Fundamentals of Economics

Fundamentals of Economics (404) Page 1 of 18
ECONOMICS
Origin: The word 'economics' comes from two Greek words, 'eco' meaning home and 'nomos'
meaning accounts. The subject has developed from being about how to keep the family accounts
into the wide-ranging subject of today.
Definitions: Economics is the branch of knowledge concerned with the production, consumption and
transfer of wealth. It is the study of how humans make choices under conditions of scarcity. It’s the
study of scarcity, the study of how people use resources and respond to incentives, or the study of
decision-making.
Adam Smith was a Scottish philosopher and considered as the father of Modern economics. He
wrote a book “The Wealth of Nations, 1776”, wherein he discussed the wealth through its four
aspects viz., production of wealth, exchange of wealth, distribution of wealth and consumption of
wealth, which clearly indicated that according to him Economics is the science of wealth. According
to him, “Economics is a science which inquired into the nature and cause of wealth of Nations.”
According to him, wealth means goods and services transacted against money. His four aspects of
wealth are as below:
1. Production of Wealth: Production of wealth means production of goods and services by
combining four factors of production that are land, labour, capital and organization or
entrepreneurship. Land is the natural resource such as, sea, minerals, livestock, forests etc.
Labour is the mental or physical work which is done for the sake of reward. Capital means
man made resources which help to produce goods and services, whereas organization is the
act of combining these factors production for the purpose of marketing of the goods and
services for the sake of profit.
2. Exchange of Wealth: Entrepreneurs produce goods and services more than their
requirements, so as to exchange their surplus goods and services in the market with the
surplus goods and services produced by others. Consequently, multiple wants of everyone in
society are satisfied.
3. Distribution of Wealth: It means to give to each individual or section of society in the national
wealth produced in a year. Wealth in a society should be distributed equally among all its
sections or individuals as that everyone will be able to enjoy goods and produced in the
country.
4. Consumption of Wealth: The ultimate objective of production, exchange and distribution of
wealth is consumption of wealth, whereby people use their shares obtained from the national
product in order to satisfy their wants. Hence, consumption of wealth means the using up of
the utility of the goods and services for the satisfaction of wants.
Criticism: This definition was criticized by various economists due to following reasons:
1. Too Much Importance to Wealth: Adam Smith gives primary importance to wealth and
secondary to human being. In modern economics, man occupies primary place and wealth a
secondary one. The real fact is that man is more important than study of wealth.
2. Narrow Meaning of Wealth: He used the word wealth for material things only like vehicles,
industries, banks, etc. it does not include immaterial goods like services of doctor, lawyer and
teacher. In modern definition of economics the word wealth includes both material and
immaterial goods.
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3. Man Welfare is Missing: Alfred Marshall objected has not mentioned welfare in his
definition. Wealth is of no use unless it does not satisfy human wants.
4. It does not study means: The definition lays emphasis on the earning of wealth as an end in
itself. It ignores the means for the earning of wealth.
Alfred Marshall was a pioneer of neoclassical economist. He wrote a book in Cambridge which was
entitled as “Principles of economics” in 1898, wherein he defined economics as an instrument to
remove the doubts of the people regarding the subject. According to him, “Economics is the study of
man in the ordinary business of life; it examines that part of individual and social action which is
most closely connected with the attainment and use of the material requisites of well-being”.
According to him, man earns money to get material welfare. Economics is the study of wealth and
well being. It enquired how an individual gets his income and how he uses it. His definition provides
as under:-
1. Ordinary business of life or Economic as a social science: According to him, economics is a
social science which studies the economics behaviour of the people living in a society.
2. Attainment and use of material requisites or production and consumption of wealth: Alfred
Marshall views economics as a science of wealth , which studies the attainment and use of
material requisites, or in other words production and consumption of wealth
3. Well being or welfare of the society: According to him, the objective of the study of
economics is to promote the material welfare of the people. Hence, according to him,
economics does not regard wealth to be the goal of all human activities. Instead, it is only a
mean to achieve an end and that end is the economic welfare of the people or raising up the
standard of living of the people.
Criticism: Loinel Robbins in his book “Nature and significance of economics” criticized Marshall on
the following grounds:
1. Narrows the scope of economics: Prof. Lionel Robins argued that .the use of word “material”
narrows the scope of economics. Economics is not only the study of material things but it also
includes non-material things i.e. goods and services. There are many non-material things in
the world which are very significant for promoting human welfare, such as services of doctor,
lawyer, teacher, etc. These things satisfy our wants and are scarce in supply.
2. Well-being is a non-measurable concept: Prof. Robbins raised another objection about
“welfare”. According to him, welfare is a vague concept. One cannot quantitatively measure
or estimate well-being to figures, although it can be stated in theories.
3. Economics should not pass value judgments: Robins object that the word “Welfare” involves
value judgment. According to Robbins the work of the economists is not to judge the value of
a commodity whether it promotes welfare or not. In other words, economists should only
emphasize on human wants and their satisfaction, it is not concerned with whether these
wants are being satisfied by good things or bad things. For example, human beings need food,
clothing and shelter and they are essential to be provided. But, as far as the wants of alcohol,
cigarettes and gambling is concerned, they are ready to pay for them disregarding the welfare
aspect of these things. Thus, Robbins says “just satisfy wants and don’t bother whether they
are for the better or the worse”.
