MODULE 1

APPLIED ECONOMICS

Session Topic: Resource Utilization and Economics

1. Introduction to economics
2. Basic economic activities
3. An overview of the economy
Learning Objectives
1. Introduce the fundamentals of economics by exposing them to the principal theories and models used by
economists.
2. Examine the basic economic activities.
3. Overview of Economy: Circular flow of economic activity and types of economic system.
Key Points
Economics Scarcity Ceteris Paribus Production Distribution
Exchange Consumption Utility Positive Normative
Economics Economics
Traditional Command Market Economy Mixed Economy Equilibrium
Economy Economy

Core Content
Introduction
At the heart of the study of economics is the irony found in the definition of economics. How do we reconcile
something limited (scarce) against something unlimited? How do we make something finite (scarce) against something
infinite (unlimited)?
That is why economics is necessary science to be studied. There remains a great need to study how man
behaves, particularly on how he decides given several choices. The study of economics is supposed to help man make
good decisions and better judgments. One of the simplest tools that can be used in the allocation of scarce resources is
the Production Possibilities Curve Frontier (PPC/PPF) discussed in the next module.
In-text Activities

A. Review of Basic Economics

Economics is a social science that deals with the efficient allocation of scarce resources to satisfy the unlimited
human wants and needs.
There seems to be an irony in the definition because there seems to be a disparity between scarce or limited
resources against unlimited human wants and needs, hence we identified that the central concept of economics is
scarcity.
To address this fact, economists and non economists are eventually guided by five basic economic questions,
namely:
1. What to produce?
2. How many and how much to produce?
3. How to produce?
4. For whom to produce?
5. At what price to produce?
What to produce is a question of the types of goods society desires. Will a country produce rice, coconuts,
bananas? Since resources are scarce, no economy can produce every product desired by members of society?
How many or how much to produce refers to the quantity of each good that will have to compose the total output.
Example, if rice is decided to be produced, how much should the total output be?
How to produce is a question on the technique of production and the manner of combining resources to come up
with the desired output.
For whom to produce refers to the market to which the producers will sell their products. It refers to how much of
the wants of each consumer are to be satisfied.
Answering the final question entails determining how much the consumers are willing pay for a product and if the
price is agreeable on the part of the producer.
Generally, there are four economic activities that are undertaken in a cycle to address the above mentioned
questions.

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 B. Basic Economic Activities

The first activity is known as the Production activity. This directly addresses the basic economic questions of what
to produce, how many and how much to produce, and how to produce. When products have been produced, they may
be classified into several types as presented below:

Type of Good Definition Examples

Basic goods Primary and necessary Food, clothing, shelter
items needed for man to
survive.
Luxury goods Items that are desired by
man to have a more Mansions, high-end cars,
comfortable way of life, but jewelries
are not necessary to his
survival, often expensive
and not easy to acquire.
Public Goods Goods that are provided by
the government for the Highways, bridges, waiting
benefit of its constituents sheds
Free Goods Goods that are normally
abundant and do not need Spring water, oxygen, rock
to be paid for.
Economic Goods Goods that are normally
produced or are scarce, Processed food, mineral
requiring a certain payment water, branded clothes
for their consumption

