BBM 202

Lesson 1: Economics: Meaning, Nature, and Scope

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LESSON 1
MEANING, NATURE AND SCOPE OF ECONOMICS
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Structure of the Lesson:

1.1 Meaning and Definitions of Economics

1.2 Meaning of Microeconomics
1.3 Scarcity and Choice
1.4 Economic Problem
1.5 Nature of Economics
1.6 Positive Versus Normative Analysis
1.7 Subject Matter of Economics
1.8 Summary
1.9 Self check Questions
1.10 Suggested Readings

Objectives of the Lesson:

Objectives of this lesson are:

 To explain the meaning and definitions of Economics, and
 To discuss the key concepts of Economics like, Scarcity and Choice, Economic
Problem etc.
 To explain the nature and scope of economics.

1.1 MEANING AND DEFINITIONS OF ECONOMICS

The word 'Economics' has been derived from two Greek words Oikos (meaning a
house) and Nemein (meaning to manage). Economics meant managing a household
with the limited funds available in the house in an economical manner. Alternatively,
economics is the study of how a society chooses to use its limited resources to produce
exchange and consume goods and services.

Economics has been defined by various economists. Various definitions are grouped
under four headings e.g.: Wealth definitions, Welfare definitions, Scarcity definitions,
and Growth and development definition.

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Wealth Definitions: In wealth definitions given by classical economists , According to
Adam Smith (known as father of Economics, who wrote a book titled “An enquiry into
the Nature and Causes of Wealth of Nations” in 1776) "Economics inquires into the
factors that determine wealth of the country and its growth." The definition emphasizes
production and expansion of wealth. J.B. Say said that "Economics is the science which
deals with wealth." F.A. Walker stated that "Economics is that part of knowledge which
relates to wealth."

In short Wealth definitions considered production, distribution and exchange of wealth.

So, contemporary writers termed economics as a dark and dismal science which is
concerned only with attaining material wealth. The non-material things such as health,
education, good administration were not covered by the wealth definitions. Thus, wealth
definition narrows down the scope of economics

Welfare Definitions: Alfred Marshall was the first economist who shifted (in 1890) the
emphasis from wealth to welfare in the definition of economics. According to him
"Economics is on one side the study of wealth; and on the other and more important
side, the study of man". He defines economics as "a study of mankind in the ordinary
business of life; it examines that part of individual and social action which is more
closely connected with the attainment and use of material requisites of well-being."

AC Pigou stated that "The range of our enquiry becomes restricted to that part of social
welfare that can be brought directly or indirectly into relation with the measuring rod of
money." According to Cannon “The aim of political economy is the explanation of the
general causes on which the material welfare of human being depends.”

Welfare definitions make clear some understanding of the factors that affect material
welfare. Accordingly, Economics is the study of income earning and income spending
activities of a society in daily life that promotes material welfare of human beings. Thus,
these definitions make economics both a social and normative science.

However, welfare definitions are criticized by other economists on the grounds that
welfare definitions ignored immaterial things. Further, Marshall defines economics in its
normative of negative aspect, i.e., what ought to be. For instance, Marshall's definition

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excludes production of guns, cigarettes, opium, wine, poison, etc., from the subject
matter of economics because they do not promote human welfare. According to
Robbins, economics is neutral between ends and it should include all those goods
which are in scarce supply in relation to demand for them. Robbins was of the view that,
the concept of welfare is not fixed. The concept of welfare is different in different
countries and at different times, i.e., welfare is a subjective concept and it varies from
person .to person.

Scarcity Definitions: Prof. Lionel Robbins in his book “Nature and Significance of
Economic Science (1932)” defined economics as the science of scarcity. He stated that
"Economics is the science which studies human behavior as a relationship between
ends and scarce means which have alternative uses."

Thus, Robbins' definition explains realistic situations. According to him, Economics is a

science of choice which talks about Multiplicity of Ends, Scarcity of Means (Resources),
and Alternative Uses of Scarce Means. He was of the view that economics is a positive
human science, which is neutral between ends.

Robbins' definition is also criticized by various learners on the ground that it narrows
and restricts the scope of economics. This is because the definition discusses
economics as a theory of product and factor pricing. It does not talk about economic
growth or economic development. Also, there is no definite positive correlation between
scarcity and economic problems. In developed nations, abundance creates economic
problems. Further, Robbins’ definition ignores the normative aspect of economics, that
is, it fails to deal with what is good or bad for society's welfare and what should be done
to attain good ends. The definition fails to solve the prevailing economic and social
problems attached with ill health, illiteracy, poverty, etc.

