Week 001 Module Introduction to Economics PDF

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This course deals with the basic principles of applied economics, and its application to contemporary economic issues facing the Filipino entrepreneur such as prices of commodities, minimum wage, rent, and taxes. It covers an analysis of industries for identification of potential business opportunit...

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Lesson 1.1 Introduction to Economics

Learning Objectives: At the end of the lesson the learners will be able to: a. Define Economics as a social science b. Apply the concept of opportunity cost when evaluating options and making economic decisions; c. Make decisions based on how man can satisfy most of his wants given limited resources; d. Differentiate macroeconomics and microeconomics; e. Describe and state the importance of economic resources; f. Analyze basic economic problems and propose solutions to the problems using the principles of applied economics; and g. Describe the various economic systems

Everybody goes through a day faced with constraints or limitations: motorists complain of high gasoline prices, times when people suffer due to shortage of chicken in the market, or insufficient allowance for a student who needs to buy books and school supplies. People always complain about not having enough- not enough food on the table, not enough money to pay one’s debts, or not income to meet all the family’s needs. This, in effect, is the existence of what we call scarcity, that is, insufficiency of resources to meet the wants of consumers and insufficiency of resources for producers that hamper enough production of goods and services. The resources that we value- time, money, labor, tools, land, and raw materials-exist in limited supply. There are simply never enough resources to meet all our needs and desires. Every society, at every level, must make choices about how to use its resources. Families must decide whether to spend their money on a new car or a fancy vacation. Towns must choose whether to put more of the budget into police and fire protection or into the school system. Nations must decide whether to devote more funds to national defense or to protecting the environment. In most cases, there just isn’t enough money in the budget to do everything.

Economics helps us understand the decisions that individuals, families, businesses, or societies make, given the fact that there are never enough resources to address all needs and desires. Economics, as a study is the social science that involves the use of scarce resources to satisfy unlimited wants. Part of human behavior is the tendency of man to want to have as many goods and services as he can. However, his ability to buy goods and services is limited by his income and purchasing power. It is therefore in this context that man has to practice economics. Well-known economist Alfred Marshall described economics as a study of mankind in the ordinary business of life. It examines part of the individual and social action that is most closely connected with the attainment and use of material requisites of well-being. Scarcity is a condition where there are insufficient resources to satisfy needs and wants of a population. It is the result of people having "Unlimited Wants and Needs," or always wanting something new, and having "Limited Resources." Limited Resources means that there are never enough resources, or materials, to satisfy, or fulfill, the wants and needs that every person have. Scarcity may be Relative or Absolute. Absolute scarcity: First, it may be that there are simply insufficient quantities of a resource to meet human needs or wants. We call this absolute scarcity. No matter how much we look or try to find additional sources, there are none to be had. Lack of food leads to starvation, lack of water leads to drought, thirst, and crop failure – and starvation. There simply is no food or water to be had, at least in that particular area. Relative scarcity: Second, there may be physical quantities of a resource present but scarcity exists because of problems about supply or distribution. Meeting the demand for that resource might mean exploiting lower quality resources. For example, food production may require cultivating lands that are poorly suited to farming, such as on steep slopes or in very arid areas, requiring a greater effort (more labor) and other inputs (chemical fertilizers, irrigation) in order to meet the demand. Another example concerns the exploitation of fossil fuels. When the most accessible and best quality fuels are fully exploited (e.g., sweet crude from the Middle East or other areas) we may turn to lower quality fuels (tar sands) to meet our needs. CHOICE AND DECISION-MAKING The process of making a choice is not always easy. Because resources are scarce, consumers need to make wise choices. One must know to identify the problem and then analyze the alternatives. There are alternatives and costs to everything we do. Because economist studies how people satisfy unlimited wants with the use of scarce resources, they are also concerned with strategies that will help us make the best choices. Every time a choice is made something is given up. The world of economics is complex and the road ahead is bumpy. Studying and understanding economics is vital to our understanding of how the world works. Economic decisions are those decisions in which people (or families or countries) have to choose what to do in a condition of scarcity. Scarcity occurs because people have unlimited wants but only have limited resources with which to fulfil these wants. This means that people have to make economic decisions because they want more things than they can actually get. Therefore, they have to choose between various options.