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4. It creates problems for policy making: According to Marshall, the study of economics should
be directed to pursue the concept of welfare. But, Robbin objects that this point of view
would place the government in a vulnerable position in the making of economic policies. For
example, some people may object to the production of alcohol and cigarettes on the ground
that these things retard welfare. But, others might say that they want these things for the
satisfaction of their wants and they are ready to pay for them.
Lionel Robbins wrote a book “Nature and Significance of Economic Science (1932)”. According to
Lionel Robbins, “Economics is a science, which studies human behavior as a relationship between
ends and scarce means which have alternative uses”. It is efficient use of scarce resources in order to
meet unlimited human wants. Three main points of the definition are:-
1. Multiple Ends: Multiple ends means “no limit to wants”. Human wants are unlimited. They
keep rising with the passage of time, which means that they do not come to an end even if
they are satisfied. For example, we take food in the morning and we need it again in the
evening. This is same in the case of our other wants. Since wants are unlimited, one is
compelled to choose between more urgent and less urgent wants which makes economics a
science of choice.
2. Scarce Means: Scarce means “lacking”. Robbins definition stated that on one side human
wants are unlimited yet on the other side, the means to satisfy these wants, like, time, power,
money etc. are limited. Due to this, many of man’s wants remain unsatisfied. The means or
resources can be divided into two parts. Firstly, the resources in the production sector of
economics, i.e. land, labour, capital and entrepreneurship are quite limited because the prices
of these four factors of production are determined in the market. Secondly, as a result of
combination of the four factors of production, the consumer goods and services produced are
also limited because they are also priced in the market. This means that resources are limited
in the sense that one cannot have as many goods and services as he wishes for the
satisfaction of wants. Income also affects availability of resources; higher the income, higher
will be the availability of the resources and vice versa.
3. Alternative Uses: There are many ways of using the resources. It is always upto the priorities
of the person concerned. For example, a person has 1000/- rs, with which he is able to do
anything within his limit. He can buy food, clothing, or go for a picnic, etc. Being a rational
human being, he will choose the most optimum use of his limited resources. For example, a
resource like land can be use in many ways, such as it can be used for agriculture or for
building a house or to established a factory etc.
Merits of the definition: The definition of Robbins has the following merits:
1. Comprehensiveness: Robbins definition reflects the realities of life as we all know that human
wants are unlimited but the available resources are limited and all of us are making alternate
use of resources. Thus, this definition clearly identifies the existence of the economic problem
in a most comprehensive manner.
2. Extension of the Scope of economics: Robbins widened the scope of economics by providing
that not only material but also non-material things are required to satisfy human wants. Not
only this, Robbins also establishes that economics as a science is neutral between good wants
and bad wants.
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3. Analytical in nature: Robbins definition helps to analyze the economic problems of the
people and therefore paves a way for their solution.
Criticism: This definition has been criticized as under:
1. Not a pure science: Robbins definition makes economics pure science like physics and
chemistry while in reality it is not true. Economics is related with the behavior of man.
2. Reduced economics merely to a theory of value: Robbins’s definition restricts the scope of
economics by treating it as merely a positive Science, while in reality it is both a positive and a
normative science.
3. Much wider scope: Robbins’s definition has widened the scope of economics by covering the
whole of economic life, while it is concerned with that part of human life which is connected
with the market price.
4. Does not cover economic planning and development: The theory of economic planning and
development has recently become very important branch of economics, but this definition
not cover the problems like inflation, unemployment and over population etc.
5. Unlimited labour: According to Robbins all type of resources are limited. But in the third
world countries, we find that labour is not limited because rate of unemployment is very high.
ECONOMICS IN LAW: Law is a discipline which comes in social science. It is a study of system of rules
that are enforced through social institutions. Similarly, Economics is also a discipline of social science
which is concerned with the proper utilization and allocation of resources for the achievement and
maintenance of growth with stability. Crafting policies, rules, regulations and establishing institutions
by legislative bodies are for the welfare of a society. Similarly economic system plays a pivotal role in
managing the scarce resources in proper manner. In context of various social aspects knowledge of
Economics is equally important for law students and professionals; that is the reason economics has
been made part of law curriculum in various universities.
HOW LAW IS RELATED TO ECONOMICS? Legal constraints on the allocation, distribution of
resources, on labour and housing markets affects the economic activities in the market. These
aspects have become vital in the globalization of the economy and revival of the markets with
privatization as the focal point. Prof Paul Burrow said that, “Economics and Law can provide insights
in places where traditional legal analysis fails to penetrate”.
If the problem of the economist is to determine what has been, what is, and what ought to be
the governing principles in "wealth-getting and wealth-using";' if "economics is a study of men as
they live and move and think in the ordinary business of life"" it would seem that past and existing
legal systems constitute material of prime importance deserving to be considered extensively and
critically.
SCOPE OF ECONOMICS: Economics is a social, normative and positive science, which is concerned
with the well being of human beings. The scope of Economics lies in analyzing economic problems
and suggesting policy measures to solve the problem. Economists of today deal economic issues not
merely as they are but also as they should be. Earning and spending of income was considered to be
end of all economic activities and human welfare.
SUBJECT MATTER OF ECONOMICS: The subject matter of economics is efficient allocation of
resources. Usually if you see that resources are scarce, but the demand is always high, therefore the
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allocation has to be efficient so that there is maximum satisfaction and well being. The subject
matter of economics is divided into two branches - microeconomics and macroeconomics. Micro-
economics is concerned with the theories of product pricing, factor pricing and economic welfare,
whereas Macro-economics deals with the broad economic issues, such as full employment or
unemployment, capacity or under capacity production, a low or high rate of growth, inflation or
deflation etc.
