Nature and Scope of Economics

Definition of Economics

1.Definition of the Classical School of Thought led by Adam Smith

2.Definition of the NEO Classical School of Thought led by Alfard Marshall

3.Definition of Economics given by Loinel Robbin

Adam Smith’s Definition of Economics

“Economics is a science of wealth”

1.Production of wealth•Land•Labor•Capital•Organization

2.Exchange of wealth

3.Distribution of wealth

4.Consumption of wealth

Alfard Marshall’s definition of Economics

“Economics is a science which studies human behavior in the ordinary business of life, it examine that part of individual and social action which is most closely connected with the attainment and the use of material requisites of well being”

Main Points of the definition

1.Ordinary business of life

2.Analysis of economic activities

3.Attainment and use of material requisites

4.Well being or welfare of the society

Criticism on Marshall’s definition

1. It limits the scope of Economics

2. Material requisites which don’t promote welfare are excluded

3. Welfare is not measurable concept

4. Problems in policy making

Robbins Definition of Economics

“Economics is a science which studies human behavior as a relationship between multiple ends and scare means which have alternative uses”

Main points of the definition

1.Multiple ends

2.All wants are not equally important

3.Scarce Resources

4.Alternative use of resources

Modern Definition of Economics

Economics is the social science that studies the choices that

individuals, businesses, governments, and entire societies make as

they cope with scarcity and the incentives that influence and

reconcile those choices.

Merits of Robbin’s definition of Economics

1.Comprehensiveness

2.Extension of the scope of Economics

3.Analytical in Nature

Micro economics vs Macro economics

Micro -- study of how individuals make decisions and interact with others in society

Macro -- study of aggregate behavior of the economy (inflation, unemployment, growth)

Basic Terms and Concepts in Economics

Human Wants:

1.Non-economic wants

2.Economic wants

•Necessities

•Comforts

•Luxuries

Characteristics of Economic Wants

Economic wants are:

1. Unlimited

2. Not equally important

3. Rise again and again

4. Can be satisfied by different means

5. Satisfiable

Goods and Services

Economic goods can be divided into two categories

1.Consumer Goods

2.Capital Goods

•Raw material

•Semi-manufactured goods

•Fully manufactured goods

Utility

“utility is the power of a good or service by which it can satisfy a human want”

Characteristics of Utility

1. Utility depends or Human wants

2. It depends on use

3. It depends on knowledge

4. It depends on ownership

5. It depends on number

6. It depends on form

7. It depends on place

8. It depend on time and seasons

Demand

Quantity Demanded refers to the amount (quantity) of a good that buyers are willing to purchase at alternative prices for a given period.

or

Demand = Power to purchase + will to purchase

Requisites: •Desire for specific commodity.

•Sufficient resources to purchase the desired commodity.

•Willingness to spend the resources.

•Availability of the commodity at (i) Certain price (ii) Certain place (iii) Certain time.

Determinants of DemandDeterminants of Demand

• What factors determine how much ice cream you will buy?

1. Product’s Own Price

2. Consumer Income

3. Prices of Related Goods

4. Tastes

5. Expectations

6. Number of Consumers

etc

Kinds of Demand

1. Individual demand2. Market demand

3. Income demand• Demand for normal goods (price –ve, income +ve)• Demand for inferior goods (eg., coarse grain)

4. Cross demand• Demand for substitutes or competitive goods (eg.,tea & coffee, bread and

rice)• Demand for complementary goods (eg., pen & ink)

5. Direct demand (eg., ice-creams)6. Derived demand (eg., TV & TV mechanics)

Factors Affecting Demand

1. Prices of Goods

2. Income of Consumer

3. Prices of Related Goods

4. Population

5. Tastes, Habit

6. Expectation about future prices

7. Climatic Factors

8. Demonstration Effect

9. Distribution of national income

Demand Schedule

Demand Schedule: a tabular presentation showing different quantities of a commodity that would be demanded at different prices.

Types of Demand Schedules

Individual Demand schedule Market Demand SchedulePrice A

1 50

2 40

3 30

4 20

Price A B C M.S

1 50 45 40 135

2 40 30 38 108

3 35 20 30 85

4 20 15 25 60

The Law of Demand

Prof. Samuelson: “Law of demand states that people will buy more at lower price and buy less at higher prices, others thing remaining the same.”

Ferguson: “According to the law of demand, the quantity demanded varies inversely with price”.

Chief Characteristics:

Inverse relationship.Price independent and demand dependent variable.

Assumptions:

No change in tastes and preference of the consumers.Consumer’s income must remain the same.The price of the related commodities should not change.The commodity should be a normal commodity

John's Demand Schedule

03.0022.5042.0061.5081.00

100.50120.00

Quantity of cones DemandedPrice of Ice-cream Cone ($)

John’s Demand Curve

Price of Ice-Cream Cone

Quantity of Ice-Cream Cones

2 4 6 8 10 120

$3.00

2.50

2.00

1.50

1.00

0.50

Exceptions and Importance of Law of Demand

Exceptions:Inferior goodsArticles of snob appeal. (exception: Veblen goods, eg., diamonds)Expectation regarding future prices (shares, industrial materials)EmergenciesQuality-price relationshipIgnoranceChange in fashion, habits, attitudes, etc..

Importance:Price determination.To Finance MinisterTo farmersIn the field of Planning.

Shift of Demand Vs Movement Along a Demand Curve

• A change in demand is not the same as a change in quantity demanded.

• In this example, a higher price causes lower quantity demanded.

• Changes in determinants of demand, other than price, cause a change in demand, or a shift of the entire demand curve, from DA to DB.

A Change in Demand Versus a Change in Quantity Demanded

• When demand shifts to the right, demand increases. This causes quantity demanded to be greater than it was prior to the shift, for each and every price level.

A Change in Demand Versus a Change in Quantity Demanded

To summarize:

Change in price of a good or service leads to

Change in quantity demanded(Movement along the curve).

Change in income, preferences, orprices of other goods or services

leads to

Change in demand(Shift of curve).

The Impact of a Change in Income

• Higher income decreases the

demand for an inferior good• Higher income increases the

demand for a normal good

The Impact of a Change in the Price of Related GoodsThe Impact of a Change in the Price of Related Goods

• Price of hamburger rises

• Demand for complement good (ketchup) shifts left

• Demand for substitute good (chicken) shifts right

• Quantity of hamburger demanded falls

From Household to Market Demand

Demand for a good or service can be defined for an individual household, or for a group of households that make up a market.

Market demand is the sum of all the quantities of a good or service demanded per period by all the households buying in the market for that good or service.

From Household Demand to Market Demand

Assuming there are only two households in the market, market demand is derived as follows: