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Introduction to

Economics
What is Economics?

 Economics is the study of human behaviour as


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

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