An individual person has to make economic decisions. You might have to decide which pair of jeans to buy, or how many pairs of jeans to buy as opposed to how many shirts. You may have to decide whether you will go to a university or whether you will go straight into the labor force. You may have to decide whether you should buy the newest mobile phone or keep your old one a while longer. Families have to make essentially the same kinds of decisions. A family might have to decide how many pants and shirts their children need. They might have to decide how often (if at all) they can go on vacation. If they decide they can go on vacation, they will have to decide where they want to go and how much they want to spend on souvenirs while they are there. They may have to decide what car they can afford and when to replace it with a new one. Countries have to make bigger decisions. They have to decide what level of taxation they will impose on various types of economic activities. They have to decide how much they will spend on their military as opposed to domestic programs. They may have to decide what economic activities they want to subsidize. All of these are decisions that have to be made because people (as individuals or as groups of people) want many more things than they can have and therefore must choose between various alternatives. Opportunity Cost refers to the cost of the next best alternative use of money, time, or resources when one choice is made rather than another. For example, you spend your money on ten new CDs, instead of saving the money for a new car. The cost of the CDs is not just the price of them, but also the car you could have had. Individuals, businesses, and government agencies try to satisfy their needs and wants by allocating scarce resources. A good decision maker knows how to identify the problem, analyze alternatives, and make a good choice on how to allocate resources. ECONOMIC RESOURCES Economic Resources, also known as Factors of production, are the resources people use to produce goods and services; they are the building blocks of the economy. Economists divide the factors of production into four categories: land, labor, capital, and entrepreneurship. The first factor of production is land, but this includes any natural resource used to produce goods and services. This includes not just land, but anything that comes from the land. Some common land or natural resources are water, oil, copper, natural gas, coal, and forests. Land resources are the raw materials in the production process. These resources can be renewable, such as forests, or non renewable such as oil or natural gas. The income that resource owners earn in return for land resources is called rent. The second factor of production is labor. Labor is the effort that people contribute to the production of goods and services. Labor resources include the work done by the waiter who brings your food at a local restaurant as well as the engineer who designed the bus that transports you to school. It includes an artist's creation of a painting as well as the work of the pilot flying the airplane overhead. If you have ever been paid for a job, you have contributed labor resources to the production of goods or services. The income earned by labor resources is called wages and is the largest source of income for most people.

The third factor of production is capital. Think of capital as the machinery, tools and buildings humans use to produce goods and services. Some common examples of capital include hammers, forklifts, conveyer belts, computers, and delivery vans. Capital differs based on the worker and the type of work being done. For example, a doctor may use a stethoscope and an examination room to provide medical services. Your teacher may use textbooks, desks, and a whiteboard to produce education services. The income earned by owners of capital resources is interest. The fourth factor of production is entrepreneurship. An entrepreneur is a person who combines the other factors of production - land, labor, and capital - to earn a profit. The most successful entrepreneurs are innovators who find new ways produce goods and services or who develop new goods and services to bring to market. Without the entrepreneur combining land, labor, and capital in new ways, many of the innovations we see around us would not exist. Think of the entrepreneurship of Henry Ford or Bill Gates. Entrepreneurs are a vital engine of economic growth helping to build some of the largest firms in the world as well as some of the small businesses in your neighborhood. Entrepreneurs thrive in economies where they have the freedom to start businesses and buy resources freely. The payment to entrepreneurship is profit. Remember, goods and services are scarce because the factors of production used to produce them are scarce. In case you have forgotten, scarcity is described as limited quantities of resources to meet unlimited wants. Consider a pair of denim blue jeans. The denim is made of cotton, grown on the land. The land and water used to grow the cotton is limited and could have been used to grow a variety of different crops. The workers who cut and sewed the denim in the factory are limited labor resources who could have been producing other goods or services in the economy. The machines and the factory used to produce the jeans are limited capital resources that could have been used to produce other goods. This scarcity of resources means that producing some goods and services leaves other goods and services unproduced. ECONOMICS AS A SOCIAL SCIENCE Economics is regarded as a social science because it uses scientific methods to build theories that can help explain the behavior of individuals, groups and organizations. Economics attempts to explain economic behavior, which arises when scarce resources are exchanged. A social science is, broadly speaking, the study of society and how people behave and influence the world around them. As a social science, economics studies how individuals make choices in allocating scarce resources to satisfy their unlimited wants. MACROECONOMICS AND MICROECONOMICS Economics is concerned with the well-being of all people, including those with jobs and those without jobs, as well as those with high incomes and those with low incomes. Economics acknowledges that production of useful goods and services can create problems of environmental pollution. It explores the question of how investing in education helps to develop workers’ skills. It probes questions like how to tell when big businesses or big labor unions are operating in a way that benefits society as a whole and when they are operating in a way that benefits their owners or members at the expense of others. It looks at how government spending, taxes, and regulations affect decisions about production and consumption.

It should be clear by now that economics covers a lot of ground. That ground can be divided into two parts: Microeconomics focuses on the actions of individual agents within the economy, like households, workers, and businesses; Macroeconomics looks at the economy as a whole. It focuses on broad issues such as growth of production, the number of unemployed people, the inflationary increase in prices, government deficits, and levels of exports and imports. Microeconomics and macroeconomics are not separate subjects, but rather complementary perspectives on the overall subject of the economy. In economics, the micro decisions of individual businesses are influenced by whether the macroeconomy is healthy; for example, firms will be more likely to hire workers if the overall economy is growing. In turn, the performance of the macro-economy ultimately depends on the microeconomic decisions made by individual households and businesses. Microeconomics and macroeconomics are two different perspectives on the economy. The microeconomic perspective focuses on parts of the economy: individuals, firms, and industries. The macroeconomic perspective looks at the economy as a whole, focusing on goals like growth in the standard of living, unemployment, and inflation. Macroeconomics has two types of policies for pursuing these goals: Monetary Policy refers to the policy that involves altering the level of interest rates, the availability of credit in the economy, and the extent of borrowing. Fiscal policy is the economic policies that involve government spending and taxes.

