TM

SELF-LEARNING MANAGEMENT SERIES

MICROECONOMICS
ESSENTIALS
YOU ALWAYS WANTED TO KNOW

A go-to guide to understanding the building blocks

of Microeconomics

AMLAN RAY
Edited by Arkadiusz Mironko
Microeconomics Essentials You
Always Wanted To Know
First Edition

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 SELF-LEARNING MANAGEMENT SERIES

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ACCOUNTING, FINANCE & ECONOMICS

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9781636511030
MANAGEMENT ESSENTIALS

FINANCIAL ACCOUNTING ESSENTIALS 9781636510972

FINANCIAL MANAGEMENT ESSENTIALS 9781636511009

MACROECONOMICS ESSENTIALS 9781636511818

MICROECONOMICS ESSENTIALS 9781636511153

PERSONAL FINANCE ESSENTIALS 9781636511849

ENTREPRENEURSHIP & STRATEGY

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GENERAL MANAGEMENT
BUSINESS LAW ESSENTIALS 9781636511702

DECISION MAKING ESSENTIALS 9781636510026

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 About the Author
Prof. Amlan Ray is currently Senior Director
& Dean at SRISIIM, New Delhi, a management
and research Institution recognized by the
Ministry of Science & Technology and
Ministry of Education, Government of India.
He has 27 years of experience working in
Corporates, Consulting, Training, and
Academia.
His corporate experience and research area lie in Economic
Analysis, Digital Transformation, and International Business.
He is also an advisor to Infinite Sum Modelling Inc., a US-based
multinational consulting firm in the area of International Trade.
Amlan has also authored several articles in Management and
Economics journals.
Amlan has executed various training and consulting assignments
sponsored by organizations like the AICTE, World Bank, PHD
Chamber of Commerce, Grafoventure (Italy), Master Card
Foundation, and Data Science Network (Nigeria). He has been
instrumental in designing National Occupational Standard
(NOS) in the area of Digital Transformation for National Skill
Development Corporation (NSDC), India.
Amlan is a [Link]., MBA, M.A. (Economics) and has submitted his
Ph.D. thesis at Amrita Viswa Vidyapeetham, India in the area of
International Trade.
Other contributors
We would like to thank our editor, Arkadiusz Mironko for
his contribution to making this book the best version possible.
Arkadiusz is an assistant professor of management and
entrepreneurship at Indiana University East, School of Business
and Economics. Previously, he worked at the Rotterdam School
of Management Erasmus University in the Netherlands, and the
AGSM at the University of California, Riverside. His core research
interests are in the area of business strategy, global economic
competition, and knowledge creation and transfer through
R&D between multinational corporations entering developing
economies and collaboration with indigenous firms. Mironko
is the author of the book Determinants of FDI Flows within
Emerging Economies: A Case Study of Poland, published by
Palgrave Macmillan, several journal articles and book chapters.
Arkadiusz received his Ph.D. in International Business Strategy
from Rutgers University.
 What experts say about this book!
Microeconomics Essentials is a must-read for anyone looking for a solid
foundation in microeconomics as it is presented in an easy-to-understand
fashion. Student learning is enhanced with a variety of real-world
applications of the material. The book can be used as a primary text in
undergraduate microeconomics classes or as a useful supplement to
more advanced courses.

– Richard Roberts, Professor of Economics and Finance,

Monmouth University, USA

This book explains in a brief and concise way by avoiding too many
technicalities and focusing mostly on concepts that could be applied
in real life. This book could be used as an introductory book for
undergraduate students or even MBA students who do not have any
background in business and/ economics. The end-of-chapter summaries
and questions are easy and straightforward and are good reviews of the
basics of the chapter.
– Indrit Hoxha, Associate Professor of Economics,

Penn State Harrisburg School of Business Administration, USA

Conceptually simple and pedagogically sound, this introductory textbook

is meant for beginners and under-graduate students from Management,
Commerce and other disciplines. It provides detailed insights into the
basics of Micro Economics thereby equipping students with a working
knowledge of the subject.

– Dr Partha Pratim Sahu, Centre for Good Governance and Policy

Analysis (CGGPA), NIRDPR

 What experts say about this book!
For a beginner, this book gives comprehensive coverage of all topics that
they need to learn. The present NEP curriculum on economics will find
this book a great facilitator. The layout and font of the book are perfect
and standardised. The Self-Learning Management series is pioneering
and trendsetting. This series has the caliber to become a best-seller
series! This book is brimming with information starting from basic to
advanced topics of microeconomics. An economics faculty will greatly
benefit from this book, as this book provides insights into theoretical and
practical challenges. This book dwells on the vision of "know-hows" for
lifelong learning.

