Subject Code: ECO 001

Course Description: Basic Microeconomics

Professor: Dr. Antonio E. Aguilar

 Resource Utilization and Economics
Terms to Remember

Economics - a social science concerned with man’s problem of using scarce

resources to satisfy human wants.
Goods - anything that yields satisfaction to someone.
Economic resources– inputs used in the production of goods and services.
Economic good – a good which is both useful and scarce
Land – natural resources
Labor – human effort expended in production
Capital – materials used in the production of goods and services including money
Entrepreneur – organizes all other factors of production to be used in the creation
of goods and services.
Essentials – goods which are used to satisfy the basic needs of man.
Luxury goods – goods man can do without
Opportunity costs – costs or benefits foregone in the alternative use of a resource.
Normative economics – an analysis of economics, which deals with what should be
Positive economics – an analysis of economics, which deals with what actually is
Macroeconomics – is the division of economics that deals with aggregates
Microeconomics – is the division of economics that studies the economy in parts.
Basic Terms in Economics
It is essential that the students familiarize himself with the terms that will be
used in the study. A knowledge of these terms shall facilitate his understanding of
economic analysis.
Goods may be:
1. Tangible – when they are in the form of material goods or commodities.
Examples: shoes, books & umbrellas, etc.
2. Intangible – when they are in the form of services. Examples services like
those rendered by the doctor, the teacher, or the painter, etc.
Goods may also be classified according to use.
1. Consumer goods - goods which yield satisfaction directly, just like soft
drinks and food.
2. Capital goods – goods used in the production of other goods and services.
Examples: buildings, machinery, & equipment.
 3. Essentials goods – if they are used to satisfy the basic needs of man such as
food, shelter, and medicine.
4. Luxury goods – are those goods man may do without, but are used to
contribute to his comfort and well being. Examples: perfumes, chocolates, and
expensive cars, purchased only by those who can afford.
5. Economic goods – an economic good is a good which is both useful and
scarce. Example: air from the electric fan
6. Free goods – if a good is so abundant that there is enough of it to satisfy
everyone’s needs without anybody paying for it. Example: air

Goods are created by means of production through:

1. Manufacturing or industry
2. Agricultural
3. Exploration
 Economic Resources
The things which are needed to carry on the production of goods and services are called
economic resources or factors of production. These resources are: land, labor, capital, and
entrepreneur.
Land
Strictly speaking, land refers to all natural resources, which are given by and found in
nature, and are, therefore, not man-made. This term includes the soil, river, forests, and mineral
deposits. Land is an economic good because it is scarce and a price has to be paid for it. Thus,
people who own land and offer it to others for their use, earn an income called rent. The less the
supply of land available for man’s use, the higher is the rent that has to be paid for it.
Labor
Labor is any form of human effort exerted in the production of goods and services. Labor
covers a wide range of skills, abilities, and characteristics. It includes factory workers who are
engaged in manual work.
Since labor supply is not available in any amount at zero price, anybody who expends his
efforts in the production of goods and services earns an income. Wages, which are the return
on the use of labor, include salaries, commissions, tips, and other forms of remuneration.
 Capital
Capital refers to man-made goods used in the production of goods and services.
Capital does not only include money, it also includes buildings, machinery, raw
materials, and other physical necessities for use in production. Capital is an
economic good and the owner of capital earns income for its use. This income is
called interest. Thus, if you bring your money to the bank for deposit, it earns
interest because you are actually lending capital to the bank.
Entrepreneur
Oftentimes, the entrepreneur is not presented as a separate factor or production,
but is classified as part of labor. However, the entrepreneur does a special type of
work and is, therefore, not ordinary labor. Since not everybody had the managerial
and organizational ability to be an entrepreneur, entrepreneurship is an economic
good that commands a price. This price is the income earned by the entrepreneur and
is called profit.
 The Need To Choose
Scarcity is the reason why people economize. Scarcity refers to the limitations
that exist in obtaining all the goods and services that people want. It gives rise to
economic problems and it is the reason why man has to make a choice. If all goods
were as free as air, there would be no need to economize. Because of scarcity, any
society must confront three fundamental and interdependent economic problems.
1. What to produce and how much? This is a decision on what goods and
services to produce and their quantities. This would depend on what is needed, what
is wanted, and what has to be produced.
2. How shall goods be produced? This is a decision of what resources are to be
used in the production, by whom the goods will be produced, the technological
manner in which production will take place.
 3. For whom shall goods be produced? This question is now on the problem of
distribution. Who will benefit from the production of goods and services? How much
of total production will each consumer get? Will the goods be bought by the rich or
by the poor?
Circular Flow Model
What is the Circular Flow Model?
The circular flow model demonstrates how money moves through society. Money
flows from producers to workers as wages and flows back to producers as payment
for products. In short, an economy is an endless circular flow of money.
That is the basic form of the model, but actual money flows are more
complicated. Economists have added in more factors to better depict complex
modern economies. These factors are the components of a nation’s gross domestic
product (GDP) or national income. For that reason, the model is also referred to as
the circular flow of income model.
Salient Points
 The circular flow model demonstrates how money moves from producers to
households and back again in an endless loop.
 In an economy, money moves from producers to workers as wages and then back
from workers to producers as workers spend money on products and services.
 The models can be made more complex to include additions to the money supply, like
exports, and leakages from the money supply, like imports.
 When all of these factors are totaled, the result is a nation’s gross domestic product
(GDP) or the national income.
 Analyzing the circular flow model and its current impact on GDP can help
governments and central banks adjust monetary and fiscal policy to improve an
economy.
 Understanding the Circular Flow Model
The basic purpose of the circular flow model is to understand how money moves
within an economy. It breaks the economy down into two primary players:
households and corporations. It separates the markets that these participants
operate in as markets for goods and services and the markets for the factors of
production.
The circular flow model starts with the household sector that engages in
consumption spending and the business sector that produces the goods.
Two more sectors are also included in the circular flow of income: the
government sector and the foreign trade sector.
The government injects money into the circle through government spending on
programs such as Social Security and National Parks Service. Money also flows
into the circle through exports, which bring in cash from foreign buyers.
In addition, businesses that invest money to purchase capital stocks contribute to
the flow of money into the economy.
 Outflow of Cash
Just as money is injected into the economy, money is withdrawn or leaked
through various means as well. Taxes imposed by the government reduce the flow
of income. Money paid to foreign companies for imports also constitutes a
leakage. Savings by businesses that otherwise would have been put to use are a
decrease in the circular flow of an economy’s income.
A government calculates its gross national income by tracking all of these
injections into the circular flow of income and the withdrawals from it.
Adding Up the Factors
The circular flow of income for a nation is said to be balanced when withdrawals
equal injections. That is:
 The level of injections is the sum of government spending (G), exports (X), and
investment (I).
 The level of leakage or withdrawals is the sum of taxation (T), imports (M), and
savings (S).
When G + X + I is greater that T + M + S, the level of national income (GDP) will
increase. When the total leakage is greater than the total injected into the circular
flow, national income will decrease.
Calculating Gross Domestic Product (GDP)
GDP is calculated as consumer spending plus government spending plus business
investment plus the sum of exports minus imports. It is represented as GDP = C + G
+ I + (X – M).
If businesses decided to produce less, it would lead to a reduction in household
spending and cause a decrease in GDP. Or, if households decided to spend less, it
would lead to a reduction in business production, also causing a decrease in GDP.
GDP is often an indicator of the financial health of an economy. The standard
definition of a recession is two consecutive quarters of declining GDP. When this
happens, government and central banks adjust fiscal and monetary policy to boost
growth.
 Keynesian economics, for example, believes that spending leads to economic
growth, so a central bank might cut interest rates, making money cheaper, so that
individuals will buy more goods, such as houses and cars, increasing overall
spending.
As consumer spending increases, companies increase output and hire more
workers to meet the increase in demand. The increase in employed people means
more wages and, therefore, more people spending in the economy, leading producers
to increase output again, continuing the cycle.
The Concept of Opportunity Cost
When one makes a choice, there is always an alternative that has to be given up.
A producer who decides to produce shoes, gives up other goods that could be
produced with the same resources. A student who buys a book with his limited
allowance, gives up the chance of eating out or watching a movie. An M.A.
graduate who decides to teach, gives up the salary he would have earned had he
worked in a big firm like San Miguel Corporation.
 The values of these alternatives given up are referred to as opportunity costs.
When we make a decision to buy Good A, we are in effect, making the decision not
to buy Good B.
Salient Points
 Opportunity cost is the forgone benefit that would have been derived by an option
not chosen.
 To properly evaluate opportunity costs, the costs and benefits or every option
available must be considered and weighed against the others.
 Considering the value of opportunity costs can guide individuals and organizations to
more profitable decision-making.
Opportunity Cost Formula and Calculation
Opportunity Cost = FO – CO
where:
FO = Return on best foregone option
CO = Return on chosen option