Introduction To Economics Flashcards
Economics
It is the study of how individuals, businesses and governments take decisions with respect to the allocation of scars resources in full filling the human wants while minimising the opportunity cost.
The resources are inputs available to supply goods and services in any economy known as factors of production.
There exists a problem of scarcity which means that there is a limitation of supply of resources to produce desired goods and services.
The problem of scarcity leads to a “trade off” for the decision maker which force is them to make a choice among the competing alternatives.
Once a choices made, other competing alternatives are sacrifice which is referred to as the ‘opportunity cost.’
Opportunity cost
It is the cost measured of something that one acquires
It is measured in terms of the sacrifices of the next best alternative
It state that opportunity cost is the potential benefits that a person loses when he chooses a substitute over the other
This helps in maximizing profit by using every resource efficiently
There are certain situations where opportunity cost maybe 0:
Free goods, single use factors, heavy unemployment, etc.
Factors of production
Inputs available to supply goods and services in an economy
Land: all natural resources used in production. Its reward is rent
Labour: efforts extended by an individual to bring a product or service to the market. Its reward is wages
Capital: refers to machinery, tools and buildings that humans use to produce goods and services. Its reward is interest
Entrepreneurship: the person who takes the risk of organising the other factors of production to earn a profit. Its reward is profit
These factors of production make up the total productivity potential of any given economy
Physical vs human capital
The nature of physical capital is tangible and it can be easily sold in the market like any other commodity. The nature of human capital is intangible and it is present in the body and mind of its owner. It can’t be sold in the market but its services are sold insted.
Physical capital is separable from its owner. Human capital is inseparable from its owner.
Physical capital is mobile between countries, except some artificial trade restrictions. Human capital is not perfectly mobile between countries as movement is restricted by Nationality and culture
Physical capital is formed through imports. Human capital requires conscious policy formulations
Examples of physical capital are machinery, furniture, inventory etc. examples of human capital are skills, knowledge and the expertise individuals, etc.
Incremental capital output ratio (ICOR)
Explains the relationship between the level of investment made in an economy and the consequent increase in the GDP
It determines a country’s level of production efficiency
ICOR = annual investment / annual increase in GDP
Lower ICOR = more efficient production or capital
This implies that an economy can generate more output with a small increase in capital investment
Economy
An economy is a huge collection of interconnected production and consumption activities that help in the allocation of scarce resources
Economy economics act play in a certain reason in modern perlance
The essential economic activities of a country are production, consumption and capital formation
Economic versus non economic activities
Economic activities are those activities which are perform to earn money. Non economic activities are those which are performed with the purpose of rendering services to others without any consideration for financial gains.
The motive of economic activities is earning, while that of non economic activities is social or psychological
Economic activities are motivated by rational concerns as they involve the use of scarce resources. Non economic activities are encouraged by motivational or sentimental reasons
The outcome of economic activities is the creation of wealth and adding value to the national income. The outcome of non economic activities is happiness and satisfaction but it does not affect the national income
Examples of economic activities are agriculture, industries etc. Examples of non economic activities are social welfare, religious activities, etc.
Factors of economy
Primary
Involved in the extraction of raw materials and natural resources
For example agriculture, forestry, fishing, animal husbandry, mining etc.
Secondary
Activities including the transformation of raw materials into finished goods through value addition
For example, manufacturing and construction activities, electricity, gas, water supply, utilities etc.
Tertiary
Activities including both production and exchange
Production involves provision of services that are consumed
Exchange involves trade, transport and communication facilities
Quarternary
Comprises intellectual or knowledge based industries
For example, consultancy, research and development, etc
Quinary
Involved in high level decision making
For example, government, industries, etc
Structural transformation of Indian economy
The contribution made by the different sectors in an economy, agriculture, industry and service sector in the GDP of the country makes up the structural composition of an economy
As a country develops it undergoes structural change known as structural formation
Usually with development the share of agriculture decline and the share of industry becomes dominant
At higher levels of development the service sector contributes more the GDP than the other two sectors
In general the above friend is followed and experienced by many developed countries like the US, UK, etc or by developing countries like China
India witnessed an unique structural transformation, directly jumping from agriculture to the service sector and bypassed the industrial sector.
