CHAPTER-I

INTRODUCTION TO ECONOMICS
Introduction:
The term Economics is originally derived from the ancient Greek Word Oiks which means household and Nemein which means management. Thus, it refers to managing of a household using the limited funds. The Greeks then applied this term to the city-state, which they called polis. Many experts have defined economics in a number of ways; however, all the definitions given by experts are classified into four categories.

A. B. C. D.

Adam Smiths wealth definition Marshalls welfare definition Lionel Robbinss scarcity definition Samuelsons growth-oriented definition

A. Wealth Definition: The classical economists like Adam Smith, J.S. Mill, Ricardo, Senior and others were the first to give a systematic definition of economics. Among them the prominent definition was given by Adam Smith, father of political economy in the year 1776 in his famous book An enquiry into the Nature and Causes of Wealth of Nations defined economics as The science of wealth This means that economics studies about wealth. It examines how people earn wealth and spend wealth. Senior opined that, the subject treated by political economy is not happiness but wealth. According to J.S. Mill, Economics or political economy is the practical science of production and distribution of wealth in the economy. According to J.B, Say, Political Economy makes known the nature of wealth Characteristics and implications: 1. Study of wealth: According to wealth definition, economics is the study of wealth only. It is the practical science of the production and distribution of wealth. Thus, the subject matter of economics is production and expansion of wealth. 2. Concept of wealth: Adam smith, J.B. say and others defined wealth as material commodities such as land and buildings, gold, silver and whole of production of goods that can be consumed. 3. Causes of wealth: Economics is considered as study of causes of wealth accumulation which brings economic development. Wealth can be created by increasing the production of material commodities. 4. Based on Economic liberty and free trade: Wealth definition is based on laissez faire in trade and industry; it implies that there is no state intervention in trade and commerce in the country. 5. Highlights the economic man: Wealth definition view human beings as the economic man who is always aware of his self-interest. Self interest leads to material gains. Economic man gives primary importance to wealth and secondary importance to other motives.
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6. Treats Economics as a science: Wealth definition considered economics a science of creation and expansion of wealth. Merits: 1. Highlights creation and expansion of wealth: Wealth definition highlights the most basic issue of creation, accumulation and expansion of wealth encountered by every economy. 2. Wealth as solution to economic problems: Problems of economy such as poverty, unemployment etc can be solved only with the help of money or wealth. So, wealth is the basis for economic development and prosperity. 3. Separates Economics from politics: Adam smith separated economics from politics and gave a separate and distinct identity to economics. 4. Examines the causes of wealth: This definition seeks to examine the causes which lead to increase in wealth in the economy. Demerits: 1) Narrow definition of wealth: Wealth definition fully ignored the non-material items such as services of doctors, Engineers, chartered Accountants etc., which are important source of wealth in the present situation. 2) Ignores human social welfare: Wealth definition ignored the ultimate objective of Economics which is the promotion of human and social welfare. Wealth is not an end in itself it is only a means to attain the ends. i.e. human and social welfare. 3) A dismal and mean science: Many economists described wealth definition as a dismal science because undue and excessive emphasis on wealth creates unrest and disharmony in the society. Human beings tend to become highly selfish and self-centered by giving primary importance to wealth. 4) Ignored Scarcity of resources: Wealth definition ignored the scarcity of material and non-material resources in the economy which makes attainment of objective of economics even if wealth is abundantly available. B. Welfare Definition: Dr. Marshall, in 1890 in his book, principles of Economics, defined Economics thus: Economics is a study of mankind in the ordinary business of life, it examines that part of individual and social action which is most closely connected with the attainment and the use of material requisites of well-being. Thus, it is on one side a study of wealth; on the other and more important side a part of the study of man.

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According to A.C. Pigou, The range of our inquiry becomes restricted to that part of social welfare that can be brought directly or indirectly into relation with the measuring rod of money. Characteristics and implications: 1. Study of mankind: According to Marshall, economics is the study of mankind rather than of wealth. He gave prominent place to human being and secondary place to wealth. He emphasized the importance of human being because wealth was for human being human being was not for wealth. 2. Study of ordinary man: Economics is the study of economic aspects of life of human begins. It is a study of how human beings earn and spend their income to get maximum satisfaction. Thus, it is a study of economic activities only and not concerned with social, religious activities of human beings. The fulfillment of economic needs is a very important business which every human being ordinarily does. 3. Studies human welfare: Economics studies the economic or material human welfare. It explores the material means which promote human welfare. Due to this reason this definition is also known as welfare definition of economics. 4. Wealth is only a means: In Marshalls definition, wealth is given secondary place and importance, it is not considered as an end in itself but as a means to welfare as a source of the betterment of the human life. Wealth leads to material welfare of human beings and society. 5. Study of social man: Economics studies a real or social man who possesses several qualities and is influenced by economic and non-economic factors in society. His or her decisions are in the interest of self and society which leads to social welfare. 6. Study of science and Art: This definition by merging human beings and social welfare with wealth makes economics a social and normative science. So According to Marshall, economics is both science as well as an art. 7. Money as a measuring rod: Marshall believed that welfare can be measured with the help of money. Money is general measure of income by use of which economics can be explained. Merits: 1. Primary place to human welfare: Welfare definition completes Adam Smiths wealth definition by adding human being and welfare to wealth as the subject matter of economics. 2. Proper explanation of relationship between welfare and wealth: Marshall defines economics as a noble science. He explained how wealth is a means to achieve the objective of Economics, The human welfare. Prior to Marshall Economics was a dismal science hated by many. 3. Made economics Meaningful:
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Introduction to Economics.

