U n i t

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Introduction

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Syllabus

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Meaning of Microeconomics and Macroeconomics. What is an economy? Central
problems of an economy : what, how and for whom to produce; concepts of
production possibility frontier/curve and opportunity cost.

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PA
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In This Unit
Chapter 1 Introduction
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D
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 v Evolution of economics
v Meaning of an economy
v Meaning and definition of economics

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v Meaning of scarcity

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v Economic problem
v Central problems of an economy

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v Other problems :
Fuller utilisation and growth of resources
v Opportunity cost and Marginal opportunity cost

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v Production possibility curve
v Solution of central problems with the help of PPC
v Solution of other problems :

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Fuller utilisation and growth of resources
v Attainable and unattainable combinations on PPC
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v Branches of economics
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Chapter 1 : INTRODUCTION
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Introduction
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EVOLUTION OF ECONOMICS

T he term Economics is derived from two Greek words namely, “Oikos” which means
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household and “Nemein” which means management. Thus Economics means Household
Management. The term Economics was first used (as related to economic activities) by Dr.
Marshall in 1890 in his famous book, “Principles of Economics”. Adam smith is known as the
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father of modern economics. Let us know more about the terms ; Economy, Economics and
Scarcity.

3
4 UNIT I : INTRODUCTION

1.1 MEANING OF AN ECONOMY

A system which provides people, the means to work and earn a living. All organisations like
factories, shops, offices, business enterprises, transporters etc., who are involved in under-
taking three economic activities, production, consumption and capital formation (investment) are
collectively called an economy or it is a framework within which economic activities of production,
consumption and capital formation are undertaken.
Economy includes all the production units in a defined area which provide people with the

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means to work and earn an income. Existence of an economy depends on two facts. First,

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human wants for goods and services are unlimited, and secondly availability of productive
resources to produce these goods and services is limited.

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1.2 MEANING AND DEFINITION OF ECONOMICS
It is a social science of human behaviour which aims at allocation of scarce resources in such a

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way that consumers can maximise their satisfaction, producers can maximise their profits and
society can maximise social welfare. In simple words, Economics is about making choice in the presence
of scarcity.
According to Robbins,
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“Economics is the science which studies human behaviour as a relationship between ends
and scarce means which have alternative uses.”
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Economics is an analysis which studies behaviour of an individual (Microeconomics) and of
the society as a whole (Macroeconomics).
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1.3 MEANING OF SCARCITY (SCARCITY OF RESOURCES)

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In daily life, scarcity means acute shortage of a certain commodity but in economics, it means
limitation of supply of a commodity in relation to its demand. It is excess of demand over
available supply, i.e., demand of resources > supply of resources. The goods and services
which are used to carry out production are called resources. Resources can be natural
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(sunlight, water), human resources (physical and mental efforts of labour) and man made
resources (raw material, fixed asset). Resources are also referred to as factor inputs and non
factor inputs. So long as human wants for goods and services remain ahead of the resources
(both acquired and natural) the problem of scarcity would exist. Scarcity of resources is a
fundamental economic problem which is faced by developing and developed economies
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alike. The affluent economies like U.S.A. and Western Europe face the problem of scarcity as
their present wants are more than their increased resources and capability to produce.
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1.4 ECONOMIC PROBLEM

1.4.1 The Meaning of Economic Problem

The scarcity of resources relative to human wants gives rise to struggle of human beings for
sustenance. Economic problem basically is a problem of making choice.
For example,
1. You have a ten rupee note (means/resources).
2. You want to buy a copy, a pen, a chocolate and a pencil (wants).

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 5

3. Your wants are unlimited in comparison to your means or your means are limited in
relation to demand for them.
4. As your wants differ in urgency, also your ten rupee note can buy anything you want
to, you face a problem, “a problem of making a choice” as to how should you spend 10
rupee note in such a way that you can buy maximum.

“The problem of making a choice is called economic problem.”

Let us understand economic problem with the help of this chart comparing human wants with

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resources.

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Human wants Resources/Means

Unlimited Limited

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Differ in intensity/urgency Can be put to alternative uses

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Problem of
making a choice
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Economic Problem
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According to Prof. Erich Roll,

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“Economic problem is essentially a problem arising from the necessity of choice ; choice of
the manner in which limited resources with alternative uses are disposed off. It is a problem
of husbandry of resources.”
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Thus it is basically a problem of scarcity of resources on one hand and also that resources can
be put to alternative uses on the other hand. Therefore an individual has to make a choice as to
which wants (according to priority/intensity) should be satisfied with limited resources in
order to get maximum satisfaction.
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1.4.2 Causes of Economic Problem or Why does Economic Problem Arise ?

Economic problem is a problem of choice. It arises due to scarcity of resources which can be
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put to alternative uses.

Thus the causes/reasons are :
1. Scarcity of resources. Availability of resources is limited in relation to need for them
(their demand). Economic problem will not arise if the means to satisfy wants are also
unlimited. The scarcity of resources is in relation to the quantum of human wants. A human
being faces the economic problem when supply of resources is short as compared to their
demand. The root cause of economic problem is scarcity of resources.
(However, a commodity in short supply cannot be called scarce if it has no demand e.g., Rotten apples,
stale vegetables, old model of cars etc.)

Introductory MICROECONOMICS–XI
6 UNIT I : INTRODUCTION

2. Unlimited human wants. Human wants are recurring in nature. This is based on human
psychological behaviour that as soon as one want is satisfied, another new want would take
place. It implies everlasting existing demands and evergrowing new demands.
Some of our wants are basic like the wants for food, clothing, shelter etc., while some of our
wants grow with our income like wants for comforts and luxuries.
3. Resources can be put to alternative uses. Means have alternative uses. Choice is to be
made between different uses. Alternative use of resources refers to the number of uses to
which a resource can be put and implies that the available resource can be used only for

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one purpose at a time. When we opt for one want, we have to forgo the other (referring to

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the above example, your ten rupee note does not force you to buy only pen or only
chocolate rather, it can be used in various ways in any denomination). Therefore a choice has

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to be made as to how should limited resources be spent in order to attain maximum
satisfaction.
4. Wants differ in intensity. Human wants also differ in intensity (urgency). All wants

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are not of equal intensity. Some of our wants need immediate satisfaction while others can
be postponed. That is why, resources can be allocated according to the priority of wants.

1.4.2.1 Features of Human Wants

Ø They are unlimited
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Ø They differ in intensity/urgency/priority (Details as given in 1.4.2)

1.4.2.2 Features of Resources/Means

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Ø They are limited

Ø They can be put to alternative uses. (Details as given in 1.4.2)
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1.4.2.3 Scarcity and Choice go Together

Scarcity and choice are inseparable. This is because, the problem of choice arises due to
scarcity of resources. The human wants are unlimited and differ in intensity but resources to
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satisfy these wants are not only scarce but also have alternative uses, causing emergence of
problem of choice. Had the resources been unlimited, there would have been no economic
problem. Since all wants cannot be satisfied due to limited resources, we face the problem of
choice i.e., choice among multiple wants which are to be satisfied.
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For example, a plot of land cannot be used for farming, as a playground, for constructing a
house, as a factory, as a shopping mall etc at the same time. This plot of land has many uses,
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but a choice has to be made between all the uses as it can be used at a time for only one
purpose.

1.4.3 Economising Resources

It means making optimum utilisation of scarce resources in order to satisfy maximum of
unlimited human wants. Economising resources is the essence of economic problem. Scarcity of
resources in relation to demand for them causes economic problem. It creates the need for
economising resources i.e., the efficient utilisation of what is available. For economising resources,
a society must make choices, choice of the manner in which limited resources with alternative
uses are disposed off to satisfy unlimited wants which differ in intensity.
Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 7

1.5 CENTRAL PROBLEMS OF AN ECONOMY

Production, exchange and consumption of goods and services are the basic economic
activities of life. In the course of these activities, every society has to face scarcity of resources
which gives rise to the problem of choice. In other words, every society has to decide on how to
use its scarce resources. Thus broadly the central problem of an economy is Allocation of
Resources.
Following are the three central problems relating to allocation of resources.

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Central Problems of an Economy

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Allocation of Resources

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What to produce and How to For whom
in what quantity produce to produce

1.5.1 What to Produce and in What Quantity ?

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This is the first basic problem of allocating resources among different alternative uses. This is
also called problem of resource allocation. It is related to the selection of goods, as all goods
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cannot be produced because of limited resources. Whether to produce more of food, clothing,
housing or luxury goods. Whether to have more of consumer goods or to have capital goods.
For example, while determining budgetary policy, the problem before government is as to
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how many resources should be allocated to agriculture sector, to industrial sector etc. Problem
of choice requires the decision of what to produce and what not, which wants are urgent and
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which wants can wait has to be decided.

It is a two fold decision :
(i) Which goods and services are to be produced ; e.g., consumer goods or capital goods,
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war time goods or peace time goods etc.

