ADISS ABABA UNVERSITY(AAIT)

NAME TAMENE GEZAHEGN

ECONOMICS ASSIGMENT. 1

UGR 6093/15

SECTION. 7

To INSTRUCTUR.
Economic science, also known as economics, has a long and complex history that can be traced
back to ancient civilizations. Here is a brief history highlighting key events that led to the
development of economic science:

Ancient Civilizations (3000 BCE - 500 BCE): Economic activities were primarily based on barter
systems, where goods and services were exchanged without a standardized medium of
exchange. Ancient societies in Mesopotamia, Egypt, and China developed rudimentary
economic systems to manage resources and trade.

(16th - 18th century): During the Renaissance and the Age of Exploration, European nations
adopted mercantilist policies. Mercantilism emphasized accumulating wealth through trade
surpluses, colonial expansion, and protectionist measures. This period laid the foundation for
early economic thought, focusing on international trade and the role of the state in promoting
economic growth.

The Wealth of Nations (1776): Adam Smith's seminal work, "The Wealth of Nations," published
in 1776, marked a turning point in economic science. Smith argued for free markets, division of
labor, and the invisible hand theory, which posited that individuals pursuing their self-interests
can unintentionally benefit society as a whole. Smith's ideas laid the groundwork for classical
economics.

Classical Economics (18th - 19th century): Building upon Smith's ideas, classical economists
like David Ricardo and Thomas Malthus further developed economic theories. Ricardo's theory
of comparative advantage explained the benefits of specialization and international trade, while
Malthus introduced the concept of population growth and its impact on economic development.

Marginal Revolution (late 19th century): The late 19th century witnessed the marginal revolution,
led by economists such as Carl Menger, William Stanley Jevons, and Leon Walras. They
introduced marginal utility theory, emphasizing individual decision-making based on the
marginal benefit and cost of goods and services. This revolution marked a shift towards
neoclassical economics.

Keynesian Economics (20th century): In response to the Great Depression, John Maynard
Keynes developed Keynesian economics. Keynes argued that government intervention, through
fiscal and monetary policies, could stabilize economies during periods of recession or
depression. Keynesian economics became influential in shaping economic policies worldwide.
Monetarism and Neoliberalism (20th century): In the mid-20th century, economists like Milton
Friedman advocated for monetarism, which emphasized the role of money supply in influencing
economic outcomes. Neoliberalism, influenced by Friedrich Hayek and others, promoted free-
market policies, deregulation, and reduced government intervention.

. Development of Economic Models (20th century onwards): Modern economic science has
seen the development of various mathematical and econometric models to analyze economic
phenomena. Game theory, behavioral economics, and econometrics have become important
tools for understanding complex economic systems.

Economic Thought: Today, economic science continues to evolve, with ongoing debates on
issues like inequality, environmental sustainability, and globalization. New branches of
economics, such as behavioral economics and environmental economics, have emerged to
address these challenges.

In summary, economic science has evolved over centuries, driven by key historical events and
the contributions of numerous economists. From ancient civilizations to modern-day
complexities, economic science has played a crucial role in understanding and shaping the
world's economies.

#2.A school of thought in economics refers to a specific approach or framework that

economists use to understand and analyze economic phenomena. These schools of thought
represent different theoretical perspectives and methodologies that shape economists' views
on various economic issues. Here are some of the major schools of economic thought:

A. Classical Economics: The classical school of economics, which emerged in the 18th and 19th
centuries, was influenced by thinkers like Adam Smith, David Ricardo, and Thomas Malthus.
Classical economists believed in the efficiency of free markets, the importance of individual self
-interest, and the role of supply and demand in determining prices. They emphasized the
benefits of specialization, division of labor, and limited government intervention.

B. Neoclassical Economics: Neoclassical economics emerged in the late 19th century as a

response to the marginal revolution. Neoclassical economists built upon classical ideas but
introduced mathematical models and emphasized the concept of utility maximization by
individuals. They focused on analyzing individual behavior and market equilibrium, using tools
like demand and supply curves to understand how prices are determined.

