy, such as Monaco to take an extreme example, will be
met primarily by supplies originating elsewhere. The multiplier will then be
relatively small. Most economies are in between these two in size, and one
would expect the multiplier then also to be in between these two in size.
Note that this will depend not only on the size of the economy, but also its
economic structure (the type of goods produced within that economy, as
opposed to imported) and the nature of its trade regime. Some economies are
more open than others.
2) The multiplier will vary depending on the current state of the economy –
how far or close the economy is to full employment: If unemployment is
significant, an increase in demand can be met with an increased supply of goods,
and an increase in employment of workers to produce those goods. The
multiplier will be relatively high. In contrast, if the economy is at a time of close
to full employment, an increase in demand for certain goods can only be met by
reduced production of something else (with a shift in jobs from the latter to the
former), so overall output might not rise by much. In such circumstances the
multiplier will be relatively low.
Hence if one had a good estimate of the multiplier in some particular economy at
a point in time when the economy was close to full employment, one would
greatly underestimate what the multiplier would be in that same economy at a
different time when unemployment was high.
• Businesses typically borrow the funds needed for capital goods, such as
factories and equipment.
• Households often borrow the funds used to buy durable goods, such as cars
and furniture.
The expense of borrowing these funds depends on interest rates. Higher interest
rates add to the overall cost of these expenditures. Lower interest rates reduce
the overall cost of these expenditures. This means that changes in interest rates
trigger changes in consumption expenditures and investment expenditures, and
thus aggregate expenditures.
What It Does
The exhibit to the right presents a standard Interest Rates
Keynesian aggregate expenditures line. Like all
aggregate expenditures lines, this one is
constructed based on several ceteris
paribus aggregate expenditures determinants,
such as interest rates. They key question is:
What happens to this aggregate expenditures
line if interest rates change?
While the numbers might be smaller, a decline in interest rates is also likely to
entice the household sector to boost consumption expenditures on durable
goods. For example, a 1 percentage point interest rate decline can reduce the
total interest cost on a $20,000 car loan by $6,000 over a five-year repayment
period. This reduction in cost is also bound to convince a few households to make
extra consumption expenditures.
To see how lower interest rates affect the aggregate expenditures line, click the
[Lower Rates] button. The lower rates trigger an increase in aggregate
expenditures, which is an upward shift of the aggregate expenditures line.
To see how higher interest rates affect the aggregate expenditures line, click the
[Higher Rates] button. The higher rates trigger a decrease in aggregate
expenditures, which is a downward shift of the aggregate expenditures line.
• Business Cycle: Interest rates tend to rise and fall over the expansions and
contractions of the business cycle. During an expansion, especially near the
end of the expansion, interest rates tend to rise. Then once a contraction
sets it, interest rates tend to fall. In fact, these interest rate changes are
part of the "natural" business cycle mechanism. Higher interest rates during
an expansion cause the decline in aggregate expenditures that result in a
contraction. Lower interest rates during a contraction then cause the rise in
aggregate expenditures that result in an expansion.
• Monetary Policy: Interest rates are also affected by monetary policy that is
designed to counter business-cycle instability. Expansionary monetary
policy involves lower interest rates intended to increase aggregate
expenditures and offset a contraction and address the problems of
unemployment. Contractionary monetary policy involves higher interest
rates intended to decrease aggregate expenditures and offset an expansion
and address the problems of inflation.
Q8)
i) Keynes Psychological law of consumption
Psychological Law of Consumption By J.M Keynes:
J.M. Keynes, in his book ‘General Theory’ analyzed the consumption behavior of
the community on the basis of human psychology. He propounded a law which is
known as Psychological Law of Consumption.
Statement:
"The household sector spends a major part of its income on the purchase of
consumer goods and services such as food, clothing, medicines, shelter etc., for
personal satisfaction. The expenditure on consumption (C) is the largest
component of aggregate expenditure. Whatever is not consumed out of
disposable income is by definition called saving (S)".
Formula:
I=C+S
Explanation:
“Men are disposable as a rule and on the average to increases their consumption
as their income increases, but hot by as much as the increases in their income.”
