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INTRODUCTION TO ECONOMICS

Q) What is an economic problem? How does an economic problem arise?


A) Economic problem is basically the problem of choice which arise because of scarcity
of resources. Economic problem arise because of the following reasons;
(i) Human wants are unlimited: human wants are unlimited as soon as one
want is satisfied, the other want crops up. There is a difference in the
intensity of wants also. Some wants are very urgent and some wants can
be postponed.
(ii) Scare resources: Means are limited for the satisfaction of wants. Resources
are broadly classified as land, labour, capital and enterprise.
(iii) Alternative use of resources: limited resources can be put to many
alternative uses. If we put a resource for one use, we cant put it for
another use.
(iv) Problem of choice: human wants are unlimited. But the resources of an
economy are scare in relation to unlimited wants. The economy has to
make best use of its limited resources by allocating them judiciously. Thus
for an economy, economic problem is the problem of resource allocation
or making a choice among its resources. It has to decide or choose what,
how and for whom to produce.
If resources also been unlimited want like human wants, there would have been no
problem of choice and hence no economic problem. In other words, scarcity of resources
is the mother of all economic problems. Hence Economics is about choices in the
presence of scarcity.
Q) Sate two characteristic of economic resources?
A) (i) Economic resources are scare.
(ii) They have alternative uses. If we put a resource for one use, we cant put it for
another use.
Q) What is Economics all about?
A) Economics is about making choices in the presence of scarcity.
Q) Explain how scarcity and choice go together.
A) Economics is about making choices in the presence of scarcity. The notions scarcity
and choice are very important in economics. Scarcity and choice go together if things
were available in plenty then there would have been no choice problem. The problem of
choice arises because of scarcity. The study of such choice problems, at the individual,
social, national and international level is what economics all about.
Q) All economic problems arise out of scarcity. Explain
OR
What do you understand by scarcity in Economics?
A)Scarcity in Economics is short supply in relation to the demand. Resources of the
economy are scare with the result that economy can not produce all that the society
needs. This compels the economy to make adjustments between scare mans and
unlimited wants. Thus emerges the problem of making a choice which is called economic
problem. It is, therefore, rightly said that all economic problem arise out of scarcity. In
short, scarcity is the mother of all economic problems.
Q) Why do all economies have similar central problems?
A) Scarcity of resources is the basic feature of all types of economies-rich or poor,
capitalist or socialist. Al economic problems arise out of scarcity. Since all the economies
of the world suffer from scarcity of resources, therefore, all economies have similar
central problems like What, How and For Whom to produce.
Q) What is meant by economising of resources?
A) Economising of resources means making best use of available resources. Since the
resources are limited, it becomes imperative to make their judicious use so as to produce
maximum amount of goods and services which can satisfy maximum wants of every
individual in the economy.
Q) What is an economy?
A) An economy is a system by which people get their living. All production units
located within a geographical area collectively constitute an economy. For instance,
Indian economy refers to whole collection of all production units like agriculture farms,
factories, banks, railways, schools, govt., private offices etc. located in the domestic
territory of India.
Q) Explain the Central problems of an economy. Why do they arise?
A) The problem of choice because wants are unlimited and resources are scare which
leads to the Central problems of an economy. They arise in all types of economies,
whether socialist economy or capitalist economy. They are as below:-
(i) What to produce and How much Quantity?
(ii) How to produce?
(iii) For whom to produce?
What to produce and how much Quantity?
An economy wants things but all these can not be produced with the available resources.
The problem of use of resources is further complicated because of alternative use of
resources. Therefore, an economy has to choose what goods should be produced and
what goods should not be. In other words, whether consumer goods should be produced
or producers goods; whether necessities or luxuries; whether military goods or civil
goods. After deciding which goods should be produced, society has to decide the quantity
of each good to be produced. This problem can be explained with the help of a
Production Possibility Schedule and Production Possibility Curve. The guiding principle
in solving this problem is allocation of resources in a way that satisfies maximum wants
in the society.