– Prof Clement D Souza, Dean, School of Humanities,

St Joseph's University, Bangalore, India

Microeconomics Essentials is an approachable description and analysis,

written keeping in mind students beginning economics from scratch
at college or university. A clear, readable text is supported by data-
responsive material, numerical, and multiple-choice questions to check a
learner’s understanding. Attention is paid to both traditional and modern
ways of looking at microeconomics and has been carefully discussed to
show how they can be used to discuss economic problems.

– Prof. [Link], Department of Economics,

University of Rajasthan, India

 What experts say about this book!
This book can be hailed as a textbook since the entire subject matter has
clarity of exposition and its simple, empirical, and graphical presentation
of topics will be easy to understand. A summary at the end of chapters
is a good way to recapitulate information. Undergraduate students or
anyone who is interested to understand the behaviour of an individual,
firm, etc. will find this book useful. This book can be used in courses like
BA Economics, BBA, and BCom. Starting with basic concepts, this book is
written concisely yet comprehensively. This is an ideal book to help you
to grasp the essentials of economics quickly and easily even if you're a
novice.

– [Link] Annakamu, Assistant Professor,

Department of Economics, PSGRKCW, India

This page is intentionally left blank
 Table of Contents
1 Fundamentals of Economics 1
1.1 Why Study Economics? 2
1.2 Defining Economics 4
1.3 Concept of Scarcity 5
1.4 The Concept of Choice 7
1.5 Microeconomics and Macroeconomics 9
Discussion Questions 12
Chapter Summary 13
Quiz 14

2 Demand and Supply 19

2.1 Demand and Supply 20
2.2 Supply Schedule 28
2.3 Equilibrium and Pricing 30
2.4 Types of Goods 31
2.5 Shifts in the Demand Curve 33
2.6 Shifts in the Supply Curve 35
Discussion Questions 38
Chapter Summary 39
Quiz 40

3 Elasticities of Demand and Supply 43

3.1 Price Elasticity of Demand 44
3.2 Arc and Point Elasticity 46
3.3 Measuring Price Elasticity Using a Demand Function 49
3.4 Determinants of Price Elasticity of Demand 51
3.5 Price Elasticity of Supply 54
3.6 Determinants of Price Elasticity of Supply 56
3.7 Cross Elasticity of Demand 57
3.8 Income Elasticity of Demand 58
Discussion Questions 60
Chapter Summary 61
Quiz 62
4 Consumer Behavior - Cardinal Utility Approach 67
4.1 Concept of Cardinal Utility 68
4.2 Total and Marginal Utility 69
4.3 Law of Diminishing Marginal Utility 71
4.4 Consumers’ Equilibrium 74
4.5 Drawbacks of the Cardinal Utility Approach 77
Discussion Questions 78
Chapter Summary 79
Quiz 80

5 Consumer Behavior – Ordinal Utility Approach 85

5.1 Concept of Ordinal Utility 86
5.2 Indifference Curve 88
5.3 Properties of Indifference Curves 92
5.4 Budgetary Constraints and Budget Lines 94
5.5 Advantages and Criticisms of the Indifference Curve
Approach 97
Discussion Questions 99
Chapter Summary 100
Quiz 101

6 Theory of Cost and Production 105

6.1 Meaning of Production 106
6.2 Input and Output 107
6.3 Total, Marginal and Average Product 108
6.4 Returns to Scale 111
6.5 Economies of Scale 113
6.6 Cost of Production 114
6.7 Total Cost, Fixed Cost, and Variable Cost 115
Discussion Questions 120
Chapter Summary 121
Quiz 123
7 Market 127
7.1 What is a Market? 128
7.2 Various Forms of Market 128
7.3 Monopolistic Competition 138
7.4 Price Discrimination 139
Discussion Questions 141
Chapter Summary 142
Quiz 143

8 Theory of a Firm 147

8.1 Concept of Firm 148
8.2 Concept of Revenue, Cost, and Profit 148
8.3 Profit Maximization 152
8.4 Supply Curve of a Firm 154
Discussion Questions 160
Chapter Summary 161
Quiz 163

