Micro Economics

Microeconomics (from Greek prefix mikro- meaning "small") is a branch of economics that
studies the behavior of individuals and firms in making decisions regarding the allocation
of limited resources. Typically, it applies to markets where goods or services are bought and
sold. Microeconomics examines how these decisions and behaviors affect the supply and
demand for goods and services, which determines prices, and how prices, in turn, determine the
quantity supplied and quantity demanded of goods and services.

Need and significance

Essential for understanding the total economic system.
Helpful for solving economic problems.
Deciding economic policy
Economic decisions of individual units

Demand
Demand for a commodity refers to the quantity of the commodity which an individual customer
or household is willing to purchase per unit of time at a particular price.
There are a couple of key phrases in this definitionwilling, able and specified price. To
accurately gauge demand for a particular item we need to eliminate the willing but unable and
the able but unwillingin other words, there may be plenty of people with interest in our item
but no money. And there may be people with plenty of money but absolutely no interest in the
good. They should not be factored into our calculation of demand. Moreover, identifying a vague
interest in a product is meaningless unless we can link that interest to a specific price. Sure, you
may like what we are selling, and you may be willing and able to buy our productbut are you
willing and able to pay $3? $4? $5?
Demand, therefore, means more to economists and businessmen than some vague, desire for something
it refers to the amount of a good or service that people are willing and able to buy at a specified price.

Demand for a commodity implies the following:

-

Desire of a consumer to buy a product.

Sufficient purchasing power.

Purchasing power:
Purchasing power is the number of goods or services that can be purchased with a unit
of currency.
For example, if one had taken one unit of currency to a store in the 1950s, it is probable that it
would have been possible to buy a greater number of items than would today, indicating that one
would have had a greater purchasing power in the 1950s. Currency can be either a commodity
money, like gold or silver, or fiat money emitted by government sanctioned agencies. Most
modern fiat currencies like US dollars are traded against each other and commodity money in
the secondary market for the purpose of international transfer of payment for goods and services.

Types of demand :
1- Negative Demand: Product is disliked in general. The product might be beneficial but
the customer does not want it.
For example: for dental care, and others have a negative demand for air travel.
2- No demand: Target consumers may be unaware and uninterested about the product.
For examples: Farmers may be not interested in new farming method. College students
may not be interested in foreign language course.

3- Latent demand: Consumers may share a strong need that cannot be satisfied by any
existing product.
For examples: Harmless cigarette, safer neighborhood,more fuel efficient car.

4- Declining demand: When the demand of the product or service becomes lower.
For examples Private colleges have seen application falls.

5- Irregular demand: Demand varies on a seasonal, daily and hourly basis.

For examples: Museums are under visited in week days and overcrowded on week days.

6- Full demand: When the organization is pleased with their volume of business.
For example Ideal Situation where supply is equal to demand.

7- Overfull demand: Demand level is higher that the organization can and want to handle.
For example National park is terribly overcrowded in the summer.
8- Unwholesome demand: Those kinds of demands, not acceptable by the society.
For example Cigarettes, hard drings, alcohol.

Law of demand

Demand Curve

The law of demand says Demand for an item increases with a fall in price and diminishes with
rise in price, while other determinants are held constant.

Factors Influencing Demand

1. Price of the Given Commodity:
It is the most important factor affecting demand for the given commodity. Generally, there exists
an inverse relationship between price and quantity demanded. It means, as price increases,
quantity demanded falls due to decrease in the satisfaction level of consumers.
For example, If price of given commodity (say, tea) increases, its quantity demanded will fall as
satisfaction derived from tea will fall due to rise in its price.

2. Price of Related Goods:

Demand for the given commodity is also affected by change in prices of the related goods.
Related goods are of two types:
(i) Substitute Goods:
Substitute goods are those goods which can be used in place of one another for satisfaction of a
particular want, like tea and coffee. An increase in the price of substitute leads to an increase in

the demand for given commodity and vice-versa. For example, if price of a substitute good (say,
coffee) increases, then demand for given commodity (say, tea) will rise as tea will become
relatively cheaper in comparison to coffee. So, demand for a given commodity is directly
affected by change in price of substitute goods.
(ii) Complementary Goods:
Complementary goods are those goods which are used together to satisfy a particular want, like
tea and sugar. An increase in the price of complementary good leads to a decrease in the demand
for given commodity and vice-versa. For example, if price of a complementary good (say, sugar)
increases, then demand for given commodity (say, tea) will fall as it will be relatively costlier to
use both the goods together. So, demand for a given commodity is inversely affected by change
in price of complementary goods.
Examples of Substitute and Complementary Goods:
Substitute Goods
1. Tea and Coffee 2. Coke and Pepsi 3. Pen and Pencil
4. CD and DVD 5. Ink pen and Ball Pen 6. Rice and Wheat
Complementary Goods:
1. Tea and Sugar 2. Pen and Ink 3. Car and Petrol
4. Bread and Butter 5. Pen and Refill 6. Brick and Cement
For detailed discussion on substitute goods and complementary goods, refer Section 3.11.
3. Income of the Consumer:
Demand for a commodity is also affected by income of the consumer. However, the effect of
change in income on demand depends on the nature of the commodity under consideration.

