Chapter 1: The Central Concepts of Economics

Orientation for the chapter: : The fundamental, in the life of individual, always a social entity, is of survival,
achievement and power (discretionary power or leadership) motivations. This needs unlimited availability of goods
and services transformed from limited resources (land, water, human). There is also the urge for progress and
development (basically, removal of hunger, pain and in-equality) at the universal level. Technology and low cost of
production are the only answers to the challenges. Therefore, the essence is for having a technologically
progressive society. At the same time, because of the over emphasis on growth and development there appears to
be serious question marks upon ethical and sustainability aspects. Sustainability issue involves (i) depletion of non-
renewable resources (or concern for future), (ii) environmental & ecological degradation and (iii) value erosion or
absence of trans-frontier responsibility (the term means the adherence to the principle of living within one’s
means or able to produce goods and services at least cost). The study of economics encompasses all the above.
The type of economic system that manages the economy and the limits to the technological possibilities are to be
understood first.

Keeping these points in mind the chapter attempts to outline the conceptual framework and methodological
aspects of the study of economics particularly keeping engineering and management students in perspective. It
has three parts: A, B & C. Part A deals with definitional and methodological aspects. Part B covers basic
[fundamental economic problems to be answered and a narration of the three types economic organizations [this
is from political science perspective (originally, economics was known as political economy)]. Part three elucidates
the society’s choice for solving the problems from a production possibility angle.

Part A:

Scope of the study of economics:

Queen of social sciences [among all facets of life economic life is fundamental]
Studies income earning and spending activities of individuals and societies at large and thus deals with analysis and
possibilities of material life.
The study helps:
(a) Individuals/households [maximization of leisure and pleasure per unit of work]
(b) Firms/business houses [maximization of profit and citations and certifications]
(c) Government [maximization of social welfare]
Select list of subjects covered in the study of economics: See page 4 of text book i.e. five bullet points
Basic definition: Is the study of how societies use scarce resources to produce valuable goods and services and
distribute them among different individuals. [Scarcity or Allocation definition]
Key words:
Scarcity: Limited supply -Notion of free goods and economic goods
Efficiency: Production of highest combination of quantity and quality of goods and services given the technology
and scarce resources. Implies least wastage

This definition is given by Lionel Robbins. We will touch upon main points of other definitions in tutorial
sessions.
More elaborations of Scarcity definition: [Not covered in the text book]
Economics is there because of scarcity and utility
Utility is power of a commodity or service to satisfy human wants/desires
Characteristics of wants:
Never ending – repetitive/recursive – complementary – competitive and mutliplicative
Micro economics: Analysis at the unit/individual commodity level – worm’s eye view partial equilibrium analysis.
Tries to find out how resources can be best used through the theory of value/price Variables: Demad, supply and
price]
Recent examples: (i) Five star hotels bring more to the menu{Luxury Hotels Innovate To stay in Fine-Dining Game
Where They were Once The Only Players (only players mean stand-alone establishments). (ii) Syringe prices may
soon fall by over 50% (in initiative from All India Syringes and Needles Manufacturers Association to bring relief to
patients.
Macroeconomics: Analysis at the aggregate level of the economy. Bird’s eye view – general equilibrium analysis.
Variables of significance are: Money, income, inflation, employment, interest rate, exchange rate.
Examples: (i) Budget likely to have farm focus {Prompted by Election Results?} (ii) Liquidity dips, interest rates set
to rise {Liquidity means flow of cash and credit money in the economy]
The logic of economics:
Scientific method
Theory and empiricism
The limitations in economic analysis
(i) The post hoc fallacy (ii) Failure to keep other things constant (iii) Fallacy of composition
Assumptions: Not given in the text
(i) Rationality (ii) Average situations (iii) Ceteris paribus [other things remaining constant]
Positive and Normative economics
Conclusively, society’s economizing principle looks forward for efficiency, prosperity and justice.
In the process, there can definitely conflict of interest between (i) Market disciple & compassion of social
programmes and (ii) Competition & co-operation
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Some more examples of current months:
(a) Present
Micro: (i) Rs. 2600cr. Government package for feather and leather industry (ii) Due to Okhi [whether
turmoil], GST [Goods Service Tax] & demonetization, reduction is felt in the number of tourists in
Kerala (iii) Apple admitted it's slowing down certain iPhones [Related news: Apple slows older iphone
with aging batteries – Step taken to prevent shut down when old batteries are unable to meet the power
demand of the phone’s processor, company says] (iv) Railways are planning to implement discount
scheme in the ticket fares when the number of bookings becomes sluggish [low] (v) Gravitational wave
detector to be built in India by 2025.
Macro: (i) Govt. to bear MDR charges on digital transactions up to Rs 2,000 [MDR: Merchant Discount Rate] (ii)
TV & Mobile custom duty increased (iii) Government’s new panel to study the operations of crypto currencies
[Virtual currencies an example: Bit-coins] (iv) Considerable decrease the birth rate – A grave concern for Japan
[Population size is a variable of macroeconomics] (v) There is no proposal to shut down ny of the public sector
banks, according to RBI and as well Government

Two examples each given during the last year: Micro: (i) Rubber import should be staggered for next six months. On the other hands, exports
should be encouraged. Rubber farmers are incurring Rs. 172 /- per Kg. They are not able to recover even the said cost of production, according
to Indian Rubber Growers’ Association. (ii) As a sequel to the decision and implementation of OPEC[Oil Producing and Exporting Countries] to
reduce production of crude oil, petrol and diesel prices are expected to increase in the near future.
Macro: (i) Share market recovered from the earlier one day sizable slide. One reason for the recovery is that the anxiety, about incidence of
taxation on income from share holdings, has tended to vanish. (ii) Federal Reserve’s [Central Bank in USA, in case of India the same is RBI]
announcement about increase in interest rate may affect India adversely.[Main impact could be : more force for the downward trend in gold
prices and rupee exchange value, which is because dollar will become dearer]. [There has been considerable decline in the imports of gold over
the last 8 months [April-November, 2016]. However, government spokesperson says that the impact is only temporary [short term]. i.e., India
can absorb the shock.