AEM 102: PRINCIPLES

OF ECONOMICS

COURSE OUTLINE:
WEEKS

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2
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67
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INTRODUCTION TO ECONOMICS
THE ECONOMIC PROBLEM
DEMAND, SUPPLY AND EQUILIBRUM
DEMAND, SUPPLY AND ELASTICITY
UNEMPLOYMENT, AND NATIONAL INCOME
MID-SEMESTER: CONTINUOUS ASSESSMENT TEST (CAT)
CONSUMPTION, INVESTMENT AND EXPORTS
INFLATION, DEFICITS AND DEBT

Recommended Textbook
Salvatore, D. and Diulio, E. A. (1996) Schaums
Outlines of Theory and Problems of Principles of
Economics 2nd ed. 400pp
Course Coordinator: Prof. (Mrs.) C. A. Afolami
Other Lecturers:
Dr. B. Phillip
Dr. Adewuyi
Dr. Obayelu A. E.
Dr. O. Ashaolu
Dr. O. I. Vaughan
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Ground Rules
Switch off all mobile phones.
No side talking/no conversations.
No loitering in the auditorium.
Talk only when the lecturer approves it.
No strolling into the auditorium during lecture
i.e. lateness to lecture is not allowed.
No form of disturbance during lectures.

1.O Introduction to Economics

1.1. The Subject Matter of Economics

1.2. The Methodology of Economics

1.3. The Use of Tables, Graphs and Equations

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1.1. The Subject Matter of Economics

Economics is a social science.
It studies individuals and organizations engaged
in production, distribution and consumption
of goods and services (using scarce resources
of land, labour , capital).
Its tools are:
Principles
Theories and
Models.
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Principles are basic laws of the discipline e.g. an increase

in the demand for a commodity results in rise of its
price, ccccccc ppppppp (other things being equal).
Theories: these are further explanations of the general
principles e.g. The law of diminishing returns, the
consumer theory etc.
The models are mathematical relationships between
economic variables e.g. C =f(Q)
Where: C= cost of production,
Q=Output e.g. maize in tonnes
f=function
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 These are developed around the cause and effect

of economic events. Also, they isolate a few of
the most important determinants or causes of
the economic events.
They are to:
i.
predict economic occurrences
ii.
Develop policies that will prevent or
correct
economic
problems
e.g.
Unemployment, inflation, forex supply,
forex demand, wastages in the economy.
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Economics is subdivided into branches:

- Microeconomics
- Macroeconomics
Microeconomics studies the economic behavior of
individual decision-making units e.g. farmers,
consumers, companies and resource owners.
Macroeconomics studies the behavior of aggregates
of economic activities e.g. aggregate demand,
aggregate output, aggregate unemployment, the
general price level and the balance of payment.
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Relevance of Economics
The performance of the economy (economic
condition) affects all members of the nation.
Economic conditions determine where we live, what
we eat, where we eat, the school attended, whether
we work or not and how much we earn.
Economic conditions affect the peace and stability in
our cities, nation and in the world unemployment,
inflation and corruption.
Economics gives a better understanding of how the
economy operates and what can be done to avoid,
correct and alleviate unemployment, inflation and
waste.
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1.2 The Methodology of Economics

Economic phenomena are complex, so economists
model economic behaviors. In constructing a
model, economists:
(i) make assumptions which cut away
unnecessary details; and
(ii) reduce the complexity of the economic
behavior.
The economic behavior is then presented as a
relationship between a dependent variable and a
few independent variables
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The economic behavior being explained is the

dependent variable while the variables explaining
that economic behavior are the independent
variables.
Frequently, the dependent variable is presented as
depending upon one independent variable, with
the influence of the other independent variables
held constant. e.g. C=f(Q/T,W,D)
that is, C depends upon Q ( while other
independent variables T, W and D are held
constant).
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An economic model will, also, specify the type of relationship between

the dependent and independent variables. This can be:
(a.) positive or (b.) negative
(a.)
Positive relationship: when the dependent variable moves in
the same direction as the independent variable e.g. positive
relationship between price (independent variable) and supply
(dependent variable), ceteris paribus.
(b.)
Negative relationship: when the value of the dependent
variable increases as the value of the independent variable
decreases e.g. as the price of a commodity increases, its demand
decreases, ceteris paribus.

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1.3. The use of Tables, Graphs and

Equations
Models which simplify real economic relationships
provide the frame work for organizing data,
empirically testing economic hypotheses and
forecasting economic behaviour.
Below is a consumer spending model with data on
consumer spending for a hypothetical economy,
we shall:
* graph the data with consumption in the y-axis
*establish an equation for consumer spending; &
*use the equation to forecast consumer spending.
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Table 1: Consumption and Disposable

Income data.
Individual

Disposable
Income (Yd)

Consumption (E)

20,000

20,000

21,000

20,750

22,000

21,500

24,000

23,000

27,000

25,250

114,000

110,000

22,800

22,100

TOTAL
Average

y=Y -

e=E -

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From Table 1, it is evident that consumption and

disposable income display a positive
relationship.
Note: a table /schedule is made up of a number
of rows and columns.
The following must be specified for a table: a
title, a (table) number, units of measurement
of the data and the source of the data.
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In a graph, the following must, also, be specified: a

title, a (figure) number, scale and axes (vertical
and horizontal) identities with units of
measurement.
The equation for above set of data.
A linear relationship is evident in the graph. The
appropriate equation is, therefore of the form:

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E = a + bYd
where: a is the intercept
and b is the coefficient of Yd, or the slope
b = ye
y2
a = b
d
e = deviations from the mean of E
y =

deviations from the mean of Y

is summation
E is mean of E
is mean of Y
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2. LECTURE NOTE
ECONOMIC PROBLEMS
Contents
The Problem of scarcity
The Production possibility Frontier
The Principle of Increasing Costs
Scarcity and Market system
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Learning Objectives
At the end of the lecture, students should be able to
Identify the various types of economic resources
Explain scarcity as a fundamental economic problem
Explain the basic questions in economics due to the problem of
scarcity
Explain Production Possibility Frontier (PPF) and it applications
Explain the principle of increasing costs
Identify the characteristics of various economic systems and how
the economic problems can be solved?
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What are economics resources?

Economic resources consist of Natural resources such
as minerals, forests, rivers and agricultural land
Capital are human-made resources which consist of
tools, equipment, machinery, buildings, financial
instruments and transportation networks to facilitate
production
Labour is human resources which consists of human
beings who possess a wide array of skills needed to
produce goods and services. Entrepreneurial ability is a
special labour skill
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What is Scarcity?
The Central Problem of all economies is scarcity
Limited Resources + Unlimited Wants = Scarcity
Scarcity is the basis of many economic concepts because
it constrains or limits our behavior

Scarcity exists worldwide because people want more

goods and services than can be produced by each
economys limited supply of economic resources

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What is Scarcity?
Scarcity
forces
individuals,
firms
governments and societies to make choices
Economics is therefore defined as the study
of scarcity the study of the allocation of
scarce resources to satisfy human wants

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LIMITED
RESOURCES

UNLIMITED WANTS &

NEEDS

SCARCITY
We Make Choices About
What will be produced?
By whom will be produced?
For whom will be produced?
The Choice We Make Will Determine

CENTRALLY
PLANNED
ECONOMY

MIXED ECONOMY

MARKET
ECONOMY

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Basic Economic Decisions as a result of

Problem of scarcity
What to produce This involves decisions about the
kinds and quantities of goods and services to produce
How to produce This requires decisions about what
techniques to use and how the economic resources are
to be combined in producing output
And for whom to produce this involves decisions on the
distribution of output among the members of a society
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The Production Possibilities Frontier (PPF)

In economics, the PPF also known as the production
Possibility Curve (PPC) or transformation curve is the
maximum amount of alternative combinations of goods
and services that a society can produce at a given time
when there is full utilization of economic resources and
technology.
It is a curve that is convex from the origin, showing
attainable levels of production assuming resources and
technology stays constant
The opportunity cost of an activity is the value of the
resources used in that activity when they are measured by
what they would have produced when used in their next
best alternative.
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The slope of PPF

The slope of the PPF at any given point is called the
marginal rate of transformation or marginal
opportunity cost. That is, the opportunity cost of good
X in terms of good Y at the margin
A person with the lower marginal opportunity cost of
an activity has the comparative advantage at that
activity.
That is, a person with the comparative advantage can
produce the activity by giving up the smallest amount
of the alternative activity.
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The applications of PPF

The Production Possibilities Frontier is a basic
workhorse in economics.
It is important for understanding some basic issues in
economics.
Great application is with international trade theory.
Helps one to understand and distinguish between
comparative advantage and absolute advantage.
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The PPF
Great application is with international trade
theory.
Helps one understand and distinguish between
comparative advantage and absolute advantage.
An important historical figure in all this is David
Ricardo.
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Absolute vs. Comparative Advantage

Applied to Trade
Absolute advantage: if your country uses fewer resources to
produce a given unit of output than the other country.
Comparative advantage: if your country can produce the output at a
lower marginal cost in terms of other goods foregone than the other
country.
Every country (or person, or economy) has a comparative advantage
at some activity.
Absolute advantage is not important and may not always happen.
Sometimes people or countries have the absolute advantage in
nothing! Yet trade possibilities still exist.
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Points to Note on PPF

The PPF curve divides production space into 3
distinct areas, points on the PPF curve, points
outside the curve and points on the inside of the
curve
the PPF curve also illustrates scarcity by dividing
production space into attainable and unattainable
levels of production

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A Typical PPF Picture

The marginal
opportunity cost of
guns in terms of
butter is increasing as
we move down the
PPF!

Butter
just attainable

inefficient

unattainable

just attainable

The PPF is typically

bowed-out or linear.
It is not bowed-in

Guns
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PPF
The PPF shifts outward overtime as more resources
become available and technology is improved
Points on a PPF are efficient; points within the
frontier are inefficient and points outside the
frontier are unattainable
Points on PPF are efficient because all available
resources are utilized and there is full use of existing
resources
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PPF
Position outside the PPF are unattainable since
PPF define the maximum amount that can be
produced at a given time
Position within a PPF are inefficient because
some resources are either unemployed or
underemployed

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Assignment 1
(a). Use the data from Table 1 to draw a PPF. Plot clothing
production on the vertical axis and food production on the
horizontal axis. Label the production alternatives A,B, C, D,E
and F on the curve
(b) On the same figure, label as point U the production of 3
thousand units of clothing and a 3 million units of food and as
point H the production of 6 thousand units of clothing and 3.5
million units of food. What do point U and H indicate?
(c) What is the difference between unemployed and
underemployed economic resources?
(d) When is the production efficient?