i. If the given commodity is a normal good, then an increase in income leads to rise in its
demand, while a decrease in income reduces the demand.
ii. If the given commodity is an inferior good, then an increase in income reduces the demand,
while a decrease in income leads to rise in demand.
Example:
Suppose, income of a consumer increases. As a result, the consumer reduces consumption of
toned milk and increases consumption of full cream milk. In this case, Toned Milk is an
inferior good for the consumer and Full Cream Milk is a normal good. For detailed discussion
on normal goods and inferior goods, refer Section 3.12.
4. Tastes and Preferences:
Tastes and preferences of the consumer directly influence the demand for a commodity. They
include changes in fashion, customs, habits, etc. If a commodity is in fashion or is preferred by
the consumers, then demand for such a commodity rises. On the other hand, demand for a
commodity falls, if the consumers have no taste for that commodity.
5.

Expectation of Change in the Price in Future:

If the price of a certain commodity is expected to increase in near future, then people will buy
more of that commodity than what they normally buy. There exists a direct relationship between
expectation of change in the prices in future and change in demand in the current period. For
example, if the price of petrol is expected to rise in future, its present demand will increase.

Exceptions to the law of demand

1. Giffen goods:

Some special varieties of inferior goods are termed as Giffen goods. Cheaper varieties of this
category like bajra, cheaper vegetable like potato come under this category. Sir Robert Giffen or

Ireland first observed that people used to spend more their income on inferior goods like potato
and less of their income on meat. But potatoes constitute their staple food. When the price of potato
increased, after purchasing potato they did not have so many surpluses to buy meat. So the rise in
price of potato compelled people to buy more potato and thus raised the demand for potato. This
is against the law of demand. This is also known as Giffen paradox.
2. Conspicuous Consumption:
This exception to the law of demand is associated with the doctrine propounded by Thorsten
Veblen. A few goods like diamonds etc are purchased by the rich and wealthy sections of the
society. The prices of these goods are so high that they are beyond the reach of the common man.
The higher the price of the diamond the higher the prestige value of it. So when price of these
goods falls, the consumers think that the prestige value of these goods comes down. So quantity
demanded of these goods falls with fall in their price. So the law of demand does not hold good
here.
3. Conspicuous necessities:
Certain things become the necessities of modern life. So we have to purchase them despite their
high price. The demand for T.V. sets, automobiles and refrigerators etc. has not gone down in spite
of the increase in their price. These things have become the symbol of status. So they are purchased
despite their rising price. These can be termed as U sector goods.
4. Ignorance:
A consumers ignorance is another factor that at times induces him to purchase more of the
commodity at a higher price. This is especially so when the consumer is haunted by the phobia
that a high-priced commodity is better in quality than a low-priced one.
5. Emergencies:
Emergencies like war, famine etc. negate the operation of the law of demand. At such times,
households behave in an abnormal way. Households accentuate scarcities and induce further price
rises by making increased purchases even at higher prices during such periods. During depression,
on the other hand, no fall in price is a sufficient inducement for consumers to demand more.
6. Future changes in prices:
Households also act speculators. When the prices are rising households tend to purchase large
quantities of the commodity out of the apprehension that prices may still go up. When prices are
expected to fall further, they wait to buy goods in future at still lower prices. So quantity demanded
falls when prices are falling.
7. Change in fashion:

A change in fashion and tastes affects the market for a commodity. When a broad toe shoe replaces
a narrow toe, no amount of reduction in the price of the latter is sufficient to clear the stocks. Broad
toe on the other hand, will have more customers even though its price may be going up. The law
of demand becomes ineffective.

Supply:
In economics, supply is the amount of something that firms, consumers, laborers, providers of
financial assets, or other economic agents are willing to provide to the marketplace

Law of supply
The law of supply is a fundamental principle of economic theory which states that, all else equal,
an increase in price results in an increase in quantity supplied. In other words, there is a direct
relationship between price and quantity: quantities respond in the same direction as price changes.

Factors influencing Supply

Price of the given Commodity:
The most important factor determining the supply of a commodity is its price. As a general rule,
price of a commodity and its supply are directly related. It means, as price increases, the quantity
supplied of the given commodity also rises and vice-versa. It happens because at higher prices,
there are greater chances of making profit. It induces the firm to offer more for sale in the market.

