CHAPTER 1

INTRODUCTION TO ECONOMICS
Introduction to Economics
a social science directed at the satisfaction of needs and wants through the
allocation of scarce resources which have alternative uses

◦ We can go further to state that:

◦ economics is about the study of scarcity and choice

◦ economics finds ways of reconciling unlimited wants 

with limited resources
 ◦ economics explains the problems of living in
communities in terms of the underlying resource
costs and consumer benefits

◦ economics is about the co-ordination of

activities which result from specialization.
 MACRO-ECONOMICS

• Macro-economics studies economic aggregates

such as: total output, total demand, aggregate
income, total savings, total investment, total
employment, rise and fall in general price level,
interest rates.
Macro-economics
 Macro economics
Macroeconomics
• is the study of what is happening to the economy as a
whole, the economy-in-the-large, the macro- economy.
• Macroeconomists' principal tasks: to try to figure out
why overall economic activity rises and falls: the value of
production, total incomes, unemployment, inflation,
Intermediate variables like interest rates, stock market
values, and exchange rates--that play a major role in
determining the overall levels of production, income,
employment, and prices.

https://www.youtube.com/watch?v=8EmWkMJTKR8
Macro-economics Versus Micro-
economics

https://www.youtube.com/watch?v=8DW9ENfRon0
Scope of managerial economics
 1. Demand Analysis and Forecasting
A firm relies on converting inputs into outputs and generates revenue from
them. A clear and accurate estimation of demand ensures a continuous
efficiency of the firm. Several external factors like price, income, affect
the demand that need to be analyzed.
2. Cost and Production Analysis
A company makes a profit in two ways: by increasing
the demand or by reducing the cost.
3. Pricing Decisions, Policies, and
Practices
Pricing is a very important aspect of Managerial
Economics as a firm's revenue earnings largely
depend on its pricing policy.
4. Capital Management
Planning and control of capital expenditures is a
basic executive function.
5. Profit Management
To maximize profits a firm needs to manage certain things like
pricing, cost aspects, resource allocation, and long-run decisions.
This would mean that the firm should work from the very
beginning, evaluate its investment decisions and frame the best
capital budgeting policies
 Nature of Managerial Economics
1. Micro economics: Managerial economics micro economic in character or in nature. This is so
because it studies the problems of an individual business unit. It does not study the problems of the
entire economy of the world or nation.

2. Normative (prescriptive): It is concerned with what management should do under particular

circumstances. It determines the goals of the enterprise. Then it develops the ways to achieve these
goals. It prescribes solutions to various business problems.

3. Pragmatic (practical) : It concentrates on making economic theory more application oriented. It

tries to solve the managerial problems in their day-today functioning
4. Uses macro economics: takes the help of macro-economics to understand the external conditions
such as business cycle, national income, economic policies of Government etc.

5. Uses theory of firm: Managerial economics largely uses the body of economic concepts and
principles towards solving the business problems.

6. Management oriented: The main aim of managerial economics is to help the management in taking
correct decisions and preparing plans and policies for future.

7. Multi disciplinary: makes use of most modern tools of mathematics, statistics and operation research,
accounting, finance, marketing, production and personnel etc.
Objectives of Firm
• The main objectives of firms are:

• Profit maximisation
• Sales maximisation
• Increased market share/market dominance
• Social/environmental concerns
• Profit satisficing
• Co-operatives
 Profit maximisation
• Higher dividends for shareholders.
• More profit can be used to finance
research and development.
• Higher profit makes the firm less
vulnerable to takeover.
• Higher profit enables higher salaries
for workers
 Sales Maximisation
• Increased market share increases monopoly
power and may enable the firm to put up
prices and make more profit in the long run.
• Managers prefer to work for bigger
companies as it leads to greater prestige and
higher salaries.
• Increasing market share may force rivals out
of business. E.g. the growth of supermarkets
have lead to the demise of many local shops.
 Growth Maximisation
• May involve mergers and takeovers.
• The firm may be willing to make lower
levels of profit in order to increase in
size and gain more market share.
• More market share increases its
monopoly power and ability to be a
price setter.
 Social/environmental concerns
• Some firms may adopt
social/environmental concerns as part
of their branding. This can ultimately
help profitability as the brand
becomes more attractive to
consumers.
• Some firms may adopt
social/environmental concerns on
principal alone – even if it does little
to improve sales/brand image.
 Profit Satisficing
• In many firms, there is a separation of ownership and control.
Those who own the company (shareholders) often do not get
involved in the day to day running of the company.