(ii) Quantity of goods and services ; after a decision has been taken on types of goods,
quantities of these goods should also be decided.
[Factors guiding, What to produce are : available technology, cost, profit, demand, maximum utility etc.]
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1.5.2 How to Produce ?

This is also called the problem of choice of technique of production. There are two techniques :
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(i) Labour intensive technique. It uses more of labour and less of capital.
(ii) Capital intensive. It uses more of capital (machines) and less of labour.
Ø Choice of labour intensive would mean that the economy makes better use of its
available manpower (generation of employment).
Ø Choice of capital intensive would mean that the economy develops its
infrastructural base required for rapid economic growth.

However choice of technique depends on the objective of the producer. It may be labour-
intensive or capital-intensive. It can also be a combination of both. The efforts should be, to
use the efficient technique of production.
Introductory MICROECONOMICS–XI
8 UNIT I : INTRODUCTION

For example, India prefers labour intensive technique due to abundance of labour and
developed economies like that of European countries prefer capital intensive technique due to
abundance of capital. Efficient technique is the one which uses the least amount of scarce
resources to produce maximum. In other words, the production should be undertaken at
minimum costs.
[Factors guiding, How to produce are : Objective of the producer, availability of technique,
availability of resources etc.]

1.5.3 For Whom to Produce ?

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This is also called the problem of distribution of national income among the factors of
production. Goods and services are produced for the consumers and consumer’s capacity to

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purchase goods and services depends on his income. It is very important to ensure that a person
should get income equal to the contributions he makes to the national product. The problem
of ‘For whom to produce’ is the problem of determining wage rate for the use of labour, rent
for the use of land, interest rate for the use of capital and profits for the entrepreneur. More

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equitable is the distribution of income, more equitable will be the distribution of national
product.

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For example, If there is unequal distribution of income in a company, the employees of this
company will not be able to buy what has been produced in the economy as per demand
projected by the producers from these employees.
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There are two aspects of the problem of ‘For Whom to Produce’ :
(i) Personal distribution. This is concerned with distribution of production among
consumers in the society.
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(ii) Functional distribution. This is concerned with distribution of production (or income
generated through production) among factors of production, viz land, labour, capital
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and entrepreneur.
[Factors guiding, For whom to produce are : Distribution of income among income earners,
social justice or equity.]
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1.6 OTHER PROBLEMS : FULLER UTILISATION AND GROWTH OF RESOURCES

1.6.1 Fuller Utilisation of Resources

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Since resources are scarce, their underutilisation or unutilisation is a waste for the economy.
An economy should identify and take corrective measures for the factors which make fuller
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utilisation of resources impossible e.g., sometimes labour is unemployed, factories remain

idle, land, labour and capital are not fully employed etc. So every economy must ensure that
all available resources are utilised to the full.

1.6.2 Growth of Resources

Every economy has to explore its potential to develop itself in order to expand the size of
production and national income. Every economy should ensure increase in its production
capacity so that level of production is increased. An economy can achieve the objective of
growth of resources through technological advancement and increase in supply of
resources.

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 9

Let Us Recapitulate
Fill in the blanks
1. The main cause of economic problem is ______ .
2. Human wants are unlimited and differ in ______ .
3. The problem of allocation of resources among different goods and services is a problem of ______ .
4. Energy like electricity is scarce and can be used for various purposes like cooking, heating, lighting etc.
What would be the problem when chosen for one use ______ .

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Answers

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1. Scarcity of resources
2. Intensity/urgency

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3. What to produce
4. The problem is that when chosen for one use, the other uses of electricity will have to be either
rejected or postponed due to its scarcity.

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1.7 THE CONCEPT OF OPPORTUNITY COST
1.7.1 Meaning of Opportunity Cost AI
Opportunity cost is defined as the value of a factor in its next best alternative use or it is the
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cost of foregone (sacrificed) alternatives or it is the value (monetary) of the next best use to
which the resource could be put.
Or
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It is defined as the value of the benefit that is sacrificed by choosing an alternative. We can
also say that opportunity cost of any commodity is the amount of other goods which has been
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given up in order to produce that commodity. It is also known as opportunity lost or transfer
earning of a factor e.g., a person is working in college ‘A’ at the salary of `70,000/- per month, he
has two more options to work :
Ø To work in college “C” at `65,000/- per month.
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Ø To work in college “D" at `62,000/- per month.

In this case opportunity cost of working in college “A” is `65,000/- i.e., salary he would get
in college “C” (cost of foregone alternative) because it is the value of next best alternative
between college “C” and college “D”.
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Y
Another example : A plot of land can be used to 1000
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cultivate wheat and rice both. If the farmer uses this 900
plot of land to produce rice (which earns him `1000/-), 800

thus opportunity cost of rice would be the cost of wheat 700

i.e., `500/-, the value of foregone alternative (Fig. 1.1). 600

Rice (`) 500
400
Opportunity cost is very important basic concept in 300
Economics. It is because our resources are limited, 200
we are always making choices from the available 100
alternatives. Thus the opportunity cost of using a 0 100 200 300 400 500
X
resource is defined as the value of the next best use to Wheat (`)
which that resource could be put.
Figure 1.1
Introductory MICROECONOMICS–XI
10 UNIT I : INTRODUCTION

1.7.2 Marginal Opportunity Cost (MOC) or Marginal Rate of Transformation (MRT)

If the resources are transferred from one use to the other, it is obvious that there would be loss
in production of one good in order to increase output of the other. This loss is marginal
opportunity cost which is technically termed as marginal rate of transformation.

Meaning MOC is the loss of output of one commodity (say Y) when a unit more of other
commodity (X) is produced by shifting resources from one good to the other
(from Y to X). It is also called rate of sacrifice.

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MRT is defined as the ratio of number of units of one good sacrificed to produce one more unit

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of the other good, in a two-goods economy.

i.e., DY
Units of one good sacrificed

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It is calculated as
Units of other good gained / produced DX

(if resources are shifted from Y to X) as shown in Table 1.1.

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Table 1.1
MOC/MRT (Rate of
Combinations Production of Production of
or Possibilities

A
Good X (Wheat)

0
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Good Y (Cloth)

100
sacrifice) é
Loss ù
êëGain úû

–
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B 1 90 10 / 1 = 10
C 2 70 20 / 1 = 20
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D 3 40 30 / 1 = 30
E 4 0 40 / 1 = 40
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The Table 1.1 shows MOC of X. In order to produce an additional unit of X, the producer has
to sacrifice some units of Y. For example, if he wants to produce 3 units of wheat, he will have
to sacrifice 30 units of cloth, or MOC is 30 units.
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Y
Diagrammatic Presentation (of MOC)
A
100
DY = Loss in production of cloth
Cloth (units)

30 = 30
MOC = = 80
DX Gain in production of wheat 1 70
60 DY
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Loss : 70 - 40 = 30 units 40
20 DX
Gain : 2 to 3 units = 1 unit
D

B
0 X
1 2 3 4 5
MOC is the slope of PPC (Production Possibility Wheat (units)
Curve). In other words, shape of PPC depends on
MOC. Let us understand what PPC is. Figure 1.2

1.8 PRODUCTION POSSIBILITY CURVE/FRONTIER/BOUNDARY OR

TRANSFORMATION CURVE/FRONTIER/BOUNDARY
The resources of an economy as a whole are limited in comparison to demand for them.
Therefore every society has to determine how to allocate its scarce resources to different goods
and services. Given the total amount of resources, it is possible to allocate the resources in

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 11

many different ways and thereby achieving different combinations of all goods and services.
The collection of all such combinations of goods and services is called the production possibility
set of an economy.

1.8.1 Meaning of Production Possibility Curve (PPC)

Production Possibility Curve shows graphical presentation (or is the locus) of various
combinations of two goods that can be produced with available technologies and given
resources assuming that the resources are fully and efficiently employed (utilised).

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1.8.2 Assumptions to Draw Production Possibility Curve (PPC)

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1. The resources available are fixed.
2. The technology remains unchanged.

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3. The resources are fully employed.
4. The resources are efficiently employed.

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5. The resources are not equally efficient in production of all products. Thus if resources
are transferred from production of one good to another, the cost increases. In other
words, marginal opportunity cost increases.