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The psychological law of consumption brings out the following properties of the
consumption behavior of the community:
(ii) With the rise in the level of income, the consumption level also rises, but at a
decreasing rate = ΔC < Δy
(iii) As the level of income increases, the households devote a part of the increase
saving. Symbolically: ΔY = ΔC + ΔS
The Keynesian consumption function is now explained with the help of schedule
and a curve.
Schedule:
($ in billions)
Disposable Consumption
Saving (S) APC (C/Y) MPC (ΔC/ΔY)
Income (Y) (C)
0 50 -50
In the schedule, it is shown that as the nation’s disposable income increases, the
aggregate consumption at various levels of income also increases but at a
decreasing rate.
Diagram/Graph:
Following are the observations about the functional relationship between the
national disposable income and the economy’s aggregate expenditure.
(i) At every point on the 450 line OY, a vertical line drawn to the income axis is at
the same distance from the origin as a horizontal line drawn to the consumption
axis. The 450 line thus is the line along which expenditure equals real income.
(iii) The consumption line (C) intercepts at Y axis showing negative saving of $50
billion during a short period.
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(iv) At point B the consumption line (C) intersects the 450 helping line (OY) saving.
At point B, consumption equals disposable income and there is zero saving. B is
called the break even point.
(v) Left to the point B, the consumption line C is above the income line Y. It
indicates negative saving.
(vi) Right to the point B, the consumption line C is below the income line Y. It
denotes positive savings.
If the wage rate arises, the consumption function shifts upward. If the rise in price
level is more in proportionate to the rise in wage, the real wage will fall and
consumption function will shift downward.
(4) Rate of interest:
A significant rise in interest rate will induce people to consume less and save
more in order to gain from the higher rate interest. On the contrary, an increase
in tin- interest rate may diminish investment and reduce income. Will the fall in
income saving falls even at a higher rate of interest.
(5) Holding of liquid assets:
The consumption function also influenced by the holding of liquid assets, (Govt,
bond, cash) When people have more liquid assets, they will spend more out of
their current income and that their propensity to consume will increase. An
increase in the real value of their assets will raise consumption expenditure.
(6) Changes in expectation:
Changes in future expectation also affect the consumption function. Expectation
of emergency and fear of shortage of essential goods will induce people to
purchase the goods much in excess of their current needs. This will shift the
consumption upward.
(7) Wind fall gains and losses:
Windfall gains tend to arise the propensity to consume while widespread losses
will shift the consumption function downward.
(i) People save to face the unforeseen contingencies such as Illness, unemployed,
accidents etc.
(ii) People are induced to save because they want to provide for the future needs,
i.e. education of the children, marriages of the children etc.
(iii) To possess power or to get higher social or political status.
(iv) People are motivated to save so that they can accumulate large wealth which
will increase their social states.
(v) To enjoy an enlarged future income by investing funds of current income.
iii) Why the values of MPC and MPS is less than one?
Because both are less than income earned. There's only two options
when you earn a dollar. You can save it or you can spend it. The
marginal propensity to consume (MPC) shows us the change in
consumption when income either decreases or increases.
The MPS is everything else that we do not consume. MPS is the slope of
the saving schedule. It increases at a slower rate than consumption and
income.
MPS + MPC must always equal to 1. For economic purposes, if you are
not spending the money you earned. You are considered to be saving
that money. This means that if MPC is .85 then MPS is .15. This means
that for every dollar you earn, you spend 85 cents and save 15 cents.
Deflationary gap is also called re-cessionary gap. When there is an insufficient demand for
goods and services in the economy, the equilibrium will occur at the lower level of full
employment income and to the left of full employment line. In other words, re-cessionary gap
occurs when the aggregate demand is not sufficient to create conditions of full employment.
The deflationary gap thus is the difference of amount by which aggregate expenditure falls
short of the level needed to generate equilibrium national income at full employment without
inflation.
In this diagram 31.4, the national income is measured on OX axis and aggregate
expenditure on OY axis. Let us assume initially that the aggregate expenditure
curves AE° interests the 45 degree line at point E/ to the left of full employment
line or potential income.
the potential income or the full employment level of national income is called Re-
cessionary Gap.