C. Keynesian Economics: Developed by John Maynard Keynes in the early 20th century,
Keynesian economics challenged classical and neoclassical theories. Keynesian economists
argued for active government intervention to stabilize economies during recessions or
depressions. They emphasized the importance of aggregate demand and believed that
government spending and monetary policy could stimulate economic growth and reduce
unemployment.
D. Monetarism: Monetarism, associated with economists like Milton Friedman, gained
prominence in the mid-20th century. Monetarists focused on the role of money supply in
influencing economic outcomes. They believed that controlling the money supply was crucial
for maintaining stable economic growth and controlling inflation. Monetarists advocated for a
rule-based approach to monetary policy.

E.. Austrian School: The Austrian school of economics, associated with thinkers like Friedrich
Hayek and Ludwig von Mises, emphasizes the importance of individual decision-making,
entrepreneurship, and the market process. Austrian economists argue that government
intervention often leads to unintended consequences and advocate for free markets, limited
government intervention, and respect for individual liberties.

F. Institutional Economics: Institutional economics, developed by economists like Thorstein

Veblen and John R. Commons, focuses on the role of institutions, social norms, and power
relationships in shaping economic behavior. Institutional economists argue that economic
outcomes are influenced by the rules, norms, and structures of societies. They emphasize the
need to study institutions and their impact on economic systems.

G. Behavioral Economics: Behavioral economics combines insights from psychology and

economics to understand how individuals make decisions. Behavioral economists challenge the
assumption of rationality in traditional economic models and consider factors like cognitive
biases and social influences in decision-making. They study how individuals' behavior deviates
from standard economic assumptions.

These schools of thought represent different perspectives on economic issues and have
influenced economic policies and debates throughout history. Economists often draw upon
multiple schools of thought to analyze complex economic problems and develop policy
recommendations.

#3.There are various definitions of economics because the field is complex and encompasses
different perspectives and approaches. Economics is a social science that studies how
individuals, businesses, and societies allocate limited resources to satisfy unlimited wants and
needs. It involves analyzing production, distribution, and consumption of goods and services, as
well as studying factors like employment, inflation, economic growth, and international trade.

A.The diversity of definitions in economics arises due to several reasons:

B.. Different Schools of Thought: As mentioned earlier, there are various schools of economic
thought that have different theoretical perspectives and methodologies. Each school
emphasizes different aspects of the economy and may have a unique definition of economics
based on their underlying principles.

C.. Evolving Nature of the Field: Economics is a dynamic field that evolves over time. New
theories, concepts, and empirical evidence constantly emerge, leading to new definitions and
understandings of economic phenomena.

D.Interdisciplinary Nature: Economics intersects with other disciplines such as sociology,

psychology, political science, and history. The integration of these different perspectives can
lead to variations in the definitions of economics.

F. Contextual Factors: Economic definitions can also vary based on the specific context or
purpose for which they are being used. For example, a definition of economics for policy-making
may focus on issues like unemployment and inflation, while a definition for academic research
may emphasize theoretical frameworks and empirical analysis.

E. Cultural and Ideological Differences: Economic definitions can also be influenced by cultural
and ideological factors. Different societies and cultures may have distinct views on the role of
markets, government intervention, and individual rights, which can shape their definitions of
economics.

Overall, the diversity of definitions in economics reflects the complexity and multidimensional
nature of the field. It allows for different perspectives and approaches to understanding

economic phenomena and facilitates ongoing debates and discussions among economists.

#4 The concerns of economists often revolve around understanding and analyzing the
behavior of individuals, businesses, and governments in relation to the allocation of resources
and the production, distribution, and consumption of goods and services. They aim to explain
how economic systems function and how they can be improved to promote overall welfare and
efficiency.