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The last assumption needs explanation because it determines the shape of the PPC. If this
assumption changes, the shape changes.
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Efficiency in production means productivity i.e., output per unit of an input. Let the input be
worker. Suppose an economy produces only two goods X and Y. Suppose a worker is
employed in production of X because he is best suited for it. The economy decides to reduce
production of X and increase that of Y. The worker is transferred to Y. He is not that efficient in
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production of Y as he was in X. His productivity in Y will be low, and so cost of production

high.
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The implication is clear. If the resources are transferred from one use to another, the less and
less efficient resources will be transferred leading to rise in the marginal opportunity cost
which is technically termed as marginal rate of transformation (MRT).
For example, let us assume that the economy has decided to produce wheat and cloth. Different
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combinations of wheat and cloth can be represented through the following schedule and
diagram.
Table 1.2
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Combinations Production of Wheat Production of Cloth Loss

MOC/MRT
or Possibilities (Units) (Units) Gain
D

A 0 10 –
B 1 9 1
C 2 7 2
D 3 4 3
E 4 0 4

Table 1.2 shows hypothetical possibilities of production of wheat and cloth. If economy uses
all its resources to produce cloth then maximum 10 units of cloth can be produced and if entire
resources are used to produce wheat, then maximum 4 units of wheat are produced, there
exist various other combinations between A and E (the extreme possibilities) e.g., 1 unit of
wheat and 9 units of cloth etc.
Introductory MICROECONOMICS–XI
12 UNIT I : INTRODUCTION

When the above data is plotted on a graph, we get PPC Y

(Production possibility curve) as given in Fig. 1.3.
A
AE is PPC which shows various combinations of two 10 B

Cloth (units)
goods wheat and cloth. Point A shows maximum 8 C Fuller utilisation
production of cloth i.e., ten units with zero amount of 6 M of resources
wheat and point E shows maximum amount of wheat D
4
i.e., 4 units with no amount of cloth. In between A and T
2
E there are various possibilities (B, C, D) of production

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E
of wheat and cloth. When points A, B, C, D, E are 0 X

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1 2 3 4 5
joined, we get a curve AE. This curve is called Wheat (units)
production possibility curve/ transformation curve as we

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transform from production of one good to the other. Figure 1.3
We can measure MRT on PPC.
For example, MRT between the possibilities B and C is equal to BM and between C and D is CT .

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MC TD
Since MRT is rising, PPC is concave in shape.

1.8.3
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Characteristics/Properties of Production Possibility Curve (PPC)
1. PPC slopes downwards
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In a situation of fuller utilisation of resources, production of both the commodities cannot be
increased i.e., more production of one good is associated with less production of the other,
because resources are scarce. In the above example, when production of wheat rises,
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production of cloth falls i.e., ­ wheat and ¯ cloth (-ve relation) as resources are withdrawn
from production of cloth to produce more of wheat.
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2. PPC is concave to the point of origin

A typical PP curve is taken to be concave curve because it is based on a more realistic
assumption that no resource is equally efficient in production of all the goods. So when
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resources are transferred from Y to X more and more units of Y are to be transferred to
produce one more unit of X.
PPC is concave because in order to produce an additional unit of wheat, more and more units
of cloth are sacrificed. In other words, MOC/MRT rises. It means that opportunity cost of
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every additional unit of wheat tends to increase in terms of loss of production of cloth.
Economic reason of increasing MOC is that as more and more of one good is produced,
factors producing it become less and less productive. Hence more units of other good (cloth)
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are sacrificed to ensure a unit increase of former good (wheat). This is because of application
of Law of diminishing returns or law of increasing opportunity costs. However PPC may be
straight or convex also as explained in Section 1.8.3A.

1.8.3A Marginal Opportunity Cost (MOC) Determines Shape/Slope of PPC

Production Possibility Curve (PPC) can have three shapes :
1. Convex 2. Straight 3. Concave.

Hence, there are three possibilities.

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 13

1. When PPC is Convex

Convex PPC is due to decreasing MOC. It means that in order to produce more units of
commodity X, less units of commodity Y are sacrificed or rate of sacrifice (MOC/MRT)
decreases. This is because of application of law of increasing returns.
Table 1.3 Y

A
Production of X Production of Y 10
Combinations MOC
(Units) (Units)

.
8

Good Y
B

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A 0 10 – 6

B 1 6 4 4 C

C
2 D
C 2 3 3
E
0 X
D 3 1 2 1 2 3 4 5
Good X

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E 4 0 1
Figure 1.4

It is clear from Table 1.3 that in order to produce more units of X, less units of Y are sacrificed or

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MOC decreases. It will cause convex shape of PPC. (Fig. 1.4)
AE is PPC which is convex in shape implying that MOC/MRT falls.
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2. When PPC is straight
It is due to constant MOC. It means that in order to produce more units of commodity X, same
units of good Y are sacrificed or rate of sacrifice remains constant. This is because of application
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of law of constant returns.

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Table 1.4

Production of X Production of Y Y
Combinations MOC
(Units) (Units) A
16
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Good Y

A 0 16 – B
12
B 1 12 4 C
8
D
C 2 8 4 4
E
0 X
H

D 3 4 4 1 2 3 4 5
Good X
E 4 0 4
D

Figure 1.5

It is clear from Table 1.4 that same units of Y are sacrificed in order to produce an additional
unit of X i.e., MOC remains same. It will cause straight line PPC. (Fig. 1.5)
AE is PPC which is straight line curve implying that rate of sacrifice (MOC) remains same.

3. When PPC is concave

It is due to increasing MOC. It means that in order to produce more units of X, more units of Y
are sacrificed or rate of sacrifice increases. It is due to application of law of diminishing
returns.

Introductory MICROECONOMICS–XI
14 UNIT I : INTRODUCTION

Table 1.5 Y

Production of X Production of Y A
Combinations MOC 10 B
(Units) (Units)
8

Good Y
C
A 0 10 – 6
D
B 1 9 1 4
2
C 2 7 2
E

.
0 X
D 3 4 3 1 2 3 4 5

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Good X
E 4 0 4
Figure 1.6

C
It is clear that in order to produce more of X, Y decreases at increasing rate or MOC increases. It
will cause concave PPC. (Fig. 1.6)

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AE is PPC which is concave in shape implying that rate of sacrifice increases.

Let Us Recapitulate
1. Draft a hypothetical schedule for a straight line PPC AI
2. Giving reason, comment on the shape of PPC based on the following schedules :
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(a)
Good X (units) 0 1 2 3 4
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Good Y (units) 30 27 21 12 0
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(b)
Good X (units) 0 1 2 3 4
Good Y (units) 16 12 8 4 0
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(c)
Good X (units) 0 1 2 3 4
Good Y (units) 10 9 7 4 0
H

Answers
1.
D

Good X (units) 0 1 2 3
Good Y (units) 15 10 5 0
MOC/MRT - 5 5 5

Since MOC is constant PPC will be a straight line curve.

2. (a) Since MOC/MRT is rising, PPC is downward sloping concave to the origin.
(b) Since MOC/MRT is constant, PPC is downward sloping straight line.
(c) Since MOC/MRT is increasing, the PPC will be downward sloping concave to the origin.

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 15

1.8.4 Shift/Rotation of PPC (Change in PPC)

Change in PPC can be of two types :
Ø Shift in Production Possibility Curve (PPC)
Ø Rotation of Production Possibility Curve (PPC)

1.8.4.1 Shift in PPC

Where there is change in resources or technology for both the goods, the PPC will shift either

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to the right or to the left.

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(i) Rightward shift of PPC. The PPC will shift to its right when there is
Ø Increase in availability of resources or

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Ø Improvement in technology

for both the goods, e.g., wheat and cloth.

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In Fig. 1.7, original PPC (AE) shifts to its right ( A1 E 1 ) due to increase in availability of
resources or technological advancement for both the goods.

A1
Y AI
However with given resources and technology, the PPC will not shift to its right.
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Rightward shift
A of AE to A1E1
Cloth (units)

T
PA

0 X
E E1
Wheat (units)
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Figure 1.7

(ii) Leftward shift in PPC. The PPC will shift to its left due to
Ø Decrease in availability of resources
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Ø Deterioration/degradation in technology
Y
D

for both the goods.

In Fig. 1.8, the PPC (AE) shifts to its A

Leftward shift
Cloth (units)

left A2 E 2 , due to fall in resources from AE - A2E2

A2
and deterioration in technology for
both the goods.
However if there is inefficient use
of resources, the PPC will not shift X
0 E2 E
to its left. Lesser production will
Wheat (units)
be indicated inside the PPC.
Figure 1.8
Introductory MICROECONOMICS–XI
16 UNIT I : INTRODUCTION

Effect on PPC When :

1. Resources are not fully and efficiently employed
There will be no effect on PPC as PPC assumes full and efficient utilisation of resources
(Point D). If resources are unemployed or underutilised, the actual production will take place
inside (to the left of) PPC e.g., point C (Fig. 1.9). (No impact on production potential of the
economy.)
Y
Examples of No effect on PPC : A

.
O
(i) Impact of efforts towards reducing unemployment.

Good Y
(ii) Production is below potential of an economy. D

C
Government starts employment generation
C
schemes.
B
(iii) Economic slowdown in foreign countries affecting X
Good X
exports from India.

