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MICROECONOMICS (ECO 162)

INTRODUCTION TO MICROECONOMICS
4/18/12 Click to edit Master subtitle style

At the end of this lesson, students should be able to:

LEARNING OUTCOMES

the

i.

Define economics and distinguish between microeconomics and macroeconomics. Describe basic economic concepts: Scarcity, choices and opportunity cost. Explain the basic economic problems. Explain graphically concept using PPC. basic economics

ii.

iii.

iv.

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HISTORY ON DEFINITION OF ECONOMICS


i.

Economics is a science that studies human behavior as a relationship between ends and scarce means which have alternative uses L.Robbins (1894-1984) . Economics is a study of how people use their limited resources to try to fulfill their unlimited wants and involves alternative or choices K.E. Case and R.C. Fair. Economics is the science of how a particular society solves its economic problems Milton Friedman (1912) Economics is the study of mans actions in the ordinary business of life; it examines that part of individual and social action which is most closely connected with the attainment and with the use of the material requisites of well-being. Thus it is on one side a study of wealth and on the other and more important side, a part of the study of man - Alfred Marshall (1824-1924)

ii.

iii.

iv.

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DEFINITION OF ECONOMICS

Economics is a social science study which concern on how human being allocates the limited resources in order to fulfill the unlimited needs and demands. Economic can be subdivided into two branch; macroeconomic and microeconomic. Microeconomic analyzes the specific economic units in details such as households, firms and government. Macroeconomics, on the other hand, analyzes the aggregate behavior of the entire economy.

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MICROECONOMICS VS MACROECONOMICS
What shou e r ld I buy for lu dweo nch? ul c ho e ri S c Price of su gar du ar? o c increase! pr

GOVERNMENT

HOUSEHOLDS

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Build more hirts ice of s , hospitals or Pr e decreas y schools? I bu OPEN ECONOMICS should less? r more o pact of Im doing How does ional internat inflation trade. What is occurs? the unemp loymen t rate in t Wha d the Malays ia? nce flue t rate to in res inte crease? FIRMS de

ECONOMIC CONCEPTS

Three main economic concepts involves; Scarcity (land, labour, capital and enterprise) Occurs as human wants are always greater than the available resources. The most important concept in economics. If there is no scarcity, then there will be no economics study. Choice When scarcity exists, choices are to be made out of the available alternatives. Opportunity cost (Second Best-Forgone alternative)

i. .

ii. .

iii. .

The second-best alternative that has to be forgone for 4/18/12 another choice which gives more satisfaction.

ECONOMIC CONCEPTS

This economics concept is simple : Because the resources are scarce, therefore choices have to be made. Once choices are made, there will be an opportunity cost as the value of the next-best choice (alternative) available. What is the opportunity cost by choosing to study at university???

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THREE BASIC ECONOMIC PROBLEMS

What to produce? What kind of product/services are going to be produces. Depends on the type and quantity of goods and services needed by the countries How to produce? What resources are going to be used, what techniques are going to be used to produce. Depends on the cheapest method of production (Labor VS Machine). For whom to produce?

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PRODUCTION POSSIBILITIES CURVE (PPC)

Since with scarcity problem, no country in this world can produce unlimited numbers of goods. Therefore, an economy will produce goods depending on various combinations of factors of production. PPC shows the various possible combination of goods and services produced within a specified time period with given technology and resources. Assumptions to illustrate PPC includes;
i.
.

Full-employment
The economy is operating in full employment and full efficiency

ii.
.

Fixed resources

The amount of available economic resources or factor of production are fixed 4/18/12
iii.

Technology constant

PRODUCTION POSSIBILITIES CURVE


Foods (Million units) 150 A Y (Unattainable due to scarcity) C X (Attainable but inefficient: Lead to wastage/unemployment) ABCD: Attainable and Efficient points (Choices)

120

90 60

30 10 4/18/12 20

30 40 50 Figure(Million units) Possibilities 1.1 : Production


Curve

Clothes

PRODUCTION POSSIBILITIES CURVE


i.
.