Growth and Development Definition: Paul A. Samuelson's definition of economics

includes dynamic changes taking place both in the means as well as the ends with the
lapse of time. He defined economics as the “study of how men and society, choose,
with or without the use of money, to employ scarce productive resources which could
have alternative uses, to produce various commodities overtime, and distribute them for
consumption now and in the future among various people and groups of society."

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Samuelson touched both economic growth and welfare aspects of economics. He
stressed on the problem of scarcity of resources in relation to unlimited ends and
alternative uses of resources. His definition has element of time and dynamism also
which is clear from phrases like "now and in future."

Thus, Samuelson's definition of economics is wider in scope, more comprehensive and

modern. It is growth oriented and future oriented. The definitions include the views of
AC Pigou (in the phrase "with or without the use of money") and Alfred Marshall (in the
phrase, 'improving patterns of resource allocation"). The definition takes into account
consumption, production, distribution and exchange of goods (in the phrase 'to produce
various commodities and distribute them for consumption"). Hence, Samuelson's
definition is the most satisfactory and acceptable definition of economics. It has a
universal appeal.

1.2 MEANING OF MICROECONOMICS

The prefix micro in microeconomics comes from the Greek word micros, meaning small.
It contrasts with macroeconomics, the other branch of economic theory.
Macroeconomics deals primarily with aggregates, such as the total amount of goods
and services produced by society and the absolute level of prices, while
Microeconomics analyzes the behavior of “small” units: consumers, workers, savers,
business managers, firms, individual industries and markets, and so on.

Microeconomics, however, is not limited to “small” issues. Instead, it reflects the fact
that many “big” issues can best be understood by recognizing that they are composed
of numerous smaller parts. Just as much of our knowledge of chemistry and physics is
built on the study of molecules, atoms, and subatomic particles, much of our knowledge
of economics is based on the study of individual behavior.

Individuals are the fundamental decision makers in any society. Their decisions, in the
aggregate, define a society’s economic environment. Consumers decide how much of
various goods to purchase, workers decide what jobs to take, and business owners
decide how many workers to hire and how much output to produce. Microeconomics
encompasses the factors that influence these choices and the way these innumerable
small decisions merge to determine the workings of the entire economy. Because prices

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have important effects on these individual decisions, microeconomics is frequently
called price theory.

1.3----SCARCITY AND CHOICE

The fundamental fact of economic life is that human wants are unlimited. When one
want gets satisfied, another want crops up. Wants are of different intensity; some are
more intense than others. People have to choose which want satisfaction they desire
most. Further, Resources are scarce in relation to wants, i.e. resources are limited and
wants are unlimited. Thus, all wants cannot be satisfied. Human beings have to decide
for the satisfaction of which wants the resources should be used.

Resources are not only scarce but they have alternative uses. For example, coal can be
used as fuel in production of industrial goods or for running trains or for domestic
cooking. The economy has to choose the uses for which resource has to be employed.
If the resource had a single use, the question of choice would not have arisen.

This brings out the scarcity aspect. Scarcity is to be understood in relation to demand or
want. If a commodity is available in plenty in relation to its demand (e.g. the air we
breathe and the water in the ocean), it cannot be regarded as scarce. Even if a
commodity has limited supply but no demand, it would not be scarce. For example, the
bad eggs (though much smaller in number than good ones) are not scarce because
there is no demand for them. On the other hand, millions of tonnes of food grains might
be available in a country and yet foodgrains may be scarce as demand may exceed
supply. Thus, scarcity has to be viewed in relation to the demand.

In the real world; demand for most of the goods far exceeds supply. For instance, in
relation to the human wants of individuals for better food, clothing, housing and other
goods and services, the existing supply of resources is very much inadequate giving
rise to the problems of scarcity. It is on account of this scarcity that individuals have to
decide what proportion of their total limited resources is to be spent on the satisfaction
of various wants. Because there are not enough resources to produce everything we
would like to consume, we have to decide what is to be done and what is to be left
undone; which goods are to be produced and which left unproduced; what quantity of
each good is to be produced; and whose wants are to be satisfied and whose left

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unsatisfied. This discussion makes it clear that scarcity of resources in relation to
human wants leads to the problem of choice. In fact, economic problem arises out of
making a 'choice'. If choices are not open to men, the economic problem vanishes.

There is another point that needs to be stressed. As noted by Lionel Robbins, even the
scarce resources must be capable of being put to alternative uses. If our resources can
be used in satisfying some particular want only and we cannot use them to satisfy some
other wants, the question of choice does not arise at all. In this case we shall have to
inevitably spend these resources on the want for which they are meant. It is only when
these resources are capable of being put to many uses. Here, question arises which
uses they should be put to and which not. It is only here that the necessity for making a
choice arises and, as a consequence, the economic problem also arises.

