Chapter 1

Introduction to Economics
 1.1 Definition of Economics

1.2 Scope of Economics:

Introduction Microeconomics and Macroeconomic
to
1.3 Basic Economics Concepts
Economics

1.4 Basic Economics Problems

At the end of this chapter, you should be able
to:

• Interpret the definition of economics and

distinguish between microeconomics and
macroeconomics.
• Describe the three economic concepts: scarcity,
choice and opportunity cost.
• Describe the three economic problems.
 1.1 Definition ofEconomics
The word 'economy' comes from a Greek word which
means 'one who manages a household'. Here are
some quotations from three famous economists:
• Adam Smith (1776): Economics or political
economy is an inquiry into the nature and cause of
the wealth of nations.
• Milton Friedman (1962): Economics is the science
of how a particular society solves its economic
problems.
• Richard Lipsey (1990): Economics is the study of
scarce resources to satisfy unlimited human wants.
• Generally, economics is a study of how people and society
organize scarce and limited resources to produce goods and
services to satisfy unlimited human wants.
• Society is divided into four main groups:
1. Households
2. Firms
3. Governments
4. Foreign sectors
• Resources are also known as factors of production.
• They are inputs that are used to produce goods and services
in the economy.
There are 4 factors of production used in the production
process:
1- Land
• Land includes all natural resources, which are derived from the earth and land
itself.
• The return to land is 'rent’

2- Labour
• Labour or workers are defined as people who contribute their energy
mentally and physically in the production of goods and services.
• They are classified into skilled labour, semi-skilled labour and unskilled labour.
• The returns to labour is ‘wages' and 'salaries’
3- Capital
• Capital is the most important factor of production. It is defined as wealth used for
production.
• It refers to the stock of goods created by society to be used in the production of
goods and services
• For example, machinery, tools and equipment, building, factories and so on.
• The return to capital is Interest/dividend

4- Entrepreneur
• Entrepreneur refers to a person who organizes the other factors of production, i.e.
land, labour and capital, to produce goods and services.
• An entrepreneur has the ability to plan, organize, direct and control.
• The difference between an entrepreneur and labour is that the entrepreneur is able
to take risks that dealing with his or her business, whereas the labour do not take
any risks and work for an entrepreneur.
• The return to entrepreneur is Profit
These 4 factors of production are scarce, and society should try to use them
efficiently in the process of fulfilling their unlimited wants. Unlimited human
wants consists of goods and services; these are explained as follows:
a. Goods
• Goods refer to tangible things, such as electrical appliances; books,
newspapers and other reading materials; calculators, computers, furniture,
gardening tools, camping equipment and so on.
• Goods are the things that can be seen and touched.

b. Services
• Services are known as intangible things, such as education, transportation,
communication, banking, medical care, postal, insurance, massage therapy,
veterinary care, gym membership and so on.
• Services are the things that cannot be seen and touched, but we can use and
enjoy the benefits provided by these services.
1.2 Scope of Economics: Microeconomics and Macroeconomic

Microeconomics (Individual Economy)

• Microeconomics is a branch of economics which studies the behaviour and
decisions of individual entities, such as households, firms and markets.
• Microeconomics studies the way in which individual markets work, the detailed
way in which regulations and taxes affect the allocation of labour, and goods and
services.

Macroeconomics (Country economy)

• Macroeconomics is concerned with the overall performance of the economy.
• Macroeconomics examines the determination of the overall levels of economic
activity, such as unemployment, aggregate income, average prices, inflation and
international trade.
 1.3 Basic EconomicsConcepts

• In economics, society is faced with scarce factors of production,

that is the problem of scarcity.
• Therefore, society must make choices when trying to satisfy
their unlimited wants or desires.
• They must use the scarce resources wisely and efficiently
without wastage.
• There are three basic economic concepts: scarcity, choice and
opportunity cost.
Scarcity
▪ People have unlimited wants, but the resources available to
satisfy those wants are limited.
▪ Thus, when goods are limited relative to human wants, the
situation of scarcity arises.
▪ Human wants are unlimited, so much so that there are
simply not enough goods and services to satisfy even a small
fraction of humans’ consumptions.
Choice
• People must make choices due to scarcity.
• Society must make the best choice possible after considering the available
alternatives.
• Society must choose what to produce and who gets the final product.
• For example, the more food you choose to buy, the less money you will have left to
spend on other goods.
• At the level of a whole society, if the government wants to build more roads, it
then has to sacrifice other things such as fuel subsidies.
• Choices involve a rational decision after considering several alternatives.
• Individuals and the society make choices to maximize their satisfaction
• Firms make the best choices to maximize their profits.
• Governments make choices to maximize social welfare in the country that they
govern
Opportunity Cost
▪ Opportunity cost is defined as
the number of a good forgone,
or the second best alternative
and its benefits that is given
up, to make the best choice.
▪ For instance, you want to
purchase both an iPhone 11 and
a laptop but have to choose
either one due to limited funds.
If you choose to buy the iPhone,
your opportunity cost of buying
that iPhone is the laptop that is
forgone.
PRODUCTION POSSIBILITIES CURVE
1.4 Basic EconomicsProblems
1. What to produce and how much to produce?
▪ In the presence of scarcity, producing more of one good means producing
less of another good.
▪ A society, has to choose wisely among scarce resources to satisfy its, wants
and address the question: what are the types of goods and services to
produce for the economy?
▪ The answer to this question involves resource allocation.
▪ For example: Producing a large output of food requires a big amount of
resources to be allocated to food production.
▪ In addition, the types of goods to be produced depend on society's
demand.
▪ Society has to utilize the scarce resources efficiently to satisfy its unlimited
demand. How much to produce refers to the quantity to be produced, and
this also depends on society's demand as well as is related to the wise and
efficient usage of scarce resources, without any wastage.
1.4 Basic EconomicsProblems
2. How to produce?
• This question refers to the methods or techniques of
production: who will be producing the goods and services, using
what resources, and combining the resources in what way, using
appropriate technology?
• The producer can choose to use methods which are either
labour intensive (more labour as compared to capital) or capital
intensive (more capital as compared to labour).
• The producer will choose the best method of production that
minimizes the cost.
• For example: agricultural goods can be produced using either
labour intensive or capital intensive methods.
1.4 Basic EconomicsProblems
3. For whom to produce?
• For whom to produce is based on society's income distribution and
purchasing power.
• The distribution of goods and services depends on the distribution of
income in society.
• People with higher income are able to purchase more goods than the
lower income groups, as the former have higher demand and
purchasing power.
• Necessity goods are produced for everyone
• Luxury goods are produced for those who have higher income and purchasing
power.
• For example: people with higher income will demand expensive or
luxury furniture, whereas people with lower income will demand
cheaper furniture which incidentally is of lower quality.
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