9 Theory of Factor Pricing 167

9.1 The Theory of Factor Pricing: An Overview 168
9.2 The Nature of Factor Demands 169
9.3 Marginal Revenue Product 170
9.4 The Demand for Factors of Production 172
9.5 Supply of Factors of Production 174
9.6 Determination of Factor Prices through Demand and
Supply 175
Discussion Questions 178
Chapter Summary 179
Quiz 180
10 International Trade 183
10.1 Basics of Foreign Trade 184
10.2 Reasons for International Trade 185
10.3 Absolute Advantage 187
10.4 Comparative Advantage 188
10.5 Gains from Trade 190
10.6 Free Trade and Trade Barriers 193
Discussion Questions 197
Chapter Summary 198
Quiz 200
 Preface
Economics has influenced policymaking across the globe, and
the world of finance and trade is completely dependent on this
subject. Despite the tremendous practical application of the
subject, it is often perceived as obscure and theoretical. This
book attempts to make the readers understand the practicalities
of the subject of Economics. Examples taken from various
industries in this book demonstrate the application part. The
book tries to acquaint the readers with the practical applications
of microeconomics, unraveling each aspect of economics jargon.
At the end of the book, the reader should be able to appreciate
the practical application of microeconomics in business and
policymaking. The purpose of the book is to make people
without an economics background comfortable with the subject.
As a learning outcome, the readers should be able to appreciate
business articles comfortably or be able to engage in discussions
on economic issues after reading the book. The book will help
students of Economics at the undergraduate level and in executive
MBA programs to follow and understand their academic
curriculum better.
This page is intentionally left blank
 Introduction to the book
The world of trade and finance are dependent on the economic
sciences. The knowledge of economics is essential for students and
professionals who want to make career in the world of business.
Usage of big data and computers have given the economic
sciences the capacity to forecast with fair amount of accuracy. The
importance of economic sciences has made it essential for students
and professionals to have fair idea about elementary economics
to fulfil their career aspirations. However, often Economics
text books are found to be theoretical and full of jargons which
are difficult to follow. This book attempts to simplify various
microeconomic theories and explain the various terms used in
economics with examples from business world. Discussion of
different theories in this book makes it easier for the readers to
understand the application of economics in various fields. The
book introduces the readers with core concepts of economics like
demand and supply and take them through theories of consumer
choice, market, factors of production and finally international
economics. At the end of the book, the readers will be able to
appreciate following concepts of microeconomics:

● Concept of scarcity and choice

● Law of demand and supply

● Price elasticity of demand and supply

● Consumer behaviour with both cardinal and ordinal utility

theory

● Theory of cost and production

● Various forms of market ranging from monopoly to perfect

competition
● Concepts of revenue, cost and profit

● Overview of factors of production

● Basics of trade including free trade and trade barriers

Finally, the readers will be able to understand how different

economic theories affect our day to day life and determine
public policies at national and global level.
Who can benefit from the book?
● Undergraduate students can use this as a text book that
covers their syllabus

● Students at master’s level in programmes like MBA, often

join from non- economics background. This book will be
useful for them to understand basics of economics

● Business professionals can use this to understand decision

making in the companies and industries

● Entrepreneurs will be benefitted by learning the basics of

microeconomics to understand policy matters
This page is intentionally left blank
 How to use this book?
The book can be used in multiple ways depending on the need of
the reader. The book focuses on explaining various
microeconomics concepts with examples from business and day to
day life.

● Students can use this to understand basics of economics

● This can be used as a reference book by various UG level

students like engineering etc. to understand the concept
of economics and its application in industry. Students will
benefit when they will try to match the theories with their
practical learning

● The readers may conduct small survey, experiments to

check empirically theories like law of demand etc. discussed
in the book

● Students may prepare graphs, diagrams with various

economics databases available with World Bank, CIA Fact
Book etc. and check the application of economic theories

● Entrepreneurs may use this to understand basics of

microeconomics and complement the book with policy
papers and strategic documents
This page is intentionally left blank
Chapter 1

Fundamentals of Economics

T his chapter introduces the readers to the fundamentals

of Economics. Economics is one of the most
important aspects of social science and is used immensely in
policymaking. The application of economics improves the
quality of life across the globe. But often, we are not clear
about the fundamental concepts of economics. The purpose
of this chapter is to bring about clarity on the need, use,
and concepts of economics before entering into a detailed
discussion on various topics of microeconomics in the
subsequent chapters.

Key learning objectives of this chapter include the reader’s

understanding of the following:

● The importance of studying economics

● The definition of economics

● The importance of concepts like scarcity and choice

[Link]
2 Microeconomics Essentials You Always Wanted To Know

● The difference between microeconomics and

macroeconomics

1.1 Why Study Economics?

People study Economics for various purposes: to attain a

good job, for the purpose of higher education, or just to gather
knowledge. But studying economics can be even more purposeful.
It enables us to make rational decisions. The decision to choose the
political party that will formulate policies keeping our interests in
mind, the decision to choose the job that will give more returns, or
choosing to buy the stock which is the best investment option, are
all decisions that Economics can help us make.