Fighting Recession:
When the economy is operating below its potential income, the government
recognizes the re-cessionary gap in aggregate income. It increases its
expenditures to stimulate the economy. The multiplier process takes over. The
increase in government expenditure shifts the AE/ curve from AE° to
AE1 increasing aggregate income to the full employment income level. Such
government action is expansionary fiscal policy.
Deflationary gap thus represents the difference between the actual aggregate
demand and the aggregate demand which is required to establish the equilibrium
at full employment level of Income.
Inflationary Gap:
An inflationary gap is just the opposite of deflationary gap. It is said to exist when
equilibrium income exceeds full employment income. It is created due to the
effective demand being in excess of the full employment level. It is the difference
between equilibrium income and full employment income (potential income)
when equilibrium income exceeds the full employment income. Here people are
trying to buy more goods and services than can be produced when all resources
are fully employed. There is too much money chasing too few goods. The result is
that the excess demand pulls up prices and there is inflation. The excess demand
for goods and services is being met in money terms but not real, terms.
In this figure 31.5 aggregate expenditure curve AE° intersects the aggregate
production curve (45 degree helping line) at point E/ to the right of potential line
or full employment line (FE).
The equilibrium level of income is $200 billion whereas the potential income is
$100 billion. When the equilibrium income exceeds potential income, there is said
to be inflationary gap which in the diagram is $100 billion. The excess expenditure
of $100 billion causes upward pressure on prices when there is no additional
output produced.
Fighting Inflation:
also adopts deflationary monetary policy for reducing the amount of money in
the economy.
Summing Up:
(i) When equilibrium income is below its potential income level, the difference is
called deflationary gap. The government can increase its expenditure to
stimulate the economy.
(ii) When equilibrium income exceeds the potential income, the difference is
called an inflationary gap. To prevent inflation. Keynes believes that the
government should exercise contractionary fiscal policy, cutting government
expenditure, raising taxes etc.
ECONOMIC SYSTEM
Q9) Highlight the features of Islamic Economic
System and why it is better than the other Economic
Systems?
Ans:
1. Allah is the Sustainer
2. God is Real Owner of Everything and Man is Merely a Trustee
3. Everything Created for Service and Use of Man
4. Concept of Halal and Haram
5. System of Sadaqat and Zakat
6. Prohibition of Interest
7. Ban on Hoarding of Wealth
8. Policy of Moderation
9. Condemnation of Monasticism and Materialism
10.Equity and not Equality
Every economic system has its own peculiar features, which form its
foundation and from which it can be distinguished and recognized. Modern
capitalism, which has emerged due to rapid industrialization facilitated by
unprecedented human advancement in science and technology, is based on
free market economy, non-intervention or very limited intervention of state in
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3. And how many an animal there is that beareth not its own provision!
Allah provideth for it and for you. He is the Hearer, the Knower.
-(29 : 60)
4. Allah maketh the provision wide for whom He will of His bondmen, and
straiteneth it for whom (He will) Lo! Allah is Aware of all things.
-(29 : 62)
5. O’ mankind! Remember Allah’s grace towards you! Is there any
creator other than Allah Who provideth for you from the sky and the
earth?……..
-(35 : 3)
6. Have yet seen that which ye cultivate? Is it ye who foster it, or are We
the fosterer?
-(56 : 63-64)
7. Or who is he that will provide for you if He should withhold His
providence?……..
-(67 : 21)
Ahadith of Muhammad (PBUH) :
1- Omar-b-al-Khattab reported : I heard the Messenger of Allah say : If
you all had relied on Allah with due reliance, He would have certainly
given you provision as He supplies provisions to birds who get up
hungry in the morning and return with full belly at dusk.
-----(Tirmizi, Ibn Majah)
2. Abu Darda’a reported that the Messenger of Allah said: Certainly
provision seeks a servant just as his death seeks him.
-----(Abu Nayeem)
3. Jabir b. Abdullah reported : The Messenger of Allah (may peace be
upon him) said: “O people, Fear God and cut your ambitions of
livelihood, for a man will not court death unless he is provided full
sustenance (decreed) for him even if he restrains himself from it. So,
fear Allah and cut your ambitions in search of livelihood. Take
whatever is lawful and leave whatever is unlawful.”