Marshall made economics not only a science but also a social and normative science by doing so he made economics a life giving discipline. As a social and normative science economics became the basis for human welfare and social development. 4. Made economics a fruit bearing science: Welfare definition clearly classifies economic activities into two parts as material and non-material welfare. It gives importance to material welfare which in turn leads to prosperity in the society. Non-material welfare is excluded from the scope of economics. Demerits: 1. Ignores immaterial things: Marshalls definition includes only material things and completely ignores immaterial things used in promotion of human welfare. The services of teachers, lawyers, doctors, chartered Accountants, Architects etc are non-material goods which have been excluded by Marshall in his welfare definition. 2. Concept of welfare is vague: According to Robbins, the concept of welfare is not fixed and definite one, if differs in different countries and at different times. Welfare is a subjective thing and it varies from person to person. Therefore, it cannot be said in objective terms which things would promote welfare and which will not. In addition to this, economics included many economic activities which are generally thought to be harmful to human welfare but cannot be ignored due to their effect on economic conditions in the economy. 3. Welfare cannot be quantitatively measured: The critics point out that welfare cannot be quantitatively measured. Even if money price is used as an instrument for measurement of welfare, it is only a rough and not a satisfactory measurer of welfare. When two persons pay the same price for a commodity, it would not mean that both are getting an equal amount of utility or welfare. Utility or welfare is a subjective phenomenon and differs from person to person and measurement is not possible. 4. Limits the scope of economics: Marshall assumes economics as a social science rather than human science. A social science studies the activities of those individuals who are members of society, while human science studies all human beings, whether they live in an organized community or live outside society. Marshall narrowed the subject matter of economics to the study of persons living in ht society. Broadly speaking the fundamental laws of economics apply to all human beings and therefore economics should be treated as human science and not just a social science which limits its scope. 5. Ignored the problem of scarcity: Welfare definition does not emphasize the importance of scarcity of resources that causes economic problem.

C. Scarcity Definition:
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According to Robbins Economics is a science which studies human behaviour as a relationship between ends and scarce means which have alternatives uses. In the words of Stonier and Hague, Economics is fundamentally a study of scarcity and the problems which of scarcity give rise to. According to Scitovosky, Economics is a science concerned with the administration of scarce resources. Characteristics and implication: 1. Unlimited wants: The fundamental fact on which Robbins definition is based is that human wants are unlimited. In the definition Ends implies human wants. Human wants provide the motives for all the human activities. Human wants are unlimited is a very important and fundamental fact of economic life of people. It can be observed in the real life of the people that there is no limit to their wants, when one want gets satisfied, another want crops up, and it is an unending process. All human wants are not of equal intensity some are more intense than others. It is because of difference in intensities people are able to allocate the resources to satisfy different types of wants. 2. Scarcity of means or resources: The second important fact in scarcity definition is that resources are scarce in relation to unlimited human wants. Thus, scarcity is a relative concept and it should be understood in relation to demand, a commodity may be available in small quantity but if nobody demands it, then it is not scarce. Means or resources refer to goods and services which people use to satisfy their wants. They include both material and Man-made goods such as oil, minerals, iron-ore, capital goods, consumer goods, money, time, and ideas etc which are at our disposal. Scarcity of means is the basis for all economic problems. 3. Alternative uses of Means: The third important fact on which Robbinss Scarcity definition is based is that resources or means have various alternative uses. i.e. the resources can be put to various uses. For example, land which is scarce can be used for cultivation, house construction, playground etc. Thus, in practical life the goods can be put to alternative uses of varying importance. 4. Explains clearly the economic problem: Robbins explains clearly the cause of economic problem. According to him, the multiplicity of wants, the scarcity of means and application of scarce resources or means for the alternative uses impose an economic problem. The problem is how to satisfy the unlimited wants with limited means which have alternative uses. Robbins describes this problem as the problem of economizing scarce resources. In other words, it is the choice of making an economic activity. Thus, economics is a study of economic problem and means of solving the economic problem. 5. Economics studies science of choice: According to Robbins, economics is a science of choice. The problem of economizing resources leads to another problem i.e. the problem of choice. Since wants are numbers and resources are scarce, we have to choose the most urgent wants from the numerous wants and satisfy them first with scarce resources other wants can be satisfied later. Thus economics deals with how the resources of society should be allocated or chosen for the satisfaction of different wants. 6. Economics is natural between ends:
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Introduction to Economics.

According to Robbins, economics should study all the goods and services which can satisfy the wants, whether the goods and services are favourable to human welfare or not. Robbins emphasized that economics does not deal with the question as to what ends should be achieved, i.e. what wants should be satisfied and what not because in this regard human beings themselves have to decide. Economics itself does not make a choice. It only tells in what ways the given ends or wants can be achieved with the minimum possible resources. What ends or wants should be selected by human beings for satisfaction is not the concern of a economists. Whether the wants chosen by human beings are good or bad, moral or immoral, economics should study them, because the task of economics is not to praise or condemn but only to analyze and explain. To decide about the desirability or otherwise of a thing is beyond the scope of economics. Merits: 1. Scientific presentation of economics: Marshall explains one kind of behaviour as distinct from another in economics, so his definition is criticized as unscientific. But the scarcity definition analyzing human behavior explains any behavior under one aspect. In this way, this definition is scientific. 2. Widens the scope of economics: Marshall in his definition limits the scope of economics to the material means of welfare. But Robbins on the other hand by studying any behavior connected with the problem of scarcity widens the scope of economics from the boundaries of material welfare. 3. Universal in nature: Scarcity definition is more precise and comprehensive and is considered universal. It is applicable to all individuals, groups and society. Moreover, it deals with the problem of unlimited wants and scarce means. This problem is common everywhere. 4. Makes economics clear and definite: According to Marshall, economics should involve value judgment; however, this will lead to difference of opinions and endless controversy among economists thereby rendering economics indefinite and fruitless. But when economics is neutral between ends it becomes free from all these controversies and confusion then economics will be clear and definite and understanding will easy and simple. 5. Gives Logical explanation of economic problem: Robbins definition is highly logical in explaining the economic problem. According to him, economic problem arises due to scarcity of means in relation to their demand. It is not concerned with material well being. 6. Analytical study of human behavior: Robbins analyses human behaviour and states that human behaviour is the subject matter of the science of economics. This definition studies the human behavior of an individual as well as of a society. Demerits: 1. Makes economics meaningless by ignoring normative aspect: According to many economists, economics can play an important role in promoting social welfare and economic growth only if it considers and takes into accounts the value judgment, i.e. it has to give its decisions regarding what is good and what is bad in
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Introduction to Economics.