&
Figure 1.9
2. Resources Increase

AI
With given (fixed) resources, an economy will operate on PPC (Point D). If resources increase,
more of both the goods can be produced and PPC will shift to the right from AB to A1 B 1
(Fig. 1.10).
R
Y
Examples of Increase in resources : A1

(i) Impact of “Make in India” appeal to the foreign A

T

investors by PM of India.
Good Y

(ii) Government establishes a large number of

PA

D
institutes of science and technology.
(iii) Large scale inflow of foreign capital.
B B1
X
3. Technology Improves
AN

Good X
With technological advancement, production of both the
goods can be increased hence rightward shift in PPC. Figure 1.10
(Fig. 1.10)
H

4. Resources Decrease
If there is decrease in availability of resources, the
D

Y
production potential of the economy decreases and the
A
PPC shifts to its left from AB to A1 B 1 (Fig. 1.11).
A1
Examples of decrease in Resources :
Good Y

(i) Natural calamities like earthquakes, epidemics,

floods etc.
B1 B
(ii) Migration of human resources to other countries. X
Good X
(iii) Large scale outflow of foreign capital.
Figure 1.11

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 17

Box 1.1

1. How do the following economic changes affect production possibility curve of an economy ?
Ans. Impact of given economic changes on PPC should be understood keeping in consideration the change
in availability of resources (increase or decrease) and then its impact on production potential of the economy
(Rightward or Leftward shift). If resources are not changing i.e., remain unaffected then PPC will show
no effect.
Some important economic changes and their impact on PPC is discussed as given under :

.
O
Impact on PPC of
Economic change Reason
Economy (Indian)

C
1. “Make in India” appeal by Prime PPC will shift to its right Increase in resources implying
Minister of India to foreign investors. increase in production potential.

2. “Education for all” campaign. PPC will shift to its right Increases efficiency of human

&
resources.

3. Large scale inflow of foreign capital. PPC will shift to its right Increases in resources.

4. Clean India Mission

(Swachh Bharat Mission)
5. Establishment of large number of
institutes of science and technology.
AI
PPC will shift to its right Increases efficiency level of
human resources
(ensures better health)
R
PPC will shift to its right Skill development of human
resources will improve.

Natural calamities like, Floods,

T

6. PPC will shift to its left Reduction in resources implying

earthquake. decrease in production potential
PA

7. Large scale outflow of foreign PPC will shift to its left Reduction in resources implying
capital. decrease in production potential

8. Environmental degradation. PPC will shift to its left Reduction in resources implying
decrease in production potential
AN

9. Government efforts towards No effect on PPC These efforts would help in

reducing unemployment (generation reaching the production
of employment schemes) potential.

10. Economic slowdown in foreign No effect on PPC It does not affect production
H

countries causing fall in Indian potential. This economic change

exports. will reduce the actual output, but
no impact on potential.
D

1.8.4.2 Rotation of PPC

Where there is change in resources/technology for only one good, PPC will rotate (not shift).
Let us understand this with the help of diagram.

(i) In case of commodity on X-axis (wheat)

Ø If there is increase in resources or technological improvement for wheat (on X-axis), then
PPC will rotate from AE to AF (rightward) (Fig. 1.12).

Introductory MICROECONOMICS–XI
18 UNIT I : INTRODUCTION

Ø If there is decrease in resources or degradation of technology for wheat (on X-axis) the
PPC will rotate from AE to AH (leftward) (Fig. 1.12).

Y Y
Rightward
Rightward
C rotation
rotation
A

Cloth (units)
A
Cloth (units)

D Leftward

.
Leftward rotation

O
rotation

0 X 0 X
H E F E

C
Wheat (units) Wheat (units)

Figure 1.12 Figure 1.13

&
(ii) In case of commodity on Y-axis (cloth)
Ø If there is increase in resources or advancement in technology for cloth (on Y-axis), PPC
will rotate to its right from AE to CE (Fig. 1.13)

AI
Ø If there is decrease in resources or degradation in technology for cloth (on Y-axis), PPC
will rotate to its left from AE to DE (Fig. 1.13).
R
1.9 SOLUTION OF CENTRAL PROBLEMS OF AN ECONOMY
WITH THE HELP OF PPC
T

Central problems of what to produce, how to produce and for whom to produce are explained with
the help of PPC as given below.
PA

1.9.1 What to Produce and in What Quantities

Due to scarcity of resources, an economy has to decide allocation of its resources towards the
chosen goods as all goods cannot be produced. Considering factors like demand, cost, profit,
technology etc, the economy decides on selection of goods. Let us assume that economy has
AN

decided to produce wheat and cloth and also different options of choosing the quantities of these
two goods.
Y
Table 1.6
A
10
H

B(1, 9)
Wheat Cloth
Cloth (units)

Possibilities 8
(Units) (Units) C(2, 7)
6 Wheat Cloth
D

A 0 10 D
4
B 1 9 2
E
C 2 7 0 X
1 2 3 4 5
Wheat (units)
D 3 4
E 4 0 Figure 1.14

The problem of what and how much to produce is the problem of choosing between the points
A to E on PPC AE. Point B gives the combination of 1 unit of wheat and 9 units of cloth ;
shifting to C, 2 units of wheat are produced and accordingly cloth production will fall to 7 units
as resources are withdrawn from production of cloth to produce more of wheat.

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 19

1.9.2 How to Produce

This problem refers to choice of technique of production whether labour intensive or
capital intensive, so that efficient use of scarce resources can be made. PPC helps to solve this
problem.
Y
All points on PPC AE, represent fuller utili-
A
sation of resources implying use of efficient 10 B Fuller utilisation

Cloth (units)
technique of production. of resources
8 C

.
For example, Point D (3, 4) gives combination of 6

O
3 units of wheat and 4 units of cloth implying G(1, 4)
4 D(3, 4)
efficient technique of production and Point (G) (1, 4) Under utilisation
2
gives us combination of 1 unit of wheat and 4

C
of resources
E
0 X
units of cloth, implying inefficient technique of 1 2 3 4 5
production. Wheat (units)

&
Figure 1.15
1.9.3 For Whom to Produce
This problem relates to distribution of production/income generation.
The economy is producing various combina-
tions of wheat and cloth. Goods and services
produced along AE would be distributed
AI Y

A
R
10 B
among the consumers and National income Cloth (units)
generated through production would be 8 C
distributed among factors of production. 6
T

D
For example, 2 units of wheat and 7 units of 4

cloth are produced along point ‘C’ on PPC. 2

PA

E
When this produce is sold to consumers, it is 0 X
1 2 3 4 5
personal distribution and when income earned Wheat (units)
by sale of goods is distributed among factors of
production, it is functional distribution. Figure 1.16
AN

1.10 SOLUTION OF OTHER PROBLEMS

1.10.1 Fuller Utilisation of Resources

H

When goods are produced corresponding to Y

any point on PPC, it implies fuller utilisation of

D

A Fuller utilisation
resources e.g., point A to E. If goods are 10 B
Cloth (units)

of resources
produced corresponding to any point within 8 C
PPC (inside PPC) e.g., points G, H, refers to 6
under-utilisation of resources (Fig. 1.17). G(1, 4)
4 D(3, 4)
Under utilisation
For example, 2 H
of resources
E
point D (3, 4) > point G (1, 4) 0
1 2 3 4 5
X

Wheat (units)
On point D, the economy is able to produce
more than as compared to when it is on point G. Figure 1.17

Introductory MICROECONOMICS–XI
20 UNIT I : INTRODUCTION

Y
1.10.2 Growth of Resources
A1
Growth of resources is possible only when Growth of
A resources
economy (through technological advancement or

Cloth (units)
increase in supply of resources) generates more
resources. Extra resources will raise the level of
productive capacity of the economy. With more
production the PPC will shift to its right from AE
to A1 E 1 (Fig. 1.18).

.
0 X

O
E E1
(Refer to Q. 1 HOTS for “Solution of Central Wheat (units)

Problems” in different types of economies.) Figure 1.18

C
1.11 ATTAINABLE AND UNATTAINABLE COMBINATIONS ON PPC

&
1.11.1 Attainable/Feasible Combinations
It refers to those combinations which can be produced with the help of given resources and
technology. These can be

AI
Ø On PPC (e.g., points A, B, C, D, E) implying fuller utilisation of resources (Fig. 1.19) and
Ø Inside PPC (e.g., points G, H) implying inefficient utilisation of resources. (Fig. 1.19)
R
1.11.2 Unattainable/Non-Feasible Combinations
It refers to those combinations which can not be produced with the help of given resources
and technology e.g., points M, N, O, P (Fig. 1.19). (Assumption to draw PPC is ® No change in
T

availability of resources and technology. However, if resources grow or technology becomes

better, the economy may operate to the right, Y
PA

Attainable
but with the present (given) resources and combinations
technique, points lying to the right of PPC are A
B M
Cloth (units)

unattainable.) Thus : N
C Unattainable
Attainable combinations are : O combinations
AN

P
D
Ø points, A, B, C, D, E on PPC and G
Ø points, G, H inside PPC. H
E
Unattainable/Non-feasible combinations are : X
Wheat (units)
H

Ø points M, N, O and P to the right of PPC.