Production can be classified into two: Labor-intensive production and capital-intensive production. Labor-
intensive production requires more of the human skills and capital-intensive requires more of the machineries and other
resources to produce goods and services.
The second economic activity is known as Distribution. It directly addresses the question, “For whom to
produce?”. It focuses on how the products will reach the ultimate consumer. Non-conventional way of transporting such
as kalesa, pushcarts and the likes are still the cheapest but slowest way. The conventional way which includes air cargo,
ships and the like is more expensive but is much faster.
Exchange is the third economic activity which is designed to facilitate the transfer of goods or service from the
producer to the consumer. An exchange only happens when both parties agree, or when the consumer agrees to the
price of the producer. Today, we are using a standard medium of exchange called money. If a money is generally
accepted, this is called legal tender. Non-legal tender however are those money in form of checks, foreign currencies,
promissory notes or even credit cards which maybe refused by producers since they are not generally acceptable.
The final economic activity is Consumption, where the ultimate consumer now gets to enjoy the goods or
services he or she has bought. The satisfaction derived from consumption of a good or service is generally called utility.
Normally, the higher the utility of a good, the higher the satisfaction a consumer gets.
Generally, there are at least four basic factors used in any production process, regardless of the types of
production facility an enterprise has, This is so-called, “CELL” of production which stand for Capital, Entrepreneurship,
Land and Labor. To sum up, below is the table showing the factors of production and their corresponding payments.
Factor of Production Corresponding Type of Resource
Payment
Capital Interests Man-made Resource
Entrepreneurship Profits Human Resource
Land Rent Natural Resource
Labor Salaries and Wages Human Resource

Some Economic Problems

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 Most societies aim to use economic activities as a channel to improve the people’s standard of living within the limits
of available resources. Hence, a government can restructure economic system in order to solve its short comings like:
1. Unemployment of labor or other resources.
2. Economic instability that causes highs and lows in production and investment levels;
3. Low levels of growth and development.
4. Inequality in income distribution resulting in concentration of the nation’s wealth in the hands of few.
5. Determination of the type of economic system to adopt to fit the country’s peculiar conditions and needs.
The Functions of Economic Theory
The principal functions of economics fall into two categories: (1) to explain the nature of economic activity and (2) to
predict what will happen to the economy as facts change.
Positive economics is supposed to be completely objective, limited to the cause-and-effect relationships of
economic activity; it is therefore concerned with the way economic relationships are. It is factual and is used to describe
occurrence of a phenomenon.
Normative economics however, is concerned with what ought to be or what should be. This is more subjective and
more judgemental. In contrast, normative economics is more predictive than descriptive in usage.
Economic Models
Microeconomics makes extensive use of modelling, comparative statistics and mathematics. Economic models
are composed of statements of assumptions or implications.
Among the best known economic model is that if a competitive market, or “supply and demand.” The Law of
Supply and demand can be expressed verbally (logical), mathematically and graphically.
Verbally, the Law of Supply can be expressed in the following words: Supply is a schedule of prices and
quantities that a supplier or suppliers would be willing to offer for sale at each price per period of time. As suppliers, they
would be encouraged to sell more at higher prices and would sell less at lower prices. This is because, higher prices,
other things held constant, mean higher profits and lower prices mean lower profits. Thus, prices and quantity offered for
sale are directly related, i.e. the higher the price, the more supply, the lower the price, the less supply.
Mathematically, the law of supply can be expressed as:
Qs=500P
The equation Qs=500P means that if the price is say, Php1 quantify supplied (Qs) would be Php500 (Php500 x 1
=500); if the price is Php3, quantity supplied would be Php1500 (500 x 3); if the price is P6, quantity supplied would be
Php3000 (500 x 6). Thus, there is a direct relationship between price and quantity supplied as explain verbally in the
above mentioned paragraph.
The law of supply can also be expressed graphically. If we compute the supply schedule as expressed in the
equation, Qs=500P, we will have the following table:
Price Quantity Supplied
1 Php 500
2 1,000
3 1,500
4 2,000
5 2,500
6 3,000

Plotting the data from the table above, we now get

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 Price
Supply Curve
6

1 Quantity Supplied
0
500 1,000 1,500 2,000 2,500 3,000

Figure 1. Supply Curve

Comparative Statics vs Dynamic Analysis
Comparative statics focuses on the shift in equilibrium positions (statics) for an individual decision unit, a market,
or an economic system. Microeconomics extensively uses comparative statics analysis.
Equilibrium refers to a state where there is a balance of internal forces and no tendency for the situation to
change unless outside forces intervene. To simplify, equilibrium is a state where quantity demand equals quantity
supply.A system in such equilibrium may also be termed “static”.
Let us say in a competitive market, supply and demand for a commodity reaches equilibrium at the price of
Php20 per unit. If demand exceeds supply because of an increase in population and an effective advertising program, it
is possible that price would go up to Php22 per unit. Comparative statics is applicable here because there is a shift in
equilibrium brought about by an increase or shift in demand. Thus, price would go up from Php20 to Php22.