deciding ends. If economics is to serve as an engine of social betterment, it has to tell what is good or bad, noble or ignoble for welfare and progress and whether efforts should be made to attain some given ends or not. 2. Ignored welfare aspect: According to many economists, the end of human activities is human welfare. And economics should be a means in achieving human welfare. However , Robbins opposed the idea of making economics a means in achieving human welfare and believed that the end of human behaviour was to get maximum satisfaction by the use of limited resources at his/her disposal. Maximum satisfaction without value Judgments need not be maximum welfare always. 3. Restricts economics to allocation of resolves, factor and product pricing: According to Robbins, economics should study only the allocation of resources among the production of various goods and consequently how the prices of goods and factors are determined. However, in reality economics is not restricted just to these; it also considers and studies national income, output, employment etc in order to provide solutions to overcome instability and fluctuations in these at macro level in the economy. Thus, Robbinss definition does not explain about the macroeconomic concepts which are also of significance in solving economic problems. 4. Ignored theory of economic growth and development: Robbins takes the resources as given and discuss about their allocation however, there is no mention in his definition about reducing the scarcity of resources. The theory of economic growth is concerned with reducing the scarcity of resources through raising the level of national income and creating more capital and wealth. Economic growth is the means to reduce poverty and raise the standard of living of people in the economy. Economic growth and development is the primary objective of every economy. Robbins fully ignored this aspect which makes his definition incomplete. 5. Does not explain problem of unemployment: Robbins definition deals with the problem of scarcity, however the problem of unemployment is not the problem of scarcity but one of excess of human resource in relation to demand for it. Thus, it is clear that there is no definite positive correlation between scarcity and economic problem always as claimed by Robbins in his definition of economics. 6. Considers only deductive method: Robbins definition considers only deductive method while explaining problem of scarcity. It ignores inductive method which is more practical and empirical in nature in solving economic problems. D. Growth-Oriented Definition: According to Prof. Samuleson, Economics is the study of how people and society a end up choosing with or without the use of money, to employ scarce productive resources that could have alternative uses to produce various commodities over time and distributing them for consumption, now or in the future, among various persons and groups in society. It analyses costs and benefits of improving patterns of resource allocation.

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Introduction to Economics.

According to Benham, Economics is the study of the factors affecting employment and standard of living. According to Henry smith, Economics is the study of how in a civilized society one obtains the shares of what other people have produced and how the total product of society changes and is determined. Characteristics and implications: 1. Economics deals with growth and development of economy: Growth definition incorporates the theory of economic growth and development. It states that economics should study and explain the factors which determine economic growth of the country. In other words, it should state the means and ways of increasing national product over a long period of time. 2. Studies distribution of income and level of employment: Growth definition studies how distribution of income among the various members of the society takes place and how level of employment is determined in the economy. 3. Stresses the problem of scarcity: The growth definition stresses on the problem of scarcity of resources in relation to unlimited ends and alternative uses of resources. 4. Studies the problem of choice: This definition deals with the problem of choice which relates not only to present but also to future. It considers economics to be the study of the allocation of scarce resources in relation to unlimited ends. 5. Economics is science as well as an Art: According to Samuelson, economics is both science as well as an art. It is the oldest among arts and newest among the groups of sciences. In fact it is the queen of social sciences. It means that economics studies both the theoretical and practical aspect of the economic problem. 6. Not natural as regards ends: According to Growth definition, economic welfare forms part of the study of economics. Economics welfare is that part of general welfare which is measured in terms of money. Economics studies both material and non-material means of economic welfare. Merits: 1. Growth definition covers all aspects of economic problems: Growth definition covers both micro as well as Macroeconomic aspects. It studies allocation of resources, product and factor pricing which are micro in nature and national income or product distribution of national income and level of employment determination which are macro in nature. It makes economics comprehensive and complete. 2. Dynamic in natural: This definition has an element of time in it which makes it dynamic in nature. It talks about efficient allocation and optimum utilization of resources in the present and the future. In addition to this, it emphasizes on reducing the scarcity of resources by discovering and creating new resources by discovering and creating new resources in the economy.
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Introduction to Economics.

3. Makes economics meaningful and fruit bearing : By considering both the positive and normative aspect of economic problems, it makes economics meaningful, purposeful and fruit bearing. 4. Proper explanation of economic problems: The growth oriented definitions provide proper explanation of economic problems. Economic problems arise because human wants are unlimited but means to satisfy them are scarce. They have alternative uses this gives birth to the problem of choice making i.e. efficient allocation of scarce resources. This in turn accelerates the rate of economic growth. 5. Widens the meaning and scope resources: Growth definitions widened the meaning of economic resources by including natural human or physical resources which can be used to satisfy human wants. They are scarce but have alternative uses. General Meaning of economics: Economics is the study of the individual and social choice in the face of scarcity. The law of scarcity implies that consumers wants will never be completely satisfied. Economics is the systematic and comprehensive of economic activities of rational individuals, firms and the economy in order to attain the objectives effectively and efficiently in a consistent manner. SCOPE OF ECONOMICS The scope of economics can be systematically studied under the following heading. Scope means area covered by the subject under its study. A. Subject Matter of economics. B. Nature of Economics. C. Relationship of Economics with other sciences. D. Limitations of economics. A. Subject Matter of Economics: The subject-matter of economics is connected to those economic activities of human beings which they perform for a proper utilization of the scarce means in order to get the maximum satisfaction of their wants. These economic activities are called consumption, production, exchange and distribution. The subject matter of economics can be studied from two points of view in economics. A. Classical View: Thus, the subject matter according to traditionalists views is the study of human behaviour relating to allocation of scarce resources among competing ends. However, Prof. Boulding classified the entire subject matter of economics into five branches of Consumption, Production, Exchange, Distribution and Public Finance. 1. Consumption studies the consumers behaviour and laws of consumption. 2. Production deals with the factors, organization and laws of production of goods and services. 3. Exchange connecting consumption and production discusses the exchange of goods for money and the underlying principles of price determination.