Figure 1.19
D

Let Us Recapitulate
State whether the following statements are true/false
1. Slope of production possibility curve depends on Marginal opportunity cost ______ .
2. An economy can either operate on PPC or inside PPC ______ .
3. An economy can operate outside PPC with available production capacity ______ .
4. PPC is concave due to increasing MOC ______ .
Answers
1. True 2. True 3. False 4. True

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 21

1.12 BRANCHES OF ECONOMICS

Subject matter of economics has been studied under two broad branches – Microeconomics
and Macroeconomics. In Microeconomics, we study the behaviour of individual economic
agents in the market for different goods and services. In Macroeconomics, we study economy
as a whole by focusing on aggregate measures. The terms micro and macroeconomics were
given by Prof. Frisch of Norway in 1933.

1.12.1 Microeconomics

.
The term Micro is derived from the Greek word, ‘Mikros’ which means small. Micro-

O
economics is that part of economic theory which deals with individual units of an economy.
For example, a sugar industry, a firm, a household etc.

C
Examples of Microeconomic variables : Demand of a commodity, Supply of a commodity, Income of a
consumer, Price of the commodity etc.
Examples of Microeconomic theories/study : Law of demand, Law of supply, Determination of
consumer equilibrium, Determination of producer equilibrium etc.

&
1.12.2 Macroeconomics
The term macro is derived from Greek word, “Makros” which means “large”. Macro-

AI
economics is that part of economic theory which deals with the aggregate units of the economy.
For example, all firms, all industries, all producing units etc.
Examples of Macroeconomic variables : Aggregate supply, Aggregate demand, National income,
R
Total output etc.
Examples of Macroeconomic studies/theories : Determination of equilibrium level of income,
Determination of foreign exchange rate, Determination of govt. budget etc.
T

1.12.3 Distinction between Micro and Macroeconomics

PA

Basis Microeconomics Macroeconomics

1. Meaning It is the study of individual economic It is the study of economy as a whole.
units of an economy.
2. Aggregation As it deals with individual units, there As it deals with economy as a whole, there is vast
AN

is limited degree of aggregation e.g., an
industry is an aggregation of firms.
3. Central It deals with central problem of allo-
Problems cation of resources and related
principles and policies.
H
degree of aggregation e.g., all industries, national
income are examples of aggregate units of one
economy.
Its central problems are determination of level of
income and employment. Fuller utilisation and
growth of resources and related principles and

policies.
4. Instruments of The main instruments to study The main instruments to study Macroeconomic
D

study or tools Microeconomic problems are demand problems are aggregate demand and aggregate
and supply. supply.
5. Determinant Price is the determinant to solve Income is the determinant to solve problems
problems (micro). (macro).
6. Method of It uses partial equilibrium analysis i.e., It uses general equilibrium analysis as inter-
study It shows effect of one factor on the dependence among Macroeconomic variables
study assuming other things (factors) like total income, total output, total consum-
being equal. ption, total savings etc is studied.
7. Alternative It is also known as “Price Theory”. It is also known as “Theory of income and
name employment”.
8. Term It is derived from the Greek word, It is derived from the Greek word, ‘Macros’
‘Mikros’ meaning ‘small’ meaning ‘large’.

Introductory MICROECONOMICS–XI
22 UNIT I : INTRODUCTION

1.13 ECONOMIC ANALYSIS

Economics deals with human behaviour. When we discuss the scope of economics, we need to
consider whether economics is a positive science or a normative science.

1.13.1 Positive Science/Positive Statements/ Positive Economic Analysis

A positive science deals with “things as they are”. These statements can be empirically
verified as these are based upon facts. These are not suggestive in nature. These deal with

.
realistic situations.

O
[However, don’t confuse positive statements with statements of truth. They can be verified as
true and false.]

C
For example,
Ø There is poverty in India (right statement)
Ø One dollar can be exchanged for `30 (wrong statement)

&
Both can be verified. Therefore any statement which is capable of empirical (statistical)
verification is positive statement. These generally relate to ‘what is’, ‘what was’ under given

1.13.2
circumstances.
AI
Normative Science/ Normative Statement/Normative Economic Analysis
R
These statements tell us, ‘what ought to be’. These tell how economic problems should be
solved. These deal with idealistic situations. These statements cannot be empirically verified.
These are suggestive in nature. These pronounce value judgment. These state whether
T

different mechanisms to solve economic problems are desirable or not.

For example,
PA

Ø Unemployment is better than poverty.

Ø Rich persons should be taxed more.
AN

1.13.3 Difference between Positive and Normative Statements

Basis Positive statements Normative statements

1. Meaning These are statements which are These are statements which are not
H

verifiable. verifiable.

2. Description These statements describe ‘what is’, These statement describe, ‘what ought to
D

‘what was’ under given circumstances. be’ under given circumstances.

3. Capability of These statements are capable of These statements are not capable of
verification empirical (statistical) verification as empirical verification as these are not
these are based on facts. based on facts.

4. Value These statements do not pass any These pronounce value judgement as
judgement value judgement. these are opinions or suggestions.

5. Function Positive statements study how Normative statements study whether

different mechanisms function to solve these mechanisms are desirable or not.
economic problems.

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 23

Let Us Recapitulate

Identify positive or normative statements from the following :

1. Government should be concerned with how to reduce unemployment
2. Economics is study of choices/alternatives
3. Equal distribution of income should make India poverty free
4. 25% population of India is below poverty line

.
O
5. Free education should be given to the poor till class XII
6. Prices have been rising in India

C
7. There are inequalities in the distribution of income and wealth in India
8. Indian government should design new policies to control inflation
9. Accommodation of Refugees is posing a big problem for the Europe

&
10. Inflow of foreign capital shifts PPC to its right.

Answers
Positive statements : 2, 4, 6, 7, 9, 10
Normative statements : 1, 3, 5, 8
AI
R
Practical Applications
T

Example 1 Mr Raman works as production manager at a salary of `80,000 per month in company A. He got
PA

a job offer from company B at a salary of `90,000 per month and another job offer from company C at a salary
of `95000 per month.
What is his opportunity cost of working as production manager in company A.
Solution. In the above example, the next best use of Raman’s services is in company C which
AN

has given him an offer of `95000 per month. Therefore, opportunity cost of Mr. Raman for
working as production manager in company A is `95000.

Example 2 A farmer can produce 1000 quintals of sugar on a plot of land. With same resources, he can also
H

produce 800 quintals of rice.

What is the opportunity cost of producing sugar ?
D

Solution. A farmer produces 1000 quintals of sugar on a plot of land. With same resources,
the next best alternative use of plot of land is to grow rice, which produces 800 quintals of
rice.
Hence, opportunity cost of producing sugar is 800 quintals of rice.

Example 3 Giving reason, comment on the shape of PPC based on the following table :

Good X (Units) 0 1 2 3 4

Good Y (Units) 4 3 2 1 0

Introductory MICROECONOMICS–XI
24 UNIT I : INTRODUCTION

Solution.
DY
Good X (Units) Good Y (Units) MOC
DX
0 4 -
1 3 1/1 = 1
2 2 1/1 = 1
3 1 1/1 = 1

.
4 0 1/1 = 1

O
The schedule shows that MOC of producing more of good ‘X’ in place of good ‘Y’ does not

C
change. Accordingly PPC would be a downward sloping straight line curve.
Example 4 Giving reason, comment on the shape of PPC based on the following schedule :

&
Good X (Units) 0 1 2 3 4
Good Y (Units) 20 18 14 8 0

Solution.

Good X (Units)
AI
Good Y (Units) MOC
DY
DX
R
0 20 -
1 18 2 /1 = 2
4 /1 = 4
T

2 14
3 8 6 /1 = 6
PA

4 0 8 /1 = 8

It is clear from the above table that MOC of producing more of ‘X’ in place of ‘Y’ is increasing.
Thus PPC would be a downward sloping concave to the origin.
AN

Example 5 Calculate marginal opportunity cost (MOC) from the following schedule.

Sarees (Millions) 0 1 2 3 4 5
Machines (Thousands) 100 95 85 70 50 25
H

Solution.
Sarees (Millions) Machines (Thousands) MOC*
D

0 100 –
1 95 5 /1 = 5
2 85 10 / 1 = 10
3 70 15 / 1 = 15
4 50 20 / 1 = 20
5 25 25 / 1 = 25

Loss (of machines)

* MOC =
Gain (of sarees)

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 25

For example, MOC, when 1 million sarees are produced

Loss (100 - 95) 5=5
= =
Gain (1 - 0) 1

Similarly, MOC, when 4 million sarees are produced

70 - 50 = 20 = 20 and so on.
=
4-3 1

.
O
Example 6 Calculate marginal opportunity cost (MOC) from the following schedule :

Production of Wheat (Units) 0 10 20 30 40

C
Production of Rice (Units) 400 350 250 135 0

Solution.