SCHOOLS OF THOUGHTS
There are mainly four schools of Economic thoughts: Classicals, Neo-Classicals, New classicals and
Keynesians.
1. Classical School: The Classical school is regarded as the first school of economic thought in
18th Century under Scottish economist Adam Smith, and those British economists that
followed, such as Robert Malthus and David Ricardo. They believed in laissez faire, which
literally means “let (them) do”. The main idea of this school was that markets work best when
they are left alone, and that there is nothing but the smallest role for government. Thus, it
suggested that the government’s role in economic affairs should be as little as possible,
eventually the economy would return to full employment level of output through price
mechanism as it acts as an “invisible hand”. It is widely recognized that the Classical period
lasted until 1870.
Invisible Hand: The unobservable market force that helps the demand and supply of goods in
a free market to reach equilibrium automatically.
2. NEO-CLASSICAL: This school of thought is associated with the work of William Jevons, Carl
Menger and Leon Walras. The neo-classical school of thought is a wide ranging school of idea
from which modern economic theory evolved. The method is clearly scientific, with
assumptions, hypothesis and attempts to derive general rules or principles about the
behaviour of firms and consumers. They assumed that economic agents are rational in their
behaviour, and that consumers look to maximize utility and firms look to maximize profits and
work toward the same through mechanisms of demand and supply theory. Neoclassical
economics is an approach to economics that relates supply and demand to an individual's
rationality and his ability to maximize utility or profit. It also uses mathematical equations to
study various aspects of the economy. Another important contribution of neo-classical
economics was a focus on marginal values, such as marginal cost and marginal utility.
3. New Classical: This school of thought is associated with the work of Chicago economist,
Robert Lucas and dated from 1970s. New Classical theorists rejected the Keynesian’s view of
laissez faire. It is built largely on the neoclassical school. They believe that all agents try to
maximize their utility and have rational expectations. This school emphasizes the importance
of microeconomics and models based on that behavior. This school attempts to explain
macro-economic problems and issues using micro-economic theory of rational behavior and
rational expectation.
4. Keynesian School: The economists of this school broadly follow the main macro-economic
ideas of British economist John Maynard Keynes, who is regarded as the most important
economist of 20th Century. Keynesians focus on aggregate demand as the principal factor in
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issues like unemployment and the business cycle. They advocate and rationalize a
government’s intervention in the economy through public policies that target to achieve
maximum employment rate and price stability in the market. Their ideas have greatly
influenced governments in many different nations around the globe and also in accepting
their responsibility to provide full or near-full employment through measures that stimulate
aggregate demand. They believed that the self interest which governs microeconomic
behavior does not lead to long run macro-economic development or short run macro-
economic stability, the government’s intervention is essential.
BRANCHES OF ECONOMICS:
Following are the main two branches of economics:
1. Micro-economics: Micro-economics is the Branch of economics which deals with the
individual decisions of units of the economy i.e. firms, households, and how their choices
determine relative prices of goods and factors of production. The behaviour of producers,
consumers and markets is studied in Microeconomics. It focuses in two main players- the
buyer and the seller, and their interaction with one another. It discusses the theories of
demand and supply, production, cost analysis, behavior of consumer and kinds of markets.
2. Macro-economics: It is a branch of economics that study the relationship among the broad
economic aggregates like national income, national output, bank deposits, total volume of
savings, investment, consumption, general price level of commodities, government spending,
inflation, recession, employment, and money supply. Thus the overall study of the country is
studied in macro-economics.
DEMAND:
Demand refers to the quantity of the goods or services that people are ready to buy at given process
within given time period. In other words, demand is the power to purchase a product coupled with
willingness to purchase. For example, a poor man may be willing to purchase expensive goods but his
willingness is not supported by the ability to purchase, i.e. the necessary money. On the other hand,
a rich man may afford to buy expensive goods but he is not willing to do so.
The law of demand states that, if price goes up, the quantity demanded will go down. Conversely, if
price reduces, the quantity demanded will go up ceteris paribus (all other things being equal). In
short, there is an inverse relationship between price and the quantity demanded. The reason for this
is that the consumer always tends to maximize satisfaction. A change in quantity demanded is
brought about by an increase or decrease in the product’s price.
Rise and Fall in demand: When demand for a commodity goes up or down, not due to price but due
to other factors, the change is called rise (or increase) in demand and fall (or decrease) in demand.
Slope of the demand curve: In economics, demand curve is known as the negative slope of the
demand curve. As quantity increases with decrease in demand and vice versa. In both ways, the
position of the slope is slanting and it seems to be negative. There are following three factors with
make the curve negatively sloped:
1. Price Effect: The fall in the price of a product invites more consumers to purchase more of
that product. Therefore, the quantity demanded for that product in the market goes up.
2. Income Effect: When the price of a product goes down, automatically income of the
consumers seems to have gone up, thus enabling them to purchase more of the product.
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3. Substitute Effect: When the price of product ‘A’ goes down, price of product ‘B’ seems
expensive relative to ‘A’, the consumer shifts the money he normally spends on product ‘B’
and prefers buying product ‘A’. Here substitution is taking place.
Forces that cause the demand to change: Following are the forces that tend to change the demand
of goods or services:
1. Constant Habit and Fashion: It pertains to the personal likes or dislikes of consumers for
certain goods or services, which must remain constant. In short, the consumer must remain
rational. If incase a consumer develops a sudden liking for the product he usually purchases,
even though there is a fall in price, the law of demand does not hold.
2. Constant Income: for the law of the demand to hold, the income must remain constant.
Increasing incomes of households raises the demand of certain goods or services, or vice
versa. For example, if the income of a consumer falls but the price of the goods remains
same, the consumer will purchase less of the goods even though price does not increase. It is
so as there is a fall in his purchasing power.
3. Occasional or Seasonal Products: There are various events or seasons in a year which results
in increase or decrease of demands of particular goods or services.
4. Increasing Population: An increasing population results to increase the demand of the goods
or services, or vice versa.
5. Substitute Goods: When the goods are interchanged with other goods. In happens in a
situation where the price of a particular good increases resultantly consumer tends to look for
closely related commodities.
6. Expectations of Future Prices: If the buyer expects the price of goods or service to rise or fall
in the future, it may cause the current demand to increase or decrease.
SUPPLY:
Supply is the quantity of the goods or services that firms are ready and willing to sell at a given price
within a period of time, other factors being held constant. It is a product made available for sale in
the market.
Law of supply states that, others factors remaining constant, if the price of the goods or services
goes up, the quantity supplied for such goods or services also goes up; if the price goes down, the
quantity also goes down. Thus, price is directly related with supply.
Rise and Fall in supply: When supply for a commodity goes up or down, not due to price but due to
other factors, the change is called rise (or increase) in demand and fall (or decrease) in supply.
There are so many factors like cost of production, technology, climatic situation, political situation,
taxation policy, prices of substitutes, etc. which can change the supply of a commodity while price
remains constant.
Assumptions of the law of supply: Following are the assumptions of the law of supply:
1. Constant cost of production: for the explanation of the law of supply, the cost of production
is assumed to remain constant. If the cost of production goes down, the price of the product
would also go down. Therefore the supply increases and the law of supply does not hold. Cost
of production is the combination of four factors of production i.e. rent, wages, interest and
profit.
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2. No change in price of capital goods: Capital goods are used to produce more goods. For
example, machinery, agricultural equipment, etc. if the price of capital goods go down, the
cost of production would also go down, which will result in an increase in supply.
3. No change in production technique or technology: Nowadays, introduction of cost-reducing
innovations in production technology increases supply and results in the cost production as
less money is used to pay the labour. In such as condition, the law of supply does not hold.
Forces that cause the supply curve to change: Following are the forces that tend to change the
supply of goods or services:
1. Changes in the cost production: the increase or decrease in cost of production causes the
price to increase or decrease respectively; therefore this will result in the supply either to
increase or decrease or remain constant.
2. Optimization in the use of factors of production: Optimization in the utilization of resources
will increase supply, while a failure to achieve such will result to a decrease in supply.
3. Technological change: Introduction of cost-reducing innovations in production technology
increase supply.
4. Development of transport and communication system: due to new and efficient transport
system i.e. roads, supply of the goods will rise as people from all over the place can sell their
products, although its price is still the same.
5. Future expectations: It impacts sellers as much as buyers. If sellers anticipate a rise in prices,
they may choose to hold back the current supply to take advantage of the future increase in
price, thus decreasing market supply. If sellers however expects decline in the price for their
products, they will increase present supply.
6. Number of sellers: It has a direct impact on quantity supplied. The more sellers there are in
the market, the greater supply of goods and services are available.
7. Weather Conditions: Bad weather, such as typhoons, drought or other natural disasters,
reduces supply of agricultural commodities while good weather has an opposite impact.
8. Government’s policy: Removing quotas and tariffs on imported products also affect supply.
Lower trade restrictions and lower quotas or tariffs boost imports, thereby adding more
supply of goods in the market.
ECONOMIC SYSTEMS:
An economic system is an organized way to allocate resources and distribute goods or services in a
government or country. It is used to control the five factors of production, including: labor, capital,
entrepreneurs, physical resources and information resources. There are different economic systems
that view the use of these factors in different ways:
1. Capitalistic Economic System: This economic system is also known as Market Economic
System. In this kind of economic system, assets are privately owner and prices are
determined by levels of supply and demand instead of central or local government. Market
forces determine what produced, how much is produced, how it is distributed, plus the prices
of goods and services. Thus, the government plays a minor role (laissez faire) and only lays
down the rules, i.e. fair trade, honest business etc, so that businesses can thrive.
In this kinds of system, people decide on their own; how to utilize the factors of
production. They can choose from whom they buy, for whom they work, and what business
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they own or operate. If a person wants to invest his own capital or be an entrepreneur and
start his own company or business, he is free to do so. Hong Kong has been seen as an
example of a free market society.
2. Socialistic Economic System: This economic system emerged in 1840’s from the literary circles
known as “The Communist Manifesto” written by Karl Marx with Fredric Engels.
This economic system is also known as Command Economy, which is totally opposite
of Capitalistic Economic System. In this system, factors of production owned by community
are in control of the government or co-operatives. Thus, private companies or individuals are
not allowed to freely manufacture the goods and services, and the production occurs
according to the needs of the society and at the command of the state or the planning
authorities. All citizens get the benefits from the production of goods and services on the
basis of equal rights. So, the market and the factors of supply and demand will play no role
under this system. The aim of this economic system is to ensure the maximization of wealth
of a whole country with equal distribution of wealth among all citizens, instead of just richest
companies or individuals.
3. Mixed Economic System: This theory is the middle road, a combination capitalistic economy
and socialistic economy and termed as Mixed Economic System.