We hear a lot of terms without understanding their intrinsic

meaning. We hear about monetary policy, credit squeeze, and
financial inclusiveness. However, our understanding is often
superficial. To appreciate these terms, we need an understanding
of economics. We hear about the taxation policy of the Biden
Government or the tariff imposed by the European Union on
US imports from China. The study of Economics enables us to
appreciate the debates and discussions on these topics.

Everyone is interested in learning about vibrant business

environments, stable job markets with low unemployment, and the
growth in the country’s economy. Knowledge of economics allows
us to understand the factors that affect the business environment
or the job market. It also makes us think about the policy measures
which can achieve these objectives.

[Link]
Fundamentals of Economics 3

We know that for investing in the stock market, we need to have

information not only about the companies we are interested in but
also about the economy and the events affecting the stock market.
The study of economics enables us to read and comprehend
a business newspaper. The study of economics improves the
analytical capability and business acumen needed for success in a
profession.1

Economics expands our vocabulary, allows us to put new terms

into practice, makes us understand our own spending habits,
leverage economic tools, and improves our career prospects.2

An engineer needs an understanding of economics to make

the right decision for controlling production costs, while a human
resource manager with a knowledge of economics can optimize the
utilization of the workforce. With economics, a doctor will know
which segment of patients will be able to afford a particular line of
treatment. Thus, economics can be applied and utilized in various
fields of operation

Finally, economics makes us realize the fact that resources are

scarce. Optimum utilization of these scarcely available goods can
make our life better and improve our standards of living.

1. Lindholm, R. W. (1944). The Development of a Scientific Attitude in Economics. The

American Journal of Economics and Sociology, 3(2), 239–250.
2. Chladek, N. (2017, November 30). 7 REASONS WHY YOU SHOULD STUDY
ECONOMICS. Harvard Business School Online. [Link]
reasons-why-you-should-study-economics
[Link]
4 Microeconomics Essentials You Always Wanted To Know

1.2 Defining Economics

Samuelson and Nordhaus define3 economics as the study of

how societies use scarce resources to produce valuable goods and
services and distribute them among different individuals.

As per the Economist,4 The most concise definition of economics

is the study of how society uses its scarce resources.

So, economics deals with the optimum utilization of the

resources that are scarce in nature. This is applicable to an
individual as well. A salaried person needs to budget for different
needs within his monthly income. He needs to allocate funds for
gasoline, food, and rent, as well as funds for entertainment. There
needs to be a provision for savings as a means of social security
during rainy days.

Webster’s Dictionary5 defines optimization as a process that

tries to make something as effective as possible. A household
tries to make its expenditure as effective as possible. The way a
household tries to minimize their running costs per month and
maximize utility for the family members with a limited income
is optimization. This optimization is done assuming that the
consumer knows what is best for him. He is rational and his
decisions are based on logic. When we aggregate the individual
needs, we hit upon the societal needs.6

3. Samuelson, P. A., & Nordhaus, W. D. (2009). Economics 19e.p 1.

4. The Economist, Economics A-Z terms. [Link]
z/a
5. Dictionary, M. W. (2002). Merriam-webster. On-line at [Link] mw. com/home.
htm, 14.
6. Hossain, F. A., & Ali, M. K. (2014). Relation between individual and society. Open
Journal of Social Sciences, 2(08), 130.
[Link]
Fundamentals of Economics 5

A country needs to budget funds for its defense, its

infrastructure, healthcare, and education for its citizens. These are
planned with the limited or scarce resources it receives through
various means of revenue, in particular the taxes collected by the
state.7

If resources were not scarce, the basic premises of economics

would have been challenged, as we always assume that wealth is
limited.8 In the next section, we deal in detail with the concept of
scarcity.

1.3 Concept of Scarcity

If we had Aladdin’s Genie’s lamp and could have anything

and everything we wanted, then there would be no problem of
scarcity. Unfortunately, despite the rapid evolution of humankind
and human society, most resources are still scarce in this world.
Neither the individual nor the state has any magical lamp to solve
the problem of hunger and poverty. Moreover, human needs or
wants are unlimited.9 So, even if we solve the problem of poverty
and most people gain access to food, clothing, and shelter, the
problem of scarcity will not be over. Herein lies the need for
economics.

