Soviet Union collapsed …. setting countries throughout Eastern Europe and Asia free
The nations of Latin America are struggling with progress and development
General Motors loses $4 billion and millions of workers worry that their jobs and pension plans
Housing bubble burst in USA and thousands in India lose their jobs
A true story
Spring 1996 – 19yr college sophomore, who had just finished taking introductory economics, was faced with a choice – to continue college education or to devote time to a job.
The job – become a professional golfer on the Pro Tour
Choice had to be made – time was scarce
Completing college had a great cost –
Two years of college expenses
Forgone tournament winnings
The golfer made a choice – he became a pro.
Fall of 1996 – selected Sprotsman of the Year by Sports Illustrated
1997 – record setting win of Masters Tournament
First player to hold all four major professional championships at the same time
2005 – earned over $50 million in prizes worldwide + advertising & endorsements
The central idea
People make purposeful choices with scarce resources and interact with other people when they make these choices.
Economics is the study of how people deal with scarcity .
It is the study of how scarce resources are allocated among unlimited wants.
The shortage that exists when less of something is available than is wanted at a zero price.
A selection among alternative goods, services or actions.
Lord Lionel Robbins
1898 – 1984
“ An Essay on the Nature and Significance of Economic Science ” (1932)
Economics is a Science which studies human behaviour as a relationship between ends and scarce means, which have alternative uses.
“ Economics is a social science which deals with human behaviour pertaining to production, exchange and consumption of goods and services (wealth)”
Scottish Economist and Philosopher
1723 - 1790
“ Virtue is more to be feared than vice, because its excesses are not subject to the regulation of conscience.”
He became famous for his influential book " The Wealth of Nations " written in 1776 and launched the economic doctrine of free enterprise.
Economics is the study of the nature and causes of national wealth.
1842 – 1924
Professor of Political Economy at the University of Cambridge from 1884-1908
Founder of the Cambridge School of Economics
A.C. Pigou and J.M. Keynes were among his pupils.
Principles of Economics was his magnum opus and the most influential treatise of its era.
Economics is a study of man’s actions in the ordinary business of life; it enquires how he gets his income and how he uses it. Thus, it on the one side a study of wealth and on the other, and more important side, a part of the study of man.
E conomics is a social science that seeks to understand how different societies allocate scarce resources to meet the unlimited wants and needs of its members
People make choices that give them the greatest satisfaction given the information at that time
Measure and compare the costs and benefits of a decision
Individual’s perception of his/her best interest
Some Recent Definitions
The study of how in a civilized society one obtains the share of what other people have produced and of how the total product of a society changes and is determined.
Economics is what economists do.
“ with other things (being) the same” or
“ all other things being equal”
Assumption applied to all economic analysis where causal relationship between two variables can be studied
The economic approach
Positive and Normative Analysis
Positive – analysis of what is – analysis that does not impose the value judgments of one individual on the decision of others
Normative – analysis of what ought to be
Central Problems of an Economy
What to produce
How to produce
For Whom to produce
What provision (if any) be made for economic growth.
Micro & Macro
In the 1930s Ragnar Frisch classified economics into two branches.
The terms are derived from the Greek terms micros and macros , meaning small and large respectively.
Micro means a millionth part.
It deals with a small part or a small component of the national economy.
Studies economic actions of individual units and small groups like particular households , individual prices, wages , income , individual industry, particular commodities .
Studies the economy as a whole and its large aggregates, such as total national output and income, total employment, total consumption, aggregate investment .
John Maynard Keynes
1883 – 1946
He revolutionized economics with his classic book, The General Theory of Employment, Interest and Money (1936).
Probably the most influential social science treatise of the 20th Century.
It quickly and permanently changed the way the world looked at the economy and the role of government in society.
Theory of Aggregation
Macro is the sum of micro
If an individual salary goes up, he is happy; if salaries of all go up proportionately, no one is happy.
Fallacy of Composition
Increased savings by everyone may lead to decrease in total savings
Paradox of Thrift
Kenneth E. Boulding
1910 – 1993
1944 – produced a paper on liquidity preference
1950 – “ Reconstruction of Economics ” on stock-flow distinction.
Forest, though an aggregation of trees, exhibits characteristics and behaviour patters different from individual trees:
An individual tree germinates, grows and decays, but forests go on forever.
A tree may not burn easily, but forests often catch fire.
An individual tree cannot affect the climate of the vicinity in which it grows, but forests can and do affect the climate.
Short-run and Long-run
Introduction of time periods in market analysis – Marshall’s contribution
Short-run : a time period not enough for consumers and producers to adjust completely to any new situation
Long-run : is the ‘planning horizon’ – consumers and producers can adjust to any new situation
The problem of choice makes it necessary to sacrifice some of the alternatives against the one selected.
Opportunity cost is the benefit foregone from the alternative that is not selected.
Production Possibility Curve
Also called Transformation Curve
A graph that shows different combinations of the quantities of the two goods that can be produced (or consumed) in an economy, subject to limited resources.
It represents the Opportunity cost concept – if we want to have more of one good, we must have less of another good
Also measures the OC – slope of the curve
Applicable to an individual (microeconomics) – shows options of production or consumption
Used in macroeconomics – shows the production possibilities of a nation or economy as a whole.
PPC for individual
Different combinations of 2 goods given
AB – PPC of individual
F- food, C – clothing
Pt. P => Fp of food and Cp of clothing
More of clothing with same income => move to pt. Q
Any pt. to the right of AB, e.g. M is unattainable => income constraint
Any pt. below AB, e.g. N is undesirable => violation of rationality
A B F p F q O C p C q P Q N M
PPC for society
Economy is operating at full employment
Factors of production are fixed in supply; they can however be reallocated among different uses
Technology remains the same
Economy must sacrifice some units of one product to obtain more units of another => trade-off
“ Substitution is the law of life in a full-employment economy. The PPC or frontier depicts the society’s menu of choices ” - Samuelson
Slopes downward – shows maximum feasible amount that can be produced given the factors of production and technology
It is concave to the origin – OC increases as more of one good is produced instead of another – shift specialised factors from food to clothing – cost will increase
Food Clothing F p F q O C p C q Infeasible area Productively inefficient area P Q
Types of Macroeconomics
Method to explain certain aggregative relations in a stationary state.
Does not explain the process by which the national economy reaches the final equilibrium. Deals with the final equilibrium at a particular point of time.
Provides a series of ‘still pictures’ at a point of time.
Y = C + I
(Y = total income, C = total consumption,
I = total investment)
Equation merely explains that Income is equal to aggregate Consumption and Investment
Does not throw light on the process by which the equality is reached.
Macro variables change with time
Economy reaches new level of equilibriums.
This method involves a comparative study of different equilibrium achieved
Does not detail the process by which economy moves from one equilibrium to another.
Developed by Frisch, Hicks, Kalecki, Tinbergen and Samuelson.
Studies how the equilibrium is reached consequent upon changes in macro variables and aggregates.
Presents a full picture of all the developments taking place in the transitional period.
Per Capita Income (2004): Ranges from a low of US $ 90 for Burundi to a high of US $ 52,030 for Norway. India US $ 620; USA $ 41,400.
Ranges from Rs. 3557 in Bihar to Rs.33,047 for Chandigarh. India: Rs.11,799 (2003-04 at 93-94 prices)
Growth rate of real income: 1990-2001
– 3.7% Russian Federation, 10% China, India 5.9% (2005-06) (World average of 2.7%)
People Below poverty line: 2% Republic of Korea, 43% in Nigeria; India 28.6%