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Introduction to Economics.

4. Distribution explains the division of national income among the four factors of production. 5. Public Finance deals with public income, public expenditure and public debt of state and Central Government. B. Modern View: Criticizing the traditional views of economics as artificial and overlapping, Modern economists like Stonier and Hague have divided economics into: 1. Economic Theory 2. Applied Economics and 3. Descriptive Economics 1. Economic theory: Economic theory is a hypothesis that has been successfully tested. Its purpose is to predict and explain. Economic theory includes all those laws and principles which explain, analyses, predict and establish the cause and effect relationship among economic variables. It is derived by logical analysis in a scientific way. Economic theory describes what, why and how of an economic phenomena. Economic theory is built around three things a. Definition of variables b. Assumptions relating to variables and situations c. Predictions about future events. 2. Applied economics: Applied economics attempts to apply the result of economic analysis to solve problems. Applied economics is art of using conclusion of economic theory to solve different economic problems. For example, Business economics is an applied economics where economic tools are used to solve the problems of business. 3. Descriptive economics: Descriptive economics is the systematic and comprehensive study of a particular area or topic by collecting relevant facts about that particular topic. It involves in-depth study and analysis of a particular sphere or area of study. Indian Economics is an example of descriptive economics.

Micro and Macro Economics

Another view of studying the subject matter of economics was put forward by Prof. Ragnar in the year 1933. He divided subject matter of economics into Micro and Macro economics.

Meaning and scope of Microeconomics:

The word micro is derived from the Greek word mikros meaning small. Microeconomics deals with small segments of the society. Micro economics is defined as the study of behaviour of individual decision making units such as consumers, resource owners and firms. It is also known as Price Theory since its major subject matter deals with the determination of price of commodities and factors. Microeconomics has both theoretical and practical importance. It solves the three central problems of an economy i.e. what, how and for whom to produce. Scope of microeconomics is vast and includes the following topics:
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Importance of Microeconomics Microeconomics has both theoretical and practical importance . It is clear from the following points: 1. Microeconomics helps in formulating economic policies which enhance productive efficiency and results in greater social welfare. 2. Microeconomics explains the working of a capitalist economy, where individual units i.e., producers and consumers are free to take their own decisions. 3. Microeconomic describes how, in a free enterprise economy, individual units attain equilibrium position. 4. It helps the government in formulating correct price policies. 5. It helps in efficient employment of resources by the entrepreneurs. 6. It helps business economists to make conditional predictions and business forecasts. 7. It is used to explain gains from trade, disequilibrium in the balance of payment position and determination of international exchange rate. Limitations of Microeconomics: Microeconomics fails to explain the functioning of an economy as a whole. It cannot explain unemployment, poverty, illiteracy and other problems prevailing at the country level.

Meaning and scope of Macroeconomics

The word Macro is derived from the Greek word makros meaning large. Macroeconomics deals with aggregative economics. Macroeconomics is defined as the study of overall economic phenomena, Such as problem of full employment, GNP, savings, investment, aggregate consumption, aggregate investment, economic growth etc. It is also known as theory of Income and Employment since its major subject matter deals with the determination of income and employment. The study of macroeconomics is used to solve many problems of an economy like, monetary problems, economic fluctuations, general unemployment inflation, disequilibrium in the balance of payment position etc. The scope of macroeconomics includes the following topics: Importance of Macroeconomics: Macroeconomics has emerged as the most challenging branch of economics. In the words of Samuelson, No area of economics is today more vital and controversial than macroeconomics. The importance of macroeconomics on theoretical and practical reasons is clear from the following points. 1. It gives an overall view of the growing complexities of an economic system. It provides powerful tools to explain the working of the complex economic systems. 2. It provides the basic and logical framework for formulating appropriate macroeconomic policies e.g. for inflation, poverty, unemployment etc. to direct and regulate economy toward desirable goals. 3. It helps in analyzing the reasons for economic fluctuations and provides remedies. Limitations of Macroeconomics Some of the major limitations macroeconomics is:

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Introduction to

Economics.

1. Macroeconomics ignores structural changes in an individual unit of the aggregate. The conclusions drawn on the basis of aggregate variable may be misleading. 2. Most of macro magnitudes which figure so largely in economic discussions are subject to errors and ambiguities. Difference between Microeconomics and Macroeconomics Microeconomics Macroeconomics 1. It studies individual economic units. 2. Examples, a. Consumer demand. b. Per Capita income. 3. It may assume full employment. 4. It is also called Price Theory. 1. It studies aggregative economic units. 2. Example, a. Aggregate demand. b. National Income. 3. It does not assume full employment 4. It is also called theory of income and Employment.

Interdependence of micro and macroeconomics: It is difficult to demarcate or differentiate between micro and macro economics. What is macro from an economys point is micro in the context of the world. It is difficult to say which is more important. Both have their own significance. According to Professor, Samuleson, knowledge of both is absolutely vital and there is no competition between macro and micro economics. Both are complementary and should be fully utilized for understanding of an economy.

