Summary & Notes
- What are the two basic economic problems faced by the society?
The allocation of the limited resources and the distribution of the final mix of goods and services are two of the basic economic problems faced by the society.
- What are the basic economic activities?
Production, expenditure and consumption of goods and services are among the basic economic activities.
- Define Production Possibility Set.
The collection of all possible combinations of the goods and services that can be produced from a given amount of resources and a given stock of technological knowledge is called the Production Possibility Set of the economy.
- What is known as the Opportunity Cost?
The Opportunity cost of a good is the value of the next best alternative good forgone for it. For eg: to produce 3 units more of jute 1 unit of rice is sacrificed. Therefore the price of the 3 units of the price is equal to the price of 1 unit of rice and not jutes market price. Opportunity cost is also called the economic cost.
- Define Market in economic term.
A market, as studied in economics, is an institution which organises the free interaction of individuals pursuing their respective economic activities. In other words, a market is a set of arrangements where economic agents, sellers and buyers, can freely exchange their endowments or products with each other.
- What are the causes of economic problems or what leads to the basic economic problems?
- Human wants are unlimited – In comparison to the limited resources human wants are unlimited. When one want is fulfilled another will come in its place. And it goes on.
- Scarcity of resources – human wants are unlimited. To satisfy the wants the resources are limited. Therefore the most important wants should be satisfied first.
- Resources have alternative uses – The scarce resources of the society have to be allocated properly in the production of different goods and services in keeping with the likes and dislikes of the people of the society. For eg: Milk. It can be used for making Tea, Coffee, Ghee, Curd or direct consumption. With the limited amount of milk one cannot make all these. There for the most important use of milk would be considered for consumption.
- Discuss the central problems of an economy.
The basic economic problems are discussed under the heading of allocation of resources. It includes:
- What to produce and how much of each – Every society must decide on how much of each of the many possible goods and services it will produce. Whether to produce more of food, clothing, housing or to have more of luxury goods. Whether to have more agricultural goods or to have industrial products and services, etc.
- How to produce – The next step is to decide what technique is to be adopted in the production of goods. Whether to use more labour or more machines. Which of the available technologies to adopt in the production of each of the goods?
- For whom to produce- Once the economy decides what commodities, how much of each and how to produce the next step is to decide to whom it has to be produced. Who gets more and who gets less? Whether or not to ensure a minimum amount of consumption for everyone in the economy.
Thus the allocation of scarce resources and the distribution of the final goods and services are the central problems of any economy.
- Distinguish between a centrally planned economy and a market
- In a centrally planned economy, the government or the central authority plans all the important activities in the economy. All important decisions regarding production, exchange and consumption of goods and services are made by the government. The central authority may try to achieve a particular allocation of resources and a consequent distribution of the final combination of goods and services which is thought to be desirable for society as a whole. In a different context, if some people in the economy get little share of the final mix of goods and services produced in the economy for their survival, then the central authority, government, may intervene and try to achieve an equitable distribution of the final mix of goods and services.
- While, in market economy, all economic activities are organised through the market. In a market economic system, all goods or services come with a mutually agreed price by the buyer and the seller at which the exchanges take place. The price reflects, on an average, the society’s valuation of the good or service in consideration. If the buyers demand more of a certain good, its price will rise. This will send a signal to the producer to increase their production. In this way, prices of goods and services send important information to all the individuals across the market and help achieve coordination in a market system. Thus, in a market system, the central problems regarding how much and what to produce are solved through the coordination of economic activities brought about by the price signals.
- Distinguish between microeconomics and macroeconomics.
Traditionally, the subject matter of economics has been studied under two broad branches: Microeconomics and Macroeconomics. In micro Economics we study the behaviour of individual economic agents in the markets for different goods and services. Secondly how prices and quantities of goods and services are determined through the interaction of individuals in these markets. In micro economics we study how individual markets function. In macroeconomics we try to get an understanding of the economy as a whole by focusing our attention on aggregate measures such as total output, employment and aggregate price level. Here, we are find out how the levels of these aggregate measures are determined and how the levels of these aggregate measures change over time. Some of the important questions that are studied in macroeconomics are as follows:
- What is the level of total output in the economy?
- How is the total output determined?
- How does the total output grow over time?
- Are the resources of the economy (eg labour) fully employed?, etc.
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Questions & Answers
What do you mean by the production possibilities of an economy?
Allocation of the scarce resource of the economy gives rise to a particular combination of different goods and services that has to be produced. Given the total amount of resources, it is possible to allocate the resources in many different ways and, thereby achieving different combination of all possible goods and services. The collection of all possible combinations of the goods and services that can be produced from a given amount of resources and a given stock of technological knowledge is called the production possibilities of an economy.
What do you understand by positive economic analysis?
There are more than one ways of solving the central problems of an economy. These different mechanisms in general are likely to give rise to different solutions to those problems, thereby solving these economic problems. Therefore, it is important to understand which of these alternative mechanisms is more desirable for the economy as a whole. In positive economic analysis we study how the different mechanisms function.
What do you understand by normative economic analysis?
There are more than one ways of solving the central problems of an economy. These different mechanisms in general are likely to give rise to different solutions to those problems, thereby solving these economic problems. In economics, we try to analyse the different mechanisms and figure out the outcomes which are likely to result under each of these mechanisms. In normative economics, we try to understand whether these mechanisms are desirable or not.
Discuss the subject matter of economics.
The subject matter of economics has been studied under two broad branches: Microeconomics and Macroeconomics. In microeconomics, we study the behaviour of individual economic agents in the markets for different goods and services and try to figure out how prices and quantities of goods and services are determined. In macroeconomics, on the other hand, we try to get an understanding of the economy as a whole by focusing our attention on aggregate measures such as total output, employment and aggregate price level.