It follows both price mechanisms by market forces and central economic planning by
the government. Thus, being combination of two totally opposite economic systems, the
means of production are held by both private companies and public or State ownership, while
market forces decide the price, demand, supply etc along with some government oversight to
prevent monopolization and discrimination.
This unique system was introduced to tackle the demerits of both Capitalist economy
and Socialist economy. It appreciates the concept of private ownership but at the same time
it understands the disadvantages of unchecked capitalism. Hence, it proposes government
oversight and economic planning so there is no discrimination against the poorest citizens.
4. Islamic Economic System: This economic system is totally different from Capitalist and
Socialist systems, as the Capitalist system encouraged freedom and Socialist system prefers
equality, but Islamic Economic system emphasis on fairness instead of freedom or equality.
The Islamic economic system is the collection of rules, values and standards of
conduct that organize economic life and establish relations of production in an Islamic
society, which are based on the Islamic order as recognized in the Quran and Sunnah. It is
concerned with the earning and use of wealth. Thus, it aims at establishing a society wherein
everybody will behave responsibly and honestly. Following principles of Islamic economic
system distinguishes it from other system:-
1. Property: In Islamic economic system, property is a trust that is actually owned by
Allah but He has entrusted it to man and has prescribed certain limitations. Thus,
unlike capitalist system the right to property is not absolute but has limitations
which are not enforced not by the government but by one’s faith. According to
Muslim law of inheritance, even the deceased has not right to dispose off more
than 1/3 of his total property by way of will.
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2. Distribution of Wealth: Islamic Economic System favours fair (not equal)
distribution of wealth in the sense that it should not be confined to any particular
section of the society but must be fairly regulated in the whole country or society.
For that, it has taken following measures:
a. Zakat: Zakat is the third pillar of Islam, which is imposed itself annually on
the wealth at the general rate of 2 ½ %. It is the right of those who don’t
have. In zakat, wealth is directly transferred from the rich to the poor, so as
to regulated among all classes of society.
b. Law of Inheritance: Islam has provided a unique system of inheritance
from ascendant to descendents, by setting ratios of distribution. Even after
death, the property of deceased cannot be dispose off wholly through
bequest, but only 1/3 of his property, while rest of property is the right of
his descendents.
3. Interest Free Economics: Islam recognizes interest free economics. Islam prohibits
all transactions involving Riba. It contends that interest is neither a trade nor a
profit. It is a mean of exploitation and concentration of wealth.
METHODS IN STUDY OF ECONOMICS
There are two methods for derivation of laws or generalizations in economics:
1. Deductive Method: The deductive methods consist in deriving certain conclusions from
general truths, by logical reasoning. It proceeds from general to the particular. This method is
also known as the analytical, abstract, hypothetical or a priori method. For instance, it is
assumed that businessmen aim at maximum profit. It follows from this that businessmen buy
the materials in the cheapest market and sell it in the dearest market.
The classical and neo-classical school of economists applied the deductive method in
their economic investigations.
Steps Included: The main steps involved in deductive logic are as under:
a) Selecting the problem: The problem selected to get investigated must be stated clearly. It
may be very wide like poverty, unemployment inflation, etc, or narrow relating to industry.
The narrower the problem, the better it would be to conduct the enquiry.
b) Formulating Assumptions: This is the next step in deduction and the basis of hypothesis. To
be fruitful for enquiry, the assumption must be general. In any economic enquiry, more than
one set of assumptions should be made in terms of which a hypothesis may be formulated.
c) Formulating Hypothesis: The next step is to formulate a hypothesis on the basis of logical
reasoning whereby conclusions are drawn from the propositions.
d) Testing and Verifying the Hypothesis: The final step in the deductive method is to test and
verify the hypothesis using statistical and econometric methods. In order to ascertain the
conformity of the hypothesis with facts, it is verified by observation and experiment.
2. Inductive Method: Induction “is the process of reasoning from a part to the whole, from
particulars to generals or from the individual to the universal.” Bacon described it as “an
ascending process” in which facts are collected, arranged and then general conclusions are
drawn. Thus induction is the process in which we arrive at a generalization on the basis of
particular observed facts.
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For example, we observe 200 persons in the market. We find that nearly 195 persons
buy from the cheapest shops. Out of the 5 which remains, 4 persons buy local products even
at higher rate just to patronize their own products, while the fifth is a fool. From this
observation, we can easily draw conclusions that people like to buy from a cheaper shop
unless they are guided by patriotism or they are devoid of commonsense.
Steps Involved: The inductive method involves the following steps:
a) The Problem: In order to arrive at a generalization concerning an economic phenomenon, the
problem should be properly selected and clearly stated.
b) Data: The second step is the collection, enumeration, classification and analysis of data by
using appropriate statistical techniques.
c) Observation: Data are used to make observation about particular facts concerning the
problem.
d) Generalization: On the basis of observation, generalization is logically derived which
establishes a general truth from particular facts.
MARKET EQUILIBRIUM:
Market equilibrium is the market state where the supply in the market is equal to the demand in the
market. The price of the goods or services also remains in equilibrium when the supply in the market
is equal to the demand for it in the market. If a market is at equilibrium, the price will not change
unless an external factor changes the supply or demand, which results in disruption of the
equilibrium.
Surplus and Shortage: Market equilibrium depends upon the supply, demand and price of the goods
or services. If the market price is above the equilibrium value, it means that the supply of goods or
services is greater than their demand in the market, thus the seller tends to reduce the price of the
goods or services in order to clear their stop. They probably will also slow down the production or
stop ordering new stock. The lower price entices more people to buy, which will reduce the supply
further. Resultantly, demand will increase and supply will decrease until market price equals the
equilibrium price.
