9/13/2015

• Basic issues in Economics:

Introduction to Microeconomics Scarcity, Efficiency and
IN Alternatives
and Basic Concepts THIS
LECTURE • Introduction to
Microeconomics
• Scope and Purpose of
Annu S. Pant Microeconomics and its
Visiting Faculty – ECONOMICS Significance in Business
Kathmandu University School of Management (KUSOM)
2015
Decision Making

Scarcity Effects of Scarcity

The condition in which •Need to make choice
our wants are greater •Need for a rationing device
than the limited •Competition
resources available to
satisfy those wants.

Need to Make Choice

Scarcity = wants > limited resources •What is good and what is bad?
•Good - Anything from which individuals receive
What is wants? utility or satisfaction
* Anything that provides utility • Bad - Anything from which individuals receive
What is utility? disutility or dissatisfaction
* The satisfaction one receives from a •Disutility - The dissatisfaction one receives from a
bad
good
PEOPLE WANT GOODS NOT BADS.

1
 9/13/2015

Factors of Production
•Goods can be tangible or intangible
•Goods do not appear with the snap of your finger.
Resources
•It takes factors of production or resources to Land - All natural
produce them. resources, such as
minerals, forests, water,
•Factors of Production : Land, Labor, Capital, and unimproved land
Entrepreneurship.

Factors of Production Factors of Production

Resources Resources
Capital - Produced goods
Labor - The physical and that can be used as inputs
mental talents people for further production,
contribute to the such as factories,
production process machinery, tools,
computers, and buildings

Factors of Production Characteristics of Resources

Resources •Resources are scarce
Entrepreneurship - The particular talent that •Resources have alternative uses
some people have for: This leads to economic problem – the problem
organizing the resources of land, labor, and of choice.
capital to produce goods What is the motive of making choice?
seeking new business opportunities - Welfare at individual, producer and
 developing new ways of doing things government level.

2
 9/13/2015

Economic Problem/Resource Allocation What to Produce

Economic problem or Problem of choice •To make a choice of wants which are important for
There are three critical issues the economy as a whole on the basis of the
technology available, cost of production, demand
1.what to produce + How much to produce for the commodity. It is studied under Price Theory.
2.how to produce •How much to produce is the problem of
3.for whom to produce determining the quantity for each good to be
Economics examines how societies address these produced on the basis of the technology available,
three issues: allocation of scarce resources cost of production, demand for the commodity

How to Produce QUESTIONS

Choice of technique of production that
In a country like Nepal which technique of
maximizes output or minimizes costs or by
production should be used?
choosing the efficient technique of production
Labor intensive as labor is in
Labor Intensive – more labor and less capital
abundance so as to raise the standard of living
used
of the people.
Capital Intensive – more capital less labor is
used

QUESTIONS For Whom to Produce

It is concerned with the distribution aspect of product
In USA which technique of production should among various sections of the society.
be used? It is related to the buying capacity of the consumers
in the market.
Capital Intensive as capital is in abundance
Buying capacity is dependent on his purchasing
power / income
Production will be carried out for those consumers
who can pay.

3
 9/13/2015

Institutions for Allocation of Market Economy

Resources •Private Ownership of Property
Institutions, including laws and customs, define a • Freedom of Enterprises
society’s procedures for allocating resources
• Profit Motive of Production
In a capitalist economy: • Price Mechanism guides production decisions
– Means of production are owned and controlled by and
for the benefit of private individuals • Existence of competition
– Resources are allocated by voluntary trading among • Consumers are supreme
businesses and consumers • Very unequal distribution of Income
• Absence of role of Government

Planned Economy Planned Economy

•Public ownership of property or factors of production
In such an economy:
•No freedom of enterprise
–Economic decisions are highly centralized •Social welfare motive
–The state owns and controls the means of • Planning mechanism guides production
• No competition
production and distribution
•Absence of consumer’s sovereignty
• Restriction of freedom of occupation
• Inequalities of income greatly reduced
• Complete role of government

Mixed Economy
No economy is completely •Ownership of property both by private and public sector.
•Freedom of enterprise in private sector but no freedom in
centralized or decentralized; all public sector.
•Private sector – profit motivated;
economies are a combination Public sector – welfare motivated
of both. •Private Sector – Price mechanism
Public Sector - Government

4
 9/13/2015

Mixed Economy ECONOMICS Redefined

• Competition exists only in private sector
Economics is the science that studies human
• Consumer sovereignty exists
• Freedom of occupation exists
behavior in regards to the allocation of scarce
• Considerable inequality of income exists
resources so that consumers attains the
• Full role of government in public sector and limited role in maximum level of satisfaction, producers
private sector. attains the maximum level of profit and the
• Price mechanism resolves the central problems of economy nation attains the maximum level of social
in private sector while central planning authority decides in
public sector
welfare.

Need for Rationing Device Competition

A means for •It’s the result of scarcity of resources
deciding who gets •Competition takes the form of people
what of available trying to get more of the rationing device.
resources and goods
•If dollar price is the rationing device
If you are willing and able to pay people would compete to earn dollars.
the price the good is yours.

Opportunity Cost Study or ?????

