relationship between unlimited wants and scarce resources that have alternative uses
It is divided into two main branches:
Microeconomics
Macroeconomics Microeconomics Studies the behaviour of individual economic units such as consumers, workers, investors, land owners, business firms
It explains, for example, how consumers make
purchasing decisions and the factors affecting them
It also explains business decisions of firms, how many
workers to hire, how much to produce, supply, etc.
The interaction among the economic units to form larger
units such as markets and industry is also studied Macroeconomics Is the study of aggregate economic quantities such as the national income, inflation rate, interest rates, unemployment
The boundaries between the two branches are
becoming less distinct as Macroeconomics also involves the analysis of markets at aggregate level
To understand the aggregate market behaviour,
understanding of behaviour of individual markets is essential Themes of Microeconomics (1)
Trade-offs: facing consumers, workers and firms
Prices and markets: all trade-offs are based on prices
faced by the different economic units. Prices are determined in markets whose working is described by Microeconomics
Equilibrium: Equilibrium is a condition of stability which
has no tendency to change. How is equilibrium attained? Themes of Microeconomics (2)
Four factors of Production: Land, Labour, Capital and
Entrepreneurship and how factor prices are determined in the various factor markets
Theories and Models: Explanation of observed
phenomena based on basic rules and observations is theory. Model is an abstraction of reality, typically a mathematical representation of observed phenomena Positive and Normative Analysis Positive analysis is describing things as they are without any value judgement
Positive analysis describes relationships of causes and
effects
Normative analysis talks about how things ought to be. It
involves value judgement
Normative analysis is very important for designing public
policy What is a market? Individual economic units can be categorized into two broad groups- buyers and sellers
Buyers: consumers (buy goods and services), firms
(purchase factors of production)
Sellers: Firms (which sell goods and services) and
households (which sell factors of production)
A market is the, ‘collection of buyers and sellers, that,
through their actual or potential interactions, determine the price of a product or set of products’. Competitive vs Non-Competitive markets Markets are the centre of economic activities
Perfectly competitive markets have large numbers of
buyers and sellers so that no single buyer or seller can influence the market price
Some markets may not have large number of sellers but
still be competitive such as those for natural minerals
Some markets, despite many sellers, are still non-
competitive such as the oil market in the world which is dominated by the OPEC Market Price Markets allow transactions to take place between buyers and sellers
Quantities of goods are sold at a specific prices
In perfectly competitive markets, usually a single price
prevails
In imperfectly competitive markets different prices can
prevail as the same firm might charge a different price for the same product to different customers Extent of a Market
Is nothing but its boundaries both geographically and in
terms of the range of products
Geography could be country, state, city
Product range could be, for example, leaded and
unleaded petrol, regular octane and high octane petrol
For some markets, such as housing, geography is the
most important factor, that too restrictive geography Significance of definition of a market A company must know who its actual and potential competitors are for the products it sells or wants to sell
It must know its product and geographical boundaries of
its market in order to set price, determine advertising budgets and make capex decisions
For Government to take public policy decisions- should it
allow mergers of certain entities, for example, would be determined by the effect of such mergers on prices and output Real vs Nominal Prices To compare current prices with those of the past and the future, prices have to be measured in relative terms else it would be meaningless
This means correcting prices for inflation across time. This
means measuring price in real terms
The nominal price is nothing but the actual price of the
commodity. For example, the price of petrol in today and price of it a few years back
Real price is the price relative to an aggregate measure
of prices (such as the CPI) - adjusted for inflation Why study Microeconomics?
Corporate Decision Making- for example, launching a
new car in the market- determining the extent of the market, how consumers would react to the colours, design and price of the new car, etc.
Public Policy- For example, deciding the auto-emission
standards in the market- it has a monetary impact on customers and also their standard of living, therefore such impact must be evaluated