&
Production of Wheat Production of Rice
MOC*
(Units) (Units)

0 AI
400 –

50 / 10 = 5
R
10 350

20 250 100 / 10 = 10

30 135 115 / 10 = 11.5

T

40 0 135 / 10 = 13.5
PA

Loss
* MOC =
Gain

For example, MOC, when 20 units of wheat are produced

AN

Loss (350 - 250) 100

= = = 10 and so on.
Gain (20 - 10) 10

Example 7 A teacher has job offers from two schools. School ABC offers a salary of `14,000 and school PQR
H

offers a salary `18,000. If the teacher at present draws a salary of `20,000 in school MNO, what will be
opportunity cost ?
D

Solution. Present salary of a teacher in school MNO = `20,000

Two other alternatives (options to work) are :

School ABC which offers salary = `14,000

School PQR which offers salary = `18,000

Therefore,

Next best alternative to school MNO = `18,000 (salary offered by school PQR).

Introductory MICROECONOMICS–XI
26 UNIT I : INTRODUCTION

Example 8 Calculate MOC and draw PPC

Production Cotton Rice

Possibilities (in lakh quintals) (in lakh quintals)

A 0 16

B 1 15

C 2 13

.
O
D 3 10

E 4 6

C
F 5 0

Solution.

&
Y
Production Cotton Rice MOC
Possi- (in lakh (in lakh æ Loss ö
ç ÷ 18
bilities

A
quintals)

0
quintals)

16
è Gain ø

– AI 16
14
12
A
B
C
AF is PPC which is concave
because of increasing MOC
R
D
Rice

B 1 15 1/1 =1 10
8
C 2 13 2 /1 =2 E
6

3 /1 =3
T

D 3 10 4
2
E 4 6 4 /1 = 4 F
X
PA

0 1 2 3 4 5
F 5 0 6 /1 =6 Cotton

Example 9 Draw a PPC to represent the following on it :

AN

(i) Underemployment of resources (ii) Fuller utilisation of resources

(iii) Growth of resources
Solution.
(i) Points L, M, N represent under-employment of resources.
H

(ii) Points A, H, D, I, E represent fuller utilisation of resources.

(iii) Points S, T, U represent growth of resources.
D

A S T

H U
Rice (units)

L D

M I
N
E
0 Wheat (units) X

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 27

Example 10 Production in an economy is below its potential due to unemployment. Government starts
employment generation schemes. Explain its effect using PPC.
Solution. PPC represents different combinations of two goods which can be produced with
given resources assuming (i) Resources are fully and efficiently utilised (ii) Technique of
production remains unchanged.

Good 2

.
A

O
Under utilisation
of resources

C
M
N

&
X
0 B Good 1

Due to unemployment, an economy operates inside the PPC (Point M and point N) implying
under utilisation of resources.
AI
If the government starts employment generation schemes, the output will increase and may
R
lead to fuller utilisation of resources on PPC AB.

Question
T

Bank
PA

Objective Type Questions

AN

Multiple Choice Questions

1. Economic problem arises due to

(a) scarcity of resources
H

(b) unlimited wants

(c) resources can be put to alternative uses
D

(d) all of these.

2. Which of the following is an assumption of Production Possibility Frontier ?
(a) Resources are not fully employed.
(b) Resources are not equally efficient for production of two goods.
(c) Resources are not efficiently employed.
(d) Resources available are not fixed.
3. PPC will shift to the left when there is
(a) underutilisation of resources (b) growth of resources
(c) technological improvement (d) loss of resources because of natural calamity.

Introductory MICROECONOMICS–XI
28 UNIT I : INTRODUCTION

4. The central problems of an economy are

(a) what to produce and how much (b) how to produce
(c) for whom to produce (d) all of these.
5. Value of a factor in its next best alternative use is
(a) social cost (b) opportunity cost
(c) marginal rate of substitution (d) PPC.
6. PPC is concave when marginal opportunity cost

.
(a) falls (b) remains constant

O
(c) rises (d) all of these.
7. Which of the following countries will face the central problems :

C
(a) India (b) China
(c) America (d) all the above.
8. Rightward shift of PPC indicates :

&
(a) growth of resources (b) underutilisation of resources
(c) decrease in availability of resources (d) none of these.
9. In case of inefficient utilisation of resources :
(a) PPC shifts to its left
(c) economy operates inside PPC AI(b) PPC shifts to its right
(d) None of the above
R
10. The central problem of ‘How to produce’ is the problem of deciding the use of :
(a) Labour intensive technique only
(b) Capital intensive technique only
T

(c) Both labour and capital intensive techniques as per objectives of the producer
(d) None of these
PA

11. Microeconomics is the study of :

(a) A consumer (b) An industry
(c) A producer (d) All of these
12. Which of these is a normative economics :
AN

(a) 30% population of India is below poverty line.

(b) Increase in FDI has increased GDP of India.
(c) Govt. increased Repo rate to check inflation.
(d) Equal distribution of income in India will solve the problem of poverty.
H

13. Opportunity cost :

(a) is always lower than the given value of a factor
D

(b) is always higher than the given value of a factor

(c) is equal to the given value of a factor
(d) can be less than, more than or equal to the given value of a factor.
14. PPC is a straight line when :
(a) MRT decreases (b) MRT is constant
(c) MRT increases (d) None of these
15. ______ does not lead to shift in PPC.
(a) Improvement in technology (b) Invention of new resources
(c) destruction of resources (d) massive unemployment

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 29

Fill in the Blanks

16. ______ is the locus of various combinations of maximum production of two goods that can be produced
with available technologies and with given resources, assuming all resources are fully and efficiently
utilised.
17. ______ is the value of a factor in its next best alternative use.
18. ______ technique is the one which produces maximum at minimum cost.
19. When an alternative allocation of resources cannot increase production of any commodity even by a
single unit, it is ______ in production.

.
O
20. ______ is the study of aggregate units of an economy.

True or False

C
21. “An economy always produces on, but not inside a PPC”, defend or refute.
22. “Massive unemployment will shift the PPC to the left”, defend or refute.

&
Match the following
23. Match the following items given in column A with those in column B.

(i)
Column A
Normative statement
AI (a)
Column B
Rightward shift in PPC
R
(ii) MOC (b) Aggregate units
(iii) Macroeconomics (c) Value judgement
T

(iv) Growth of resources (d) Rate of sacrifice

PA

ANSWERS

Multiple Choice Questions

AN

1. (d) 2. (b) 3. (d) 4. (d) 5. (b) 6. (c)

7. (d) 8. (a) 9. (c) 10. (c) 11. (d) 12. (d)
13. (d) 14. (b) 15. (d)
H

Fill in the blanks

16. PPC 17. Opportunity cost 18. Efficient 19. efficiency
D

20. Macroeconomics
Y
True or False
A
21. False. B Fuller utilisation
Explanation. When resources are fully and efficiently of resources
Cloth

utilised, the economy will operate on PPC.

Refer to point (B) in the figure. G
Under utilisation
If there is inefficient use of resources, then the economy of resources
will operate inside the PPC.
X
Refer to point (G) in the figure. 0 E Wheat

Introductory MICROECONOMICS–XI
30 UNIT I : INTRODUCTION

22. False.
Explanation. Massive unemployment is due to inefficient use of resources which does not decrease the
capacity of economy to produce. Therefore, there will be no shift of PPC. The economy will operate
inside the PPC due to underutilisation of resources.

Match the following

23. (i) - (c) ; (ii) - (d) ; (iii) - (b) ; (iv) - (a)

.
Very Short Answer Questions

O
1. Define economic problem.

C
Ans. Economic problem is a problem of making a choice. Choice of the manner in which limited resources
are disposed off to satisfy unlimited human wants.
2. Name the branches of economics.

&
Ans. Two branches of economics are : (i) Microeconomics (ii) Macroeconomics
3. What does the downward slope of PPC indicate ?
Ans. It indicates that increase in production of one good will bring fall in the production of the other good
as quantity of available resources is fixed.
AI
4. Can an economy operate outside PPC with given resources and technology ?
R
Ans. No, an economy cannot operate outside PPC with given resources and technology as the
combinations outside the PPC are unattainable.
5. Is it true to say that there would be no economic problem if there is no scarcity.
T

Ans. Yes, it is true because scarcity of resources is the basic reason for economic problem.
PA

Conceptual Questions
1. What is an economy ?
Ans. It is a system which provides people with the means to work and earn a living.
AN

2. What is scarcity ?
Ans. Scarcity means that resources are limited in relation to demand for them. Demand > Supply.
3. Name the central problems of an economy.
Ans. (i) What to produce and in what quantities ?
H

(ii) How to produce ?

(iii) For whom to produce ?
D

4. State two features of resources that give rise to an economic problem.

Ans. The two features of resources that give rise to an economic problem are :
(i) resources are limited (ii) resources have alternative uses.
5. Can there be an economy without central problems ?
Ans. No, as in all economies means are scarce in relation to wants.

6. Why do economic problems arise ?

Ans. Economic problems arise because the available resources are scarce in relation to the unlimited
wants for goods and services.

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 31

7. Why is it that on one hand coal is found in plenty, yet it is scarce, while a rotten fruit is rare but not scarce ?
Ans. Coal is scarce because its demand is greater than its supply. On the other hand, a rotten fruit is not
scarce because there is no demand for rotten fruit.
8. What is the problem of what to produce ?
Ans. It is a problem of selection of different goods and their quantities with the available resources.