If the market price is below the equilibrium value, it means that the demand of goods or
services is greater than their supply in the marker. In this case, the buyer will bid up the price in order
to obtain goods or services in short supply. AS the price grows up, some buyers will quit trying
because they don’t want to or can’t pay the higher price. Additionally, the sellers happy to see the
demand will start to supply more of it. Eventually, the upward pressure on price and supply will
stabilize at market equilibrium.
MARKET ANALYSIS:
Marketing analysis is a study of the dynamism of the market. It is basically a business
plan that presents information regarding the market in which you are operating in. It is done in order
to formulate a strategy on how to run business, by taking into consideration certain factors.
Dimensions of Marketing Analysis: There are certain dimensions which help to perform market
analysis and to under the market better. These dimensions include:
1. Market Size: Market size is a key factor in market analysis. The bigger market will have more
competitors, so in order to stand out one need to provide reliable goods or services with a
price that is neither high nor low, but moderate in order to entice the buyers better.
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2. Growth Rate: The market growth rate is a huge factor in order to get the idea that how long
market will last. Before making investment, it is better to analyze the growth rate of market.
3. Market Trend: Market trends are significant part of market analysis. It is necessary to get
familiar with trend of market for deciding the product to be sold. It means, means and ways
to attract maximum customers.
4. Market Profitability: The primary motive of business is making profit. So, before this factor
also holds great significant in market analysis. If the market has good profitability then
investor invests more, otherwise it would be waste of time and energy. The things to be
considered for ascertaining market profitability include: buyer power, supplier power,
barriers to entry, etc.
5. Key Success Factors: The key success factors are those elements which help the business to
achieve great success in the market. These key factors include: technology progress, efficient
utilization of resources etc.
6. Distribution Channels: Distribution channels are very important for effective business
progress. According to the kind of the goods or services, we need to assess channels like
online marketing etc.
7. Industry Cost: This is also a significant factor while running a business. It basically sees how
much cost is required to get your products for sale.
KINDS OF MARKETS: Markets can be divided into four major classifications:
1. According to Time: There are three kinds of market according to time:
a. Very Short period Market: this is when the supply of the goods is limited and it cannot
be changed instantaneously. This kind of market include perishable commodity which
cannot be stored for longer period and whatever has arrived in the market has to be
sold without delay. Examples may include, flowers, vegetables, fruits, etc. the price of
goods will depend upn demand. For instance, if there is enough demand for a product,
the price will go high or in case of less customers, price will go low.
b. Short Period Market: This market is slightly longer than the previous one. Here the
supply can be slightly adjusted. In this market, adjustments in supply are made within
the existing productive capacity of the industry to produce more for supply to get
more profit due to rise in price.
c. Long Period Market: In this type, there is a large scope for expansion and contraction
of supply. Here the supply can be changed easily by scaling production according to
the demand of the market and the price of the products is governed by sypply and
demand. It includes durable commodities which can be stored for sometime such as
Food grains, oilseeds, etc.
2. According to Location:
a. Local Market: It is a limited market comprising of small area where those good are
produced and sold which are difficult to transport to far flung areas like ice, bricks etc.
Products produced in houses are also come in local market category.
b. Regional Market: In this market, those goods and products are sold and purchased
which are produced and consumed in a particular region. Because of high
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transportation cost or lack of demand in other regions the market is limited. For
example, Sindhi-Shawl and pottery, etc.
c. National Market: This market extends to whole of a country. National market exists
for those goods which are demanded in all parts of the country and can be
transported easily from one region to another. For example, Light Bulb, Wheat, Cloths
etc.
d. International Market: This market spreads all over more than one country. It may be
extended to the whole world. The goods which are demanded internationally and can
be produced in large scale and can be exchanged in the market. For example, Car,
Computer, Gold, Oil etc.
3. According to Nature of Commodity:

a. General Market: This is the market where all kinds of commodities are sold. For
example, Liberty Market in Karachi, Anarkali in Lahore, Aabpara in Islamabad and Qisa
Khawani in Peshawar.
b. Specialized Market: In this kind of market, particular category of commodity is
brought and sold. For example, Cloth Market, Fruit Market, Auto Market, Urdu Bazar
(for Books), Bakra Mandi, factor market (labour), foreign exchange market etc.
c. Marketing through Surplus: Some goods are sold through samples like grains,
medicines etc.
d. Marketing through Grades: Many goods are sold on the basis of grades and
trademarks, such as watches, electric goods are sold by trademarks. For example,
SONY LED, SUZUKI Car, Philips Bulbs, Nokia Phone etc.
4. According to Nature of Competition:
a. Perfect Market (Perfect Competition): It is the market having a very large number of
buyers and sellers who sell identical goods. No single buyer or seller can influence the
price. Entry and exit in the industry is free (i.e. every seller or buyer is price taker).
Conditions of Perfect Market:
i. Large number of buyers and sellers.
ii. Commodity is homogenous i.e. identical.
iii. Free entry and exit of firms in market.
iv. Both buyers and sellers have perfect knowledge of facts of market.
v. There is perfect mobility of factors of production.
vi. Unrestricted movement of commodity in all parts of the market.
b. Imperfect Market (Imperfect Competition): It is the market structure where one or
more features of perfect competition are absent. The number of sellers/producers
may not be large, product may not be homogenous or entry of new firms is restricted.