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-----(Ibn Majah)
4. ‘Ali (Allah be pleased with him) said: “I heard the Messenger of Allah
(may peace be upon him) saying: ‘(on the Day of Resurrection) when
there will be no shade except that of the Throne of Allah, the person
who undertakes a journey to earn his livelihood and then returns with
it towards his dependents, will be under the shade of Allah’s Throne’.”
-----(Masnud Zaid bin Ali)
5. ‘Ali (Allah be pleased with him) said: “A person came to the Prophet of
Allah (May peace be upon him) and asked: ‘O Messenger of Allah:
What type of earning is best?’ The Prophet (may peace be upon him)
said: ‘A man’s work with his hand and every business transaction which
is approved, for Allah loves a believer who is a craftsman. A person
who suffers pain to feed his dependents is like a person who fights in
the cause of Allah, the Mighty and Glorious.’”
-----(Masnud Zaid bin Ali)
The conception of God’s Dispensation does not, however, suggest that one
should sit idle and wait for sustenance which would automatically come to
him. Instead of giving up struggle, Islam rather inspires a person to do his best
in order to earn his livelihood by using all lawful (Halal) and fair means. The
Qur’an encourages struggle when it says: “And that man hath only that for
which he maketh effort, and that his effort will be seen”—(53 : 39-40). The
revealed book of Islam encourages its followers even on Friday to disperse in
the land after finishing their prayer and seek of the bounty of God (62:10).
Ahadith of Prophet Muhammad (PBUH) also emphasis the importance of
struggle and hard work put in for earning livelihood for oneself and one’s
family.
This concept only emphasizes some basic truths, namely: God provides
sustenance to all His creatures by placing sufficient and infinite resources in
the earth, everything has been created by God for service of man, and man
should exploit these resources and things in lawful manner to earn his
subsistence without violating the rights of others.
2- God is Real Owner of Everything and Man is merely a Trustee
The heavens and the earth and everything in the universe belongs to Allah.
God is the real owner of everything, al-though He has given some rights to
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man for use of things required by the latter for his existence on the earth.
However, the rights given to man are very limited, the real position of man
being that of a trustee and a beneficiary. Some of the relevant verses of the
Qur’an which highlight this concept are given as under:
1. Unto Allah belonged whatsoever is in the heavens and whatsoever is in
the earth; and unto Allah all things are returned.
-(3 : 109)
2. Unto Allah belonged whatsoever is in the heavens and whatsoever is in
the earth. Allah ever surrounded all things.
-(4 : 126)
3. He it is Who hath placed you as viceroys of the earth and hath exalted
some of you in rank above others, that He may try you by (the test of)
that which He hath given you. Lo! Thy Lord is swift in prosecution, and
lo! He is Forgiving, Merciful.
-(6 : 165)
4. Believe in Allah and His messenger, and spend of that whereof He hath
made you trustees; and such of you as believe and spend (aright),
theirs will be a great reward.
-(57 : 7)
This limited ownership or trusteeship bestowed on man by Allah in respect of
the wealth which is given to him is not without significance. The divine
wisdom underlying this principle of trusteeship is that man should not hoard
his wealth treating it as his absolute ownership and deprive others from its
use. Rather the surplus wealth of man must go to his fellow beings that are in
want. This principle has been made clearer when the Qur’an says : “……. and
bestow upon them of the wealth of Allah which He has bestowed upon
you……” (24 : 33). Thus the whole scheme of circulation of wealth through
charity and Zakat and distribution of wealth through other equitable means
envisaged by Islam is based on man’s limited rights as a trustee of wealth
which has been bestowed on him by His Lord.
3- Everything Created for Service and Use of Man
It is God who has created everything in this universe. Many of the things
created by God in the earth are of benefit to man directly or indirectly.
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Animals, plants, minerals, metals, water, air, fire, land, river, mountains, sea,
and even sun, moon, stars, day and night, etc. are all for service to man. Many
economic benefits have been placed by God in these things for man. The
Qur’an brings this fact to light in its following verses:
1. He it is Who created for you all that is in the earth. Then turned Him to
the heaven, and fashioned it as seven heavens. And He is Knower of all
things.