Point inside the PPC (Point X)


These combinations of foods and clothes are attainable and can be produced. However, it shows the resources are not fully utilized and the production has not reached its maximum level.

ii.
.

Points Outside the PPC (Point Y)


This point which lies outside the PPC is unattainable due to limited resources Shows the concept of scarcity.

iii.
.

Points along the PPC (Point A, B, C and D)


Combination are attainable and efficient. Shows the second basic economic concept of choices.

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PRODUCTION POSSIBILITIES CURVE


iv.
.

Movement from one point to another point


Illustrate the third basic economic concept of opportunity cost. E.g. movement from point A to B Point A (100 X, 50 Y) to Point B (50 X, 75 Y) : In order for this country to produce an additional of 25 millions units of good Y, it has to forgone 50 millions units of good X.
Good Y

75

50

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50

100 Good X

PRODUCTION POSSIBILITIES CURVE


v.

Shifts of the PPC


Outward shift (Increase in output): Due to improvement in the new technology, increase in resources and technology, economy growth and increase in population. Inward Shift (Decrease in output) : Due to natural disaster, reduction in factors of production and

a)

b)

Corn

Corn

Corn

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PRODUCTION POSSIBILITIES CURVE


vi.
.

Shape of the PPC


The shape of PPC depends on the types of opportunity cost. Opportunity cost is calculated based on how much one good is forgone to obtain other good. Basically, there are three types of opportunity cost; Increasing opportunity cost Constant opportunity cost Decreasing opportunity cost.

i.

ii.

iii.

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Production Possibilities Curve: Increasing Opportunity Cost

Good Y

Increasing opportunity cost means that when a country produces more of one good, it has to forgone more amounts of another goods. Figure 1.2 shows that 1 unit increase in Good X from 1 to 2 units had to forgone 1 unit of Good Y . Additional unit of Good X from 2 to 3 units involves 2 units of Good Y . This is called increasing opportunity cost as more units of Good Y are forgone for additional unit of Good X. PPC is concave due to

6 5 4 2

Figure 1.2 : Increasing Opportunity Cost 4/18/12

Good X

PRODUCTION POSSIBILITIES CURVE: Constant Opportunity Cost


Good Y 6 A

Constant opportunity cost means that when a country produces more of one good, it has to forgone the same amounts of another goods. Figure 1.3 shows that same amount of Good Y is forgone for each additional unit of Good X. PPC is linear as the opportunity cost is constant.

D
Figure 1.3 : Constant Opportunity 4/18/12 Cost

Good X

PRODUCTION POSSIBILITIES CURVE: Decreasing Opportunity Cost Decreasing opportunity cost

Good Y 4 A

occurs when a country produces more of one good, it has to forgone lesser amounts of another goods. Figure 1.4 shows that 1 unit increase in Good X from point A to B involves two units of Good Y forgone. An additional increase of Good X from point B to C forgone 1 units of Good Y and number of Good Y forgone continues to decrease. This is called decreasing opportunity cost as lesser units of Goods Y are forgone for additional unit of Good X.

C D

1 2 3 Good X Figure 1.4 : Decreasing Opportunity 4/18/12


Cost

PRODUCTION POSSIBILITIES CURVE


i. ii.

Apr 2010 (Part B, Q 2) Apr 2006 (Part B, Q2)

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ECONOMIC SYSTEMS

Economic system is a way of organizing the relationship among individuals, firms and government to make choices on the basic economic questions. The three basic economic problems (what to produce, how to produce and for whom to produce) are solved depending on the economic system chosen by the society. Basically, there are four types of economic system which have been practiced, namely;
i.

Capitalist economy system Socialist economy system economy system

ii.

4/18/12 iii. Mixed

i.

CAPITALIST MARKET SYSTEM


A capitalism is an economic system where individuals without government intervention take all the main economic decision. Also known as market economy, free enterprise system and laissez-faire. This economy is characterized as economic freedom, where an individual can act at their own wishes without any control from the government. The example of countries practicing the capitalist economic system are the United States of America (USA), France, Canada, Japan, and Britain.