In this market, monopoly prevails (i.e. single seller) or monopolistic competitions with
some sellers are present. The different forms of imperfect competition are as under:-
i. From Selling Side:
1. Monopolistic Competition: (Many firms producing close substitute).
Those which are not identical but close substitutes are called
differentiated product. E.g. Coca Cola, Pepsi Cola and RC Cola.
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2. Oligopoly (market dominated by few large firms) reacts to pricing and
marketing decisions of rival firms. E.g. TV and Mobile Phone companies.
3. Duopoly (two sellers) the position of duopoly is just like oligopoly. The
firms decide their price and output in the light policies of other firm.
They compete, cooperate and curtail to keep price high e.g. Kiwi Shoe
Polish and Cherry Blossom.
4. Monopoly (Single Seller) who fully controls the market supply and
market price of a product. E.g. WAPDA in electricity supply.
ii. From Buying Side:
a. Monopsony (Single buyer) e.g. in Pakistan atomic scientists can
be employed by government only, govt has the monopsony in
this case.
b. Oligopsony: It includes fewer buyers.
REVENUE ANALYSIS:
Revenue refers to the amount of money that a producer receives in exchange for the sale of goods or
services. For instance, 10 TVs are sold against Rs. 70,000/-, then the amount received of Rs. 70,000/-
is the revenue.
The revenue is directly related with the sales; if the sale increases, the revenue also increases.
The concept of revenue consists of three important terms i.e. Total Revenue, Average Revenue and
Marginal Revenue.
1. Total Revenue: Total revenue refers to the total receipts from the sale of a given quantity of
commodity. It is the total income of the firm. Total revenue is obtained by multiplying the
quantity of the commodity sold with the price of the commodity. For example, if a firm sells
10 chairs at a price of Rs. 500 per chair, then the total revenue will be calculated as: 10
chairs*Rs. 500 = Rs. 5,000/-.
2. Average Revenue: Average revenue refers to the revenue obtained by selling the per unit
commodity. It is obtained by dividing the total revenue by total commodity. For example, if
total revenue from the sale of 10 chairs at the rate of Rs. 500 is Rs. 5,000/-. Then average
revenue can be obtained as: Average revenue = 5,000/ 10 = Rs. 500. Thus average revenue
and price are same.
3. Marginal Revenue: Marginal revenue is obtained by selling an additional unit of commodity.
HUMAN WANTS:
Human wants may be defined as all the desires, aspirations and motives of human but only those
wants that can be satisfied with goods and services of any kind are economic human wants. Like,
food, shelter, clothing, etc are human wants, while peace, love, affection, etc are non-economic
wants. All human wants have some basic characteristics as under:-
1. Wants are unlimited: A human is never truly satisfied, and so his wants too are endless. We
may satisfy some of our wants for the time being (temporarily) but they always reoccur.
2. Different wants have varying degrees of intensity: Some wants are extremely urgent, some
are less intense.
3. Human wants tend to be competitive: We have limited means and so we cannot satisfy all
of our wants. So the compete with each other for the satisfaction of wants.
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4. Wants can be complementary as well: To satisfy our want for one good we have to make
arrangements for another. So now we have the want of two goods. For example to run a car
you need petrol.
5. Varying Nature: The wants of any person will constantly be changing according to the time
and place and situation of the person.
6. Interchangeable into habit or custom: Over time wants of a person can become his habits
or customs.
Classification of Human Wants: Human wants can be classified into three categories as under:-
1. Necessaries: These are the primary human wants which are absolutely essential for living and
surviving. A person has to face several difficulties without the satisfaction of these wants.
Necessaries may further be classified into following three categories:-
a. Necessaries for life: First and most important wants are necessaries for life, without
which human life is impossible. These include food, water, air, clothing, shelter, etc.
b. Necessaries for efficiency: These refer to the goods and services which are not
essential for survival but rather they are necessary to make people more efficient. For
example, stationary goods, comfortable house, nourishing food, etc.
c. Conventional necessaries: These mean the things which have become necessary due
to habits, customs and traditions. For example, wearing of new clothes on marriage,
decorating houses on Diwali, cutting cakes on birthdays are not required for
maintaining life or increasing efficiency. These have become necessary by force of
habits and social customs.
2. Comforts: Comforts refer to the goods and services which make life easier and comfortable.
These are the extra wants of the human after necessaries. They provide freedom from
suffering, anxiety, pain, etc. Comforts improve our health and efficiency. Generally, these
include items that save labour on behalf of the human or provide comfort to him in his life.
For example, a chair may be necessary for efficiency but a cushion on it will make us
comfortable. Others may include, fans, furnished houses, special clothing for occasions, etc.
3. Luxuries: Luxuries refer to the goods and services that give humans pleasure and prestige in
society. They are not needed for existence or comfort but provide happiness and acceptance
in the world. These wants may be called superfluous and tend to be expensive. For example,
cars, diamond jewelry, expensive designer clothing, air-conditioners, etc.
a. Harmless Luxuries: Harmless luxuries are those luxuries, the use of which neither
gives any loss to the consumer nor it increases any working efficiency of the man. For
example: Use of costly clothes, palatial building, car etc.
b. Harmful Luxuries: Harmful luxuries are those the use of which reduces the working-
efficiency of the man and it becomes injurious for time after sometime. For example:
Use of wine or any intoxicated material, this reduces the working efficiency of a man
and after sometime it becomes injurious for health. The use of such material has not
been considered proper from social and moral point of view.