C. An Overview of the Economy

The Circular Flow of Economic Activity
Within the economy, the basic activities take place through the interrelationship existing between the basic
consuming unit, which is the household and the basic producing unit, which is the firm.
A simplified model of this circular flow of economic activity is shown in Figure 2.
The top loop in the diagram shows the business firm supplying the household with goods and services in
exchange for payments representing consumption expenditures. On the other hand, the business firm has to use of
economic resources consisting of land, labor, capital and entrepreneur to produce these goods and services. The
household provides the firms these resources in exchange for payments in the forms of rent, wages, salaries and profit.

Goods and Services

Economic Resources

Household Business Firm

Money Payment for Wages

Interest, Rent
Consumption Expenditures
EXPENDITUR
Figure2. Circular Flow of Economic Activity

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 The circular flow also shows the flow of money and the flow of goods and services in both directions. The
financial flow, which is the money flow, is depicted in the money payment by the firm to the household of its money
income, and by the household to the firm for its purchase of goods and services. On the other hand, the physical flow
which is the goods flow, is depicted in the flow of economic resources from the household to the firm and in the flow of
goods and services from the firm to the household.
Type of Economic System
An economic system is a mechanism in a country which deals with the production, distribution, exchange and
consumption of goods and services. The economic system is composed of people, institutions, and their relationships. It
is designed primarily to address the problems of economies in a country, particularly, the allocation of scarce resources.
Economic systems may be classified into three types:
1. Traditional economic system.-In this economic system, production decisions are made according to customs and
traditions. A farmer engaged in the production of rice does exactly what his father did 20 years ago. This system,
while simple and easy, does not follow for progress to be introduced in the production techniques. This is usually
practiced in underdeveloped regions and in mountains where transportation and communication are practically
nonexistent.

2. Command Economies.- In this economic system, the basic economic problems are dictated by the government
through the head of the nation or a group of men designated by the head to make decisions. The former Soviet
Union and Cuba are very good examples of this economic system.

3. Market Economic System- A market economic system is one which a nation’s economic decisions are result of
individual decisions by buyers and sellers in the market. The buyers represent the demand side of the market,
while the sellers represent the supply side of the market. Transactions in this market occur when both buyers
and sellers agree on the price of a given good or service. Although there is governmental intervention, it usually
plays more of a regulatory rather than an intervening role. A market economy gives people the freedom of
enterprise or the freedom to pursue business without dictates of the government. United States of America is an
example of this economy.

An extreme type of this economy is known as Fascism, which only happened in Italy during the time of
Benito Mussolini where people were encourage to accumulate more wealth and consume larger number of
product and services apparently to bring about great economic wealth to the country.

Today, modern economies have evolved to encompass several characteristics of these three original
economic systems. Isolated tribes, clans and towns even in high developed countries still follow their traditions.
Market economies, although giving their constituents a very wide range of economic choices and freedom, are
still giving reasonable government intervention, especially in basic goods and services-a characteristic of a
Command economy. Command economies, on the other hand, have been known to give their constituents a
freedom of enterprise in a limited scale. Most economies today have Mixed Economic System.
In the next page is a summary of the past and present type of economic systems and their
characteristics.
Comparative Economic System
Economic Characteristics
Systems Production Existence of Degree of Country
Decisions Freedom of Government Example
Enterprise Intervention

Pure Capitalism Market decides Yes Very little Early

(buyers and industrialization
sellers) Experiences

Socialism State decides on Limited, on non- Great extent China under Mao
major and basic basic and critical Tse Tung
products products