One concern of economists is the issue of income inequality. They study the distribution of
income and wealth within a society and analyze its implications for social welfare and economic
growth. For example, economists may examine the impact of policies that aim to reduce
income inequality, such as progressive taxation or social welfare programs. They assess the
potential benefits and costs of these policies to determine their effectiveness in addressing
income disparities.

Another concern of economists is the impact of externalities on economic outcomes.

Externalities are the unintended consequences of economic activities that affect third parties
who are not directly involved in the transaction. For instance, pollution from industrial
production can have negative effects on the health and well-being of nearby communities.
Economists analyze these externalities and propose solutions, such as implementing
regulations or pricing mechanisms, to internalize the costs and incentivize more socially
responsible behavior.
Economists also study market failures and the role of government intervention in addressing
them. Market failures occur when the free market fails to allocate resources efficiently or
provide public goods. For example, economists may analyze the provision of public
infrastructure, such as roads or schools, which may not be adequately provided by the private
sector due to the absence of profit incentives. They assess the costs and benefits of
government intervention in providing these goods or correcting market failures.

Additionally, economists are concerned with macroeconomic issues, such as inflation,

unemployment, and economic growth. They analyze the factors that influence these variables
and propose policies to stabilize and stimulate the economy. For instance, during periods of
high unemployment, economists may recommend expansionary fiscal or monetary policies to
stimulate aggregate demand and promote job creation.

Overall, economists are concerned with understanding and addressing various economic issues,
such as income inequality, externalities, market failures, and macroeconomic stability. Through
their analysis and research, they aim to provide insights and recommendations for improving
economic outcomes and promoting societal welfare.

#5 Science is a systematic and evidence-based approach to acquiring knowledge about the

natural world. It involves observing, measuring, and experimenting to develop theories or
explanations that are supported by empirical evidence. The scientific process typically involves
the following steps: observation, hypothesis formation, experimentation, data collection,
analysis, and conclusion.

Whether economics is considered a science is a subject of debate among scholars. There are
arguments both for and against the conclusion that economics is a science:

Arguments for economics as a science:

A. Use of Scientific Method: Economics utilizes many elements of the scientific method, such
as hypothesis testing, data collection, and empirical analysis. Economists often develop
theories or models based on observations and test them using data.

B.Quantitative Analysis: Economics employs mathematical and statistical tools to analyze

economic phenomena. This emphasis on quantitative analysis aligns with the scientific
approach of using precise measurements and data-driven analysis.

C.. Predictive Power: Economics aims to explain and predict economic behavior and outcomes.
Economists develop models and theories that can make predictions about the effects of policy
changes or market conditions, similar to how scientists predict the behavior of physical
systems.

Arguments against economics as a science:

A. Lack of Controlled Experiments: Unlike many natural sciences, economics often cannot
conduct controlled experiments due to ethical or practical constraints. Economists rely on
observational data or natural experiments, which may limit their ability to establish causal
relationships.

B.. Human Behavior Complexity: Economic phenomena involve human behavior, which is
complex and influenced by various social, cultural, and psychological factors. This complexity
makes it challenging to develop universal laws or theories that can accurately predict economic
outcomes.

C.Value Judgments: Economics involves value judgments and normative considerations. Unlike
purely objective sciences, such as physics or chemistry, economics often deals with subjective
preferences and societal values, which can make it difficult to establish universally accepted
principles.

D.Lack of Consensus: Economics encompasses different schools of thought with diverging

theories and methodologies. The lack of consensus among economists on fundamental issues
and theories undermines the claim that economics is a unified and objective science.

In conclusion, whether economics is considered a science depends on the interpretation of

what constitutes a science and the specific characteristics of economics as a discipline. While
economics incorporates scientific methods and analytical tools, it also faces challenges related
to the complexity of human behavior and the presence of value judgments.

##6One application of economic science in engineering is in the field of cost-benefit analysis.

Engineers often need to make decisions regarding the allocation of resources and the selection
of projects or technologies. Economic principles can be used to assess the costs and benefits
associated with different options and determine the most efficient and effective course of
action.