The above classification of wants is not rigid. A thing which is a comfort or luxury for one person or at
one point of time may become a necessity for another person or at another point of time. For
example, a car may be a luxury for a laborer, a comfort for a teacher but a necessity for a doctor.
Whether a certain want is a necessity, a comfort or a luxury depends upon the person, the place, the
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time and the circumstances. The things which were considered luxuries in the past have become
comforts and necessaries today.
HUMAN RESOURCES:
Human resources may be defined as the working of all people in an organization, utilizing their
abilities and capabilities (skills) for managing operations of any organization. Human Resources of a
country include the total labour supply along with their education, training, experience, discipline
and motivation for work.
Labour: Labour means physical or mental work undertaken for monetary reward.
Characteristics of Labour:
1. Labour is perishable more than any other factors: Labour cannot be stored or postponed. If
some working time is lost, it is forever. This limitation keeps the workers under constant fear that
they may become jobless even for a single day.
2. It cannot be separated from labourer: Land and capital can be separated from the owner. They
can earn income for the owner even if he is far away e.g. the land or bus is in use at Multan while
the owner may be in Islamabad. But for labour the situation is different e.g. a driver in order to
do the work of driving at a bus has to be present there.
3. Less Mobile Labour, generally is less mobile than capital. Whereas, Labourers do not readily shift
places. Change of profession is also difficult. Whereas, it is easy to buy a taxi from Karachi and
use it in Islamabad.
4. Weak bargaining power, since labour cannot be stored, the labourer does not want to go
unemployed. So, compared to the employer, his position to settle the terms of work is weak.
Moreover, generally the workers are poorer than the employers. They have no reserve wealth. So
they are in urgent need to earn something.
5. Labourer is human being and not a machine: A labourer cannot be treated like a machine, which
has no feelings or habits. A worker being a living person needs rest and recreation. If he is not
treated properly, he may refuse to work or deliberately do something damaging.
6. Difference in work efficiency: Due to better education, training, experience or motivation, some
labourers are more efficient than others.
7. Difficult to find the cost of production of labour: Unlike machines, it is difficult to calculate the
cost of production of labour.
8. Labour is an active factor: Labour is an active factor while land and capital are passive. Land and
capital can produce goods only when some labour is applied. So the management of labour in a
factory is more important and difficult than the managing of machines and materials.
9. Labour creates capital: A labourer works and gets income. If he saves a part of his earning that
becomes capital. He can used the saved amount to earn more. So we can say that capital is
actually an accumulated form of labour.
10. Dual role: Labour is not only a factor of production, it is also the reason. Why economic activity
takes place. Labourers are consumers and buyers of goods as well.
ORGANIZATION:
An organization is a group of people intentionally organized to accomplish an overall, common goal
or set of goals. It may also be defined as, a stable association of people engaged in concerted
activities directed to the attainment of specific objectives. It is the act of coordinating the other
factors of production, i.e. land, labor and capital.
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Types of Organization: There are different types of organizations depending upon the decision about
the ownership and control of business as under:-
1. Sole or Individual Owner: It is the oldest, the simplest and the most common form of business
organization. In this form, a single person is the organizer of the business. He provides land,
labour and capital. If capital is insufficient, the owner borrows funds. Similarly, land may be taken
on rent. The owner may perform labour himself or get help of his family members or may hire
other workers. The owner is alone responsible of everything right from the planning of
production to final sale of goods. Any profit or loss will be borne by the individual proprietor.
2. Partnership: When two or more than two persons join to run a business, it is called partnership.
In this, there is common and shared responsibility about profit or loss. Partnership generally
takes place among those persons which are either relatives or friends or any other known person.
Partnerships are created through agreements in which the ownership shares and duties of each
partner are specified.
3. Company (Joint Stock): Company is the most important modern form of business organization,
formally called joint stock company. The company is commonly known as ‘limited company’.
There are many large scale enterprises which cannot be run on the basis of individual
proprietorship or partnership. Huge amount of capital is needed which is collected through joint
stock company. When a number of persons, who may be unknown to each other, join together to
invest their capital in some common business, it is called joint stock company.
4. Co-operative Societies: A co-operative society is a voluntary association started with the aim of
service of its members. It is a form of business where individuals belonging to the same class join
their hands for the promotion of their common goals. These are generally formed by the poor
people or weaker section people in the society. It reflects the desire of the poor people to stand
on their own legs or own merit.
5. State Enterprise: State enterprises are those industrial and commercial undertakings which are
owned and run by government. Some of these consist of public utilities such as postal services
and some are just like joint stock companies e.g. WAPDA and PIA. There are some undertakings
which are partially owned by the government. All the activities of the state which are related to
production of economic goods are called public sector organizations.
Sr. Demand Supply

1. Demand is the desire of the buyer Supply is the quantity of the goods or services
coupled with his ability to pay for certain made available by the producers for their
goods or services at a specific time. customers at a certain price.
2. Demand curve is depicted as a Supply curve is depicted as an upward slope.
downward slope.
3. When demand increases supply When supply increases demand decreases, i.e.
decreases, i.e. inverse relationship. inverse relationship.
4. Demand increases with the supply Supply increases with the demand remaining the
remaining the same leads to shortage, same leads to surplus, while supply decreases with
while demand decreases with the supply the demand remaining the same leads to shortage.
remaining the same leads to surplus.
5. Demand decrease with increase in price Supply increases along with the increase in price.
and vice versa. Thus demand has indirect So it has a direct relationship.
relationship with price.
6. Demand represents the consumer. Supply represents the firm.
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