Economics is concerned about using scarce resources optimally

for producing valuable goods and services. Then, it takes on
the onus of distributing these scarce resources among different

7. Blinder, A. S., & Solow, R. M. (1973). Does fiscal policy matter?. Journal of public
economics, 2(4), 319-337.
8. Pilzer, P. Z., & Davie, K. (1994). Unlimited wealth. New York: Crown.
9. Samuelson, P. A., & Nordhaus, W. D. (2009). Economics 19e.p 1
[Link]
6 Microeconomics Essentials You Always Wanted To Know

individuals. So, it has the dual task of production and distribution.

Economics tries to answer three basic questions: what to produce,
how to produce, and for whom to produce? These are also called the
central problems of an economy.

The concept of scarcity is prevalent at an individual level

as well as a societal level. Alice wants to go on a vacation to
Switzerland, but she cannot. She needs to settle her EMI10 on her
car loan, which leaves her with fewer savings to plan a vacation.
Her needs and wants far exceed her monthly income.

On a societal level, a country wants to spend more money

on education, healthcare, and universal basic income for all. But
the country may be compelled to spend on defense, service its
debt from the International Monetary Fund (IMF), and may also
need to spend money on building infrastructure. Despite its good
intentions, the Secretary of the Treasury is not able to allocate
more money to areas like education or healthcare. Thus, the need
for optimization arises. The country’s socio-economic policies
should lead to optimum utilization of scarce resources, which will
be the best option for its citizens.

Land, labor, capital, and entrepreneurship are factors of

production. Factors of production are also scarce, and hence, the
manufacturing sector needs to utilize scarce resources to maximize
its productivity and minimize its cost of operation. Scarcity forces
us to make a choice, more specifically, a rational choice, which is
an important area of decision-making in economics. The concept
of choice is explained in the next section.

10. EMI is an Equal Monthly Instalment set by a bank or financial institution against a
loan.
[Link]
Fundamentals of Economics 7

1.4 The Concept of Choice

Scarcity leads to the problem of choice. As incomes are limited,

one needs to limit one’s consumption and spend money only
on selected items. Scarcity determines the choice in the above
scenario and leads the individual to make the decision that will
benefit him or her the most. Economists study the behavior of
consumers, and choices made by people as a part of the decision-
making process.11 When resources are scarce, people need to make
their choices judiciously. When we have limited capital and labor
to produce a limited amount of goods and services, we need to
make a choice regarding what to produce.

Again, we need to choose how much to produce from the

limited availability of capital and labor. If labor is available in
abundance in a particular society, it may opt for a labor-intensive
industry. Countries like China or India, which have abundant
manpower, might prefer a labor-intensive industry. But Finland, a
country with just 5.5 million people, may not find labor-intensive
industries suitable for it. While Finland may have less manpower,
it might have an abundant supply of capital available in the
country. It may focus on technology-driven, capital-intensive
industries.

While countries with abundant labor may opt for industries

like footwear or garments, a country with cheaply available capital
may opt for high-tech electronic industries or focus on robotics,
for example.

11. Dorothy Noyes. (2015). Fairy-Tale Economics: Scarcity, Risk, Choice. Narrative
Culture, 2(1), 1–26.
[Link]
8 Microeconomics Essentials You Always Wanted To Know

Next comes the choice of distribution. How can one distribute

whatever is produced in society among various stakeholders?
Capitalism and the market economy make this less complicated;
it produces for the people who have money or purchasing power.
Purchasing power determines for whom to produce.12 In socialist
economies, they produce for the people who need the goods the
most, but this idea may appear utopian and so far, does not have
strong evidence of successful implementation.13

Opportunity cost is a concept in economics that makes us

choose between various opportunities. For example, while you
are reading this book, you are missing the opportunity to watch a
movie. The opportunity cost of reading this book may be the loss
of an hour spent watching a movie. Opportunity cost is the value
of the next best alternative that we forego. Let’s look at another
example: Tom got two job offers after completing his graduation.
One at P&G with an income of $70,000 per year, the other one at
Ford with an income of $60,000 per year; he decides to go for the
P&G job offer. Now, the opportunity cost of his choice is $60,000
which he could get out of the next best alternative.

The concepts of scarcity, choice, and opportunity cost are

fundamental to the discussion of economics and many of the
theories are based on these concepts.

12. Samuelson, P. A., & Nordhaus, W. D. (2009). Economics 19e.p 60

13. Lipset, S. M., & Bence, G. (1994). Anticipations of the Failure of Communism.
Theory and Society, 23(2), 169–210.
[Link]