-----2:Al-Baqarah:29
2. And He it is Who hath set for you the stars that ye may guide your
course by them amid the darkness of the land and the sea. We have
detailed our revelations for a people Who have Knowledge.
-----6:Al-An’am:97
3. He it is Who sendeth down water from the sky, whence ye have drink,
and whence are trees on which ye send your beasts to pasture.
Therewith He caused crops to grow for you, and the olive and the date-
palm and grapes and all kinds of fruit. Lo! herein is indeed a portent
for people who reflect. And He hath constrained the night and the day
and the sun and the moon to be of service unto you, and the stars are
made subservient by His command. Lo! herein indeed are portents for
people who have sense. And whatsoever He hath created for you in the
earth of diverse hues, lo! therein is indeed a portent for people who
take heed. And He it is Who hath constrained the sea to be of service
that ye eat fresh meat from thence, and thou sees the ships ploughing
it that ye (mankind) may seek of His bounty, and that haply ye may give
thanks. And He hath cast into the earth firm hills that it quake not with
you, and streams and roads that ye may find a way. And landmarks
(too), and by the star they find a way.
-----16:An-Nahl:10-16
4. And Allah hath given you in your houses an abode, and hath given you
(also), of the hides of cattle, tent-houses which ye find light (to carry)
on the day of migration and on the day of pitching camp; and of their
wool and their fur and their hair, caparison and comfort for a while.
And Allah hath given you, of that which He hath created, shelter from
the sun; and hath given you places of refuge in the mountains, and
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have given you coats to ward off the heat from you, and coats (of
armour) to save you from your own foolhardiness. Thus doth He
perfect His favours unto you, in order that ye may surrender (unto
Him).
-----16:An-Nahl:80-81
5. See you not how Allah hath made serviceable unto you whatsoever is
in heavens and whatsoever is in the earth and hath loaded you with His
favours both without and within? Yet of mankind is he who disputeth
concerning Allah without knowledge or guidance or a Scripture giving
light.
-----31:Luqman:20
4- Concept of Halal and Haram
Islam has introduced concept of Halal (lawful) and Haram (unlawful) in its
economic system. In fact the foundations of the Islamic economy have been
laid on this concept. This concept reigns supreme in the realm of production
as well as consumption. Certain means of earning livelihood and wealth have
been declared unlawful such as interest, bribery, gambling and games of
chance, speculation, short weighing and short measuring, business
malpractices, etc. Unlawful means of earning are strictly forbidden and a
follower of Islam is permitted to earn through lawful and fair means. Similarly
in the field of consumption certain items of food are unlawful such as dead
animals, blood, swine flesh and animals slaughtered in the name other than
that of Allah. Even expenses on certain items such as drinks, narcotics,
debauchery, prostitution, pornography, things that promote obscenity and
vulgarity, lotteries and gambling are strictly inadmissible.
Now let us glance through relevant verses of the Quran and Ahadith of
Muhammad (PBUH), the Prophet of Islam, to highlight in brief the concept of
halal and haram.
Verses of the Quran:
1- O mankind! Eat of that which is lawful and wholesome in the earth,
and follow not the footsteps of the devil. Lo! he is an open enemy for
you.
(2:168)
(Bukhari,Muslim)
6. Abdullah-bin-Amr reported that the messenger of Allah prohibited
intoxicants, games of chance, card-playing and Gobairah and he said:
Every intoxicant is unlawful.
(Abu Daud)
5- System of Sadaqat and Zakat
Islamic economic order has introduced a comprehensive system of sadaqat
which comprises: compulsory contributions like Zakah, sadaqatul Fitr,
monetary atonements; and voluntary contributions such as alms-giving,
spending in the way of Allah on the poor, donations to charitable cause, waqf,
etc. Charity and alms giving is sometimes called by the Qur’an a goodly loan to
God Who Himself would compensate the giver manifold and also reward him
in the Hereafter. Islam has declared that the poor and destitute have due
share in the wealth of the rich and the rich are bound to return the share of
the poor without stint.
The system of sadaqat ensures equitable distribution of wealth in the Muslim
community and makes it certain that the wealth does not remain hoarded in
idle channels. Circulation of wealth in productive channels is ensured by
enhancing the purchasing power of the poor. Concentration of wealth in few
hands is discouraged and the gap between the rich and the poor is bridged.
Some of the verses of the Qur’an and Ahadith regarding system of sadaqat are
reproduced as follows:
Verses of the Qur’an:
1- Establish worship, pay the poor-due, and bow your heads with those
who bow (in worship).
(2:43)
2. Spend your wealth for the cause of Allah, and be not cast by your own
hands to ruin; and do well. Lo! Allah loved the beneficent.
(2:195)
3. They ask thee what they shall spend. Say : That which ye spend for
good (must go) to parents and near kindred and orphans and the
needy and the wayfarers. And what so ever good ye do, lo! Allah is
Aware of it.
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(2:215)
4. Who is it that will lend unto Allah a goodly loan, so that He may cause it
increase manifold? Allah straiteneth and enlargeth. Unto Him ye will
return.
(2:245)
5. O ye who believe! Spend of that wherewith We have provided you
were a day come when there will be no trafficking, nor friendship, nor
intercession. The disbelievers, they are the wrong-doers.
(2:254)
6. Ye will not attain unto piety until ye spend of that which ye love. And
whatsoever ye spend, Allah is aware thereof.
(3:92)
7. And in their wealth the beggar and the outcast had due share.
51:19
8. Lo ! those who give alms, both men and women, and lend unto Allah a
goodly loan, it will be doubled for them, and theirs' will be a rich
reward.
57:18
Ahadith of the Prophet:
1. Anas reported that messenger of Allah said: verily charity appeases
wrath of the Lord and removes pangs of death.
(Tirmizi)
2. Abdullah bin Masud raising the tradition reported. There are three
whom Allah loves. A man who gets up at night to read the Book of
Allah, and a man giving alms with his right hand which he conceals (I
consider that he said) from his left hand, and a man, being in a
battalion, encounters the enemies, although his companions are
routed.
(Tirmizi)
refraineth (in obedience there to), he shall keep (the profits of) that
which is past, and his affair (henceforth) is with Allah. As for him who
returneth (to usury). Such are rightful owners of the Fire. They will
abide therein. Allah hath blighted usury and made almsgiving fruitful.
Allah loveth not the impious and guilty.
(2:275-276)
2- O ye who believe ! Observe your duty to Allah, and give up what
remaineth (due to you) from usury, if ye are (in truth) believers. And if
ye do not, then be warned of war (against you) from Allah and His
messenger. And if ye repent, then ye have your principal (without
interest). Wrong not and ye shall not be wronged.
(2:278-279)
3- O, ye who believe ! Devour not usury, doubling and quadrupling (the
sum lent). Observer your duty to Allah, that ye may be successful.
(3:130)
Ahadith of Muhammad (PBUH):
1- Jaber reported that the Messenger of Allah cursed the devourer of
usury, its payer, its scribe, and its two witnesses. And he said that they
are equal (in sin).
-(Muslim)
2- Abdullah-bin-Hanjalah reported that the Messenger of Allah said: A
Dirham of usury a man devours with knowledge is greater than thirty-
six fornications.
(Ahmad, Darqutni)
We would, insha Allah, focus on the subject of interest and elaborately discuss
it in an independent chapter in this book.
7- Ban on Hoarding of Wealth
Hoarding of wealth has been condemned by Islam in very clear terms, and
those who hoard wealth and do not spend it for good cause have been
threatened with painful doom. Hoarding of wealth is a great evil as it
tantamounts to obstruction of flow of God-given wealth from the rich to the
poor who are in genuine need of it. Therefore, Islam discourages hoarding of
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wealth and instead encourages circulation of wealth among all the sections of
society. Following verses of the Qur’an and Ahadith of the Prophet of Islam
throw light on this subject.
Verses of the Qur’an :
1- And let not those who hoard up that which Allah hath bestowed upon
them of His bounty think that it is better for them. Nay, it is worse for
them. That which they hoard will be their collar on the Day of
Resurrection…………
-(Al-Imran 3:180)
2- ...... They who hoard up gold and silver and spend in not in the way of
Allah, unto them give tidings (O Muhammad) of a painful doom. On the
Day when it will (all) be heated in the fire of hell and their foreheads
and their flanks and their backs will be branded therewith (and it will
be said unto them): Here is that which ye hoarded for yourselves. Now
taste of what ye used to hoard!
