Introduction to Micro-

Economics

Session I
What is Economics
 Economics is a science which deals with the unlimited wants
and limited resources.
 Making choices in the face of scarcity. If things were not
limited, there would not have been subject like economics
 Limited resources imply scarcity and unlimited wants lead to the
problem of choice.
 Scarcity implies that, at any given point of time, an individual,
organisation or a country can not have everything in any
quantity that is desired.
 So the problem of economics is to make a choice efficiently so
that use of resources is minimised and the satisfaction is
maximised.
Contd…
 Economic system allocates scarce
resources across the competing uses,
combining and processing these
resources to produce goods and
services. It determines what to
produce, how much to produce. It
arranges for distribution of goods.,
provides for future growth.
Contd…
 Allocation – problems, scarcity, choice
 Proper combination – how much for
each category
 Distribution – who should get?
 Growth – different engines of growth
Production Possibility curve
Production Possibility Curve
 At any given point of time, the
resources available to an economy –
size of working population, land,
building, machinery – are all given. So if
more resources are used for one sector,
less will be available for the other
sectors. So a combination of goods and
services has to be decided for an
economy.
Production Possibility Frontier
 It is based on the  PPF slopes downwards
famous gun-butter which reflects scarcity
paradox of resources. To get
 Concepts of scarcity, more guns, society has
choice and efficiency to sacrifice butter
can be well understood  PPF is concave to the
with the help of PPF origin indicating the
 In PPF, guns represent increasing relative cost
military goods and of transferring
butter represents resources from one
civilian goods. sector to another.
Production Possibility Frontier
 With given resources,
country can produce
either more of butter or
of guns.(B or C)
 Pt. A indicates
inefficiency
 Pt. E is unattainable with
the given resources
 Movement from ppf0 to
ppf1 indicates expansion
of resources
Application of PPC
 Central problems of economy – what, how, for whom
 During 2002-03 India produced 23.2 million tonnes of potato.
This was partly influenced by how much land is used to raise a
particular crop, which is a consequence of govt policy and
individual’s choice
 What method to be used is also a problem of choice. Electricity
can be produced with hydro, coal or nuclear power. Agriculture
can be done by labour intensive or capital intensive method.
 Who earns how much is also a choice problem for the economy.
Computer engineers earn more than the historians, teachers in
US earn more than the teachers in India. This is an issue
related to the distribution of wealth and income in the economy.
How to solve basic economic
problems?
Basic economic systems
 In market economy, 3 fundamental
problems are solved by market. The
forces of demand and supply determine
what, how much and for whom to
produce
 In centrally planned economic system,
these problems are solved by the state
or government.
Approaches to the study of
Economics
 Micro economics – refers to the analysis of
scarcity and choices problem faced by single
economic unit such as firm, producer,
industry. It assumes the things to be constant
other than the part of a system under study.
 Macro economics – deals with the behaviour
of aggregates such as Gross Domestic
Product, employment and inflation rate. It
focuses on the form and functioning of the
economy as an aggregate system
Distinction between micro and
macro economics
Microeconomics Macroeconomics
 Deals with choices of  Deals with economic
individuals aggregates
 Aggregates arising out of  Aggregate of
individual choices are heterogeneous goods is
considered – Eg. total considered – Gross
demand for oranges National Product
 Relative prices play imp  Aggregate prices are
role – response of important – like price
consumers & producers level which combines
to change in relative prices of heterogeneous
prices is considered goods
Subject matter
 Microeconomics  Macroeconomics

product pricing – theory unemployment

of demand inflation
poverty
factor pricing – theory depression
of distribution
underdevelopment

economic welfare
Why should a manager study
economics?
 To get a technical help in making optimal and rational
economic decisions
 Profit decisions of a firm can be evaluated through
economic theory
 Profits are functionally related to sales and revenue which
in turn depend on demand
 Demand decisions are followed by production and supply.
 Price-supply decisions depend on the market structure
Thus,various types of economic decisions taken by a
manager can be evaluated through microeconomic
analysis.
Contd..
 Both the markets work on the basis of pricing
system. So the Price theory is important
subject matter of MiE.
 Role of Govt.- govt affects circular flow by
purchasing and producing the goods for
public consumption (education, defence, etc).
Through taxes it can redistribute the income.
Also consumption of some of the goods can
be influenced thru commodity tax.
Exercise I
Classify the following as topics of micro or
macro
 A firm’s decision about how much income to
save
 Effect of govt regulation on auto emission

 Impact of higher national savings on

economic growth
 Firm’s policy of hiring and firing workers

 National policy on Minimum wages

 Globalization for raising economic growth rate

Demand analysis
 In 1973, OPEC collectively curtailed the production of
oil drastically. The supply of oil in the world fell so
much that the price of oil increased by three times.
The world economic scenario has changed drastically
since then.
 Mr. X was thinking of selling two 100 yard plots in his
hometown to finance his son’s education in US
(costing 20 lakhs). Suddenly some software factories
moved in and the govt began to develop the place as
“IT Park”. The land prices went up. Mr. X had to sell
only one plot.
Contd..
 A successful manager understands how
market forces create both opportunities and
constraints for profitable decision-making. If
they understand how the markets work, they
will also be able to predict the prices and
production levels of goods, resources and
services for their business.
 Demand supply analysis is a powerful tool for
analysing the way the market forces
determine prices and production in the
competitive market.
 Demand implies 2 things
 willingness to purchase that commodity
 ability to pay the price of commodity
Determinants of demand
 Price of a commodity (Px)
 Prices of a related goods (Py)
 Income of a consumer (Y)
 Tastes and preferences (T)
 Advertising expenditure (A)
 Expectations about the future
movement of price of a commodity (Pe)