ECO 162

Principles of Economics

CHAPTER 1
Introduction to Economics
 1.1 Definition of Economics
(Conventional and Islamic Perspectives)

Economics from Conventional Perspective:

Definition: Study of how people use their

limited resources to fulfill unlimited
wants and need.

*** Limited resources refer to Factors of Production

 4 Factors of Production
• Land –Inputs into production that are provided by nature such as raw material
s from the surface of earth, mineral and oil deposits. The reward is rent.

• Labor – All forms of human input, both physical and mental, into current produ
ction. The reward is wage.

• Capital – All inputs into production that have themselves been produced such
as factories, machineries, equipments and tools. The reward is interest.

• Entrepreneur – The person who has the capability to combine all resources int
o the production of goods and services. The reward is profit.
 1.1 Definition of Economics
(Conventional and Islamic Perspectives)
Economic from Islamic perspective:
Definition
• Islamic economics is a social science which studies the economic problems
of people related with Islamic values

Objective of economic activities

• Achievement of Al Falah (prosperity in the world and in the Hereafter) and t
he blessings of Allah
The philosophic foundations of Islamic Economics

1. Rububiyyah
The belief that Allah alone nurtures, nourishes, sustains, develops, and leads
us toward success/perfection
2. Khalifah
The role of man as the vicegerent of Allah, entrusted with all the economic
resources. Has the responsibility of illustrating a role model for other men to
follow.
3. Tazkiyyah
The concept of purification and growth. Responsible to enrich the world and
purify his asset/wealth through zakat, sadaqah, waqaf, and charity.
4. Ukhuwah
The concept of brotherhood, showing the right attitude towards other human
being.
5. Al-Falah
The concept of success/happiness/prosperity in this world and the Hereafter.
 Differences between Microeconomics and
Macroeconomics
Microeconomics Macroeconomics

studies decision making by a single studies decision making for the

individual, household, firm, industry economy as a whole

Analyzes DD for and SS of labor Analyzes total employment in the

economy
Deals with households and firm Deals with aggregate decisions
decisions
Studies individual prices Studies overall price level
Analyzes demand and supply of goods Analyzes aggregate demand and
aggregate supply.
 1.2 Economic Concepts
(Conventional Perspective)
1) SCARCITY  2) CHOICES  3) OPPORTUNITY
COST

Scarcity
• scarce – impossible to satisfy our unlimited
wants due to limited resources
• wants always exceeding limited resources
• Peoples’ wants are greater than the economy’s
ability to produce desirable goods & services
• Because of our resources are limited, we must
choose and sacrifice one thing for another.
 Choices
• because of scarcity, choose from the available
alternatives. Choices can be made by comparing
cost or benefits from available alternatives.
Opportunity Cost
• the second best alternative that has to be
forgone for another choice which gives more
satisfaction.
• the opportunity cost of an action is the
next best foregone alternative.
 Example
• These three basic economic concepts are related to
each other.

Ikhwan has RM100 and he want to buy two things,

bag and jeans which cost RM100 each (limited
resources but unlimited wants).

Because of limited resources (scarcity), Ikhwan

has to choose either to buy bag or jeans (choice).

If Ikhwan choose to buy bag, then he has to forgo

jeans (opportunity cost).
 1.3 Production Possibilities Curve (PPC)

• A curve that shows the maximum combinations of

two outputs that an economy can produce, by using
all its available resources efficiently.

4 Assumption of PPC
1) Producing 2 goods 3) Fixed resources
2) Fixed technology 4) Producing at full
employment
 PPC and Basic Economics Concepts
CLOTHES
scarcity choices
 Without more resources,  Refer to any point along
points outside PPC are PPC.
20 unattainable (Point E)
 Example: At point A, society
A can produce 19 units of
19
clothes & 4 units of Foods.
18 B
•E  At B, can produce 18 unit of
clothes and 7 unit of foods.
•D
9 C
Opportunity cost
• Movement from one point
to another – point A to B

0 4 7 14 15 FOODS

Points “inside” the PPC are inefficient – waste of resources or unemployment (Point D).
 Shape of The PPC
Good Y
Increasing Opportunity Costs
(PPC concave)

Constant Opportunity Costs

(PPC linear)

Decreasing Opportunity
Costs (PPC convex)

Good X
Combination of Radios (R) Televisions (TV) Opp. cost of radio
goods (unit) (unit) (Total)

A 0 10 -

B 4 9 1 TV

C 7 7 2 TV

D 9 4 3 TV

E 10 0 4 TV

Increasing opp. cost

Combination of Radios (R) Televisions (TV) Opp. cost of radio
goods (unit) (unit) (Total)

A 0 12 -

B 2 10 2 TV

C 4 8 2 TV

D 6 6 2 TV

E 8 4 2 TV

F 10 2 2 TV

g 12 0 2 TV

Constant opp. cost

 Shift of PPC
- 3 factors influence shift of PPC
1)Changes technology
2)Changes resources
3)Changes population
 Shift of PPC
Increase
Technology
PPC shift Outward Increase
(increase in PPC) Resources
Increase
Population
Good A (Number of labor
increases)

PPC shift
outward

Good B
 Shift of PPC
Decrease
Technology

PPC shift Inward Decrease

(Decrease in PPC) Resources

Decrease
Good A Population
(Number of
labor decreases)
PPC shift inward

Good B
Why would the PPF shift outward?
1) more resources: land, labor, capital, and human capital (economic
growth)
2) technological progress – improvement in technology
3) larger population – increase in number of labor

Good Y

New PPF

Initial PPF

Good X
 Production Possibilities Curve
Increase in Resources or Technology
Improvement that benefits
70
BOTH PRODUCTS. PPC
Production of Clothing

60 shifts outward (to the

50 right), from PPC1 to PPC2.