B. Nature of Economics:
Nature of economics implies whether it is science or art or both science and art. The question whether economics is a science or an art, there are different vies. The English economists of the classical school hold the view that economics is a science. But the ecumenicists of Continent Europe, Germany and India regard economics as an art. In the words of Prof. Samuleson, Economics is the oldest of the arts, the newest of sciencesindeed the queen of all the social sciences. Let us discuss the views of both and see exactly what economics is. Is Economics a Science? Whether Economics is a science or not? It depends upon what we consider a science to be. According to some scholars, Economies is not a science because the laws of Economics are not universal and definite as those of the natural sciences like Physics, Chemistry, etc. Contrary to it, some consider it has a social Science. A Social science studies various human activities. Therefore, it is not necessary for its laws to be universal and definite. Because reaching a definite conclusion regarding Economics as a science or an art, let us first know what science is. What is Science? In simple words, science is a systematic body of knowledge in which scientific laws are applied. In other words, it is a systematic body of knowledge about a particular branch of the universe. This implies that a science is a study of a branch of learning and not of the whole universe. It studies the branch of learning and not of the whole universe. It studies the branch systematically and orderly.

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Thus, it deals with those main facts about a subject that are interdependent. Scientific laws are those laws which show the relationship between the causes and effects of an event. In Economics; economic activities of man are systematically studied. Economic laws are also scientific because these laws establish causal relationship between economic events. Judged by this standard, it can be said that economics is a science. Prof Poincare has rightly said A science is built upon facts as a house is built of stones. Arguments in favour of Economics as a Science: 1. It involves systematic study. 2. Its laws are Scientific in nature. 3. Validity of the Laws 4. It has cause and effect relationship for e.g. law of demand 5. It is capable of measurement in terms of money. 6. It has its own methodology of study (induction and deduction) and 7. It forecasts the future market condition with help of various statistical and nonstatistical tools. Arguments against Economics being a Science: 1. There exists difference among Economists regarding its application. It doesnt have uniform opinion about a particular event. 2. The laws of economics are not exact Laws. 3. The laws of economics are not Universal Laws. 4. Verification of Economic Laws is not possible. 5. The subject matter of economics is Human Behaviour which is highly unpredictable. 6. Money, which is measurement of economy, is itself a dependent variable. 7. It is not possible to make correct predictions about the behaviour of economic variable. Is Economics A Positive or Normative Science? Another question regarding the Nature, whether economics is a positive or normative science has been discussed for very long time. There are different views on the issue. The economists like Robbins and Friedman advocated economics as a positive science. But scholars including Marshall and pigou etc. maintained the view that economics is both a positive and normative science. A. Economics is a Positive Science: A positive science is that science in which exactness of the subject is studied. Almost all the classical economists declared that science of economics should be concerned only with What is and not what ought to be In other words they maintained economics as only a positive science. They said that economics should not explain rightness or wrongness of things and should not pass any moral judgement. Senior thought that economists could not add even a single word of advice. Carines said that economics should stand neutral as mechanic stands between rival schemes of railway construction. Prof Stigler observes, Strictly speaking, words like ought and bad; cannot occur in economic discussion. Lionel Robbins reaffirmed the view that economics is nothing but a positive science. According to Robbins Economics
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is neutral between ends. It does not pass value judgments. Anyone with the limited amount of money may use it for buying liquor and not milk. Arguments in favour of Economics as a Positive Science: a. More Logical b. More Efficiency c. More uniformity d. More Neutrality e. Formulation of Theories Examples of positive science: 1. Planned economics allocate resources via government departments 2. Most transitional economics have experienced problems of falling output and rising prices. 3. There is a greater degree of consumer sovereignty in the market 4. Faster economic growth should result if an economy has a higher level of investment 5. Higher levels of unemployment will lead to higher levels of inflation 6. The average level of growth in the economy was faster in the 1990s than the 1980s 7. Analysis of the relationship between the price and quantity demanded B. Economics as a Normative Science: It refers to What ought to be or it makes an assessment of an activity and offers advice. It is based on welfare economics (Marshall & pigou). Complete neutrality between ends is, however, neither feasible nor desirable. It is because in many matters the economist has to suggest measures for achieving certain socially desirable ends. Challenging the views of the classical school, Marshall, pigou and historical school put the argument that economics is a normative science, According to Marshall, economic is a normative science because it has a norm or aims viz, welfare, Macfile remarks that economics is fundamentally a normative science, not merely a positive science like chemistry. Prof Hawtrey feels that economics is a normative science because there is an economies what ought to be as it is in ethics. Its objective is to determine the norms or aims. This science also offers suggestions for solving the problems, as a normative science, Economics will offer several kinds of suggestions, such as there should be the economic development of the country, there should be stability in prices, there should be full employment, and there should be an equitable distribution of income. etc. Economics does not deal only with the study of facts, rather is also determines the economic facts. Arguments in favour of Normative Economics: a. More Practical. b. More Realistic. c. Useful Science. d. Maximum Welfare. e. Growth Oriented. Examples of normative science: 1. Reducing inequality should be major priority for mixed economy. 2. Changing the level of interest rates is a better way of managing the economy than using taxation and government expenditure. 1.14 Introduction to

General Economics

Economics.

3. 4. 5. 6. 7. 8.

Govt. ought to guarantee that farmers income will not fall if harvest is poor. India should not take loan from foreign countries. Rich people should be taxed more. Free education should be given to poor. India should spend more money on defence. The demand for productive commodities should be encouraged in the society.