For example, when designing a new infrastructure project, such as a bridge or a highway,
engineers can use economic analysis to evaluate the potential costs of construction,
maintenance, and operation, as well as the expected benefits in terms of improved
transportation efficiency, reduced congestion, and increased economic activity. By quantifying
these costs and benefits, engineers can compare different design alternatives and select the
option that maximizes societal welfare or provides the highest return on investment.

Economic science also plays a role in engineering decision-making related to resource

allocation. Engineers often have to make choices regarding the use of limited resources, such
as materials, energy, and labor. Economic principles, such as supply and demand analysis, can
help engineers optimize resource allocation by considering factors such as scarcity, opportunity
cost, and efficiency

In summary, economic science provides engineers with valuable tools and frameworks for
decision-making in various aspects of their work. From cost-benefit analysis to resource
allocation and project management, economics helps engineers optimize outcomes and ensure
the efficient use of resources in engineering projects.

##7 There are several factors that justify the study of economics:

1. Scarcity: Economics is justified by the fundamental problem of scarcity, which refers to the
limited availability of resources relative to unlimited human wants and needs. By studying
economics, we can understand how societies allocate scarce resources to produce goods and
services, and make choices about their distribution. This understanding helps policymakers and
individuals make informed decisions about resource allocation, leading to more efficient and
equitable outcomes.

2. Efficiency: Economics aims to promote efficiency in resource allocation and production. By

analyzing the behavior of individuals, businesses, and governments, economists can identify
inefficiencies in the economy and propose solutions to improve productivity and reduce waste.
For example, economists may study the impact of technological advancements on productivity
or analyze the effects of trade liberalization on economic efficiency. The implications of
promoting efficiency include higher levels of output, increased living standards, and improved
overall welfare.

3. Equity: Economics also addresses issues of equity and fairness in the distribution of
resources and income. Through the study of income inequality and poverty, economists can
identify disparities and propose policies to reduce them. This may involve redistributive
measures such as progressive taxation or social welfare programs. The implications of
addressing equity include a more equitable distribution of resources, reduced social tensions,
and improved social cohesion.

4. Stability: Macroeconomics focuses on maintaining stability in the economy, particularly in

terms of inflation, unemployment, and economic growth. By studying the factors that influence
these variables, economists can recommend policies to stabilize the economy during periods of
instability. For example, during a recession, economists may suggest expansionary fiscal or
monetary policies to stimulate aggregate demand and promote job creation. The implications of
achieving stability include reduced economic volatility, increased business confidence, and
improved investor sentiment.

5. Policy-making: Economics provides a framework for policy-making by providing insights into

the potential consequences of different policy choices. By analyzing the costs and benefits of
various policy options, economists can help policymakers make informed decisions that
maximize societal welfare. The implications of informed policy-making include more effective
and targeted policies, improved governance, and better outcomes for individuals and society as
a whole.

In summary, economics is justified by factors such as scarcity, efficiency, equity, stability, and
its role in policy-making. By studying and understanding these factors, economists can provide
insights and recommendations to improve economic outcomes and promote overall welfare
and efficiency in society.

##8 Positive economics refers to the analysis of economic phenomena based on facts and
data. It focuses on describing and explaining how the economy works without making value
judgments or prescribing what should be done. Positive economics aims to provide objective
and empirical insights into economic behavior and outcomes.

For example, a positive economic analysis would examine the relationship between changes in
interest rates and investment levels. It would analyze historical data and use statistical methods
to determine whether there is a correlation between these variables. The goal is to understand
the cause-and-effect relationship between interest rates and investment, without making any
judgment about whether this relationship is desirable or not.

In contrast, normative economics involves making value judgments and prescribing what should
be done based on subjective opinions or ethical considerations. It deals with questions of what
ought to be rather than what is. Normative economics involves making policy recommendations
or evaluating economic outcomes based on moral, political, or social criteria.