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Table 1
Alternative or point

Units of food
(millions)

Units of clothing
(thousands)

8.0

Cost of additional
units of food

0.5
B

7.5
1.0

C
D

2
3

6.5
5.0

3.0

0.0

1.5
2.0
3.0
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Principles of increasing opportunity

costs

Resources are not equally efficient in the production of

goods and services
When decision is made to produce more of a
commodity ( e.g guns) and less of other ( butter), the
resources reallocated to the production of the first are
usually less productive
Implying that larger amounts of resources are
transferred from the production of the 2nd to the
production of the 1st
Increasing units of the 2nd are given up for fewer
incremental units of the 1st
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Principles of increasing opportunity

costs
Increasing opportunity cost of production of the 1st
commodity illustrates the principle of increasing
costs
The law of increasing opportunity costs states that
as production of a product increases, the cost to
produce an additional unit of that product increases
as well.
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Scarcity in a Free Market economy system or a

capitalist market economy/ laissez-faire system
Free market is a market with no government interference.
Government only provide defense and core services
households own resources, allocate resources through the
workings of the price mechanism
Prices resolves the three fundamental economic questions of
what, how and for whom to produce
The only goods and services produced are those which
individuals are willing to purchase at a price sufficient to
cover the cost of producing them
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Scarcity in a Free Market economy system

There is competition which affect the price of the
goods and services produced
Because of scarce resources, goods and services are
produced under this system using the technique and
resource combination that minimizes the cost of
production
Goods and services produced are distributed or sold to
those who are willing and have the money to pay their
prices
What then develops is a circular flow
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Scarcity in a command economy/systems

In Command systems like Eastern Europe, former
Soviet Union, what to produce, how to produce it,
and who gets what's produced are controlled by a
central planner.

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Scarcity in a mixed economy system

Under this system, government replaces, regulates or
modifies the price mechanism
For instance, in US, government produces some goods
itself (police protection, road)
government finances these expenditures by taxing the
income of individuals and businesses
Government also influences what to produce by
imposing direct regulations on producers or on specific
goods and services
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3. Demand, Supply and Equilibrium

oDemand
oShifting of the market demand curve
oSupply
oShifting of the market supply curve
oEquilibrium price and quantity
oEquilibrium when market demand and/ or
market supply shifts
oGovernment and price determination

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Demand
The term demand refers to the number of units of a
particular good or service that consumers
(households) are willing to purchase at a particular
period.
This refers to actual quantities purchased at a certain
price at a point in time.
Table 1:DEMAND SCHEDULE

Px(N) 2
Qx(Kg) 12

4
8

6
6

8
4

10
2

12
0

A market schedule shows the units of a

good or service that individuals are
willing and able to buy.
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Factors that determine the quantities of goods

and services demanded include:
Price of the commodity.
Price of other goods and services.
Average household disposable income.
Wealth
Taste and preferences.
Size of the population

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Price

Quantity
Fig 1: INDIVIDUALS DEMAND CURVE

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 Price of the commodity: stated differently

Qx = f (px) i.e. the quantity of commodity x
demanded is a function of the price of x.
The relationship between price and quantity
demanded is inverse. This is due to a
substitution and an income effect.
As price falls, an individual purchases more of
this good to replace others whose price has
remained unchanged.
When the purchase price of a good falls, an
individual with a given income can buy more
of that commodity.
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 The demand curve above is drawn on the

assumption that other variables are held
constant.
A change in demand refers to a shift of the
demand curve because a variable other than
price has changed.
A change in quantity demanded occurs when
there is change in the price of the commodity,
leading to a movement along an existing
demand curve.
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 A change in any of these other variables:price of other goods and services, average
household disposable income, wealth, taste
and preferences and size of the population
will cause a change in demand and
consequently a shift of the demand curve.
Such shifts could be inward signifying a
decrease in demand or outward indicating an
increase in demand.

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Figure 2 : MARKET DEMAND CURVE

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SUPPLY
The quantity of a commodity that producers
wish to sell at various prices is the quantity
supplied. The supply schedule specifies the
units of good or service that a producer is
willing to supply at alternative prices.
Table 2: Supply Schedule
Price per kg (P) Quantity Supplied (S)
20
5
40
46
60
70
80
100
100
115
120
122

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 The graphic presentation of the supply

schedule is the supply curve. The curve has a
positive slope indicating that suppliers must
have a higher price to increase supply.

Figure 3 : AN INDIVIDUAL PRODUCERS SUPPLY CURVE

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 The determinants of the quantity supplied of

goods and services are:
The commoditys own price.
Number and /or size of producers.
Factor prices (wages, interest or rent paid to
economic resources}.
Cost of factors of production
Technological progress
Government subsidy/or taxes on output
A change in quantity supplied indicates a change
in the price of the commodity leading to
movement along the supply curve.
A change in supply denotes a shift in the supply
curve
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The curve shifts to the right when more

producers enter the market, decreases in
factor prices, improvements in technology and
government subsidy.

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Equilibrium price and quantity

To consider how prices are determined in a
competitive market by the forces of supply
and demand, we assume first that other
factors except the commoditys own price are
held constant.
Equilibrium price is the price at which quantity
demanded equals quantity supplied.
It is a situation in which there is no tendency
for price or quantity to change.
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Table 3:

Price
N
20.00
40.00
60.00
80.00
100.00
120.00

Quantity
Demanded
110
90
77
67
62
60

Quantity
Supplied
5
46
77
100
115
122

At P =60.00; Qs = Qd

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 Graphically, the equilibrium point is that point

where the market demand and market supply
curves intersect.

Figure 5 : DEMAND SUPPLY AND EQUILIBRIUM

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 At prices below the equilibrium there will be

shortages and rising prices. And at points
above the equilibrium there will be surpluses
and falling prices.

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Equilibrium when demand and /or

supply changes
Equilibrium price and /or equilibrium quantity
change when the market demand and /or
market supply curve shifts.
An increase in market supply without a
corresponding increase in market demand will
lead to a fall in equilibrium price and an
increase in equilibrium quantity market
supply curve shifts down and to the right and
demand is unchanged.
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Figure 6: Equilibrium when supply curve shifts

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 Equilibrium price and equilibrium quantity

both rise when there is an increase in market
demand
An increase in both market demand and
market supply result in a higher equilibrium
quantity.
The change in equilibrium price is
indeterminate, when the magnitude of the
demand and supply shift is unspecified.
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Government and price Determination

Government sometime intervene in the
market by setting a minimum price (price
floor) or a maximum price (price ceiling) for a
good or service.
Price ceilings are usually set below equilibrium
while price floors are set above the
equilibrium.
An example of price floor is minimum wage
and price ceiling is pump price of (PMS) Petrol
These result in disequilibria.
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 When there is a price ceiling, market demand

will be greater than market supply resulting in
shortages.
The government can restrict demand by
rationing.
The market can respond to the shortages
through the development of black markets
In rationing, a consumer must posses a
coupon authorizing the purchase of a good in
addition to having the willingness and
financial capacity to purchase the good or
service.
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 A price floor results in excess supply

Government can control the excess supply by
shifting the market supply curve to the left
through taxes. This will increase equilibrium
price of the commodity and reduce
equilibrium quantity.
Government can subsidise the produce
leading to a fall in equilibrium price and
increase in equilibrium quantity.

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4 5 DEMAND AND SUPPLY OF ELASTICITY.

Elasticity of demand is the responsiveness of a change in
the quantity demand due to a change in many independent
variables such as prices, income.
Mathematically, this can be represented as shown below: E = Q/ X
Where E = Elasticity,
Q = Quantity demanded;
X = independent variable.
Q =Change in quantity
X =change in independent variable

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 Price elasticity of demand is the percentage in the

quantity demanded in response to a percentage
change in the price of that good.

Elasticity (E) = - % change in Quantity demanded

% Change in price.
The value of the elasticity is negative because the
slope of the demand curve is negative or
downward slopping

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Illustrations
If the price of gari decreases by 10%, and the quantity demanded is
less than 10%, the demand is inelastic

If the price of meat decreases by 10%, and the quantity demanded

decreases by more than 10%, the demand is elastic
If the price of salt decreases by 10%, and the quantity demanded
increases by 10%, the demand is unitary elastic

To determine the price elasticity, we calculate the total revenue

(TR.). If there is no change in the TR at different prices, then there is
unitary elasticity. When TR2 > TR1; the element is elastic
When TR2< TR1 then the demand is inelastic.

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Example

At N25 bottle 100 bottles of coca-cola are sold. If the price drops to N20 / bottle,
the week sales increase to 110 bottles. Is the demand elastic or inelastic?
Solution:

P1 = N25; Q1 = 100; P2 N20; q2 = 110

TR1 = P1 x Q2 = 25 x100 =2500.

TR2 = P2 x Q2 = 20 x 110 = N2200.

Since TR2 < TR1, the demand is elastic.

Income elasticity (EY)

Income elasticity is the percentage in quantity demanded due to a percentage
change in income.

EY = Q / Y = Q . Y
Q /Y
Y Q

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Income elasticity (EY)

Income elasticity is the percentage in quantity demanded due to a
percentage change in income.

EY = Q / Y = Q . Y
Q /Y
Y Q

If Ey > o => Normal good

Y = New income
Ey > o => inferior good
Y = Change in income
Ey < 1 => income inelastic
Q = Original quantity
Ey > 1 => income elastic
Q = change in quantity demanded.
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Cross elasticity

The cross elasticity of demand B.A is the responsiveness of the quantity

demanded of good B to a change in the price of another good A.
B, A = QB / QB
PA / PA.
A, B is the change in quantity of A demanded with respect to change in
the price of commodity.
If A, B is positive, it implies that as price of good B increases, the
quantity of commodity A demanded increases.
Therefore, commodities A&B are substitutes.
If on the other A, B is negative, it shows that as the price of commodity
B increases the quantity of commodity A demanded decreases.
Therefore, they are complements. Example is bread and butter.

70

Exercise 1

Define the following terms giving appropriate equations.

a. (i) Price elasticity

(ii) Income elasticity
(iii) Cross price elasticity
b.
An economist conducted a study on the consumption of eggs in Kebbi State,
Nigeria. His report shows that the quaintly of eggs demanded varies from time to
time. He equally reported a demand function as
q
=
24 0.2p
Where q =
quantity of eggs demanded
p
=
price
Using the above information;
i.
If the price of egg falls from N70/crate to N50/crate determine the price
elasticity of demand
ii.
What conclusion can you draw from the result obtained in (ii) above?

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Solution
(i) q = 24 0.2p
P1 =
70; P2 = 50
q1 =
24 0.2P1
=
24 0.2 (70)
=
10
q2 =
24 0.2P2
=
24 02 (50)
=
14
Ep= q2 q1 P1
P1 P2 P2
=
14 10 70
70 50 10
=
4 x 7=28 =1.4
20 20
72

 ii. Conclusion:
Since the price elasticity is greater than one
1.e Ep > 1, it shows that the demand is elastic.
Therefore, a small increase in the price of egg
will significantly affect the quantity of egg
demanded.

73

 ELASTICITY, TOTAL EXPENDITURE AND TOTAL REVENUE

The amount of money consumers spend in purchasing
goods and services is the gross revenue of suppliers.
Changes in the price of a commodity will either lead to an
increase or decrease in the gross revenue of the producers
depending on the value of elasticity.
If the demand is elastic, i.e when own price elasticity of
demand is greater than 1.
A fall in price will lead to an increase in total expenditure
of consumers and total revenue of producers
But an increase in price will lead to a decrease in total
expenditure of consumers and a decrease in total revenue
of producers.
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When demand is inelastic i.e when elasticity is less than 1, a fall in price will cause
a decrease in total expenditure and consequently

A fall in total revenue, but an increase in the price of the commodity will increase
total expenditure and total revenue.

Value of elasticity
revenue
Greater than one
Greater than one
Less than one
Less than one
Equal to one

Price of commodity
Fall
Rise
Fall
Rise
Rise/fall

Quantity of commodity
Increase
Decrease
Decrease
Increase
Unchanged

Total
Increase
Decrease
Decrease
Increase
Unchanged

75

 When elasticity of demand is unity , an increase or decrease in the

price of a commodity leaves total expenditure and hence revenue
unaffected.
A fall in price will generally lead to an increase in total quantity
demanded
But total revenue will decrease with elastic demand curve but
increase with elastic demand curve.
The most important determinant of elasticity is whether or not the
product has close substitute e.g fish and beef and margarine.
Substitution is possible only if the price of the substitutes remain
constant.
We expect little decrease in quantity demanded when the price of
such commodities go up. The degree of elasticity depends to a
great extent on how widely or narrowly a commodity is defined.

76

6 7 UNEMPLOYMENT AND NATIONAL INCOME

LABOUR AND UNEMPLOYMENT
Labour Market may be defined as an organization in which
buyers and sellers of labour are in close contact. Where the
wages and conditions of service are stated and agreed upon.
The Concept of Labour Force: Labour refers to all human
efforts used in the labour force is the production of goods and
services on the other hand the total number of the employed,
the self-employed and the unemployed.
That is, those who are working and those who are looking for
work.
Labour force can also be described as the numbers of people
allowed bylaw to work.
The Labour force falls into the age bracket of18-65 years.
77

 Demand for Labour.

Demand for labour may be defined as the total number of
workers that are being engaged by employers at a particular time.
Factors that determine the Demand for Labour.
Demand for good and services. Demand for labour can be
stimulated by an increase in the demand for good and services.
Expansion of purchasing power. When the purchasing power
expands as a result of increase in wages, the demand for labour
increases and vise versa.
The market size: The size of the market for the goods and
services produced determines thee demand for labour.

78

 Rate of Substitution. Demand for labour is affected by the

availability of possible substitutes, such as machines etc. that
can actually do the job of labour.
Labour efficiency. If labour is high, there would be high
propensity for producers to hire more labour and vice versa.
The price size of labour (wages rate).
The tastes of consumer, which define their trade-off between
leisure and work.
The size of population.
The labour force participation rate.
The occupational, educational and geographical distribution of
the labour force.
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Efficiency Of Labour.
Efficiency of labour may be defined as the ability of labour to increase output
without increasing the quantity of labour.
Efficiency of labour is actually referring to an increase in the level of production
per capital.
Factors that determines variation of wages.
(i) Difference in hours of work:
(ii) Difference in the cost of training
(iii) Job Demand some jobs demand a very high sense of responsibility.
People in such occupations are paid higher.
(iv). Government policies:
(v) Scarcity of Labour Supply:
Types of Wages.
Nominal wage: This can be described as the total amount of money a labour is paid
at a particular period of time.
Real wage: This means the purchasing power of labour. It is the amount of goods
and services the labour can use his money to buy.
80

 CONCEPT OF UNEMPLOYMENT
The inability of labour to move creates unemployment. This
unemployment cannot separate from labour.
Types of unemployment
(i) Mass Unemployment: This is the most serious of all types of
unemployment because it affects nearly all the industries at the
same time. Mass unemployment is caused by a general
deficiency in demand.

(ii) Frictional Unemployment: This is caused by change in

demand. This type of unemployment occurs as a result of
immobility of labour.

81

 (iii) Structural Unemployment: This type of

unemployment occurs due to technological progress. The
immediate effect of labour saving machinery is to make
some workers redundant, thereby causing unemployment.
(iv) Seasonal Unemployment: This type of unemployment
occurs in some kind of work for instance, bad weather and
caused a temporary suspension of work in the construction
industries which at that time render the worker redundant
with a resultant effect of unemployment.
(v)

Residual Unemployment. This occurs due to

all other causes. This includes those people termed
as unemployable due ill health or disability.
82

Causes of unemployment
(i) Lack of industrialization: when a country is not industrialized, it has
limited employment opportunity; this makes it difficult for the available
labour to be fully absorbed.
(ii) Over Population: This is one of the major causes of unemployment. It
is an indication that demand is higher than supply.
(iii) Lack of development plans: Some countries do not have a functional
development plan and this creates a lot of problems, as the government
does not know how to make provision for the labour force
(iv) Geographical immobility of labour: In some cases, workers finds it
very difficult to move from one geographical area to another and this
result in unemployment.
(v) High Cost of Education: In most developing countries, the cost of
acquiring education is very high people can afford it and be engaged in
skilled job, hence unemployment

83

 Supply of labour.
Supply of labour may be defined as the total number of
men. Women and children of working age in a country.
Supply of labour can also be described as services of
labour available for production or available in the
labour market.
Factors that Determine Supply of Labour.
Age distribution of population.
Population: The size of the population is directly
related to the supply of labour.
The reward for labour:
Number of hours worked:
84

 Factors Affecting the Size of Labour Force.

The size of countrys population: The higher the size of the
population the higher the amount of labour that would be
available in the labour force.
Total number of labour force willing to work
Mandatory age of retirement:
The age distribution of the population.
The number of disabled and sick persons of working age.
School leaving age
Number of those Retiring before retirement age
The number of working women
Number of working Hours.
85


Consequences of unemployment
(I) Social problem: Unemployment increases crime rate in a
country
(ii) Migration: When people are not engaged in meaningful
employment In a particular area by they would be forced to move
to other areas in search of jobs
(iii) Threat to Peace and stability: If people are not employed,
there is the tendency for them to engage in activities that will
create instability and a break down of law and order is very high.
(iv) Reduction in investment: Unemployment reduces the
propensity to invest in a country.
(v) High Rate of dependency: Unemployment increases the rate
of dependency.

86

NATIONAL INCOME

Definition: The total amount of goods and services

(in value terms) available to the people over a given
period of time which is usually a year.
Gross National Product: The value of goods and
services produced by the nationals of the country
whether currently residing in the country or living
abroad
Gross Domestic Product: The value of goods and
services produced by residing in the country
irrespective of their nationality.

87


Disposable income: This is calculated by deducting taxes
from personal income.
Disposable income = Personal income - Taxes

Personal income: This is the current income of households or

persons from all sources which include receipts such as
transfer payments from which no productive services are
produced by recipients.

Transfer payment: Money given by the government to its

citizens. Example includes social security, unemployment
compensation and welfare.

88

Methods of Measurement: There are 3 methods of

measurements namely:
1. Output- This is obtained by adding the value of all goods
and services produced by all sectors of the economy during the
year. Only final goods and services are included. Intermediate
goods and services are excluded to avoid double counting.
2. Expenditure-This is obtained by adding the spending on all
final goods and services produced in the economy.
3. Income : This is done by adding up all the income paid out
to the owners of factors of production i.e rent for land, interest
for capital, salaries and wages for labour and profit for
management.

89

Problems of Measuring National income

Products to be include
Excluded market sanctions
Valuation of products
Stock appreciation
Depreciation

Uses of National Income statistics

Measuring the level of production of an economy at appoint in time.

Measuring the standard of living of different countries using per
capita income

Per capita income = National income/population size.

Planning and Policy formulation

90

9. CONSUMPTION, INVESTMENT AND

NET EXPORTS
DISCUSSION CONTENTS
Consumption
The Consumption Function
The average and Marginal Propensity to
Consume and Save.
Investment
The Investment Demand Curve
Gross Exports and Gross Imports
91

CONSUMPTION
Consumption is the amount a consumer
spends in the purchase of goods and
services.
Consumer spending could be
Autonomous (spending irrespective of
receipt of income) or Induced (spending
resulting from income increase).

92

Determinants of Consumption
personal income
income taxes
consumer expectations
consumer indebtedness
wealth
the price level

93

 Consumption is impossible without one earning

income either through employment or transfers
from businesses or government.
Although, personal income is the most
important variable of consumption, it is also
affected by personal income taxes which actually
reduces the actual amount available for spending
(disposable income).
The relationship between consumption and
disposable income however is not a perfectly linear
one showing that other variables influence the
consumers decision to consume.
94

THE CONSUMPTION FUNCTION

The consumption function depicts the
relationship
between
consumption
and
disposable income. C = f (Yd), Ceteris paribus.
That is, it is usually expressed as a positive and
linear relationship when all other non-income
determinants of consumption are held constant.
The consumption function shifts when
these non-income determinants change.
95

Table 1: Hypothetical Consumption Function

for an Economy.
Disposable Income (Yd)
(Billion Naira)

Consumption (C)
(Billion Naira)

Savings (S = Yd C)

500

500

550

540

10

600

580

20

650

620

30

700

660

40

750

700

50

800

740

60

96

The table can also be presented in a graphical

form with consumption on the vertical axis and
disposable income on the horizontal axis.
The values of consumer saving (column 3) in
table 1 is obtained by subtracting consumption
from disposable income.
The table initially shows that the consumer
spends all his disposable income and as his
disposable income increases he saves more.
97

c o n s u m p ti o n (C )

income-consumption relationship
800
700
600
500
400
300
200
100
0
500

550

600

650

700

750

800

disposable income (Yd)

98

THE AVERAGE AND MARGINAL PROPENSITY TO

CONSUME AND SAVE
The ratios used to express the relationship between
consumption , Savings and disposable income include:
Average Propensity to Consume (APC): this is the ratio
of consumption to disposable income at a specific level
of income.
{APC = C/Yd }
Marginal Propensity to Consume (MPC): this is the ratio
of the change in consumption relative to the change in
disposable income.
{MPC = C/Yd}
99

Average Propensity to Save (APC): this is the ratio of

saving to disposable income.
{APS = S/Yd}
Marginal Propensity to Save (MPS): this is the ratio
of the change in saving relative to the change in
disposable income.
{MPS = S/Yd}
APC + APS = 1
MPC + MPS = 1
100

Table 2: Ratios computed from the hypothetical example

in Table 1
APC (C/Yd)

APS

Yd

MPC (C/Yd)

MPS

500/500 = 1.0

500

500

540/550 = 0.98

0.02

550

540

40/50 = 0.80

0.20

580/600 = 0.97

0.03

600

580

40/50 = 0.80

0.20

620/650 = 0.95

0.05

650

620

40/50 = 0.80

0.20

660/700 = 0.94

0.06

700

660

40/50 = 0.80

0.20

700/750 = 0.93

0.07

750

700

40/50 = 0.80

0.20

740/800 = 0.92

0.08

800

740

40/50 = 0.80

0.20

101

 From Table 2, the APC decreases from

1.0 to 0.90 as disposable income
increases from N500b to N800b but save
8% of their income at N800b.
The MPC is constant throughout at 0.8
while the MPS (1-MPC) is 0.2.
Note also from the Table that APC + APS
= 1 and MPC + MPS = 1
102

INVESTMENT
Gross investment is the sum of
residential construction, non residential
construction, the purchase of producers
durable equipment by businesses, and the
net change in business inventories.

It is the least stable component of

aggregate spending and a principal cause
of the business cycle.
103

INVESTMENT (contd.)
In the national income accounts, investment
consists of residential construction, nonresidential construction, producers durable
equipment, and changes in business inventories.
Generally speaking, the decision to invest is a
negative function of the rate of interest, holding
all other factors (non-interest variables)
constant.
104

INVESTMENT (contd.)
Other non-interest variables affecting investment
demand include:
(a) residential construction i.e. purchase of housing
units. This is also influenced by:
demographics
buyers level of indebtedness
wealth of buyers
current and expected income level
willingness to incur new debt
ability of buyers to obtain loan
cost of housing units, and
mortgage rate of interest.
105

INVESTMENT (contd.)
(b) non-residential construction i.e.
offices, hotels and other commercial real
estate. Their demand is also influenced by:
the rate of interest
the vacancy rate of existing units
needs for additional commercial space
ability of business units to meet
increased rental costs
106

INVESTMENT (contd.)
(c) producers durable equipment
is influenced by:
borrowing costs
utilization of existing productive capacity
availability of more efficient technology
current and expected sales
existing and future competition
(d) changes in business inventories are linked to:
rate of interest
current and expected sales
current and expected inventory prices
certainty of inventory deliveries

107

THE INVESTMENT DEMAND CURVE

It is a curve that shows the relationship
between gross investment and the rate of
interest, while other variables affecting
investment spending are held constant.
Investment spending is inversely related
to the rate of interest i.e. the higher the
investment the lower the rate of interest
and vice versa.
108

GROSS EXPORTS AND GROSS IMPORTS

Gross exports are the value of goods and services
produced in a home country and sold abroad.
Gross imports are the value of goods and services
purchased by a home country from abroad.
Imports usually lowers the aggregate spending of a
nation on domestically produced goods.
Net exports are the value of gross exports less gross
imports.
Net exports might be negative or positive. It is
positive when the country exports more than it imports
and negative when it imports more than it exports.
109

Factors affecting Imports and Exports

Level of income
Foreign exchange rate
Domestic price relative to prices in foreign
countries
Import tariffs
Restrictions on imported goods

110

10. INFLATION, DEFICITS AND DEBT

DISCUSSION CONTENT
Meaning of inflation
Types of inflation
Causes of inflation
Effects of inflation
Control of inflation
Phillips curve
Government deficit
Public debt

111

MEANING OF INFLATION
In economics, inflation is a continuous rise in the
general level of prices of goods and services in an
economy over a period of time
An increase in the general level of prices implies a
decrease in the purchasing power of currency
Inflation is usually estimated by inflation rate of
price index (consumer price index)
112

Other related economic concepts to

inflation
Inflation rate is the % rate of change of price index
overtime of the entire basket of goods in the
economy
Deflation an annual fall in the general price level
Disinflation a decrease in the rate of inflation
Hyperinflation an out-of control inflationary spiral
Stagflation a combination of inflation + slow
economic growth and high unemployment
Reflation an attempt to raise the general level of
prices to counteract deflationary pressure
113

CLASS WORK
Does increase in petroleum product prices in
Nigeria a signal of inflation? Discuss.
What relationship do you think inflation has on
interest rate?
In year 2009, the price level was N200 and in year
2010, the price level was N210, the annual
percentage of inflation will be what?
Inflation is always and everywhere a monetary
phenomenon. Do you agree with this statement?
The task of keeping the rate of inflation low &
stable is a responsibility of what body?
114

TYPES OF INFLATION
Creeping or chronic inflation A period of gentle but
continuous rise in the general price level of 5%/yr
Hyper or galloping inflation Rapid rise in the general
price level causing serious instability in the economy.
Walking inflation price s rise moderately and annual
inflation rate is a single digit of between 5-10%
Running inflation prices rise at the rate of 10-20%
/annum
Pure inflation A situation in which all prices including
wages and other sources of income rise at an equal rate
Shock inflation a sudden change in the price level
that is caused by a rise in price of an important good
115