Thus Economics is both positive science and normative science. Difference between Positive and Normative Economics: Positive Economics Normative Economics It expresses What is. It expresses What Should be. It is based on cause and effects of facts. It is based on ethics. It deals with actual or realistic situation. It deals with Idealistic situation. It can be verified with actual data. It cannot be verified with actual data. In this value judgements are not given. In this value judgements are given. It deals with how an economic problem It deals with how an economic problem should is solved. be solved. Economists of Positive school are Adam Economists of Normative school are Marshall, Smith, Robbins and their followers. Pigou, Hicks and others. Economics as an art: Economics as an art is a systematized body of knowledge where the relationship between cause and effect cannot be rigidly defined. The effect changes due to application of different talents of different people to solve same problems. An art is a system of rules for the given end. It is a collection or body of rules for the execution of external works. Arguments in favour of economics as an Art: 1. Economics provides different solutions to solve same economic problems 2. Economics as an art studies problem in realistic situation. 3. It can remove doubts that arise with regard to the real nature of economic laws. 4. As an art it facilitates the verification of economic theories. Arguments against economics as an Art: 1. One subject cannot be science as well as art at the same time. 2. Economics as an art cannot be effective because problems are not just economic problems, they economic, social and political at a time. 3. Different economists will frame different policies and uncertainty increases. 4. Lack of immediate solution to the problems. Economic is both science and an art: Economic is both science and an art. It is science in its methodology and art in its application. Methods of Economic Theory: Meaning of economic theory: Economic theory is a hypothesis that has successfully tested. Its purpose is to predict and explain. Economic theory includes all those laws and principles which explain, analyse, predict and establish the cause and effect relationship among economic variables. It is derived logically in a scientific way.

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Introduction to

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Two methods used in construction of an economic theory are: 1. Deductive Method 2. Inductive Method 1. Deductive method: Deductive method is also known as the analytical or abstract method or a priori. This method accepts certain universal truths or axioms and tries to deduce inference about the particular events though a process of logical reasoning. The predictions are made on the basis of certain assumptions. Once predictions are empirically tested and verified for their accuracy, they are accepted as an economic theory. Otherwise predictions are either amended or rejected. In economics, this method was developed by Ricardo, Robbins, J.S.Mill and others. Deductive method is the process of reasoning from general to particular or universal to individual, this method is called abstract, hypothetical or a priori because it is based on abstract reasoning and not on actual facts. Example: Let the general assumption be that man is rational. The prediction is that he aims to earn maximum wages. When this prediction is empirically tested, it is found that workers are moving from lower wage jobs to higher wage jobs. The general assumption gets verified and, thus becomes an economic theory. Types 1. Mathematical 2. Non-mathematical Merits of Deductive Method: The advantages of this method are as follows: 1. It is a simple method which does not involve much collection of data. 2. It is based on basic facts of human nature and is, thus, universally applicable. 3. It brings accuracy and exactness to economic generalizations with the use of logic and mathematics. Demerits of Deductive Method The disadvantages of this method are as follows: 1. The conclusions have limited applicability as the underlying assumptions keep on changing. 2. The results are not dependable. 3. Conclusions drawn are generally not based on facts. Thus, there is every possibility that they may not exist is real life. 4. It is a static approach. Inductive Method: It is also known as a posteriori, historical or empirical method, in inductive method; we start with particular facts and then make general theory based on the analysis of facts. It is the process of reasoning from particular to general or from individual to the universal. The generalizations are based on observations of individual instances. The method involves use of the following three steps in a systematic order. 1. Collection of data 2. Analysis of data 3. Formulation of general principles.
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The general theory is arrived at by collecting large number of observations or data. Some examples of theories or laws based on this method are Malthusian theory of Population and Engels Law. Example: Particular fact observed is that when two persons are sent to the market to buy a good, they both buy more at a lesser price. From this particular behaviour we generalize that all men buy more at lesser price and vice versa. This established the general law of demand which states that price and quantity demanded of a commodity are inversely related. Merits of Inductive method: The advantages of this method are as follows: 1. The method is precise, realistic and reasonable because it takes into consideration the changes in the conditions surrounding an economic activity. 2. The method tests and verifies economic facts. 3. It is a scientific method as facts are subject to scientific analysis. 4. It is Dynamic. It is based on previous experiments and observations. Demerits of Inductive method: The disadvantages of this method are as follows: 1. The method is complex and difficult. 2. It is an expensive and time consuming method. 3. Chances of personal bias of the investigators in the process of collection and analysis of data are present. Interdependence of Deductive and inductive methods: Both deductive and inductive methods have their merits and demerit. Deductive method was popular among classical economists. Modern economists prefer inductive method of constructing an economic theory. The methods are not alternative of each other. Deductive method is more useful where facts and data are not available and inductive method is more suitable where facts and data are available. According to prof. Marshall, Induction and deduction are both needed for scientific thoughts as the right and left foot both are needed for walking. Methods of Constructing Economic Theory Basis of distinction Deductive Method Processing of From general to particular reasoning Terms used to A priori, Abstract, Analytical. describe Popularity Popular among classical economists Merits Simple, universal and accurate. Suitability More suitable when facts and data are not available Inductive method From particular to general A posteriori, Historical, Empirical. Popular among Modern economists Precise, realistic, scientific and verifiable More suitable when facts and data are available

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Introduction to

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Central Problems of Economy:

Human beings have wants which are unlimited. Wants get satisfied by consuming goods and services, but new wants keep cropping up. The amount of goods and services that can be produced depends on the amount of resources available. Resources are scarce, i.e. they are available in limited quantities. Resources are not only limited but they also have alternative uses. All this necessitates a choice between which wants to satisfy first, where to use the resources and in what quantities. Individuals, business firms and societies must decide how to use limited resources. Economic problem is the problem of choice or the problem of economizing. It is the problem of utilizing the limited resources to satisfy the maximum number of wants. The clash between the limitations of nature and the unlimited and non-saturating human wants is the basis of economic problems. The scarcity of resources creates this situation. If we employ more resources for production of good A, we will have to forego the production of B. Hence, we have to choose which of the two goods gives us more satisfaction. Any issue arising out of the existence of scarcity which compels people to choose out of a range of alternative economic possibilities is an economic problem. This fundamental economic problem is reflected in an economy in the form of three problems which are called the Central Problems, of an economy. Any economy -whether capitalist, Socialist, agricultural, mixed, and undeveloped, etc has to face these problems. According to P.A, Samuelsson there are three fundamental and interdependent problems in an economic organization -what, how and for whom. these are grouped together allocation of resources problem. These are:

1. 2. 3. 4.