How to produce?
This refers to technique to be used in producing goods and services. This choice is
essential for making best possible use of limited resources in producing maximum goods
and services. An economy can choose between
(i) Labour intensive technique of production (more labour and less capital) to
produce goods.
(ii) Capital intensive technique of production (more capital and less labour) to
produce goods.
The guiding principle here is that only that technique should be employed which cause
the least possible cost to produce each unit of a commodity or service.
For whom to produce?
Goods and services are produced specifically for the people who can purchase them. And
purchasing power depends mainly on distribution of national income among factors of
production. Here the problem is how goods produced by four agents of production (land,
labour, capital & enterprise) be allocated among them in money terms. This is known as
theory of functional distribution. The guiding principle in solving this problem is to fulfil
the important and urgent wants of each consumer to the maximum possible extent.
Q) How is the fundamental/Central problem of a market-oriented or
capitalist economy solved?
A) In a market-oriented or capitalist economy, these fundamental problems are solved by
the market. There is a price, which is influenced by the forces of demand and supply.
These forces guide which goods and how much is to be produced and consumed. i.e.,
central problems in a capital economy are automatically solved through price mechanism.
(i) What to produce and how much quantity:- Market price decides what
goods to be produced in a capitalist economy. For example, there is a big
demand for cycles in India. Technology of making cycles is available. The
cost of producing and supplying cycles is not too high. Hence maximum
number of cycles is produced in India.
(ii) How to produce:- this deals with the technique of production i.e., labour
intensive or capitalist intensive. In a capitalist economy the firms use least
possible cost to produce. For example, if there is a fall in the production of
oil, the price of petrol goes up. As a result, taxis will convert to CNG
which is cheaper.
(iii) For whom to produce:- this concern with the distribution of national
income among the four factors of production i.e., rent to land, wages to
labour, profit to the entrepreneur and interest to the capital. If there is an
increase in demand for computer engineers, their salaries will increase.
Their purchasing power will go up and they can buy goods and services.
Q) Define Production Possibility Curve. Illustrate the central problems of
an economy with the help of PPC.
OR
Explain the problem of What to Produce with the help of examples.
A) Production possibility curve shows various combinations of the two goods that can be
produced with available technologies and with given resources which are fully and
efficiently employed. Equivalently, PPC shows the maximum amount that can be
produced of one good, given the amount produced of other goods. Resources of an
economy are not only scared but also have alternative uses. The available resources can
be used to produce various alternative goods which are known as production possibilities
and the curve showing them is called PPC.
P.P.Schedule and P.P.Curve:- It helps us to understand and solve the problem of what to
produce and in what quantity. Let us for the sake of simplicity assume that with given
resources and technology, an economy can produce only two goods, namely Guns and
Wheat as shown in the production possibility schedule. By plotting the data in the below
schedule, we get the following P.P.Curve. in the figure, guns have been shown on X-axis
whereas Wheat is shown on Y-axis. If the economy decided to use all its resources in the
production of Wheat, OA quantity of wheat will be produced but guns cannot be
produced. On the other hand, if resources are devoted exclusively to the production of
guns OF amount of guns will be produced but no wheat can be manufactured. These two
are extreme possibilities. In between, there are many other possibilities. Another
alternative is that the economy devotes a part of its resources to the production of guns
P.P.Schedule
Production
Possibilities
Production
of Guns
Production
of Wheat
A 0 15
B 1 14
C 2 12
D 3 9
E 4 5
F 5 0
and part to the production of wheat. In that case there can be different possibilities of
production as indicated by points B, G, D and E. by joining points A, B, C, D, E and F by
a curve, we get production possibility curve. PPC is downward sloping because more
production of one good is associated with less of the other. When the economy is
producing on the PP Curve, AF, it reflects full employment of resources. If the economy
is operating below the curve, say at point L, it indicates underutilization of resources, i.e.,
the economy is not fully utilizing its production capacity. If the P.P> curve shifts
rightwards (upwards), it shows economic growth.
