Economy is a system spread over a particular area that reveals the nature and level of

economic activities in that area. It shows how the people of a concerned area earn their living.
Microeconomics is the study of economics at an individual, group, or company level.
Whereas, macroeconomics is the study of a national economy as a whole. Microeconomics
focuses on issues that affect individuals and companies. Macroeconomics focuses on issues
that affect nations and the world economy.
Positive economics- the reality
Normative economics- how it should be

17/1

Central problem of economy- choice, problem of resource allocation

WHAT to produce: goods or services(consumer or capital), quantity
HOW to produce: labour intensive, capital intensive
FOR WHOM to produce: rich/poor/both, factoral dist of income(land, labour, capital) and
interpersonal dist of income(household in society-rich, poor)

18/1

Types of economies:
Centrally planned economy- It is the one where the decisions are taken by some central
authority or govt. all decisions are taken with the view to maximise social welfare and profit
maximisation is not the consideration. Example- USSR, China
Market economy- market forces, state has no intervention, to maximise profits and not social
welfare, example USA
Mixed economy-

Production possibility curve

2 goods

The slope of PPC refers to marginal opportunity cost or marginal rate of transformation. It
shows the amount of good X(wheat) that needs to be sacrificed for producing every addl unit
of good Y(cloth)
Slope is downward from left to right. It is because, in a situatn of fuller and efficient
utilisation of both resources, production of both the goods cant be increased. More of good X
can be produced with lesser amount of good Y.
Ppc is concave to the pt of origin. It means that with every addl unit of good X produced,
more n more of good Y is sacrificed. It means the opportunity cost of producing every addl
unit of good X tends to rise in terms of loss of output of good Y. in other words, concavity of
ppc implies that the marginal opportunity cost tends to rise as resources are shifted from prod
of good Y to prod of good X.

Opportunity cost is the cost of availing one opportunity in terms of loss of the other
opportunity. We may also define it as the value of a factor in its next best alternative use
Marginal OC refers to the addl OC when a unit more of good X is produced by withdrawing
some resources for prod of good Y. It is measured in terms of loss of output of good Y for a
unit more of good X. algebraically, del Y/del X= loss of output of good Y for an addl unit of
good X.

Consumer is the entity which creates demand in the market.

When is consumer in equilibrium (satisfied)-
Total utility- sum total of utility derived from consumption of all units
Marginal utility- addl utility on account of the consumption of an addl unit of a commodity,
measured by MU(n)= TU(n) – TU(n-1)
Utility-use-want satisfying power of a good
Cardinal approach- when utility can be measured
Unit- utils
Eating an ice cream in a bright sunny day. First icecream- 50 utils, second- 95, third- 125,
fourth- 140, fifth- 145
TU-100 MU-100
TU-190 MU-90
TU-270 MU-80
TU-340 MU-70
TU-400 MU-60
TOTAL UTILITY- 400
TU= SUM TOTAL OF MU
TU will be upward sloping, MU will be downward sloping
Relation between TU n MU:
As long as MU is positive, TU increases or is constant
When TU=max, MU is 0
When MU is negative, TU starts to decline
Decreasing MU implies TU is increasing at a decreasing rate
 As more and more units of a commodity are consumed, marginal utility derived from
each successive unit tends to diminish. It may even become 0 or negative.
 As long as MU is positive, TU increases
 TU is maxm when MU=0
 TU starts declining when MU is negative
 Decreasing MU implies that TU is increasing at a decreasing rate

LAW OF DIMINISHING MARGINAL UTILITY:

As you consume more and more of a commodity, the marginal utility derived from every
additional unit must decline. It is also known as ‘FUNDAMENTAL LAW OF
SATISFACTION’.
Assumptions-
 Only standard unit of commodity are consumed.
 Consumption of the commodity is continuous.
CONCEPT OF CONSUMER EQUILIBRIUM:
It refers to a situation of maximum satisfaction while a consumer is spending his/her given
income across different goods or,
A consumer is called to be in equilibrium, when given his income and market prices, he plans
his expenditure on different goods and services in such a manner that he maximises his total
satisfaction.
MU analysis:
One commodity(apple)-
Factors
1. Price of commodity
2. MU of commodity
3. MU of money (is it worth the money) (MUm assumed to be constant)
Px= 4 rs, MUm= 4 utils
Apple MU MUm (MU/Px)
1 20 20/4=5
2 18 4.5
3 16 4
4 10 2.5
5 0 0
6 -5 -1.25
A consumer is in equilibrium when MUx/Px=MUm
When the price of a commodity decreases, the consumer tends to buy more aka demand
increases.
Two commodity (apple and orange)-
In a 2 commodity situation, when a consumer is in equilibrium, it implies that the consumer
is maximising his satisfaction from the consumption of X and Y when a rupee worth of
marginal utility (Mux/) is the same for commodity X and Y. It is also equal to marginal utility
of money. In other words, we can say that a consumer strikes his equilibrium when MU
derived from the last rupee is same whether spent on X or Y.
So the equilibrium situation will be
Mux/Px=MUy/Py or,
Mux/MUy=Px/Py

HW Ice cream sells for 20rs. Lakshmi, who likes ice cream, has already consumed 4 ice
cream. Her MU of 1rs = 4 utils. Should she consume more ice cream or stop the
consumption?
MUm= 4
Px=20

Sandeep has Rs 88. X and Y, Px=Py=8, how many units of X and Y should Sandeep
purchase to get max satisfaction?
ORDINAL APPROACH (PROF JR HICKS)
Utility cannot be measured, its subjective. But it can be ranked and compared as high or low.
Indifference curve:
It is a diagrammatic presentation of an indifferent set of consumers. It is the locus of all such
points which show diff combinations of 2 goods yielding same level of satisfaction.
Slope downward/negative
MRS is the rate at which a commodity has to be substituted with another commodity so that
consumer satisfaction remains the same
Marginal rate of substitution- convex
Del Y/del X
Loss(Y)/gain(X)
Properties:
Sloping downward/has a negative slope, because consumption of good X is inversely related
to consumption of good Y.
It is convex to the origin because of diminishing marginal rate of substitution ie del Y/del X.
as more and more of good Y is consumed by the
On the other hand, as more and more of good Y is given up, his intensity of
Higher IC yields higher level of satisfaction. Assumption- monotonic preferences
If A=B and A=C it concludes B=C but its not true since C has sigher satisfaction than B. So,
we get an inconsistent result in case of ICs crossing each other.
CONSUMER BUDGET:
Income, price, demand/quantity
THEORY OF DEMAND:
Demand- demand for a commodity is the desire to buy a commodity backed with sufficient
purchasing power and willingness to spend
When price increases, demand decreases, inverse relation
DEMAND SCHEDULE
Tabular representation of prices and quantity demanded by consumer
2 types- Individual and market demand schedule
DEMAND CURVE
Graphical rep of demand schedule
2 types- individual (downward sloping) and market
DEMAND FUNCTION/DETERMINANTS OF DEMAND
Shows the relationship between demand for a commodity and its various other determinants
1. Own price of a commodity
2. Price of related goods- substitute goods and complementary goods

Cross price effect- change in price of one good affects the quantity of the other goods

Income effect- refers to change in quantity demanded when real income of the buyer
Demand curve- downward sloping in nature
Exceptions:
1) Articles of distinction (Veblen goods)- Known as articles of social distinction. These
articles are demanded because prices are very high. If the prices fall, they wouldn’t be
goods of social distinction anymore, hence their demand will decrease.
2) Giffen goods- Highly inferior goods showing very high -ve income effects. When
prices fall demand also falls even when prices are relatively cheaper than other goods.
Known as giffen paradox.
3) When consumers judge quality of a product by their prices (The emerging trend of
buying organic goods. Explain this phenomena)
Due to huge price diff b/w organic and non-organic products in the market the richer
sections of the society consider organic products of very high quality.
When the law of demand fails, the demand curve slope is upward.