-----(9:At-Taubah:34-35)
3- That which Allah giveth as spoil unto His messenger from the people of
the townships, it is for Allah and His messenger and for the near of kin
and the orphans and the needy and the wayfarer, that it become not a
commodity between the rich among you. And whatsoever the
messenger giveth you, take it. And whatsoever he forbiddeth, abstain
(from it). And keep your duty to Allah. Lo! Allah is stern in reprisal.
-----(Al Hashr 59:7)
Ahadith of Prophet Muhammad (PBUH):
1- Abu Hurairah reported that the Messenger of Allah used to store up
nothing for the morrow.
-(Tirmizi)
2- Ayesha reported that the Messenger of Allah said: This world is an
abode for one who has got no abode, and a property for one who has
got no property, and one who has got no wisdom hoards for it.
(Ahmad, Baihaqi)
8- Policy of Moderation
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Islam follows policy of middle way or moderation and avoids extremes. The
two extremes of every action are bad and moderation between them is the
best policy according to Islam. Following verses of the Qur’an and Ahadith of
Muhammad exhort the Muslims to follow the way of moderation.
The verses of the Qur’an :
1- O ye, who believe ! Forbid not the good things, which Allah hath made
lawful for you, and transgress not. Lo, Allah loveth not transgressors.
-(5 : 87)
2- And let not thy hand be chained to thy neck nor open it with a
complete opening, lest thou sit down rebuked, denuded.
-(17 : 29)
3- ………… And thou (Muhammad) be not loud voiced in thy worship nor
yet silent therein, but follow a way between.
-(17 : 110)
4- Be modest in thy bearing and subdue thy voice. Lo! the harshest of all
voices is the voice of the ass.
(31 : 19)
Ahadith of the Prophet :
1- Good manners, delay and moderation form a part out of twenty-four
parts of Prophet hood.
-(Mishkat-ul-Masabih)
2- Abu Hurairah reported that the Messenger of Allah said: Moderation in
expenditure is half of livelihood, and love for people is half of wisdom,
and good questioning is half of learning.
-(Bukhari)
3- Matref-b-Abdullah reported that the messenger of Allah said: The best
of affairs is their mean.
The principle of moderation propounded by the above mentioned texts
equally applies in economic field specially in the field of acquisition of wealth
and consumption.
they were hard on themselves and Allah was hard on them too. It is the
remnants of these people that you see in monasteries and convents.2
Some other traditions on the same subject relate that the Holy Prophet (peace
be on him) once learned regarding a companion that it was long since he had
gone in to his wife and was engaged in prayer day and night. The Holy Prophet
(peace be on him) summoned him and ordered that he should go in to his wife
at once. ‘I am fasting’, submitted the companion. “Break your fast and
proceed,” the Holy Prophet (peace be on him) told him.3
Thus Islam does not subscribe to the view of monks and ascetics that
satisfaction of physical urges is an impediment in spiritual development.
Rather Islam enjoins upon its followers that the things, which Allah has made
lawful for them, should be enjoyed as enjoyment of them is piety and
renunciation of them is transgression.
On the other hand Islam has expressed in unequivocal and unambiguous
terms its condemnation of Materialism as well. Materialists are those who lay
the entire stress on the material aspect of life. They ignore moral aspect of life
and devote their entire time and energy to the attainment of material ends.
They justify every means, right or wrong, to acquire wealth and comforts of
this life and utterly disregard moral values, noble causes and human virtues.
Following verses of the Qur’an reject materialism which, in fact, is passion for
wealth and worldly pleasures:
1- …….But of mankind is he who saith: “Our Lord ! Give unto us in this
world” and he hath no portion in the Hereafter.
-(2 : 200)
2- Lo ! Those who expect not the meeting with Us but desire the life of
the world and feel secure therein, and those who are neglectful of Our
revelations; Their home will be the Fire because of what they used to
earn.