Q) Define Marginal opportunity cost along a PPC.
Increase in resources
Full employment of resources
Under utilization of resources
A) Along the PPC more production of one good means some sacrifice of the other good.
The rate of this sacrifice is called the marginal opportunity cost of the expanding good
along the P.P.Curve.
Q) What does increasing MOC along a PPC mean?
OR
Why does MOC increase?
A) As we produce more of one good we have to sacrifice the production of another good.
The rate of MOC increases with the production of another good because as more and
more of a good is produced factors producing it become marginally less and less
productive. Hence more and more of the other good have to be sacrificed.
Q) Why does the PPC look concave to the origin?
A) The concavity of the curve reflects the operation of the law of increasing marginal
opportunity cost i.e., with every successive increase in the production of one good, more
and more of the other good has to be sacrificed. PPC will neither be convex to the origin
nor will be a straight line.
If MOC were decreasing, the PPC will look convex. If the MOC were constant,
the PPC will be a straight line.
Q) What is opportunity cost?
A) The opportunity cost of a given activity is defined as the value of the next best
activity. For example, on a piece of land either we can grow Wheat worth Rs, 1000 or
Rice worth RS.1500. the opportunity cost of growing rice is wheat worth Rs.1000.
Q) What factors lead to a shift of the PPC?
A) A given PPC shows that if the production of one good goes up, the production of
another good must fall. Overtime, if technologies progress or if the resources available to
an economy (such as different types of equipment, the size of unskilled and skilled labour
force etc) grow, then the economy can produce more of both goods. That is, the PPC can
shift to the right. If the PPC curve shifts downwards, it shows under-utilization of
resources.
Q) A lot of people die and many factories are destroyed because of a severe
earthquake in a country. How will it affect the countrys PPC?
A) It will result in the shift in PPC to the left because the quantity of resources available
has declined. It will lead to reduction in the rate of economic growth. People become
unemployed because factories are destroyed or under utilization of resources. Here we
assume that the economy was on the P.P.Curve before the earthquake.
Q) Why do technological advancement or growth of resources shift the
PPC to the right?
A) Due to technological advancement more can be produced with the available
resources. Hence the PPC shifts rightwards which shows higher and better combination
and more economic growth.
Q) Give a few examples of growth of resources.
A) (i) Increase in employment opportunities.
(ii) Technological improvement leading to more production.
(iii) Increase in production of quantities of one product without sacrificing the other
because of availability of more resources.
Q) Which factors lead to a shift of the PPC?
A) (i) Change in resources.( Availability of more resources)
(ii) Technological advancement lead to more production. These lead to rightward shift of
the PPC.
Q) Give two examples of under utilization of resources.
A) (i) Due to technological backwardness resources remain under-utilized.
(ii) Improper distribution of scare resources also leads to under utilization of capacities.
(iii) Unemployment of labour force.
Q) An economy always produces on, but not inside a PPC. Defend or
Refute.
A) An economy does not always produces on PPC. It may produce on the PPC if al the
available resources are fully utilized but if certain resources remain under-utilized, then
the economy may not attain any point on the PPC and it may have to settle inside the PPC
however, every economy would like to attain a point on PPC.
Q) What is micro-economics?
A) Micro economics is the study of the individual units in the economy like the
individual household, individual firm, income and spending of a household, supply of a
firm etc. microeconomics is primarily concerned with the allocation of resources by a
single firm or household. Price system and resource allocation occupies the centre stage
in micro-economics.
Q) What is macro economics?
A) Macro economics is the study of the economy as a whole. It studies the aggregates of
an economic system like total output, total employment, aggregate demand, national
income etc. Income determination and stabilization and growth of the growth from the
core of macro-economics.
Q) A country producers two goods: green chilli and sugar. Its production
possibilities are shown in the following tables. Plot the PPC in a graph
paper and verify that it is concave to the origin. What is the pattern in the
table that gives rise to the concave shape of the PPC?