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CAPITALIST MARKET SYSTEM: CHARACTERISTICS


i.
.

Government intervention
There is no intervention by the government in the making of economic decisions. Government only exist as the law enforcer and set the rules and regulation to ensure the stability of economic condition of the country.

ii.
.

Private ownership of resources


Every individual in the country has a right to acquire resources. This enable individual to own resources as well as to establish any enterprise at their choices. They are free to trade, invest and organize to produce within the countrys legal framework.

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CAPITALIST MARKET SYSTEM: CHARACTERISTICS


iii.
.

Consumers sovereignty
Consumer is the king concept is practiced in this system. Consumers taste and preference will affect the production of goods and services.

iv.
.

Competition
Market economy also characterized as highly competitive among the producers to obtain the highest profit.

In order to attract more customers, producers will use various marketing strategies to sell their 4/18/12 products better.
.

v.
.

CAPITALIST MARKET SYSTEM: CHARACTERISTICS Price System


Price system is a system used to make economic decisions. In this system, price mechanism is practiced. It means that the price is determine according to the force of demand and supply and without any intervention. All economic processes of consumption, production, exchange, savings, investment and distribution will work according to this price mechanism and is labeled as invisible hand by Adam Smith.

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CAPITALIST MARKET SYSTEM: ADVANTAGES


i.

Production according to the needs of consumers


Producers are producing goods and services according to the tastes of consumers, which maximize the consumers needs and satisfaction.

ii.
.

Economic freedom
It means the right to earn and retain property as well as freedom of enterprises and choices of occupation.

Thus, it will lead to the sourcing of the countrys 4/18/12 manpower in different units of production.
.

CAPITALIST MARKET SYSTEM: ADVANTAGES


iv.
.

Varieties of consumer goods


Competition takes place in various aspects such as shape, colour, design and packaging of the products. Thus, consumer will enjoy a wide variety of the same product.

v.
.

Enhance trade, business and R&D


Entrepreneurs or producers will always look out for new innovations to compete with other producers to provide high quality goods.

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i.

CAPITALIST MARKET SYSTEM: DISADVANTAGES and Inequality of distribution of wealth


income
Since with no government intervention, the system of private property widens the gap between the rich and the poor. Thus, this will lead to unequal distribution of income among the societies.

ii.
.

Inflation and high unemployment rate


Disparity of demand and supply of labour occurs as it is governed by the invisible hand Unstable business fluctuation will cause high unemployment rate during the depression.

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iii.
.

CAPITALIST MARKET SYSTEM: DISADVANTAGES Lack of social welfare


In market economy, social welfare is ignored as the business entrepreneurs do not provide any pension, social security or accident benefits to their employees.

iv.

Unnecessary competition

variety

and

wasteful

Too much of competition will lead to unnecessary high cost of production.

This happen as some producers will highly advertised their products in order to attract 4/18/12 consumer due to stiff competition in this market
.

v.
.

CAPITALIST MARKET SYSTEM: DISADVANTAGES Misallocation of resources


In this system, producers objective is to maximize profit and therefore only produce outputs which give higher profits. This will lead to production of luxury goods (for rich people) and resulting surplus as well as lack of production for the poor people.

vi.
.

Social cost

Workers may face social cost (health problem) arising from the polluted environment caused by improper disposal of factory wastes since producers' intention is to increase the private 4/18/12

i.
.

HOW CAPITALIST MARKET SYSTEM SOLVE BASIC ECONOMIC What to produce? PROBLEM
In this economic system, production depends on the goods demanded by the consumer. An entrepreneur will only produce goods and services where there is demand from consumer in order to gain higher profit.

ii.
.

How to produce?
Depends on the techniques of production whether to use labor intensive, capital intensive or combination of both techniques.

Cheapest method of production will be adapted not only to maximize profit but also to achieve 4/18/12
.

ii.