What goods to produce and How much to produce. How to produce. For whom to produce. Economic Growth.

1. What goods to produce and How much to produce: This is the problem of allocation of resources. Due to limited resources, every economy has to decide what goods to produce and in what quantities. If the means were unlimited, then according to Frideman, it would lead to as stage of salvation. But the means are limited and the economy must decide the proportion of resources that would go into the production of civilian goods and the proportion of resources that would go into the production of defence goods. This is essentially the problem of efficient allocation of scarce resources so that both output and output-mix are optimum. The Problem of how much to produce is the problem of determining the quantity of each good to be produced. In economics, the problem of what to produce is studied under price theory. 2. How to produce: It is the question of choice of technique of production. Since resources are scare, an inefficient technique of production, which would lead to wastage and high costs, cannot be applied. A technique of production which would maximize output or minimize cost should be used. Every economy has to choose the most efficient technique of producing a commodity. In economics, the problem of choice of technique of production is studied under the theory of production.

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3. For whom to produce: This is the question of how to distribute the national product among various sections of the society. National product is total output generated by the firms. Total output ultimately flows to the household in the form of income, i.e., wages, rent, profits and interest. There are millions of people in a society. Each one cannot get sufficient income to satisfy all his wants. This raises the problem of distribution of national product among different household, in economics, the problem of distribution of national product is studied under the theory of distribution. 4. Economic Growth: This is the question of whether the economys capacity to produce goods and services is growing from year to year or is it remaining static. Economic growth is induced by savings and investments i.e. economic development is induce by large amount of capital and advance techniques to production. Problems of this type are studied under the theory of Economic theory. Central Problems 1. Allocation of resources: a. What and how much to produce? b. How to produce? c. For whom to produce? 2. Economic growth Branch of Economics which deals with it. Price Theory Theory of Production Theory of Distribution Growth Economics

Production Possibility Curve:

The concept of production possibility curve (PPC) was put forward by Prof. Samuelson. According to him PPC is that curve which represents the maximum amount of a pair of goods and services that can both be produced with an economys given resources and technique, assuming that all resources are fully employed. Production Possibility Curve may be defined as a curve which shows the various combinations of two goods or services that can be produced in any economy with a given amount of resources and technology. PPC is also known as Production Possibility Frontier (PPF) and Transformation curve. Assumptions: While drawing PPC we assume the following: 1. Two types of goods cloth and wheat produced. 2. Productive resources remain fixed. 3. Resources are not specific, i.e., they can be shifted from the production of one good to the other good. 4. Full employment of productive resources No unemployment of resources. 5. No change in technology. It is assumed that there are only two types of goods cloth and wheat. The resources of economy can be alternatively used in both the commodities. If the production of a commodity is increased then the production of the other commodity will be decreased. Following table shows the production possibilities of production. Production Possibilities
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Cloth

Wheat 1.19

Increasing Opportunity Introduction to

Economics.

A B C D E F

0 1 2 3 4 5

15 14 12 9 5 0

Cost ---1 2 3 4 5

From the above table, it is clear that when production of cloth increases then production of food decreases and it will give concave shape of PPC because opportunity cost are increasing. PPC and Productivity Efficiency All points on PPC curve like A, B, C, D, E and F show that goods and services produced at least cost and no resource is wasted and the economy is Productively Efficient. Opportunity Cost and PPC Opportunity cost may be defined as the value of the next best alternative. It is also called Foregone cost and Trade off. In the context of PPC since there are only two goods, therefore opportunity cost of producing one good is in terms of sacrifice made of the other good. PPC is downward sloping because more production of one good is associated with less of the other good. PPC Concave to the Origin Due To Increasing Opportunity Cost. PPC looks concave to the origin because of increasing marginal opportunity cost. The increasing marginal opportunity cost means that for additional unit of a good, the sacrifice of unit of other good goes on increasing. Principle of increasing opportunity cost the makes the PPC concave to the origin or makes bowed-out shape. PPC may be straight line if opportunity cost is constant. PPC is negative sloped not due to increasing opportunity cost but due to scarcity because at any point of time we have limited resources. Unemployment and PPC. When an economy produces on PPC, it means that there is no unemployment and all the resources are being used efficiently. But if an economy operate inside the PPC then there is unemployment or underemployment and/or inefficient use of resources. In the figure given below point U inside the PPC indicate underutilization of resources. In other words economy would not be utilizing its resources fully. Point S indicate that an economy could not produce with the given resources and technology. If economy moving from U to A and B point, it indicates resources which were lying unutilized are now being utilized fully. Economic Growth and shift in PPC. When an economy produced at PPC curve it is productively efficient> but there is also scope of progress and one PPC can shift to another PPC one the right, It indicates Economic Growth PPC can shift to the right or economic growths are possible in the following circumstances. 1. Improvement in overall technology
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2. Greater capital formation 3. Increase in population growth labour force Properties of PPC: 1. It is also called transformation curve or production possibility frontier. 2. PPC slopes downwards from left to right. 3. PPC is concave to the point of origin.