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 Communism State decides None Absolute Former Soviet
entirely Union, modern
day Cuba

Fascism Individual and Yes Government Italy

groups encourages
material
accumulation
and consumption

Mixed Dynamic Yes, but with Government only Modern-day

Economics Interaction government imposes Countries
between the participation regulations.
market and the especially for
government. basic goods

Summary
Most people have general idea of what Economics is. The live with it, they practice it. Economics is concerned
with the production, distribution, and use of material goods and services. The country’s economic organization has a lot
to do with how the decisions to fundamental problems are arrived at. In the same manner, the way a nation answers the
problems determines the type of economic system it adopts. To be able to understand and explain economic events, one
must learn how to use the basic tools of Economics. These tools equip the economist or even the student of Economics
to approach the subject in scientific manner.

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LEARNING ASSESSMENT : Introduction to Economic Theory
Name:_______________________________ Professor:____________________
Year and Section:_____________________ Rating:_______________________
Exercise 1
Multiple Choice. Read each statement and complete the correct thought of each statement by writing the SMALL
LETTER corresponding to your answer on the space provided before each item. Avoid erasures. If the answer is not
found from the choices, write the capital letter X. (1 point each, 20points)
_____1. Production decisions are made according to customs and tradition in a
a. Traditional system c. Market system
b. Command system d. Mixed system
_____2. Man’s mental effort exerted in production is called
a. Land c. capital
b. Labor d. entrepreneurship
_____3. The system works under the principle that the interest of society shall prevail over that of the individual:
a. Traditional system c. Market system
b. Command system d. Mixed system
_____4. Basic consuming unit:
a. Firms c. Resource owners
b. Household d. None of the Above
_____5. Payment for the use of land:
a. Wage c. Rent
b. Interest d. Profit
_____6. Known as the price theory:
a. Macroeconomics c. Positive economics
b. Microeconomics d. Normative economics
_____7.Payment made to Labor:
a. Wage c. Rent
b. Interest d. Profit
_____8. National income analysis:
a. Macroeconomics c. Positive economics
b. Microeconomics d. Normative economics
_____9. Deals with what should be:
a. Macroeconomics c. Positive economics
b. Microeconomics d. Normative economics
_____10. Man’s needs required for survival:
a. Wants c. Luxury goods
b. Needs d. None of the Above
_____11. Study of what is:
a. Macroeconomics c. Positive economics
b. Microeconomics d. Normative economics
_____12. Price of capital:
a. Wage c. Rent
b. Interest d. Profit
_____13. Production orientation that largely uses more machines is called
a. Labor-intensive c. Both a&b
b. Capital-intensive d. Neither a&b
_____14. The economic activity involve in the manufacturing of goods is called:
a. Production c. Distribution
b. Exchange d. Consumption
_____15.Machines, tools and equipments used in production is called:
a. Capital c. Land
b. Entrepreneurship d. Labor
_____16. The central concept of economics is;
a. Free c. unlimited

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 b. Scarce d. needs
_____17. A hypothesis is a:
a. Fact c. Principle
b. Assumption d. All of the above
_____18. Another term for equilibrium is:
a. Deflation c. Comparative
b. Static d. Growth
_____19. Which of the techniques is not employed in microeconomics?
a. Models c. mathematics
b. Dissection d. statistics
_____20. Microeconomic Theory studies the economic behaviour of:
a. Consumer c. Business firm
b. A resource owner d. household

Exercise 2
Definition of Terms. Define the following: (3 points each, 15 points)
1. Economics-______________________________________________________
________________________________________________________________________________________________
________________________________
2. Microeconomics____________________________________________________________________________
_______________________________________
3. Exchange-________________________________________________________
________________________________________________________________
4. Economic System-_________________________________________________
________________________________________________________________
________________________________________________________________
5. Equilibrium-_____________________________________________________
________________________________________________________________

References
Refer to the references listed in the syllabus of the subject

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