• This is a problem because although the owners may want to

maximise profits, the managers have much less incentive to
maximise profits because they do not get the same rewards,
(share dividends)

• Therefore managers may create a minimum level of profit to

keep the shareholders happy, but then maximise other
objectives, such as enjoying work, getting on with other
workers. (e.g. not sacking them)
 Co-operatives

A co-operative is run to maximise the

welfare of all stakeholders – especially
workers. Any profit the co-operative
makes will be shared amongst all
members.
Theories of Firm
Economic Efficiency

Economic efficiency implies an economic state in which every resource is optimally allocated to serve each
individual or entity in the best way while minimizing waste and inefficiency.

Example

• Suppose a clothing factory has several machines to help sew the clothing. The machines can produce enough
clothing that when sold could result in $100, $75, and $50. In this example, the most efficient option is the one
that results in $100. Anything less than $100 is considered an inefficient use of the machines.
• EXAMPLE: GM SUVs & Big Trucks Economic Efficiency:
• Making products wanted or needed by public
• Looks at cost for rest of society (Pollution)
• What will benefit society as a whole Is it Possible to be Technically efficient, but NOT Economically
Efficient?
 Economic Equity

• The situation in which an economic transaction is

fair to each citizen
• Fairness-Who receives what is produced
• Opportunity- Equal Access
• Result- Equal distribution of income
 Economic Security

• Protection against Economic Risk

Job Loss, Injury, Economic Downturns, Fire, Bankruptcy

• GOV’T Protection : Special Programs

• INDIVIDUAL Protection : Market (Insurance)

• How does each system promote it?

Economic Stability

Economic stability is the absence of excessive fluctuations in

the macroeconomy. An economy with fairly constant output
growth and low and stable inflation would be considered
economically stable

Factors that affect economic stability

• Employment and work environment.

• Food access to address food insecurity.
• Affordable housing.
• Access to transportation.
• Income/poverty and financial resources.
ECONOMIC GROWTH

Process by which a nation's wealth increases over time

Factors influencing growth

• Human Resources
• Physical Capital
• Natural Resources
• Technology.
Economic Resources

Economic resources are the factors used in producing goods

or providing services. In other words, they are the inputs that
are used to create things or help you provide services.
Economic resources can be divided into human resources,
such as labor and management, and nonhuman resources,
such as land, capital goods, financial resources, and
technology.
Land
Land is an economic resource that includes all natural physical resources like gold, iron,
silver, oil etc. Some countries have very rich natural resources and by utilizing these
resources they enrich their economy to the peak.

Example:
• Such as the oil and gas development of North Sea in Norway and Britain or the very high
productivity of vast area of farm lands in the United States and Canada.
• Some other developed countries like Japan have smaller economic resources. Japan is the
second largest economy of the world but reliant on imported oil.
Labour
The human input in the production or manufacturing process is
known as labor. Workers have different work capacity. The work
capacity of each worker is based on his own training, education
and work experience.

This work capacity is matters in the size and quality of work

force. To achieve the economic growth the raise in the quality
and size of workforce is very essential.
 Capital
In economics, Capital is a term that means investment in the
capital goods. So, that can be used to manufacture other goods
and services in future.

Following are the factors of capital:

Fixed Capital
It includes new technologies, factories, buildings, machinery
and other equipments.

Working Capital
It is the stock of finished goods or components or semi-finished
goods or components. These goods or components will be
utilized in near future.
 Entrepreneurship

The Entrepreneur is person or individual who wants to supply the product to the market,
in order to make profit. Entrepreneurs usually invest their own capital in their business.

• Entrepreneurs are willing to risk time and money to start a business with the intention
of earning a profit.
• They organize the other factors of production to create a business.
• These businesses produce the goods and services that consumers want to buy.
 Perfect Market
A perfect market is market that is structured to have no anomalies that would otherwise interfere with the best prices being
obtained. Examples of this perfect market structure are:

A large number of buyers

A large number of sellers

Products are homogeneous

Information is freely available to everyone in the market

There is no collusion between the market participants

Every participant is a price taker, not having the ability to influence market prices

There are few perfect markets; those selling commodities, such as agricultural products, represent the closest approximation
of a perfect market.
Free Market
A free market is a type of economic system that is controlled by the market forces of supply and demand, as opposed
to one regulated by government controls. In a free market, companies and resources are owned by private individuals
or entities who are free to trade contracts with each other.

Features

• Private ownership of resources

• Freedom to participate
• Freedom to innovate
• Customers drive choices
• Dangers of profit motives
• Market failures including depression
 Mixed Economy
Mixed economy is that economy in which both government and private individuals
exercise economic control.

Mixed economy has following main features:

(i) Co-existence of Private and Public Sector

(ii) Personal Freedom of choice of occupation
(iii) Private Property is allowed
(iv) Economic Planning
(v) Price Mechanism and Controlled Price
(vi) Profit Motive and Social Welfare
National Income
National income is the flow of goods and services which
becomes available to a nation during a year.