(10 : 7-8)
3- Whoso desireth the life of the world and its pomp, We shall repay
them their deeds herein, and therein they will not be wronged. These
are they for whom is naught in the Hereafter save the Fire. (All) that
they contrive here is vain and (all) that they are wont to do is fruitless.
-----(11 : 15-16)
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4- Whoso desireth that (life) which hasteneth away, We hasten for him
therein that We will for whom We please. And afterward We have
appointed for him hell; he will endure the heat thereof, condemned,
rejected.
-----(17 : 18)
5- Rivalry in worldly increase distracteth you. Until ye come to the graves.
-(102 : 1-2)
6- Woe unto every slandering traducer, who hath gathered wealth (of this
world), and arranged it. He thinketh that his wealth will render him
immortal. Nay, but verily he will be flung to the Consuming One. Ah,
what will convey unto thee what the Consuming One is! (It is) the fire
of Allah, kindled.
-(104 : 1-6)
Islam adopts middle way between these two extremist views of life. It advises
its followers that their success lies neither in monasticism nor in pure
materialism. Therefore, they should neither give themselves up entirely to
monasticism or spiritualism disregarding the importance of material means of
life; nor they should go to the other extreme and judge everything by the
materialistic point of view. They should strike balance between these
extremes and follow middle path. The Muslims have been called by the
Qur’an the people of the middle way and, therefore, they should not be
extremists.
10- Equity and not Equality
Islam establishes equity, fairness and justice in the production and distribution
of wealth, and in ownership of means of livelihood. However it recognises that
like other natural things there is no equality among human beings as regards
the economic means and possession of worldly wealth. This inequality has
been presented by the Qur’an as a part of Divine Economic order. The Qur’an
does not consider these inequalities in the distribution of Divine sustenance as
punishment or reward and does not try to eliminate them, because no two
individuals have been blessed with hundred percent equal mental and
physical abilities.
be kind and benevolent to the poor and to sacrifice their possessions for the
cause of God.
Islam, in fact, teaches the people to regard the existence of differences in
wealth as a test by which God tries them in this world. By granting abundance
of wealth to some, God observes how they spend it; whether they consider it
as their personal property denying the poor any share in that or they consider
themselves as trustees in respect of the wealth bestowed by God and spend it
in the way of God for the welfare of their poor brothers. And God tries the
poor by straitening their sustenance whether they lose their trust in God and
become jealous of the rich or whether they keep their faith in God and remain
patient in the adverse circumstances.
However, Islam does not permit the difference in possession of wealth to
assume such proportions that few lucky persons live in ease and luxury
controlling major portion of community’s wealth while the vast majority of
people possessing negligible share in community’s wealth lives a life of abject
poverty, misery and hunger. According to Islam, difference in wealth must not
exceed natural and reasonable limits, because if it happens the community
invites wrath of God and meets its natural end of self-destruction. The
Prophet of Islam has said : If anyone spent a night in a town and he remained
hungry till morning, the promise of God’s protection for that town comes to
an end. Islam, therefore, does not allow the difference between the rich and
poor reach an uncontrollable limits so as to disturb the peace of society.
Although it does not believe in complete equality in possession of economic
means, yet it perfectly stands for socio-economic justice. It believes in fair and
equitable distribution of incomes and wealth and ensures that the Islamic
state should provide for basic human needs to all of its citizens. Many legal
and economic measures have been provided to bridge the gulf between the
rich and the poor and to establish Islamic welfare state which guarantees
provision of social security and secures basic needs to its less fortunate
citizens. These aspects of Islamic economy we shall study in subsequent
chapters of this book. Here we can safely conclude that Islam believes not in
equal distribution but in equitable and just distribution of resources and
wealth.
• Exploitation of Labour: Stringent labour laws are enacted for the exclusive
profit-motive of capitalists. Fire and hire policy will become the order of the
day. Such laws also help to exploit the labour by keeping their wage rate at its
lowest minimum.
• Basic social needs are ignored:-There are many basic social sectors like
literacy, public health, poverty, drinking water, social welfare, and social
security. As the profit margin in these sectors is low, capitalists will not invest.
Hence most of these vital human issues will be ignored in a capitalist system.