Supply (S) is a function of price (P) and can be expressed as: S = f (P). The direct relationship
between price and supply, known as Law of Supply. The following determinants are termed as
other factors or factors other than price.
2. Prices of Other Goods:
As resources have alternative uses, the quantity supplied of a commodity depends not only on its
price, but also on the prices of other commodities. Increase in the prices of other goods makes
them more profitable in comparison to the given commodity. As a result, the firm shifts its limited
resources from production of the given commodity to production of other goods. For example,
increase in the price of other good (say, wheat) will induce the farmer to use land for cultivation
of wheat in place of the given commodity (say, rice).
3. Prices of Factors of Production (inputs):
When the amount payable to factors of production and cost of inputs increases, the cost of
production also increases. This decreases the profitability. As a result, seller reduces the supply of
the commodity. On the other hand, decrease in prices of factors of production or inputs, increases
the supply due to fall in cost of production and subsequent rise in profit margin.
To make ice-cream, firms need various inputs like cream, sugar, machine, labour, etc. When price
of one or more of these inputs rises, producing ice-creams will become less profitable and firms
supply fewer ice-creams.
4. State of Technology:
Technological changes influence the supply of a commodity. Advanced and improved technology
reduces the cost of production, which raises the profit margin. It induces the seller to increase the
supply. However, technological degradation or complex and out-dated technology will increase
the cost of production and it will lead to decrease in supply.
5. Government Policy (Taxation Policy):
Increase in taxes raises the cost of production and, thus, reduces the supply, due to lower profit
margin. On the other hand, tax concessions and subsidies increase the supply as they make it more
profitable for the firms to supply goods.
6. Goals / Objectives of the firm:
Generally, supply of a commodity increases only at higher prices as it fulfills the objective of profit
maximization. However, with change in trend, some firms are willing to supply more even at those
prices, which do not maximise their profits. The objective of such firms is to capture extensive
markets and to enhance their status and prestige.

Equilibrium of Demand and Supply

Equilibrium Point

Equilibrium is the state in which market supply and demand balance each other and, as a result,
prices become stable. Generally, when there is too much supply for goods or services, the price
goes down, which results in higher demand. The balancing effect of supply and demand results
in a state of equilibrium.

OPPORTUNITY COST
In microeconomic theory, the opportunity cost of a choice is the value of the best alternative
forgone, where a choice needs to be made between several mutually exclusive alternatives given
limited resources. Assuming the best choice is made, it is the "cost" incurred by not enjoying
the benefit that would be had by taking the second best choice available.
Examples: The CEO of Ace Corporation considered the merger that the competing company
offered him, but after examining the opportunity cost he decided that the sacrifices were too high
and the benefits were too low to accept the deal.

I would have gone to the movie since it cost less and the tickets were not refundable but I have to
see this concert even if the opportunity cost doesn't make sense to most people.

Long Run Costs

Long run costs are accumulated when firms change production levels over time in response to
expected economic profits or losses. In the long run there are no fixed factors of production. The
land, labor, capital goods, and entrepreneurship all vary to reach the the long run cost of
producing a good or service. The long run is a planning and implementation stage for producers.
They analyze the current and projected state of the market in order to make production decisions.
Efficient long run costs are sustained when the combination of outputs that a firm produces
results in the desired quantity of the goods at the lowest possible cost. Examples of long run
decisions that impact a firm's costs include changing the quantity of production, decreasing or
expanding a company, and entering or leaving a market.

Short Run Costs

Short run costs are accumulated in real time throughout the production process. Fixed costs have
no impact of short run costs, only variable costs and revenues affect the short run production.
Variable costs change with the output. Examples of variable costs include employee wages and
costs of raw materials. The short run costs increase or decrease based on variable cost as well as
the rate of production. If a firm manages its short run costs well over time, it will be more likely
to succeed in reaching the desired long run costs and goals.

Differences
The main difference between long run and short run costs is that there are no fixed factors in the
long run; there are both fixed and variable factors in the short run . In the long run the
general price level, contractual wages, and expectations adjust fully to the state of the economy.
In the short run these variables do not always adjust due to the condensed time period. In order to
be successful a firm must set realistic long run cost expectations. How the short run costs are
handled determines whether the firm will meet its future production and financial goals.

Marginal costs
The increase or decrease in the total cost of a production run for making one additional unit of an
item. It is computed in situations where the breakeven point has been reached: the fixed
costs have already been absorbed by the already produced items and only the direct (variable)
costs have to be accounted for.
Marginal costs are variable costs consisting of labor and material costs, plus an estimated portion
of fixed costs (such as administration overheads and selling expenses).
In companies where average costs are fairly constant, marginal cost is usually equal to average
cost.