Different Economic Systems:

Meaning of Economic system: Economic system is defined as an arrangement by which the central problems of the economy of an economy are solved. There are many different forms of an economic system. It refers to the mode of production, exchange and distribution and the role which govt. plays in economic activity. It may be of three types. 1. Capitalist Economy. 2. Socialist Economy. 3. Mixed Economy. 1. Capitalist economy (free market economy): Capitalist economy is one in which the factors of production are privately owned and managed and in which production takes place on the initiative for private profits. It is a free economy in which government interference is not found. Characteristics: The following are its main characteristics 1. Right of Private Property: The right of private property means that factors of production such as land, factories, machines and mines etc., are under the private ownership. An individual has the right to acquire, use, control and dispose in many was he likes. 2. Freedom of Enterprise: Freedom of enterprise means that every body is free to engage in whatever economic activity he pleases. In other words, he is free to work in any industry he likes to adopt any occupation or trade he desires. 3. Freedom of choice by consumer: In capitalist economy there is a freedom of choice by the consumers. People are free to spend their incomes, as they like. In an economy people have the freedom to buy or not to buy the goods offered in the market place, and this freedom to choose what they buy dictates what producers will ultimately produce. This is known as principle of consumer sovereignty. In a free market economy the allocation of resources is determined by the consumer preference. 4. Profit Motive: Under capitalism, producers or entrepreneurs in their productive activities are guided by their profit motives. Those goods and services are produced to ensure greater profits to the producers. 5. Competition: In a capitalist economy, competition exists among sellers or producers of similar goods in the form of advertisement, price-cutting, discount etc., 6. Price mechanism: In a free market economy (Capitalist economy) prices are decided by the price mechanism i.e., forces of demand and supply and price will be decided at the point where demand is equal to supply. In a free market economy, when consumers

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increase their purchase of a good and the level of demand exceeds supply then price tend to rise. A capitalist economy uses Price as the principal means of allocating resources. 7. Inequalities of Income: There is wide gap of income between the rich and poor, which mainly arises due to unequal distribution of property. It is disadvantage of the capitalist economy that income will tend to be unevenly distributed. Solution of Central Problems in Capitalist Economy: The main aim of capitalist economy is to earn maximum profits. All the central problems are solved with the help of Price Mechanism (forces of the market demand and supply). What, how and for whom to produce are decided by the private sectors: 1. Deciding what to produce: To earn more and more profits the entrepreneurs produced only those goods, which are demanded by the consumers. In a free market economy the allocation of resources is determined by the consumer preference. 2. Deciding how to produce: To earn more and more profit the entrepreneurs use that technique of production in which cost of production is minimum. There are two methods of production technique a. Labour intensive method b. Capital Intensive method 3. Deciding for whom to produce: Goods and Services are produced only for those who have the buying capacity. Higher the income higher will be his buying capacity. 4. Deciding about consumption, saving and investment: Higher the rate of interest and higher will be the savings and higher the rate of return higher will be the investment. 2. Socialist Economy: In a Socialist economy, all material means of production i.e., land, capital and mines etc., are owned by the whole community represented by the STATE. All the members being entitled to the benefits from the fruits of such socialized planned production on the basis of equal rights. State decides the size and direction of the investment. The state works for the welfare of the society and profit motive is not important for it. Characteristics: 1. Collective ownership of means of production: In a socialist economic system, all the means of production are state-owned. Accordingly, the firms producing goods and services such as factories, banks, insurance, and transport etc., are owned and managed by state. Small farms, workshops and trading firms may, however, remain in the private hands. 2. Centrally Planned Economy: All the basic decisions pertaining to the what, how and for whom to produce are decided by the centrally planned authority. In India it is by the Planning Commission. 3. Economic Equalities: A socialist state strives to achieve economic equally, but it does not mean that everyone earns the same amount of income that there is no social differentiation. The society is divided into various functional strata. Since the requirements of the workers from different strata are unequal, their wages cannot be equal. Skilled and unskilled workers from different strata of the society, and hence are paid different wages. Socialism only guarantees equality of opportunity and equal pay for equal work.
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4. Social welfare: Social welfare becomes the guiding light in such a system. Since all the enterprises are state-owned, no individual or private profit accrues. Price policy is guided by the aims of social welfare rather than profit motive. 5. Lack of competition: One of the basic tasks of economics planning is to avoid duplication of efforts and wastage of resources. Since the state has the monopoly of production and investment, it avoids all sorts of competition and rivalry as between different production units. 6. Elimination of exploitation: Since property is state-owned, class distinction do not exists in Socialism. In the absence of class-distinction, there is no exploitation of employees in the hands of employers. 3. Mixed Economy An economic system, which contains elements of both private and public sectors, is called mixed economy. It permits coexistence of controlled market economy. Characteristics: 1. Coexistence of both private and public sector: In the mixed economy both private and public enterprises exists. So in a mixed economy all the economic decisions are partly taken by the state and partly taken by the private entrepreneurs. 2. Planned Economy: It is planned economy. The government has a clear and definite economic plan. The government create necessary atmosphere for the private sector to develop on its own. 3. Balanced regional development: Public sector enterprises may be located in the backward regions so as to ensure its development. Subsidies may be offered to private sector to establish and develop industries in backward regions. 4. Dual system of pricing: In private sector price is decided by the help of price mechanism on the other hand in govt. sector prices are fixed by the govt. The government may also fix the prices of certain essential commodities, which are used by the common man. Over-all planning is done by the State Authority called Planning Commission. Features of three Economic systems: Features Capitalism Socialism Mixed Economy Ownership of Private Public Ownership Both private and public property Ownership Ownership Freedom of Exits No freedom Freedom in private sector enterprise only Motive of Profit Motive Social welfare Profit motive in private production sector only Who governs Price Planning Both price and planning production Mechanism Mechanism mechanism Competition Exists No competition Exists only in private sector Distribution of Very unequal Quite equal Considerable inequalities Income exists Role of No role Complete role Full role in public sector Government and limited role in private sector
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Introduction to

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General Economics

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