The most highly valued opportunity or
alternative forfeited when a choice is
made.

Benefit Cost

5
 9/13/2015

Opportunity Cost Economics the Science of Scarcity

The higher the opportunity cost of doing The science of how individuals and societies
something, the less likely it will be done.
deal with the fact that wants are greater than
Why young rock stars, movie stars, and fashion the limited resources available to satisfy those
models rarely go to college? wants.
BECAUSE
The opportunity cost are sufficiently high
for the individual that the benefits of attending
college are outweighed by the cost.

Production Possibility Curve Production Possibility Curve

Represents the possible combinations It is a hypothetical model of an economy
of two goods that can be produced in
a certain period of time with a given state of that produces only two products.
technology and fully and efficiently employed
resources.

When at PPF, 4-6% labor unemployment rate and

85-90% use of plant and machinery is an
accepted norm.

Tabular & Graphical Presentation of

Production Possibility Curve PPC – when MRT is Constant
Assumptions
-Economy produces only two goods. What is marginal opportunity cost or MRT
-Economic resources are given and fixed (marginal rate of transformation)?
- Resources are not specific i.e. they can be shifted
from the production of one good to other good. It means the sacrifices made in terms of
- Resources are fully employed i.e. there is no wastage units of Y to produce an additional unit of X.
of resources. Resources are not lying idle.
- State of technology in the economy is given and When MRT is constant PPC will be a
remains unchanged. downward sloping straight line.
- Resources are efficiently employed

6
 9/13/2015

Tabular & Graphical Presentation of

PPC – Constant Opportunity Cost
PPC – when MRT is NOT Constant
When MRT is not constant in fact,
increasing - PPC will be a downward
sloping curve concave to the origin.

PPC – Increasing Opportunity Cost PPC – Increasing Opportunity Cost

PPC – Framework for

Understanding
(a) Scarcity and Choice
•All the points on PPC shows what to produce
and how much to produce.
•All points on the curve are efficient and
attainable.
•Depending on nation’s policy it can choose any
point on the curve
•All points on PPC imply that most efficient
technology is employed

7
 9/13/2015

(b) Productive Efficiency and Inefficiency (c) Unemployment

Productive Efficiency •Any point inside PPC shows that
The condition where the maximum output is
produced with given resources and technology resources are unemployed or
Productive Inefficiency
The condition where less than the maximum underemployed or are lying idle.
output is produced with given resources and •By increasing the use of resources
technology. Productive inefficiency implies that
more of one good can be produced without any production can be increased
less of another good being produced.

(d) Attainable and Unattainable

(e) Economic Growth
Regions and Productive Efficiency
An increase in resources or an
advance in technology can increase
the production capabilities of an
economy, leading to economic
growth and shift outward in the
production possibilities frontier.

(e) PPC and Economic Growth Economic Growth and Shift in PPC
PPC will shift to the right when
-New stock of resources are discovered
-There is an advancement in technology
PPC will shift to the left when
- Resources are destroyed because of national
calamity like earthquake, fir, war etc.
- There is the use of outdated technology

8
 9/13/2015

Advancement in Technology and PPC

Advancement in Technology
and PPC
An advancement in
technology commonly
refers to the ability to
produce more output with
a fixed amount of
resources or the ability to
produce the same output Fig A
Advancement in technology
Fig B
Advancement in technology
Fig C
Advancement in technology
with fewer resources. Of both Good X and Good Y of Good X only of Good Y only

Positive Vs. Normative Economics Positive Vs. Normative Economics

Positive - The study of “what is” in economic Normative - The study of “what should be” in
matters.
economic matters
Cause Effect Judgment and Opinion (ethics)
Deals with actual or realistic situation Deals with idealistic situation
Cannot be empirically verified.
Can be empirically verified. Eg – What is a fair price rise?
eg. What determines the price rise? Govt has
adopted policies to reduce unemployment. Rate Unemployment is worse than poverty. Rate of
of inflation is 6% in Nepal. inflation should not be more than 6%.

Microeconomics Microeconomic Questions

Microeconomics is the study of human •How does a market work?
behavior of individual decision making units, • What level of output does a firm
such as consumers, resource owners and firms. produce?
• What price does a firm charge for the
good it produces?

9
 9/13/2015

Microeconomic Questions Importance of Microeconomics

•Helps in formulating economic policies to enhance
•How does a consumer determine how economic efficiency and attain greater social welfare.
much of a good he or she will buy? •It explains the working of a capitalist economy where
individual units are free to take their decisions
• Can government policy affect business •Describes how individual units attain equilibrium position
behavior? •Helps govt in formulating correct price policies
•Helps in efficient employment of resources by the
• Can government policy affect consumer entrepreneurs
behavior? •Helps business economists to make predictions and
business forecasts

Limitations of Microeconomics
•Fails to explain the functioning of the economy
as a whole
•The assumption of full employment is a rare
NEXT
phenomenon. It is therefore an unrealistic
assumption.
BASIC DEMAND
•Fails to explain unemployment, poverty, AND SUPPLY ANALYSIS
illiteracy and other problems prevailing in the
economy.

10