POSSIBILITIES: A B C D E F
GREEN CHILLI 100 95 85 70 50 25
SUGAR: 0 1 2 3 4 5
A) MOC of sugar:
---- 5 10 15 20 25
Here the PPC is concave to the origin because of increasing MOC of sugar. Diagram:
PPC
0
20
40
60
80
100
120
1 2 3 4 5 6
Sugar
G
r
e
e
n

C
h
i
l
l
i
Q) Suppose you have to practice question answer for two subjects:
Mathematics and social Science. You have 8 hours to study. You are very
good at answering multiple choice questions in mathematics: 20
questions per hour, while you are not that good in answering such
question in social science: 12 questions per hour. Derive your
P.P.schedule. (the two goods here are mathematics and social science
question practiced)
Possibilities
Mathematics
Question Practiced
Social science
question practiced
Marginal
opportunity cost
A 160 0 ---
B 140 12 20
C 120 24 20
D 100 36 20
E 800 48 20
F 60 60 20
G 40 72 20
H 20 84 20
I 0 96 20
Here the MOC is constant. Hence PPC is a straight line.
Q) An economy produces two goods: T-shirts and cell phones. The
following table summarizes its production possibilities. Calculate the
marginal opportunity costs of T-shirts at various combinations.
T Shirt (in million) Cell phones (in 000) MOC T-Shirt
0 90,000 0
1 80,000 10,000
2 68,000 12,000
3 52,000 16,000
4 34,000 18,000
5 10,000 24,000
Hence the PPC is concave to the origin because of rising MOC.
Q) An economy provides two goods: cricket bats and saris. The following
table summarizes its production possibilities. Calculate the MOC of bats
at various combinations.
Cricket Bats (000) Saris (in lakhs) MOC of Bats
0 75 0
1 70 5
2 62 8
3 50 12
4 30 20
5 0 30
Here the PPC is concave to the origin because of rising MOC.
Q) Define economics.
A) Prof. Lionel Robbins defined Economics is a science which studies human behavior
as a relationship between ends and scarce means which have alternative uses.
Q) Differentiate between micro and macro economics.
MICRO-ECONOMICS MACRO-ECONOMICS
Micro economics deals with the behavior
of individual economic units.
Macro economics is the study of the
economy as a whole.
It deals with the economic activities of an
individual, a firm or an industry.
It deals with aggregates like aggregate
demand, aggregate consumption, national
income etc.
Demand and supply are the main tools of
analysis in micro-economics
Aggregate demand and aggregate supply
are the main tools of analysis in macro
economics
It is called Price theory because here we
are concerned with the determination of
equilibrium level of prices of goods &
It is called Income & Employment theory
because it is concerned with the
determination of equilibrium level of
factors. output, employment and income for the
economy.
Micro economics explains how resources
are allocated among various goods and
services and national income is distributed
in the economy.
Macro economics explains how
productive capacity and national income of
the country increase over time.
Q) What is the meaning of the problem of for whom to produce?
A) It deals with the problem relating to the distribution of national product among
factors of production that help in its production i.e., rent to land, wages to labour, interest
to capital and profits to entrepreneur.
Q) How are the central problems solved in a capitalist economy?
A) They are solved through Price Mechanism i.e., forces of demand and supply.
Q) How are the central problems solved in a socialist?
A) They are solved through planning process.
Q) Distinguish with the help of a diagram between:-
(i) Movement from one point to another point on the same P.P.Curve:- It
means that the economy is producing more of one commodity by sacrificing the other.
(ii) Movement from a point within the PPC to a point on the curve:- It
means that economy is moving from under employment to full employment of resources.
(iii) A movement from a point on the lower PPC to a point on a higher
PPC:- It shows economic growth due to improvement in technology or availability of
more resources.
Q) What is MOC of a good a P.P.curve?
A) It is the rate of sacrifice of the other good when the production of the good in
question increases.
Q) Why does the problem of choice arise?
A) Due to scarcity of resources in relation to unlimited wants.