• National income is the aggregate money value of all goods

and services produced in a country during one year, account
being taken of the deductions made due to wear and tear, and
depreciation of plants and machinery used in the production
of goods and services.
• The money value of the goods and services produced in a
country during a year is called national income. A country is
high national income is said to be a prosperous country.
 Methods of measuring National Income
According to Simon Kuznets, national income of a country is calculated by following mentioned three
methods :
1. Product Method : S. Kuznets gave a new name to this method, i.e., product service method. In this method,
net value of final goods and services produced in a country during a year is obtained, which is called total
final product. This represents Gross Domestic Product ( GDP ). Net income earned in foreign boundaries by
nationals is added and depreciation is subtracted from GDP.
2. Income Method : In this method, a total of net incomes earned by working people in different sectors and
commercial enterprises are obtained. Incomes of both categories of people – paying taxes and not paying
taxes are added to obtain national income. GDP=WAGES/SALARIES+RENT+INTEREST+PROFIT For
adopting this method, sometimes a group of people from various income groups is selected and on the basis
of their income national income of the country is estimated. In a broad sense, by income method national
income is obtained by adding receipts as total rent, total wages, total interest and total profit.
◦ 3. Consumption Method :
◦ It is also called expenditure method. Income is either spent on consumption
or saved. Hence, national income is the addition of total consumption and
total savings. For using this method, we need data related to income and
savings of the consumers. Generally reliable data of saving and
consumption are not easily available. Therefore, expenditure method is
generally not used for estimating national income.
Problems in computation of NI
1. Types of Goods and Services:
◦ The kinds of goods and services which should be included in national income pose a problem.
◦ Goods and services having money value are included in the national income but there are goods
and services which may have no corresponding flow of money payments.
2. Problems of Double Counting:
◦ Another difficulty is of double counting usually associated with the inventory method. Double
counting implies the possibility of a commodity like raw material or labour being included in
national income more than once, e.g., a farmer sells maize worth rupees two hundred to a mill-
owner, the mill owner further sells the maize flour to a wholesale dealer, who further sells it to
consumer; if we calculate it at every stage, its money value will increase to eight hundred rupees
but actually the increase in national income has been to the extent of two hundred rupees only.
◦ 3. Excluded Market Transactions:
◦ Certain transactions that take place in the market are excluded from the computation of national income because
they violate the general rule for the recognition of income—the good or service must be currently produced and
must use up currently available scarce resources. 
◦ These excluded transactions relate to transfer payments, capital gains, illegal activities, second hand sales etc.
4. Problem of Imputed Values:
There are certain goods and services which do not appear in or cannot be brought to the market. In such cases we
have to impute values to them. It means to give or to fix their values, in case they had been brought to the market.
Crops raised on the farm like wheat, rice, etc. and consumed by the farmer and his family on the farm, person living
in his own house
5. Inventory Adjustments:
Inventory adjustments i.e., changes in the stock of capital goods or final products are also to be taken into account
while computing national income. If a jute mill adds to its inventory of jute products during the year, it represents
an increase in output and must, therefore, be included in GNP
6. Depreciation:
◦ Depreciation implies a reduction in the value of capital stock or capital goods due to wear and tear, constant use
etc. During the process of production the wear and tear or capital consumption occurs, resulting in, at the same
time, a decline in the relative efficiency of the plant and equipment on account of obsolescence.
 Gross Domestic Product (GDP)
Gross domestic product is the value of all final goods and services produced within the boundary of a nation during one year. In India
one year means from 1st April to 31st March of the next year.
GDP calculation includes income of foreigners in a Country but excludes income of those people who are living outside of that
country.
Net Domestic Product (NDP)
NDP is calculated by deducting the depreciation of plant and Machinery from GDP.
NDP = Gross Domestic Product - Depreciation
Gross National Product (GNP)
GNP is the value of all final goods and services produced by the residents of a country in a financial year (i.e., 1st April to 31st March
of the next year in India).
While Calculating GNP, income of foreigners in a country is excluded but income of people who are living outside of that country is
included. The value of GNP is calculated on the basis of GDP.
GNP = GDP + X - M
Where,
X = income of the people of a country who are living outside of the Country
M = income of the foreigners in a country
Net National Product (NNP)
Net National Product (NNP) in an economy is the GNP after deducting the loss due to depreciation.
NNP = GNP - Depreciation
NNP at Factor Cost:
It is the value of NNP when the value of goods and services is taken at the production cost.
NNP at Market Price:
It is the value of NNP at consumer cost.
NNP at market cost = NNP at factor cost + Indirect taxes – Subsidies