For example, a normative economic analysis would involve assessing whether a particular tax
policy is fair or equitable. It would require making subjective judgments about what constitutes
fairness and evaluating whether the policy aligns with those values. Normative economics goes
beyond describing and explaining economic phenomena to make value-based judgments about
what policies or outcomes are desirable.

To summarize, positive economics focuses on describing and explaining economic phenomena

using objective facts and data, while normative economics involves making value judgments
and prescribing what should be done based on subjective opinions or ethical considerations.
Both methods are important in understanding and addressing economic problems, but they
serve different purposes and use different approaches.

##9 The production possibility frontier (PPF) is a graphical representation of the maximum
combination of goods and services that an economy can produce given its available resources
and technology. It shows the trade-off between producing different goods and services when
resources are limited.

There are three key assumptions in constructing the PPF:

1. Fixed resources: The PPF assumes that the quantity and quality of resources available in the
economy are fixed. This means that there is a limited amount of labor, capital, land, and other
inputs available for production.

2. Constant technology: The PPF assumes that the level of technology or production techniques
remains constant. This means that the economy is not experiencing any technological
advancements or improvements during the period being analyzed.

3. Full employment: The PPF assumes that all available resources are fully employed and used
efficiently. This means that there is no unemployment or underutilization of resources in the
economy.

To explain these assumptions using diagrams, let's consider a simplified economy that
produces only two goods: cars and computers. The PPF diagram below illustrates the trade-off
between producing cars and computers:

| / |

| /. |

C| / |

| / |

| / |

| / |

|/ |

|/______________

Cars Computers

Assumption 1: Fixed resources

The PPF assumes that the economy has a fixed amount of resources available for production.
This means that the economy can only produce combinations of cars and computers that lie on
or inside the PPF curve. Points outside the curve are unattainable given the limited resources.

Assumption 2: Constant technology

The PPF assumes that the level of technology or production techniques remains constant. This
means that the shape of the PPF curve does not change over time. In the diagram, the PPF is
depicted as a straight line, indicating that the trade-off between cars and computers is constant.

Assumption 3: Full employment

The PPF assumes that all available resources are fully employed and used efficiently. This
means that the economy is operating at its maximum potential. Points on the PPF curve
represent efficient utilization of resources, while points inside the curve represent inefficient use
of resources.

In summary, the PPF is a graphical representation of the maximum combination of goods and
services an economy can produce given its available resources and technology.

##10. Economic systems refer to the way a society organizes and manages its production,
distribution, and consumption of goods and services. These systems determine how resources
are allocated, how prices are determined, and how economic activities are coordinated. There
are several types of economic systems, each with its own characteristics, advantages, and
disadvantages. Let's look at a few examples:

1. Traditional Economy:

A traditional economy is based on customs, traditions, and cultural beliefs that dictate
economic activities. The roles and responsibilities in production, distribution, and consumption
are typically determined by social customs and norms. For example, in some indigenous
communities, agricultural practices are based on traditional knowledge passed down through
generations.

Advantages:

- Provides stability and continuity as practices are deeply rooted in traditions.

- Preserves cultural values and heritage.

Disadvantages:

- Lack of innovation and limited technological advancements due to rigid adherence to

traditional practices.

- Limited individual freedom as roles and responsibilities are determined by societal norms.

2. Command Economy:

In a command economy, the government owns and controls the means of production. The state
determines what to produce, how to produce, and how resources are allocated. Examples of
command economies include countries like North Korea and Cuba.
Advantages:

- Centralized decision-making may allow the government to prioritize public welfare and achieve
social objectives.

- May lead to rapid industrialization and development in certain cases.

Disadvantages:

- Lack of individual freedom and limited consumer choice.

- Inefficient resource allocation due to central planning, leading to inefficiencies and shortages.

- Limited incentives for innovation and entrepreneurship.

3. Market Economy:

A market economy is based on free market principles, where resources are allocated through
voluntary exchanges between buyers and sellers. Prices are determined by supply and demand
forces. Examples of market economies include the United States and most Western European
countries.