40
PPC2
30 PPC1
20
10
0
0 10 20 30 40 50 60 70
Production of Food
 Production Possibilities Curve
Improvement that benefits Food
production ONLY – from PPC1
60 to PPC2
Production of Clothing

e.g: there is improvement in

50 technology of producing Food.

40

30
PPC2
PPC1
20

10

0
0 10 20 30 40 50 60 70
Production of Food
 Production Possibilities Curve
Improvement that benefits clothing
70 production ONLY – from PPC1 to
Production of Clothing

PPC2
60
50
40
PPC2
30
PPC1
20
10
0
0 10 20 30 40 50 60 70
Production of Food
Jun 2018.Part A ,
Question 1
Jan 2018, Part
A , Question 1
Mac 2017,
Part A,
Question 1
 1.4 Four Basic Economic Problems
• What to produce?
– types of goods the society wants to produce given limited fact
ors of production (eg: radios or televisions)

• How much to produce?

– Quantity of goods to be produced

• How to produce?
– Methods of production (labor or capital intensive)
– The cheapest method of production – minimum cost of produ
ction

• For whom to produce?

– Target group (rich, poor, working people, etc)
1.5 Four Types of Economics Systems

Capitalism 1) Characteristics
2) Advantages
(strength)

Socialism 3) Disadvantages
(weaknesses)
Economic 4) How to settle
System basic economic
Mixed problems (what to
produce, how
Economic
many to produce,
how to produce,
for whom)
Islamic
Economic
 Economic System
Capitalism
A market economy that provides for the ownership of the factors of
production and encourages entrepreneurship by offering profit and incentive.

Main features Weaknesses

• “Laissez-faire” or hands-off policy • misallocation of resources
• private ownership of resources • wasteful competition
• freedom of enterprise • human welfare ignored
• price mechanism/invisible hand • inequitable distribution of income
• profit motive
• Competition
Strengths
• functions automatically
• higher efficiency and incentive to work hard
• optimum utilization of resources
• economic development and prosperity
 Socialism
The central directing authority resolves basic economic problems.
Government owns and operates only major industries.

Main features Strengths

• public ownership of • better allocation of resources
resources • high growth rate and low
• no private enterprise • unemployment rate
• classless society • social justice
• central economic planning
Weaknesses
• high administration cost
• absence of price mechanism may cause inefficient use of resources
• no incentive to be more productive and produce quality goods
 Mixed economy
Mixture of the two systems, market and command. Many planned
economies have adopted market mechanism through privatization (the
process of converting government enterprise into privately owned
companies)

Main features
• co-existence of public and private sectors
• role of price system and government directives
• government regulation and control of private sectors
• control on monopoly

Totally China France US Totally

planned free-market
economy economy
North Korea Poland Malaysia UK HK
Singapore
 Islamic economy
Based on the five philosophic foundations. A balance between economic
freedom and regulated economic system.

Main features
• the prime objective is to achieve Al Falah
• all decisions should earn the approval of Allah
• private ownership is allowed such that it is allocated and utilized according
ly
• the role of government is to achieve the goals of Islamic society
• ‘riba’ is prohibited
• forbidden goods are not produced
BIL SEMESTER NO.OF QUESTION (PART B/C)
1 JUN 2018 QUESTION 1 (a):
Discuss two (2) advantages and two (2) disadvantages of a planned
economic system.

QUESTION 1 (b):
Explain briefly the basic economics problem faced by every country.
2 JAN 2018 QUESTION 1 (a):
Using a production possibility curve, describe the concept of scarcity,
choice and opportunity cost.

QUESTION 1 (b):
Discuss four (4) factors that will cause the production possibility
curve to shift outward.
3 MAC 2017 QUESTION 1 (a):
Define socialism economic system and explain four (4)
characteristics of this economy system

QUESTION 1 (b):
Define microeconomics. Using your own example, explain the four
(4) basic economic problems.
4 OCT 2016 QUESTION 1 (a)
Define mixed economy system and explain four (4) advantages of
this economy system.

MAC 2016 QUESTION 1 (a)

Explain how a free market economy solves basic economic
problems.
5 Sept 2015 QUESTION 1(a)
Explain any four (4) characteristics of capitalism economy system
6 MAC 2015 QUESTION 1 (a):
Using productions possibilities curve, explain the concept of scarcity,
choice, and opportunity cost.

QUESTION 1 (b):
Discuss any two (2) characteristics to distinguish between a planned
economic system and a mixed economic system.