MOVEMENT ALONG DEMAND CURVE/SHIFT IN DEMAND CURVE

MOVEMENT- up and down (extension/contraction), will happen when change in own price
takes place.
Extension- P fall, Q rise
Contraction- P rise, Q fall
P Q (extension)
5 1
1 5

P Q (contraction)
1 5
5 1

SHIFT- Occurs when other factors change (which are assumed to be constant)
Right/forward shift (upward)- rise in demand
P Q
10 20
10 30
Factors which can lead to forward shift:
 Income rises
 Substitute good price increases
  Complementary good price decreases
 Taste is favourable
 Less commodity availability in future or,
 High price in future
Left/backward shift (downward)- fall in demand
P Q
10 30
10 20
Factors which can lead to backward shift:
 Income falls
 Substitute good price decreases
 Complementary good price increases
 Taste is non favourable
 More commodity availability in future or,
 Low price in future
CROSS PRICE EFFECT:
Substitute goods-
Tea and coffee
If coffee price increases, the price of tea is same but due to change in price of coffee, the
demand for tea increases hence we have a forward shift in demand curve.
If coffee price decreases, the price of tea is same but due to change in price of coffee, the
demand for tea decreases hence we have a backward shift in demand curve.
Complementary goods-
Car and petrol
Price of petrol rises, so demand of car falls, hence backward shift in demand curve.
Price of petrol falls, so demand of car rises, hence forward shift in demand curve.

HW
when substitute price decreases what will happen
when complementary price decreases what will happen
PRICE ELASTICITY OF DEMAND
Measurement of % change in qty demanded in response to given % change in own price of
commodity. OR
Price elasticity of demand measures the degree of total responsiveness of demand related to
the change of price
-(% change in QD/% change in Price )
Negative becase price has inverse reltn with demand

PE of demand is found to be -2. Price falls from 10 to 8 per unit. Find the % increase in QD.
When price of a good rises from 20 per unit to 23 per unit its demand falls 30pc. Calculate PE
of demand

GEOMETRIC METHOD:

17/02

If Ped of demand is -0.4 del q/q is -0.5, initial exp 1500, find new exp
PED -0.4, del q/q is 0.2, ini exp 2000, find new exp
On 10 dec 2018 the following news was printed in the economic times.
Narrow petrol diesel price gap n higher price of diesel cars alter buyer preference
Explain the statement linking the concept of price elasticity of demand

23/02
TP is the sumtotal of output produced by all the units of variable factor alongwith some
constant amount of the fixed factors used in the process of production, also known as total
return of the variable factor.
MP is the change in TP when one more unit of variable factor is used keeping the fixed factor
constant
TP is sumtotal of MP
AP IS AVG
AP=TOTAL PRODUCT/VARIABLE FACTOR
LVP
As more n more units of variable factor
Stge 1 is bw O TO K on the curve TP, in the zone MP is increasing and tp is increasing at an
increasing rate
Stafe 2
Stage 3 is beyond pt T , TP starts declining because MP is negative
K is the point of inflexion where TP stops and instead starts decreasing at a decreasing rate

Increasing returns to a factor can occur due to the following

1. Fuller utilisation of the fixed factor
In the initial stages fixed factors such as machinery remain under utilised. Its fuller uti
calls for greater application of the variable factor ie labor, hence initially so long as FF
remains under utilised, addl units of VF add more n more to total output or marginal
product of the VF tends to increase.
2. Division of labor and increase in efficiency
Addl application of the VF ie labor enable process based division of labor. Specialised
workers maybe used . this increases accordingly marginal productivity tends to increase
3. Better coordination between the factors
So long as fixed factors remain under utilised, addl application of the VF tends to
improve the degree of coordination bw the two. As a result, MP increases and TP
increases at an increasing rate.
Decreasing returns to a factor can occur due to the following
1. H
It is the principle cause behind the
2. Imperfect factor substitutability
The factor of prod are imperfect subst of each other. More n more of labour cannot be
cpntinuously used in place of capital. Accordingly diminishing returns are bound to set in
if only the variable factor is increased to increase the output
3. Poor coordination bw the factors
Incr application pf the VF alongwith the FF eventually disturb the ideal factor ratio. This
results in poor coord bw F and V factor, hence diminishing return happens.