9. What is the problem of ‘How to produce’ ?

Ans. It is the problem of choice of technique i.e., labour intensive or capital intensive to produce goods

.
and services.

O
10. What is the problem of ‘for whom to produce’ ?
Ans. It is the problem of distribution of goods and services produced.

C
11. What is marginal opportunity cost/marginal rate of transformation ? Explain the concept with a hypothetical
numerical example.
Ans. MOC of a good along the PPC is defined as the amount sacrificed of the other good, per unit increase

&
in the production of the good in question. It is also called rate of sacrifice.
Loss (of output of good 2)
MOC/MRT =
Gain (of output of good 1)
Numerical Example
AI MOC/MRT (Rate of
R
Combinations Production of Production of
sacrifice) é
Loss ù
or Possibilities Good X (Wheat) Good Y (Cloth)
ëêGain ûú
T

A 0 100 –
B 1 90 10 / 1 = 10
PA

C 2 70 20 / 1 = 20
D 3 40 30 / 1 = 30
E 4 0 40 / 1 = 40
AN

The Table shows MOC of X. In order to produce an additional unit of X, the producer has to sacrifice some
units of Y. For example, if he wants to produce 3 units of wheat, he will have to sacrifice 30 units of cloth, or
MOC is 30 units.
12. Draw the shapes of PPC when MOC is (a) Decreasing (b) Constant (c) Increasing.
H

Ans.
(a) When MOC decreases (b) When MOC is constant (c) When MOC increases
D

Y Y Y

A A A
AE is
AE is AE is concave PPC
Good 2

Good 2

Good 2

convex PPC straight line PPC

X X X
0 Good 1 E 0 Good 1 E 0 Good 1 E

Introductory MICROECONOMICS–XI
32 UNIT I : INTRODUCTION

13. What is (a) Fuller utilisation of resources ? (b) Growth of resources ?

Ans. (a) Fuller utilisation of resources means, utilising resources to the full by avoiding wastage of
resources or avoiding unutilisation and underutilisation of resources.
(b) Growth of resources means, increase in supply of resources and thereby increase in production
of goods and services.
14. Define : (a) Microeconomics (b) Macroeconomics
Ans. (a) Microeconomics. It is the study of individual units of an economy e.g., a household, a firm, an
industry etc.

.
(b) Macroeconomics. It is the study of aggregate units of an economy or study of economy as a

O
whole e.g., all industries in the economy.
15. What does a point on PPC indicate ?

C
Ans. Fuller utilisation of resources.
16. Give two examples of underutilisation of resources.
Ans. (i) Underutilised labour leading to mass unemployment.

&
(ii) Lower production during depression.
17. Give two examples of growth of resources.

AI
Ans. (i) Discovery of oil reserves in Gulf countries causing a substantial rightward shift of PPC.
(ii) Supply of skilled IT professionals has increased causing rightward shift in production of IT
software in India.
R
18. What is Rotation of PPC ?
Ans. It takes place when there is change in resources or technology for one commodity only.
19. What is shift in PPC ?
T

Ans. Shift in PPC occurs when there is change in resources or technology for both the goods.
PA

20. Name the attainable combinations in the figure given below.

A
AN

B M N
Good 2

C
P
R
H

D
X
Good 1
D

Ans. The attainable combinations are :

Points A, B, C , D, P and R.
21. What are unattainable combinations on PPC ?
Ans. Combinations of goods which cannot be produced with the help of given resources and technology
are unattainable combinations. These are indicated by points lying to the right of PPC.
22. Define normative economics with a suitable example.
Ans. Normative economics deals with the statements which describe ‘What ought to be’ under given
circumstances. These statements are not capable of empirical verification. e.g., unemployment is better than
poverty.

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 33

H igher Order Thinking Skills

HOTS
1. How are central problems solved in different types of economies ?
Ans. The classification of an economy or solution of central problems in different types of economies can
be studied under three heads :

.
Classification of Economy

O
C
Market Centrally Mixed
Economy Planned Economy Economy

&
(i) Market Economy. In a market economy, all economic activities are organised through the market.
It is also known as capitalist economy. In a market or capitalist economy, central problems of what, how
and for whom to produce are solved by price mechanism i.e., by the prices prevailing in the market. In
this economy, market forces, demand and supply are left free to determine price. Here production is

private sector. There is no Govt. interference. AI

done mainly for earning profits. In this economy, means of production are owned and controlled by the

(ii) Centrally Planned Economy. It is also known as a socialist economy. Here central problems of
R
what, how and for whom to produce are solved through central planning. The Govt. or central authority of
the economy plans all the important activities like production, exchange etc. The prices are determined by
the planning authority. All decisions are taken with respect to maximize social welfare.
T

(iii) Mixed Economy. It is mix of public and private sector in the field of production. In this economy
important decisions regarding what, how and for whom to produce are taken by Govt. and economic
PA

activities are by and large conducted by the market. All decisions aim to achieve profit maximisation
alongwith social welfare.
Difference among Market Economy, Centrally Planned Economy and Mixed Economy

Centrally planned
AN

Basis Market economy Mixed economy

1. Nature It is a free economy
where market forces of
demand and supply
organise economic
H
economy
A planned economy
which is under direct
control of Government.
Here economic activities
Important decisions are
taken by the Govt. and
economic activities are
conducted by the

activities. are regulated by the Govt. market.

2. Motive of Profit motive is the Social welfare is the Profit motive in private
D

production principal objective of principal objective of sector and social welfare

production activity.
3. Role of Govt. There is no direct inter-
vention by the Govt.
4. Solution to Central problems of what,
central problems how and for whom to
produce are solved
through price mechanism.
5. Competition Competition exists.
production activity.
The Govt. plays an
active role in the
process of production.
Central problems are
solved through planning
mechanism.
No competition
in public sector.
Full control of Govt. in
public sector and partial
control in private sector.
Both the price
mechanism and planning
mechanism function.
Competition exists in
private sector only.

Introductory MICROECONOMICS–XI
34 UNIT I : INTRODUCTION

2. A lot of people died and many factories were destroyed in an earthquake (natural calamity). How will it
affect the PPC ?
Ans. The PPC of the economy will shift to its left as there is decrease in availability of resources and
accordingly possibility to produce maximum reduces due to destruction of resources.
3. Explain how the following problems of an economy be solved with the help of price mechanism :
(i) What to produce ? (ii) How to produce ?
Ans. (i) Price mechanism automatically solves the problem of what to produce. Profit motive is the
main motive of producers. If demand for a commodity increases, it would increase profit of

.
producers and encourage them to produce more of this commodity. Therefore automatically, the

O
commodity that is more in demand would get produced. The opposite happens when demand of the
commodity falls.

C
So
(a) ­ Demand - ­ Price, - ­ Profits - ­ Production
(b) ¯ Demand - ¯ Price, - ¯ Profits - ¯ Production

&
(ii) It is the price of labour (wages) and price of capital (interest) that would help the producers in deciding
between labour intensive and capital intensive technique.

AI
In a labour surplus economy, wages would be low, which means less cost of production implying more
profits to the producers so he would choose labour intensive technique.
In a capital surplus economy, price of capital being low, the profits would be more, so the producers
R
would choose capital intensive technique.
4. State and discuss any two factors that will shift the PPF to right.
Ans. Refer to Box 1.1 (First five points) on Page 17.
T

5. State any one assumption for the construction of the curve that shows the possibilities of potential
PA

production of 2 goods in an economy.

Ans. Any one assumption from the following :
(i) The resources available are fixed
(ii) The resources are fully employed
AN

(iii) The resources are not equally efficient in production of all products.
6. A basic economic problem is that there is oil shortage in India. What measures do you suggest to meet the
growing demand of oil ?
Ans. There should be optimum use of oil, as it is scarce.
H

There should be massive awareness on shortage of oil and people should be encouraged to use public
transport system, car pools etc.
D

7. The state govt. has sanctioned a certain amount to increase production in rural areas. Which technique of
production will you suggest to the state government for this project ?
Ans. Labour intensive technique will be appropriate.
It will generate employment opportunities and will help in solving the problem of unemployment.
8. Invention of new technologies and discovery of new resources will solve the central problems completely.
Defend or Refute.
Ans. The statement is refuted. The invention of new technologies and discovery of new resources will
expand the production capacity surely, but our central problems will not be completely solved because
unlimited human wants remain ahead of the available resources (natural and acquired).

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 35

9. For a developmental project, logs of wood and other building material have to be carried to the upper
floor of building under renovation by the labour. Alternatively elevators and lifts can do the job which
one will you choose and why ?
Ans. I will choose the second alternative as it will save cost and time. It will be an efficient technique to
undertake this task. Labour may be utilised for some other labour specific tasks.
10. A country’s resources are fully and efficiently employed. The problem of scarcity exists. What advice will
be given to raise the efficiency level of the human resource to fight scarcity ?
Ans. Human resource development in the form of increased expenditure on education, skill development

.
and through on the job or off the job training programmes can fight scarcity.