1.4----ECONOMIC PROBLEM

The basic problems of an economy arise from two facts namely; the multiplicity of
ends (wants) and the scarcity of means (goods and services). "If the means like our
wants had been unlimited, no economic problem would have been arisen in any
economy. But, the fact remains that the wants (ends) are unlimited while the means
to satisfy these wants are strictly limited or scarce. Again these means have
alternative uses. This in turn produces the problem of choosing as to which means
to be put to the best use to provide maximum possible satisfaction. Every economy
has to solve some basic central problems:

 What to produce?
 How to produce?
 How much to produce?
 For whom to produce?
 How to distribute the goods produced in the economy?
 How to choose between the present and the future? or the problem of growth of
the economy.

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1.5 NATURE OF ECONOMICS

In the nature, we discuss whether economics is a Science or Art. Economics is

considered as science as it is a branch of knowledge where various facts have
been systematically collected, classified and analyzed. Economics is also
considered as a social science since its subject matter is man, who cannot be
controlled and predicted. We know that in economics, experiments cannot be
conducted in laboratories like in physical sciences. Its laboratory is the economy at
large where conditions cannot be controlled. Hence, results of economics do not
apply universally.

Art is totally different from science. Art directs us or proposes hypotheses. Art is
defined as a set of rules for the achievement of a given objective. Economics is an
art in the sense that it has several branches which gives practical direction to solve
economic problems of the society. Thus, economics is both a science and an art.
Art cannot be separated from science or scientific knowledge. Economics is
scientific in its methodology and artistic in its application.

1.6 POSITIVE VERSUS NORMATIVE ANALYSIS

Economic theory is a tool for understanding relationships in the economy. While it can
explain the behavior of market actors, it cannot determine which public policies are
desirable and which are not. Economics can help us evaluate the results of public
policies, but it never, by itself, demonstrates whether the results are good or bad.

Consider the minimum wage system of the Government, which has been revised
several times since its formulation. Evaluating the desirability of this policy requires
three steps. First, one must determine the qualitative effects of the policy. For example,
how does it affect the employment of workers by firms? Does it increase or decrease
employment? Second, one must determine the magnitude of the effects. If the minimum
wage leads to less employment, then question is how much less? How many workers
lose their jobs and how many retain their jobs at the higher wage rate? Finally, a
judgment needs to be made as to whether the policy’s effects are desirable. Does the

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benefit to workers who remain employed outweigh the costs to those workers whose
jobs are cut?

The first step involves identifying the qualitative nature of a policy’s consequences. This
step is in the realm of positive analysis, assessing the expected, objective outcomes.
The distinguishing feature of positive analysis is that it deals with propositions that can
be tested with respect to both their underlying logic and the empirical evidence. It deals
with what is, or what might be, without deciding whether something is right or wrong,
good or bad. Positive analysis is scientific because it draws on accepted rules of logic
and evidence, of both a qualitative and quantitative nature, that can be used to
determine the truth or falsity of statements. Microeconomic theory is a form of positive
analysis; it can be used, for example, to make the qualitative prediction that a minimum
wage law will reduce employment.

If we want to resolve the question of desirability, however, identifying the qualitative

nature of the effects is not sufficient. We also need some idea of the size of the effects.
It may matter a great deal whether the minimum wage causes 1% or 25% of unskilled
workers to lose their jobs. Note that this step still involves positive analysis, but in
quantitative rather than qualitative terms. Knowing the consequences, both qualitative
and quantitative, is still not sufficient to determine whether a policy is desirable.

A final step is necessary: we must decide whether the consequences themselves are,
on balance, desirable. To make this evaluation, each person must make a normative
analysis, or value judgment. By nature, such a judgment is nonscientific. It cannot be
proved right or wrong by facts, evidence, or logic. It stems from the value system of the
person making the judgment. For example, a belief that it is desirable to raise the wages
of the lowest-paid workers, even at the expense of others, falls into this category.
People may agree that a particular policy has this effect, but some may hold that the
outcome is desirable and others that it is not. Their value judgments differ.

Microeconomic theory cannot demonstrate that a particular set of economic institutions

or policies is desirable and neither, for that matter, can any other scientific branch of
knowledge. A belief that something is desirable requires a nonscientific judgment of
what constitutes desirability, and that value judgment is the domain of normative

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analysis. Nonetheless, microeconomic theory can assist each of us in reaching such
normative judgments by helping us determine the likely outcomes. In other words,
microeconomics helps us take the first two of the three steps necessary to evaluate real
world phenomena.