CAUSES OF INFLATION
Demand pull/demand-induced/Excessive demand
inflation This is characterized by a sharp increase
in demand that is not matched with increase in
supply
It arises from increase in population, increase in
incle or combination of both
A case was the Udoji award of 1975 and the 1981
minimum wage Acts which led to rapid increase in
dd without corresponding increase in ss
Cost-push (supply-push) inflation Originates from
increase in the cost of production
116

CAUSES OF INFLATION Conts

It is usually associated with increase in price level,
decrease in aggregate output and increase in
unemployment
A case is if the Nigeria Labour Congress (NLC) is able to
get significant increase in wages without corresponding
increase in production due to higher cost
Rural-urban drift / migration leading to the neglect of
agricultural sector
War effect- Efforts are diverted from production of goods
to production of war equipment/ armament
Bad weather/ drought such as the 1973 drought
Imported inflation (i.e importing large quantities of
goods and services from countries which have inflation
117

EFFECTS OF INFLATION
Effect on income and standard of living
Value of money falls
Fixed income earners such as recipients of
transfer payments (pensions, unemployment
insurance, social security, recipients of interest &
rent lose
Those of flexible income group like businessmen,
shareholders, industrialists, traders real estate
holders, speculators gain
Effects on income distribution: the rich tends to
be richer & the poor poorer during inflation
118

EFFECTS OF INFLATION conts

Effects on borrowers and lenders ( creditors and
debtors)
The creditors are generally worse off because the
real value of their future claims is reduced to the
extent of inflation
Debtors tend to pay less in real terms than they had
borrowed. So inflation favours debtors
Effects on wage earners- these set of people may
gain or lose depending on the speed with which
their wages adjust to rising prices
The tasks of both fiscal & monetary policies makers
are complicated during inflation
119

CONTROL OF INFLATION
Contract the economy by using monetary and
fiscal policies
forcing a recession / auterity measures/cutting
down spending which may lead to hardship,
reduction of unemployment benefits
Indexation. Here people become partially/ wholly
immunized from chanh=ges in the general price
level through things like cost- of- living
adjustment
120

CONTROL OF INFLATION conts

Tax-based income policy: This involves subsidizing
companies whose wages and prices are rising slowly
and taxing those that boost inflation
Price control measure: This involves setting up a
price control board by government which fixes
maximum prices of certain commodities
experiencing inflation
Total ban on importation of certain items
Increase in the production of goods and services.
Example is the food security program ongoing in
Nigeria
121

WHAT IS PHILLIPS CURVE?

The Phillips Curve is a graphical representation of
the inverse, or negative, economic relationship
between the rate of unemployment (or more
precise, the rate of change in unemployment) and
the percentage rate of change in money wages (
Inflation rate).
The theory behind this is fairly straightforward.
Falling unemployment might cause rising inflation
and a fall in inflation might only be possible by
allowing unemployment to rise.
122

PHILLIPS CURVE conts

A low inflation and low unemployment are
incompatible; therefore, governments have to
choose the best combination of both.
If the Government wants to reduce the
unemployment rate, it could increase aggregate
demand but, although this might temporarily
increase employment, it could also have
inflationary implications in labour and the
product markets.
123

TYPICAL EXAMPLE OF PHILLIPS CURVE

124

CONCEPT OF THE NAIRU

NAIRU is Non-Accelerating Inflation Rate of
Unemployment
The concept was introduced by Milton Friedman,
who criticized the original Phillips curve
NAIRU is defined as the rate of unemployment
when the rate of wage inflation is stable.
NAIRU arose to explain how stagflation could occur.
NAIRU also known as the "natural rate of
unemployment", distinguishes between the "shortterm" Phillips curve and the "long-term" one
125

CONCEPT OF THE NAIRU contd

According to the proponents of the concept of the
NAIRU, the equilibrium level of unemployment is
the outcome of a bargaining process between
firms and workers.

126

DEFICIT SPENDING
Deficit spending can simply be called "deficit," or
"budget deficit," the opposite of budget surplus.
Deficit spending is the amount by which a
government, private company, or individual's
spending exceeds income over a particular period
of time

127

PUBLIC DEBT
Public debt, sometimes called national debt
It is the cumulative amount money owed at any given
time by any branch of the government.
public debt is distinct from a budget deficit in that it is
cumulative, whereas deficit refers to a particular
budget
year's
shortfall
It encompasses the one owed by the federal
government, the state government, and even the
municipal and local government
128

PUBLIC DEBT conts

Public debt is made up of external debt, which is
money that is owed by the government to foreign
lenders, either in the form of international
organizations, other governments, or groups like
sovereign wealth funds.
It is also made up of internal debt, where citizens and
groups within the country lend the government money
to continue operating.
In some ways, this is a lot like lending to oneself, since
ultimately the responsibility for public debt falls back
on the very people lending money.
129

PUBLIC DEBT conts

Public debt can also be broken down by the length of
the loan made
Short-term public debt last only one or two years, and
the turnover rate is fairly high
Mid-term public debt lasts anywhere between three
and ten years.
Long-term public debt is designed to last more than ten
years, with some long term debt lasting considerably
longer than that.
130

ASSIGNMENT
What do you think are some reasons for
Government Indebtedness?
In what ways do you think a nation can correct its
deficit spending?
What do you think are the advantages of public
debt?

131