Economics Fundamental Concepts (Prelim)

8/3/2019 Economics Fundamental Concepts (Prelim)

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Fundamental Concepts

Definition/Divisions and History of Economics

Economics is the proper allocation and efficient use of available resources for the

maximum satisfaction of human wants. Since resources are generally scarce whilehuman wants tend to be unlimited, economics encounters not a few problems.However, the biggest problem is not limited resources like land, money, machines, rawmaterials, technology, skilled workers or competent managers. The root problem, whichis the real problem, is the unjust distribution of productive resources among themembers of the society. Such misdistribution of wealth and income is the root cause ofpoverty. Our available resources are in the hands of very few families. So, most of thepeople are mere tenants, clerks, factory workers and servants.

The fundamental problem of unfair allocation of resources has been a global problem.Most of the counties of the world experience such problem. There are extremely very

few rich while there are many poor. These countries are located in Africa, Asia and LatinAmerica. These regions are the poorest in the world. Everyday, some 40, 000 countriesspend billions and billions of dollars for the foods of their favorite dogs and for armsrace. Indeed, it is a very sad comparative note in illustrating the unjust distribution ofresources. But this is what really happens in our world.

Divisions of Economics

1. Microeconomics-deals with the economic behavior of individual units such asthe consumers, firms and the owners of the factors of production. Such specificeconomic units constitute a very small segment of the whole economy. their

activities are presented and discussed in details. For example, the price of rice,the number of workers of san Miguel Corporation, the income of Mr. Cruz, theexpenditures of MERALCO, etc.

2. Macroeconomics-deals with the economic behavior of the whole economy orits aggregates such as government, business and household. An aggregate iscomposed of individual uinits. The operation of the various aggregates and theirinterrelationships are analyzed to provide a profile of the economy as a whole.Macroeconomics is concerned with the discussion of topics like gross nationalproduct, level of employment, national income, general level of prices, totalexpenditures, etc. When we study the income or family savings bank, we aredealing with microeconomics; but when we deal with the total income or total

expenditure of the whole banking industry, then we are involved in the study ofmacroeconomics. If we discuss the economic crisis of our country, we areconcerned with macroeconomic analysis. However, what is true inmicroeconomics may not be true in macroeconomics. For example, a vegetablefarmer gets better harvest. This means more income for him. But if all vegetablefarmers have increased their harvests, it is no longer favorable for them. Moresupply reduces the price of vegetables.


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History of Economics

Economics as a science is very young compared with other sciences, which wereformed even hundred years before the Birth of Christ. It has started to be known when

Adam Smiths book Wealth of Nations was published in 1776. This book became the

bible of economics for more than a century. Because of the economic contributions ofSmith in the field of science, he has been considered the Father of Economics.

However, the ideas and practices of economics have been as old as mankind. Theseeconomic thoughts appeared in biblical teachings, philosophy and politics. The primitivepeople were resourceful. They invented ways and means of food gathering and hunting.Such art of making a living among the ancient tribes represented a form of economics.

During the biblical times, economic ideas and activities were influenced by biblicalteachings and the wisdom of the great prophets. Even the Babylonian code ofHammurabi contains detailed regulations for economic practices. Justice, charity and

honesty were the rules in economic dealings. Usury was prohibited. Profits weredespised.

The Babylonians had clear ideas about interests and mortgages. The Phoenicians hadgood knowledge about commerce and money. The Hebrews and the Hindus stressedthe virtues of industry, temperance, and economy. The word economics was derivedfrom an ancient Greek work oikonomos, which means household management. Thehousekeeper had to see to it that there was enough food, clothing and shelter; that thehouse was kept in order; that the necessary duties and responsibilities were performedby the members of the household; and that their products were distributed according tonecessity or custom. To the ancient Greeks, however, the term oikonomos applied more

on the proper management of city-states.

Basic Economic Problems

The Three Basic Economic Problems are:

1. What goods and services to produce and how much. In business, a feasibilitystudy determines whether certain goods or services become profitable or not in agiven market. Investors are only willing to produce goods and services, whichgive them good profit. Apparently, there is no problem. Just simply conduct amarket study or feasibility study. In reality, however, it is not always possible to

produce all the goods and services that people need, because resources arelimited.

2. How to produce the goods and services. This is problem of productiontechnology or methods of production. As a general rule, goods and services mustbe produced in the most efficient manner. This means maximum output withminimum input without sacrificing quality. Although the rich countries useadvanced technology in the production of goods and services, there are still


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goods and services which could not be produced efficiently; hence, thecontinuous research and development projects. The application of moderntechnology has increased output and decreased cost of production. Suchproduction efficiency has greatly contributed to the high standard of living of theindustrial countries.

3. For whom are the goods and services. This is a problem of distri-Bution. Whogets the goods like rice, clothes, shoes and the services such as education,medicare, etc. in a pure market economy or capitalism, goods and services aredefinitely for those who have money and are willing to purchase them.

Economic system models

Economic Systems

An economic system is asset of economic institutions that dominates a given economy.An institution is a set of rules of conduct, established ways of thinking, or ways of doing

things. Examples are taxation; profit motive, economic planning, production or banking.The principle objective of an economic system is to solve the basic economic problems.

Economic system models

1. Capitalism the factors of production and distribution are owned and managedby private individuals or corporations. It has been known by similar terms likemarket economy, free enterprise economy, or laissez faire economy. The latterare French words which mean no government intervention in economic affairs.

The essential characteristics of capitalism are:

y Private propertyy Economic freedomy Free competitiony Profit motive

As a way of thinking, capitalism involves the following: Capitalism as a way of thinkingis fundamentally individualistic, that is, that the individual is the center of capitalistendeavor. This idea draws on all the Enlightenment concepts of individuality: that allindividuals are different, that society is composed of individuals who pursue their owninterests, that individuals should be free to pursue their own interests (this, in capitalism,

is called "economic freedom"), and that, in a democratic sense, individuals pursuingtheir own interests will guarantee the interests of society as a whole.

Capitalism as a way of thinking is fundamentally based on the Enlightenment idea ofprogress; the large-scale social goal of unregulated capitalism is to produce wealth, thatis, to make the national economy wealthier and more affluent than it normally would be.Therefore, in a concept derived whole-cloth from the idea of progress, the entirestructure of capitalism as a way of thinking is built on the idea of "economic growth."


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This economic growth has no prescribed end; the purpose is for nations to grow steadilywealthier.

Economics, the analysis of the production and distribution of goods, has to beabstracted out of other areas of knowledge. In other words, capitalism as a way of

thinking divorces the production and distribution of goods from other concerns, such aspolitics, religion, ethics, etc., and treats production and distribution as independenthuman endeavors. In this view, the fundamental purpose and meaning of human life isproductive labor. Marxism, which has more in common with capitalism than it hasdifferences, also bases itself on these ideas.

The economic world view treats the economy as if it were mechanical, that is, subject tocertain predictable laws. This means that economic behavior can be rationallycalculated , and these rational calculations are always future-directed . So, themechanistic view of the economy leads to an exclusively teleological world picture;capitalism as a manipulation of the "machine" of the economy is always directed to the

future and intentionally regards the past as of no concern. This, in part, is one of thefundamental origins of modernity, the sense that the cultural present is discontinuouswith the past.

The fundamental unit of meaning in capitalist and economic thought is the object , thatis, capitalism relies on the creation of a consumer culture, a large segment of thepopulation that is not producing most of what it is consuming. Since capitalism, likemercantilism, is fundamentally based on distributing goodsmoving goods from oneplace to anotherconsumers have no social relation to the people who produce thegoods they consume. In non-capitalist societies, such as tribal societies, people havereal social relations to the producers of the goods they consume. But when people no

longer have social relations with others who make the objects they consume, thatmeans that the only relation they have is with the object itself. So part of capitalism as away of thinking is that people become "consumers," that is, they define themselves bythe objects they purchase rather than the objects they produce.

Reference:

http://www.wsu.edu/capitalism

2.Communism is exactly the opposite of capitalism. The factors of production anddistribution are owned and managed by the state. It is also called a command economyor classless society.

The essential characteristics of communism are:

y No private property


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y No free competitiony No economic freedomsy No profit motivey Presence of central planning

3. Socialism is a combination of capitalism and communism. The major andstrategic industries are owned and managed by the state while the minor industriesbelong to the private sector. Examples of major industries are transportation,electrification, mining and production of essential products. Examples of minorindustries are the production and marketing of candies, cakes toys, etc.

How to judge an economic system

1. Abundance. This refers to goods and services that individual members ofsociety have received. Are these sufficient and are the people satisfied? Are

there no problems in clothing, shelter, medicare education and recreation?2. Growth. The growth of economy is tangible, and is measurable in terms of thenumber of buildings, houses, schools, cars, hospitals, factories or machinesmade in a given year.

3. Stability. This refers to the absence of inflation and unemployment. However, ifthe ups and downs of economic activities like production, consumption, andsaving, among other things, are minimal there is still economic stability.

4. Security. Economic security generally depends on economic stability. Workersand employees do not lose their jobs if there is prosperity in the economy.

5. Efficiency. It simply means productivity. It is measured in terms of unit cost oraverage cost.

6.Ju

sticea

nd equ

ity. Is the distribution of wealth, income and power among themembers of society fair? Is there no big gap between the rich and the poor?7. Economic freedom. If a consumer is free to choose his food, style of his house

any kind of appliances his recreation or his education then there is economicfreedom.

Four important people in the field of economics

Adam Smith

Adam Smith was a Scottish moral philosopher and a pioneer of political economy. One

of the key figures of the Scottish Enlightenment, Smith is the author of The Theory ofMoral Sentiments and An Inquiry into the Nature and Causes of the Wealth of Nations.The latter, usually abbreviated as The Wealth of Nations, is considered his magnumopus and the first modern work of economics. Adam Smith is widely cited as the fatherof modern economics.

Smith studied moral philosophy at the University of Glasgow and Oxford University.After graduating he delivered a successful series of public lectures at Edinburgh,


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leading him to collaborate with David Hume during the Scottish Enlightenment. Smithobtained a professorship at Glasgow teaching moral philosophy, and during this timewrote and published The Theory of Moral Sentiments. In his later life he took a tutoringposition which allowed him to travel throughout Europe where he met other intellectualleaders of his day. Smith returned home and spent the next ten years writing The

Wealth of Nations (mainly from his lecture notes) which was published in 1776. He diedin 1790.

The Wealth of Nations

Adam Smith argues that it was market forces that ensured the production of the rightgoods and services. This would happen because producers would want to make profitsby providing them. Without government intervention, thus forming a laissez-faireenvironment, public well-being would increase from competition organising productionto suit the public.

This was the basis of the free market economy. Competition would mean producerstrying to outsell each other and this would bring prices down to their lowest possiblelevels (making minimal profit). If there was not enough competition, this would meanthat producers would make more profit. This would soon attract more firms to join thisindustry, bringing prices down. All this would end up benefiting the consumer withoutany necessary intervention.

This system had 2 requirements, however. One was that the market needed to be freeof government intervention, and the other was that there had to be competition. Smithrecognised immediately the danger of monopoly:

"A monopoly granted either to an individual or to a trading company has the same effectas a secret in trade or manufactures. The monopolists, by keeping the marketconstantly under-stocked, by never fully supplying the effectual demand, sell theircommodities much above the natural price, and raise their emoluments, whether theyconsist in wages or profit, greatly above their natural rate."

http://www.bized.co.uk/virtual/economy/library/economists/smithth.htm

The Wealth of Nations expounds that the free market, while appearing chaotic andunrestrained, is actually guided to produce the right amount and variety of goods by aso-called "invisible hand".Smith opposed any form of economic concentration because itdistorts the market's natural ability to establish a price that provides a fair return on land,labor, and capital. He advanced the idea that a market economy would produce asatisfactory outcome for both buyers and sellers, and would optimally allocate society'sresources.The image of the invisible hand was previously employed by Smith in Theoryof Moral Sentiments, but it has its original use in his essay, "The History of Astronomy".Smith believed that when an individual pursues his self-interest, he indirectly promotesthe good of society: "by pursuing his own interest, [the individual] frequently promotesthat of the society more effectually than when he intends to promote it."Self-interested


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competition in the free market, he argued, would tend to benefit society as a whole bykeeping prices low, while still building in an incentive for a wide variety of goods andservices. Nevertheless, he was wary of businessmen and argued against the formationof monopolies.

An often-quoted passage from The Wealth of Nations is:

It is not from the benevolence of the butcher, the brewer, or the baker that we expectour dinner, but from their regard to their own self-interest. We address ourselves, not totheir humanity but to their self-love, and never talk to them of our own necessities but oftheir advantages.

The first page of the Wealth of Nations, 1776 London editionValue theory was importantin classical theory. Smith wrote that the "real price of every thing ... is the toil and troubleof acquiring it" as influenced by its scarcity. Smith maintained that, with rent and profit,other costs besides wages also enter the price of a commodity.Other classical

economists presented variations on Smith, termed the 'labour theory of value'. Classicaleconomics focused on the tendency of markets to move to long-run equilibrium.

Adam Smith's advocacy of self-interest based economic exchange did not, however,preclude for him issues of fairness and justice. In Asia, Europeans "by different arts ofoppression..have reduced the population of several of the Moluccas,"he wrote, while"the savage injustice of the Europeans" arriving in America, "rendered an event, whichought to have been beneficial to all, ruinous and destructive to several of thoseunfortunate countries."The Native Americans, "far from having ever injured the peopleof Europe, had received the first adventurers with every mark of kindness andhospitality." However, "superiority of force" was "so great on the side of the Europeans,

that they were enabled to commit with impunity every sort of injustice in those remotecountries."

Smith also believed that a division of labour would effect a great increase in production.One example he used was the making of pins. One worker could probably make onlytwenty pins per day. However, if ten people divided up the eighteen steps required tomake a pin, they could make a combined amount of 48,000 pins in one day. However,Smith's views on division of labour are not unambiguously positive, and are typicallymis-characterized. Smith says of the division of labour:

"In the progress of the division of labour, the employment of the far greater part of thosewho live by labour, that is, of the great body of the people, comes to be confined to afew very simple operations, frequently only one or two. ...The man whose whole life isspent in performing a few simple operations, of which the effects too are, perhaps,always the same, or very nearly the same, has no occasion to exert his understanding,or to exercise his invention in finding out expedients for removing difficulties whichnever occur. He naturally loses, therefore, the habit of such exertion, and generallybecomes as stupid and ignorant as it is possible for a human creature to become. ...Hisdexterity at his own particular trade seems, in this manner, to be acquired at the


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expense of his intellectual, social, and martial virtues. ...this is the state into which thelabouring poor, that is, the great body of the people, must necessarily fall, unlessgovernment takes some pains to prevent it."

On labor relations, Smith noted "severity" of laws against worker actions, and

contrasted the masters' "clamour" against workers associations, with associations andcollusions of the masters which "are never heard by the people" though such actionsare "always" and "everywhere" taking place:

"We rarely hear, it has been said, of the combinations of masters, though frequently ofthose of workmen. But whoever imagines, upon this account, that masters rarelycombine, is as ignorant of the world as of the subject. Masters are always andeverywhere in a sort of tacit, but constant and uniform, combination, not to raise thewages of labour above their actual rate...Masters, too, sometimes enter into particularcombinations to sink the wages of labour even below this rate. These are alwaysconducted with the utmost silence and secrecy till the moment of execution; and when

the workmen yield, as they sometimes do without resistance, though severely felt bythem, they are never heard of by other people." In contrast, when workers combine, "themasters..never cease to call aloud for the assistance of the civil magistrate, and therigorous execution of those laws which have been enacted with so much severityagainst the combination of servants, labourers, and journeymen."

http://en.wikipedia.org/wiki/Adam_Smith

David Ricardo

David Ricardo was an English political economist, often credited with systematizing

economics, and was one of the most influential of the classical economists, along withThomas Malthus and Adam Smith.He is known for the so-called Iron Law of Wages,that wages naturally tend to a subsistence level.He was also a member of Parliament,businessman, financier and speculator, who amassed a considerable personal fortune.Perhaps his most important contribution was the theory of comparative advantage, afundamental argument in favor of free trade among countries and of specializationamong individuals. Ricardo argued that there is mutual benefit from trade (or exchange)even if one party (e.g. resource-rich country, highly-skilled artisan) is more productive inevery possible area than its trading counterpart (e.g. resource-poor country, unskilledlaborer), as long as each concentrates on the activities where it has a relativeproductivity advantage.

In 1815, Ricardo published his groundbreaking Essay on..Profits. There he introducedthe differential theory of rent and the "law of diminishing returns" to land cultivation.Coincidentally, this principle was discovered simultaneously and independently byMalthus, Robert Torrens and Edward West. (more astoundingly, all of them publishedtheir tracts within three weeks in February, 1815!) In his 1815 Essay, Ricardoformulated his theory of distribution in a one-commodity ("corn") economy. With wagesat their "natural" level, Ricardo argued that rate of profit and rents were determined


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residually in the agricultural sector. He then used the concept of arbitrage to claim thatthe agricultural profit and wage rates would be equal to the counterparts in industrialsectors. With this theory, he could show that a rise in wages did not lead to higherprices, but merely lowered profits.

For Ricardo, the appropriate theory was the "labor-embodied" theory of value or LTV,i.e. the argument that the relative "natural" prices of commodities are determined by therelative hours of labor expended in their production. Indeed, he began his 1817 bookby criticizing Adam Smith's alternatives -- the "labor-commanded" and "adding up"theories of value -- because, he argued, that made value a function of wages and thusincome distribution. For Ricardo, this was untenable. In his vision, value wasindependent of distribution, and thus only the "labor-embodied" theory made sense.

However, Ricardo realized that when the question of capital comes in, a problem arose:specifically, as different industries apply different amounts of capital per laborer, thenthe rate of profit will also differ across industries. Ricardo understood that if he then

assumed that the rates of profit across different industries were equalized (as freecompetition would imply), then, mathematically, relative prices would now vary withwages -- exactly what he had criticized Smith for! Ricardo realized that the labor theoryof value would only work if the degree of capital-intensity was the same across allsectors, casting doubt on the generality of his cherished theory.

Ricardo proposed two ways out of this dilemma. The first was the empirical argumentthat firms apply capital in a roughly proportional manner to the amount of laborinvested. In this case, the resulting prices when profits are equalized would not differmuch from the values implied by the LTV. This is what Stigler (1958) has calledRicardo's "93% labor theory of value". The second solution was to find a commodity

which has the average capital per worker, so that its price would reflect labor-embodiedvalue and thus not vary with changes in distribution. He called this the "invariablestandard of value" . If one can find what this "standard" commodity is, Ricardo argued,then the rest of the analysis is simple. One can, say, change technology, trace thechange in value of the standard commodity, and then extrapolate the change in valuefor all other commodities by the degree to which their capital composition deviates fromthis standard. Despite his search, Ricardo never found this standard commodity. Onhis death, an incomplete paper entitled "The Invariable Standard of Value" was foundon his desk. Eventually, Karl Marx (1867) proposed one way out of it, but the propersolution would have to wait until Piero Sraffa (1960).

On foreign trade, Ricardo set forth his famous theory of comparative advantage. Usinghis famous example of two nations (Portugal and England) and two commodities (wineand cloth), Ricardo argued that trade would be beneficial even if Portugal held anabsolute cost advantage over England in both commodities. Ricardo's argument wasthat there are gains from trade if each nation specializes completely in the production ofthe good in which it has a "comparative" cost advantage in producing, and then tradeswith the other nation for the other good. Notice that the differences in initial positionmean that the labor theory of value is not assumed to hold across countries -- as it


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should be, Ricardo argued, because factors, particularly labor, are not mobile acrossborders. As far as growth is concerned, foreign trade may promote furtheraccumulation and growth if wage goods (not luxuries) are imported at a lower price thanthey cost domestically -- thereby leading to a lowering of the real wage and a rise inprofits. But the main effect, Ricardo noted, is that overall income levels would rise in

both nations regardless.

John Maynard Keynes

John MaynardKeynes,was a British economist whose ideas have been a centralinfluence on modern macroeconomics, both in theory and practice. He advocatedinterventionist government policy, by which governments would use fiscal and monetarymeasures to mitigate the adverse effects of business cycles, economic recessions, anddepressions. His ideas are the basis for the school of thought known as Keynesianeconomics, and its various offshoots.