1.7 SUBJECT MATTER OF ECONOMICS

Economics has its own subject-matter. Economics studies one aspect of human life
while leaving all other aside, it does not study how the blood flows in the body, how an
individual thinks, how administration is done, etc. as these fall in the purview of
Psychology, Political Science, etc. Economics studies only that part of human behavior
which is related to the allocation of scarce resources in relation to unlimited wants.

The growth in the subject matter of economics has led to divergent views. In the
beginning it was confined to ‘science of wealth.’ But with the change in the social
conditions, the neo-classical economists like Marshall emphasized economics to be a
science of welfare. Robbins and other modern economists shifted the study of
economics from the realm of welfare and treated it to be the study of human behavior,
as science of choice. However, regarding subject matter of economics there are two
approaches.

Traditional Approach: According to the traditional approach, subject matter of the

economics is divided into four major categories viz. Consumption, Production,
Exchange Distribution, and Public Finance.

Consumption is the beginning and ending point of the economics. The process of
consumption involves the utilization of utility of goods or service for the satisfaction of
human wants. Here, we study the various laws of consumption e.g. Law of Diminishing
Marginal utility, Law of Equi-marginal utility, Law of demand etc.

Production is the result of consumption or demand. If there is no consumption; there will

be no production. Production of a good or service simply means the creation of
economic utility in a matter. In Modern time, production is done at very large scale in
factories with the help of various factors of Production viz., Land, Labor, Capital, and

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entrepreneur. Here various laws related to production are studied e.g. Law of variable
proportion, Law of return to scale, etc.

Exchange refers to sale and purchase of goods and services. In exchange we study
conditions of equilibrium, determination of price of product, and state of competition in
different market situations.

We know that production is outcome of the efforts or services of various factors of

production. So, after production and exchange, the revenue collected by the firm is
distributed among factors of production as reward for their services. The reward to
factors is paid according to their service and productivity. Hence, this part includes
aspects related to determination of reward to various factors of production.

Economics also includes the study of money supply, banking, international trade and
government policies relating to public revenue, public expenditure, public debt etc.
through which it regulates the economic activities in a country. These are known as
Public Finance.

Modern Approach: The above approach of subject-matter of economics is only one

sided, i.e., related to price theory. Modern approach treats the subject-matter of
economics to be not only the study of price theory but also the study of economy as a
whole. Thus modern approach studies both the price theory, i.e., the microeconomics
and the entire economy as macroeconomics.

Microeconomics studies the economic actions of individuals, like individual household,

particular firm, or institution. Thus, microeconomics is in fact a microscopic study of the
economy. It studies the working of the market for individual commodity or factor, the
behavior of individual consumer and producer.

Macroeconomics studies aggregates or averages covering the entire economy, such as,
total savings, total consumption, aggregate demand, aggregate supply, national income,
national output, total employment and so on. It is concerned with determinants and
effects of various economic variables and also the problems related to unemployment,
economic fluctuations, economic growth etc.

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1.8 SUMMARY

Economics is concerned with the allocative decisions of individuals, households,

businesses and other economic agents operating in the society and how the
society itself allocates its resources. Economics has been defined by various
eminent Economists in four different ways, e.g. wealth, welfare, scarcity and
growth.

Economics is a science where various facts are systematically collected, classified

and analyzed. Economics is a social science whose subject matter is man who
cannot be controlled and predicted. Chemistry and biology are physical sciences
where experiments can be conducted in a laboratory under controlled conditions.
Economics is an art also as it has several branches which give practical direction to
solve economic problems of the society.

Economics is a science having both positive and normative sides. The role of an
economist is not only to explain and explore but also to admire and condemn. This
role of an economist is essential for healthy and rapid growth of an economy.
Positive economics deals with what is, and normative economics deals with what
ought to be. Positive economics deals with facts and normative economics deals
with ethics.

1.9 SELF CHECK QUESTIONS

1. Discuss whether Economics should be neutral between ends.
2. Explain how Robbins' definition makes economics a science of choice
making.
3. What is economic problem? Write a detail note on the problem of scarcity
and choice.
4. What are the fundamental propositions of Robbins' definition of economics?
How is it superior to Marshall's definition?
5. Examine the nature of economics. Also explain its subject matter.

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6. Write a detailed note on nature of Economics. Distinguish between positive
and normative economics.

7. Macroeconomics and Microeconomics are interdependent. Do you agree?

8. Write short note on: (i) Positive versus Normative Analysis, (ii) Wealth Oriented
Definitions

1.10 SUGGESTED READINGS

 Ahuja HL: Advanced Economic Theory
 Dewett KK: Modern Economic Theory
 Mithani DM: Modern Economic Analysis
 Sundhararn & Sundhararn: Economic Analysis
 Begg Fischer & Dornbusch: Economics
 Craven J: Introduction To Economics

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