SOCIALIST MARKET SYSTEM

Socialist market system is a centrally planned economy where government or central authority makes all economic decision. Any private individual has no right to make their own economic decisions. There will be no private property rights since all resources are owned by government. Also known as command economy and planned economy. There are only few countries which practice this economic system such as Russia, Cuba, Laos, Vietnam and North Korea. 4/18/12

SOCIALIST MARKET SYSTEM: CHARACTERISTICS


i.
.

Public ownership of resources


All resources are owned and operated by the state or the government in the interest of society as a whole. This is to ensure equal opportunity for all citizens regardless of their income. Central planning authority Central Planning Authority acts as government and responsible for making economic decision for the society.

ii. .

Government will plan and allocate the resources between current consumption and investment for 4/18/12
.

SOCIALIST MARKET SYSTEM: CHARACTERISTICS


iii.
.

Less importance of price mechanism


Market forces are less important in this economic system. Prices are fixed by the government and not determined by the forces of demand and supply. Private profits are not allowed and public interest is emphasized.

iv.
.

Central control and ownership


Government intervenes in all aspect of economic activities including production, consumption and distribution of goods and services.

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SOCIALIST MARKET SYSTEM: ADVANTAGES


i.

Production according to the basic of society


Government produced goods and services according to the societies basic needs such as foods, clothes and building material. Production is not by the purchasing power of rich society but more concern on the society as a whole.

ii.
.

Equal distribution of income


There will be no difference between rich and poor as this system provides equal opportunity for all citizens in earning income. is also equally distributed since private

. 4/18/12 Wealth

SOCIALIST MARKET SYSTEM: ADVANTAGES


iv.

No serious unemployment/recession or inflation


Since the economy is taken fully care by the government, there will be no serious economic problems as the governments main objectives is to maintain the stability of economic.

v.
.

Social welfare
Government will provide all citizens of the country full social security such as pensions, accident benefits and others.

With all concerns from government, labor 4/18/12 dispute and wastage of resources do not exist in
.

i.

SOCIALIST MARKET SYSTEM: DISADVANTAGES Lack of incentives and initiatives


individuals

by

There is absence of profit motive in individuals. Thus, this will lead to economic inefficiency since jobs are provided by the government and individuals are not motivated to work harder.

ii.

Loss of consumers

economic

freedom

of

There is no choice given to consumer and they accept whatever the public enterprise produce. Since with the limited number of private enterprises, there are limited variety of goods

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iii.
.

SOCIALIST MARKET SYSTEM: DISADVANTAGES Absence of competition


Since there are limited private enterprise exist in this market system, there will be less R&D activities occurs. Thus, quality of products will be low since there is no competition.

iv.
.

Waste of economic resources


Government might produce goods and services that are not required by the people such as military equipments.

This will lead to overproduction of certain goods 4/18/12 and underproduction of certain other goods.
.

i.

HOW SOCIALIST MARKET SYSTEM SOLVE BASIC ECONOMIC PROBLEM What to produce?
In this economic system, planning authorities decides what to produce. The Central Planning Authority will collect detailed statistics on the resources availability and fix up with national priorities.

ii.
.

How to produce?
The Central Planning Authority will also decides on what techniques to be used in the production of goods and services. The choice techniques. is between traditional or modern

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iii.

MIXED MARKET SYSTEM

Mixed market system is an economic system which has a mix of capitalist and socialist systems to solve basic economic problems. A mixed economy is where both public and private sectors play their roles in the economy. Most of the countries in the world practiced this type of economic systems. This includes Malaysia, Singapore, Thailand, Germany, South Africa and many others. 4/18/12

MIXED MARKET SYSTEM: CHARACTERISTICS


i.

Public and resources

private

ownership

of

Private enterprise conduct business freely. The government encourages private sectors by providing infrastructure and facilities. Price mechanism and economic plan used to make economic decisions. Price mechanism is used on pricing of goods and services. However, government will intervene in setting up prices on certain commodities. This includes sugar, oil, rice where government

ii.