O
G

C
uidelines to NCERT Questions

&
1. Discuss the central problems of an economy. [Refer to Section 1.5]
2. What is production possibility curve ? [Refer to Section 1.8]

AI
3. Distinguish between a centrally planned economy and market economy. (Out of syllabus)

4. What do you understand by positive economic analysis ? (Out of syllabus)

[Refer to HOTS Q. 1]
R
[Refer to Section 1.13.1]
5. What do you understand by normative economic analysis ? (Out of syllabus)
[Refer to Section 1.13.2]
T

6. Distinguish between Microeconomics and Macroeconomics. [Refer to Section 1.12.3]

PA

EXERCISES
AN

Very Short Answer Type Questions (1 Mark)

1. Give two reasons for the problem of choice.
Or
Why does the problem of choice arise ?
H

2. What is economics ?
3. Which branch of economics deals with the problems of economic growth, growth of resources and fuller
D

utilisation of resources ?
4. Define Central problem.
5. Why does an economic problem arise ?
6. What is the meaning of ‘for whom to produce’ ?
7. Define marginal opportunity cost.
8. What is opportunity cost ?
9. Define production possibility curve.
10. What do you understand by ‘what do produce’ ?
11. What is meant by economising of resources ?

Introductory MICROECONOMICS–XI
36 UNIT I : INTRODUCTION

12. What does a leftward shift of production possibility curve indicate ?

13. Why does the problem of choice arise ?
14. State any two causes of economic problems.
Or
State two features of resources that give rise to an economic problem.
15. Define Microeconomics. Or
What is Microeconomics all about ?

.
Or

O
Give the meaning of Microeconomics.
16. Give one point of difference between Micro and Macroeconomics.

C
17. Define Macroeconomics.
18. Price determination of a commodity is a subject matter of Micro or Macroeconomics ?
19. Is the study of cotton textile industry a Macroeconomic study or a Microeconomic study ?

&
20. Is the study of general price level a Macroeconomic study ?
21. Give one reason why Macroeconomics and Microeconomics are interdependent.
22. Give one example showing the difference between Microeconomics and Macroeconomics.
Or
AI
Give one example each of Micro and Macroeconomics.
R
23. Give two examples of Microeconomic studies.
Or
Give two examples of Microeconomics variables.
T

24. Why is the study of the problem of unemployment in India considered a Macroeconomics study ?
25. What does a rightward shift of PPC indicate ?
PA

26. Why is PPC concave ?

27. Define marginal rate of transformation.
28. State two features of resources that give rise to economic problem.
29. Define an economy.
AN

30. Define Macroeconomics.

31. Unemployment is reduced due to measures taken by the government. State its economic value in the
context of production possibility frontier.
32. Large number of technical training institutions have been started by the government. State its economic
H

value in the context of PPF.

33. The government has started promoting foreign capital. What is its economic value in the context of
D

production possibility frontier ?

34. Define normative economics with a suitable example.

Short Answer Type Questions (¾ Marks)

1. Why is production possibility curve concave to the origin ?

2. What is the effect of growth of resources on a production possibility curve ?
3. How is economic problem a problem of choice ?
4. State any two central problems under problem of allocation of resources.

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 37

5. State the central problems of an economy.

Or
Explain the central problem of ‘for whom to produce’.
6. Explain briefly three factors that lead to an economic problem.
7. What does a PPC show ? When will it shift to the right ?
8. With the help of suitable example explain the problem of for whom to produce.
Or

.
Explain the central problem of distribution of income.

O
9. State three reasons which give rise to an economic problem.

C
Or
Why does an economic problem arise ? Explain.
Or

&
Why do problems related to allocation of resources in an economy arise ? Explain.
10. Explain briefly central problems relating to allocation of resources.
11. In what sense is the problem of how to produce a central problem of an economy ? Explain.

AI
12. Distinguish between Microeconomics and Macroeconomics.
R
13. Explain the central problem of “What to produce” with the help of an example

Explain the problem of “What to produce"with the help of production possibility curve.
T

14. Explain the central problem of “how to produce”.

Or
PA

Why does an economic problem arise ? Explain the problem of how to produce.
Or
Explain the central problem ‘how to produce’ with the help of an example.
Or
AN

Explain the central problem of choice of technique ?

15. Explain the central problem of ‘for whom to produce’ with the help of an example.

16. How can a production possibility curve solve economic problems faced by an economy ?
H

17. Define and draw a production possibility curve. What does the movement along this curve show ?
18. Draw and define a production possibility curve. Why is it downward sloping from left to right ?
D

Or
Why is PPC concave to the origin ? Explain.
19. Draw a production possibility curve. What does a point below this curve indicate ?
20. Why is production possibility curve called the opportunity cost curve ?
21. Draw a production possibility curve and show the following situations on the diagram.
(a) Full employment of resources,
(b) Under utilisation of resources and
(c) Economic growth.

Introductory MICROECONOMICS–XI
38 UNIT I : INTRODUCTION

22. Explain the meaning of opportunity cost with the help of production possibility schedule.
23. Calculate marginal opportunity cost in the following example. Plot the production possibility curve by
taking Rice consumption on the X-axis.
Comment on the shape of the curve.

Rice Production 100 90 70 40 0

Fuel Production 0 1 2 3 4

.
24. Explain the central problem of distribution in an economy.

O
25. Distinguish between Microeconomics and Macroeconomics.
26. Explain the slope of a production possibility frontier/curve.

C
27. How is Production possibility curve affected by unemployment in the economy ? Explain.
28. Production in an economy is below its potential due to unemployment, government starts employment
generation schemes. Explain its effect using PPC.

&
29. Why is a production possibility curve downward sloping ?
30. What is likely to be the impact of “Make in India” appeal to the foreign investors by the Prime Minister of
India, on PPF of India ? Explain.

the economy ? Explain. AI

31. What is likely to be the impact of efforts towards reducing unemployment on the Production Potential of

32. The government establishes a large number of institutes of science and technology. How will it affect the
R
PPC ? Explain.
33. Why do central problems of an economy arise ? Explain the central problem of “for whom to produce” ?
T

34. Define MOC. Explain the concept with a hypothetical numerical example.
35. Using diagram explain what will happen to the PPC of Bihar if the river Kosi causes widespread floods ?
PA

36. State the meaning and properties of PPF.

37. Explain the meaning of opportunity cost with the help of an example.
AN

Unsolved Numericals

1. Calculate MOC of good X and draw PPC from the following data :

Good X 0 1 2 3 4 5
H

Good Y 30 28 24 18 10 0
D

2. Complete the following table :

Good A 0 1 2 3 4
Good B 14 - - - -
MOC - 1 2 3 6

3. Calculate MOC and discuss the shape of PPC :

Production of Wheat 0 1 2 3
Production of Rice 12 7 3 0

Introductory MICROECONOMICS–XI
 Chapter 1 : INTRODUCTION 39

4. Draw PPC from the following data and show on it (i) Growth of resources (ii) Inefficient utilisation of
resources :

Combination A B C D E F G
Good X 0 1 2 3 4 5 6
Good Y 26 19 13 8 4 1 0

5. Compute marginal opportunity cost (MOC) from the following data. Draw and discuss the slope of PPC.

.
O
Good X 0 10 20 30 40 50
Good Y 100 80 60 40 20 0

C
6. Determine MOC from the following data :

Good A Good B

&
20 10
10 18

Answers
1. -, 2 , 4 , 6 , 8 , 10 2. 13, 11, 8, 2
AI
R
3. -, 5 , 4 , 3, convex shape 4. -, 7 , 6 , 5 , 4 , 3 , 1
5. -, 2 , 2 , 2 , 2 , 2 6. -, 1.25
T
PA
AN
H
D

Introductory MICROECONOMICS–XI
40 UNIT I : INTRODUCTION

An Extra Mile

1 Some Basic Tools in the Study of Economics

.
(i) Equation of a line. The general equation of a straight line is given by

O
ax + by = c

where (i) a, b and c are constants

C
(ii) a and b can not be zero

(ii) Slope of a line. Slope is defined as the amount of change in the variable measured on

&
vertical (Y) axis with respect to change in the variable measured on the horizontal (X)
axis.
Y

AI
Slope of a line between two points is the change
in quantity measured on the Y-axis divided by
change in quantity measured on the X-axis.
10

Variable Y
8
R
Slope = DY
DY
6
DX DX
4
Straight lines have the same slope. It means
T

2
change in one variable in response to a unit
0 X
change in other, remains same at all points on a
PA

1 2 3 4 5
straight line. (Fig. A) Variable X

Figure A
(iii) Slope of a curve (Non-Linear). The slope of a
curve is continuously changing as it is a curved
AN

Y
C
line.
For example,
Variable Y

N
( DY)
Slope of curve from N to B = NP DY B
H

PB ( DX) P
DX D

is different from slope measured from B to D.

D

(Fig. B)
0 X
Variable X

Figure B

Introductory MICROECONOMICS–XI