Types of economy
In terms of the role of state:
Capitalist, socialist and mixed economy
In terms of per capita income:
Low income, low middle income, upper middle income and high income
In terms of the nature of economy:
Agrarian, industrial and service
In terms of the role of state
Scarcity of resources gives rise to the problem of choice in an economy and resources must be allocated properly
Economy must decide the selection of goes to produce and the quantity to be produced
This problem involves the selection of technology to beat adopted for the production of goods and services
It refers to the distribution of the produced goods and services and the selection of the consumer
Capitalist economy:
The origin of the capital of system came from Adam Smith’s concept of The invisible hand
Private ownership of factors of production
Government intervention was nil or marginal
Income determined by market forces
The prices by determined by the market forces
The economy was dynamic and incentives for innovation and economic growths were present
Socialist system:
Can be traced from the ideas of Karl Marx
Government ownership of resources
Government intervention was high or in almost everything
Redistribution of income rather than on resource ownership or contribution to production
Prices by determined by the government
Promotion of equality and an attempt to overcome market failure
Mixed economy:
Economics system that has a characteristics of both capitalist and socialist systems
It allows a level of private economic freedom in the use of capital, but also allows for governments to interfere in economic activities in order to achieve social aims
India opted for a mixed economy after independence, that is, to be a socialist society with a strong public sector but also with private property and democracy
In terms of per capita income
The World bank classified economy is based on GNI per capita in USD into 4 categories
Low income economy (<1135)
Lower middle income economy (1135-4465)
Upper middle income economy (4466-13845)
High income economy (>13845)
India is a lower middle economy with GNI per capita USD 2380 (2022)
In terms of the nature of economy
Agrarian economy: An economy is called agrarian if the share of its primary sector is more than 50% in the total output of the economy
At the time of independence India was such an economy
Industrial economy: If the secondary sector contributes 50% or more to the total production value of an economy, it’s called an industrial economy
Higher the contribution, higher is the level of industrialisation
Service economy: An economy whose 50% or more production value comes from the tertiary sector is known as a service economy
India is currently a service economic contributing more than 50% to the country’s GDP
Types of goods
Public goods vs private goods:
Public good refers to goods that is available for use for everybody and one person’s usage of it does not diminish or exhaust its available at to others.
Public goods are non excludable and non rivalrous
For example, the National defence, street lights etc
The non excludable nature of the public goods give rise to the free rider problem as these good can be bought by the people without being for them
A good is said to be a private good if there is a competition between individuals to obtain it and if consuming a good prevents someone else from consuming it.
They are excludable and rivalrous.
For example, ice cream cone, clothing, congested toll roads, etc.
Merit vs Demerit goods:
Merit goods are goods or services that are considered to be beneficial to the individual and society as a whole, does having positive externalities
For example, healthcare, education, public transportation etc
These are good for which the social benefits of consumption outweigh the private benefits
These are under provided by the markets and their for the government intervenes for the provision of such goods
Demerit goods are good which have higher social costs for the community than the private cost for the individual consumption
The social cost include the negative externalities that occur during the consumption of the good.
The private cost include the cost incurred by an individual for purchasing the good and the negative impact of the good on an individual
For example tobacco, alcohol, sugar
These are over consumed due to imperfect information.
Consumer vs capital goods:
Consumer goods are goods that are used by consumers for personal consumption
They can be further classified into durable (automobiles, furnitures, etc) or non durable goods (food, beverages, etc.), services (haircuts, landscaping, etc).
Capital goods are goods which are durable in character and help in the production of other goods and services.
The gradually undergo wear and tear and are thus repaired or gradually replaced over time
For example buildings, machinery, equipment etc
Categorisation of economics
Microeconomics:
Focuses on an individual market
Effect on price of a good
Individual consumer behaviour
Supply of a good
Macroeconomics: concerned with the whole economy (GDP)
Inflation (general price level)
Focuses on the aggregate demand
Productive capacity of economy
Microeconomics is specific and smaller in scale, looking at the behaviour of consumers. While macroeconomics has a broader focus, such as the impact of fiscal policy or how the government actions impact nationwide economic growth.