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.

MIXED MARKET SYSTEM: CHARACTERISTICS


iii.
.

Government intervention
Government will not intervene in the economy except for particular industries. Government uses the legislation for unsafe goods, categorized as illegal products such as military items, drugs, etc. Government also uses direct provision such as education, defense and health to increase standard of living.

Besides, government also control the income disparity through income taxes and welfare payment. 4/18/12
.

MIXED MARKET SYSTEM: ADVANTAGES


i.
.

More stable economics


Since there is a lot of government intervention, the economic will be more organized. Thus, economic condition will be more stable.

ii.
.

Lower social cost


Externalities such air, noise and water pollution will be lower due to government intervention. Thus, social cost will be lower as government enact laws to ensure production methods used caused least harm to the environment.

iii.

Narrow gap between rich and poor


Government intervention through imposing

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MIXED MARKET SYSTEM: ADVANTAGES


iv.
.

Social welfare
The government will provides public goods at an affordable price in order to enable lower income earners to benefit the public goods as well. Government will ensure that public and private enterprise provide all citizens of the country full social security such as pensions, accident benefits and others.

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i.
.

HOW MIXED MARKET SYSTEM SOLVE BASIC ECONOMIC PROBLEM What to produce?
In this economic system, what to produce decided by the public and private sectors. The goods and services produced depends on the consideration of social welfare as well as economic growth.

ii.
.

How to produce?
The private sector will choose the most efficient and cost-effective techniques of production (labor intensive vs. capital intensive) while government will enact laws to combat inefficiencies arising from externalities.

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iii.

For whom to produce?

iv.

ISLAMIC MARKET SYSTEM

Economic activities in Islam are not seen from the materialistic aspect only but also the spiritual aspect in this world and the life hereafter. The only objective of the Islamic Economic System is to achieve Al-Falah, which means success in ones life in the world and also the life hereafter. The basic philosophical foundation in the Islamic Economic System includes;
a)

Tauhid Rububiyyah Tazkiyyah

b)

c)

d) Khalifah 4/18/12

ISLAMIC MARKET SYSTEM: PHILOSOPHICAL


a)
)

The concept of Tauhid


The concept of believing that in Islam there is only one God to be worshipped which is Allah SWT. The belief of Tauhid is divided into two, namely; The relationship between man and Allah SWT (Habluminallah) The relationship among mankind (Habluminannas)

i.

ii.

b)
)

The concept of Rububiyyah


The concept of believing that Allah SWT alone is the creator and the most powerful. He also gives bounties and organizes mans economies activities for genuine interest to

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ISLAMIC MARKET SYSTEM: PHILOSOPHICAL


c)
)

The concept of Tazkiyyah


The concept of purification of man. Islam believes that before one indulges in any economic activities, he must mould pure and good soul. For example, one can purify his wealth by giving out tithe (Zakat) and donating (Sedekah) to the poor. When the wealth of the rich reaches a certain stated amount, it must be levied with zakat, which aims to help the poor.

d.

The concept of khalifah


concept of vicegerent that man is the servant of

. The 4/18/12

ISLAMIC MARKET SYSTEM: PHILOSOPHICAL


e)
)

The concept of Ukhuwwah


The concept of brotherhood in Islam. Islam believes that all men are brothers and they must love and respect each other and be responsible. Those who are willing to sacrifice for their brothers show the sign of faith. Oppression, extortion and miserliness do not exist in the Islamic Economic System.

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i.
.

HOW ISLAMIC MARKET SYSTEM SOLVE BASIC ECONOMIC PROBLEM What to produce?
In this economic system, what to produce are decided through the principles of Syariah as been stated in Al-Quran and As- sunnah. The goods and services produced must be permissible (halal) and in accordance with the classification of goods in Islam.

ii.
.

How to produce?
The producer will choose the most efficient and cost effective methods of production. (labor vs. capital intensive)

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iii.

For whom to produce?

END OF CHAPTER 1
Click to edit Master subtitle style

THANK YOU

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