Advantages:

- Encourages competition, which drives innovation, efficiency, and productivity.

- Provides individual freedom and consumer choice.

Disadvantages:

- Income inequality, as market forces may result in the concentration of wealth in the hands of a
few.

- Inadequate provision of public goods and services, as market mechanisms alone may not
address social needs.

4. Mixed Economy:

A mixed economy combines elements of both market and command economies. It incorporates
private enterprise alongside government intervention and regulation. Examples of mixed
economies include countries like the United Kingdom and Canada.

Advantages:

- Balances individual freedom and social welfare objectives.

- Allows the government to correct market failures and provide public goods.

Disadvantages:
- Can be complex to manage, as it requires coordination between the private and public sectors.

- May lead to inefficiencies and regulatory burdens if not implemented effectively.

##11

1. Mathematical Models:

Mathematical models use mathematical equations to represent economic relationships and

behavior. These models help economists study complex interactions and make quantitative
predictions. For example, economists might use mathematical models to examine the impact of
changes in taxes on consumer spending or to analyze the relationship between inflation and
interest rates.

2. Statistical Analysis:

Statistical analysis involves the collection, organization, and interpretation of data to uncover
patterns and relationships. Economists use various statistical techniques, such as regression
analysis, hypothesis testing, and time series analysis, to analyze economic data and draw
meaningful conclusions. For instance, economists might use statistical analysis to study the
relationship between education levels and wages or to analyze the impact of government
policies on employment rates.

3. Econometric Models:

Econometric models combine economic theory with statistical techniques to estimate and
analyze economic relationships. These models allow economists to quantify the effects of
different variables and make predictions. For example, economists may use econometric
models to estimate the impact of changes in interest rates on investment or to forecast future
GDP growth based on historical data and economic indicators.

4. Input-Output Analysis:

Input-output analysis is a technique that examines the interdependencies between different

sectors of the economy, capturing how changes in one sector can impact others. Economists
use input-output models to analyze the ripple effects of changes in production or consumption
patterns. For instance, input-output analysis can help assess the multiplier effects of
government spending on various industries and employment.

5. Cost-Benefit Analysis:

ucture project or to assess the implementation of an environmental regulation.

##12 The circular flow of income model is a simplified representation of how income, goods,
and services flow throughout an economy. It illustrates the interconnections between
households, firms, and the government. Let's break down how the model works:

1. Households: Households are the primary consumers of goods and services. They supply
factors of production, such as labor, to firms and receive income in return, mainly in the form of
wages. Households use this income to purchase goods and services from firms.

2. Firms: Firms are producers of goods and services. They purchase factors of production, such
as labor and capital, from households and use them in the production process. Firms generate
revenue through the sale of goods and services to households, which is then used to pay wages
and other costs.

3. Government: The government plays a role in the circular flow by collecting taxes from
households and firms. It uses this revenue to provide public goods and services, such as
infrastructure and education. The government also makes transfers, such as social welfare
payments, to households.

4. Financial Institutions: Financial institutions, such as banks, facilitate the transfer of funds
between households, firms, and the government. They provide loans to firms for investment and
allow households to save and borrow money. This helps to finance economic activities.

Strengths of the Model:

- Simplicity: The circular flow model provides a simple and straightforward representation of the
flow of income and economic activity. It helps to visualize the interconnections and
dependencies between the different sectors of the economy.

- Illustration of Interdependence: The model highlights the interdependence of households,

firms, the government, and financial institutions in a functioning economy. It shows how
economic activities are interconnected and mutually beneficial.

Weaknesses of the Model:

- Omits International Trade: The circular flow model usually focuses on a closed economy and
does not explicitly account for international trade. This excludes the role of exports, imports,
and international transactions, which are crucial for many real-world economies.

- Simplified Assumptions: The model makes simplifying assumptions, such as assuming full
employment and constant production levels. These assumptions may not hold in reality and
may limit the model's accuracy in capturing more complex economic dynamics.