BASIC ECONOMIC PROBLEMS OF SOCIETY If there is a central economic problem that is present across all countries, without any exception, then it is the problem of scarcity. This problem arises because the resources of all types are limited and have alternative uses. If the resources were unlimited or if a resource only had one single use, then the economic problem would probably not arise. However, be it natural productive resources or man-made capital/consumer goods or money or time, scarcity of resources is the central problem. This central problem gives rise to four basic problems of an economy. These are the following:

1. What to Produce? What does a society do when the resources are limited? It decides which goods/service it wants to produce. Further, it also determines the quantity required. For example, should we produce more guns or more butter? Do we opt for capital goods like machines, equipment, etc. or consumer goods like cell phones, etc.? While it sounds elementary, society must decide the type and quantity of every single good/service to be produced. 2. How to Produce? The production of a good is possible by various methods. For example, you can produce cotton cloth using handlooms, power looms or automatic looms. While handlooms require more labour, automatic looms need higher power and capital investment.

Hence, society must choose between the techniques to produce the commodity. Similarly, for all goods and/or services, similar decisions are necessary. Further, the choice depends on the availability of different factors of production and their prices. Usually, a society opts for a technique that optimally utilizes its available resources.

3. For whom to Produce? Think about it – can a society satisfy each and every human wants? Certainly not. Therefore, it has to decide on who gets what share of the total output of goods and services produced. In other words, society decides on the distribution of the goods and services among the members of society. 4. What provision should be made for economic growth? Can a society use all its resources for current consumption? Yes, it can. However, it is not likely to do so. The reason is simple. If a society uses all its resources for current consumption, then its production capacity would never increase. Therefore, the standard of living and the income of a member of the society will remain constant. Subsequently, in the future, the standard of living will decline. Hence, society must decide on the part of the resources that it wants to save for future progress.

ECONOMIC SYSTEMS An economic system is an organized way in which a country allocates resources and distributes goods and services across the whole nation or a given geographic area. It includes the combination of several institutions, entities, agencies, decision-making processes and patterns of consumption that make up the economic structure of a specific community. Hence it is a type of social system. An economic system defines how all the entities in an economy interact. Defining them today is much more complicated than it used to be. Ancient systems were relatively simple –trade was carried out using barter and there were very few treaties and rules of engagement. In this world there are three main types of economic systems. Governments and their leaders claim to have their own peculiar systems, but they are all basically mixed economies. Economic systems can be basically classed into three categories. 1. Market Economy: Prices are determined by levels of supply and demand, instead of central and or local government. Market forces determine what is produced, how much is produced, how it is distributed, plus the prices of goods and services. All decisions regarding investment and salaries are also driven by market forces in a market economy. In a market economy, the government plays a minor role and only lays down the rules so that businesses can thrive. An outdated word for this type of economy is Capitalism. 2. Planned Economy: all decisions regarding production, distribution, salaries, investment and prices are made by a central authority – usually the government. The closest examples to this type of economy today are North Korea and Cuba (to a lesser extent). In a planned economy, also known as a centralized economy, controlled economy or command economy, central government has planners who make all the decisions. According to economists, the most fundamental difference between a market and planned economy is the existence of private property, i.e. it exists in the free market and does not in the command economy.

3. Mixed Economy: Market economies sometimes get into trouble, at which point the government feels compelled to intervene. Sometimes, when lawmakers believe some players are being exploited unfairly, or the level playing field for business is under threat, the government may become involved. Similarly, the leaders of a command economy may decide that more investment is required, and the only way to accomplish this is by allowing more freedom. The moment the government of a command economy loosens its grip, or that of a market economy begins to intervene, they integrate some aspects of the other. When this occurs, the result is a kind of hybrid system – a mixed economy.

WHY ECONOMICS IS IMPORTANT? You may have asked yourself, “What is the importance of economics?” and “What's the meaning of the economy?” In a nutshell, an economy refers to a region or country’s resources and wealth, especially as it pertains to producing and consuming goods and services. Economics is important because it helps people understand how a variety of factors work with and against each other to control how resources such as labor and capital get used, and how inflation, supply, demand, interest rates and other factors determine how much you pay for goods and services.

SCIENTIFIC APPROACH IN THE EMPIRICAL TESTING OF AN ECONOMIC THEORY Economics is a study that attempts to explain how an economy operates and how the consumer attempts to maximize his/her wants within limited means. Using tools such as logic, mathematics, and statistics, the student needs to approach the empirical testing of an economic theory in a scientific manner. This scientific approach involves the following steps: 1. State the propositions or conditions that are taken as given an do not need further investigation, as t...