However, in industries that require heavy capital investment (automobile plants, airlines, mines)
and have high average costs, it is comparatively very low. The concept of marginal cost is
critically important in resource allocation because, for optimum results, management must
concentrate its resources where the excess of marginal revenue over the marginal cost is
maximum. Also called choice cost, differential cost, or incremental cost.
Use marginal cost in a sentence
The company couldn't afforded the marginal cost of producing anymore basketballs, they were
now looking at raising prices so that they could afford to make more.

UTILITY
In economics, utility is a measure of preferences over some set of goods and services. The
concept is an important underpinning of rational choice theory in economics and game theory,
because it represents satisfaction experienced by the consumer of a good. A good is something
that satisfies human wants.

Marginal utility
The additional satisfaction a consumer gains from consuming one more unit of a good or
service.
Marginal utility is an important economic concept because economists use it to
determine how much of an item a consumer will buy.
Positive marginal utility is when the consumption of an additional item increases the total
utility.
Negative marginal utility is when the consumption of an additional item decreases
the total utility.

Quantity (Q)

Total Utility

Marginal Utility

100

100

170

70

190

20

180

-10

140

-40

MACRO-ECONOMICS
Macroeconomics (from the Greek prefix makro- meaning "large" and economics) is a
branch of economics dealing with the performance, structure, behavior, and decisionmaking of an economy as a whole, rather than individual markets. This includes national,
regional, and global economies.
Macroeconomics is concerned primarily with the forecasting of national income, through
the analysis of major economic factors that show predictable patterns and trends, and of
their influence on one another. These factors include level of
employment/unemployment, gross domestic product (GDP), and prices (inflation),etc.

DEFINITION of 'Gross Domestic Product - GDP'

Gross domestic product (GDP) is the monetary value of all the finished goods and services
produced within a country's borders in a specific time period. Though GDP is usually calculated
on an annual basis, it can be calculated on a quarterly basis as well. GDP includes all private and
public consumption, government outlays, investments and exports minus imports that occur
within a defined territory. Put simply, GDP is a broad measurement of a nations overall
economic activity.

Gross domestic product can be calculated using the following formula:

GDP = C + G + I + NX
Where
C is equal to all private consumption, or consumer spending, in a nation's economy, G is the sum
of government spending, I is the sum of all the country's investment, including businesses capital
expenditures and NX is the nation's total net exports, calculated as total exports minus total
imports (NX = Exports - Imports).

UNEMPLOYMENT RATE
The unemployment rate is defined as the percentage of people willing to be employed at the
prevailing wage rate, yet unable to find job opportunities.
When the unemployment rate is high, work is not only hard to find, but also less rewarding as
people already holding jobs might find it difficult to get wage increases or promotions.
When unemployment rate is low, it is an indication of good economic performance. Thus,
keeping workers employed is always a chief concern of economic policymakers.

Inflation
Increase in the overall level of prices measured by the consumer price index. This index shows
how the value of money changes over time.
When the inflation rate is high, the real value of money erodes. People on fixed incomes, such as
pensioners who receive a fixed dollar payment each month, cannot keep up with the rising cost
of living.
When there is a sustained period of inflationary pressure, lenders and workers lose while
borrowers and employers benefit because many work and loan contracts in the economy are
specified in terms of money. Another cost of inflation is that it discourages saving.

International trade
Is the exchange of goods and services across international borders.
Because modern economies are highly interdependent, macroeconomists often study the impact
and desirability of free trade agreements.
They also study the causes and effects of trade imbalances, which occur when the quantity of
goods and services that a country sells abroad (its exports) differs significantly from the quantity
of goods and services its citizens buy from abroad (its imports).

Fiscal policy
In economics and political science, fiscal policy is the use of government revenue collection
(mainly taxes) and expenditure (spending) to influence the economy.
According to Keynesian economics, when the government changes the levels of taxation and
governments spending, it influences aggregate demand and the level of economic activity.
Fiscal policy can be used to stabilize the economy over the course of the business cycle.

Differences between micro and macro economics

Micro economics is concerned with:
Supply and demand in individual markets
Individual consumer behaviour. e.g. Consumer choice theory
Individual labour markets e.g. demand for labour, wage determination
Externalities arising from production and consumption.

 Macro economics is concerned with:

Monetary / fiscal policy. e.g. what effect does interest rates have on whole economy?
Reasons for inflation, and unemployment
Economic Growth
International trade and globalisation
Reasons for differences in living standards and economic growth between countries.
Government borrowing