In the 1930s, Keynes spearheaded a revolution in economic thinking, overturning theolder ideas of neoclassical economics that held that free markets would automaticallyprovide full employment as long as workers were flexible in their wage demands.Following the outbreak of World War II Keynes's ideas concerning economic policy wereadopted by leading Western economies. During the 1950s and 1960s, the success ofKeynesian economics was so resounding that almost all capitalist governments adoptedits policy recommendations.

Keynesian economics (also called Keynesianism and Keynesian Theory) is amacroeconomic theory based on the ideas of 20th-century British economist JohnMaynard Keynes. Keynesian economics argues that private sector decisions sometimes

lead to inefficient macroeconomic outcomes and therefore advocates active policyresponses by the public sector, including monetary policy actions by the central bankand fiscal policy actions by the government to stabilize output over the businesscycle.The theories forming the basis of Keynesian economics were first presented inThe General Theory of Employment, Interest and Money, published in 1936; theinterpretations of Keynes are contentious, and several schools of thought claim hislegacy.

Keynesian economics advocates a mixed economypredominantly private sector, butwith a large role of government and public sectorand served as the economic modelduring the latter part of the Great Depression, World War II, and the post-war Golden

Age of Capitalism, 19451973, though it lost some influence following the stagflation ofthe 1970s. As a middle way between laissez-faire capitalism and socialism, it has beenand continues to be attacked from both the right and the left.The advent of the globalfinancial crisis in 2007 has caused a resurgence in Keynesian thought. Keynesianeconomics has provided the theoretical underpinning for the plans of President BarackObama, Prime Minister Gordon Brown and other global leaders to, allegedly, rescue theworld economy.


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In Keynes's theory, there are some micro-level actions of individuals and firms that canlead to aggregate macroeconomic outcomes in which the economy operates below itspotential output and growth. Some classical economists had believed in Say's Law, thatsupply creates its own demand, so that a "general glut" would therefore be impossible.Keynes contended that aggregate demand for goods might be insufficient during

economic downturns, leading to unnecessarily high unemployment and losses ofpotential output. Keynes argued that government policies could be used to increaseaggregate demand, thus increasing economic activity and reducing unemployment anddeflation.

Keynes argued that the solution to depression was to stimulate the economy("inducement to invest") through some combination of two approaches: a reduction ininterest rates and government investment in infrastructure. Investment by governmentinjects income, which results in more spending in the general economy, which in turnstimulates more production and investment involving still more income and spendingand so forth. The initial stimulation starts a cascade of events, whose total increase in

economic activity is a multiple of the original investment.

A central conclusion of Keynesian economics is that, in some situations, no strongautomatic mechanism moves output and employment towards full employment levels.This conclusion conflicts with economic approaches that assume a general tendencytowards an equilibrium. In the 'neoclassical synthesis', which combines Keynesianmacro concepts with a micro foundation, the conditions of general equilibrium allow forprice adjustment to achieve this goal.

Excessive saving

To Keynes, excessive saving, i.e. saving beyond planned investment, was a seriousproblem, encouraging recession or even depression. Excessive saving results ifinvestment falls, perhaps due to falling consumer demand, over-investment in earlieryears, or pessimistic business expectations, and if saving does not immediately fall instep, the economy would decline.

Thomas Robert Malthus

Thomas Robert Malthus was a British economist and demographer, whose famousTheory of Population highlighted the potential dangers of overpopulation. In his famous

An Essay on the Principles of Population, Malthus stated that while 'the populations ofthe world would increase in geometric proportions the food resources available for themwould increase only in arithmetic proportions'. In simple words, if human population wasallowed to increase in an uncontrolled way, then the number of people would increaseat a faster rate than the food supply. A point would come when human population wouldreach the limit up to which food sources could support it. Any further increase wouldlead to population crash caused by natural phenomena like famine or disease.

The Theory


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Malthus put forth his ideas in in six editions of his famous treatise 'An Essay on thePrinciple of Population'. His thinking took shape under the influence of the optimisticideas of his father and his friends mainly Rousseau, about future improvement of thesociety. In the first edition of his treatise, Malthus put forth his views that opposed thebelief of scholars like Marquis de Condorcet and William Godwin who were optimistic

about population growth in England. During the Industrial Revolution, Englandexperienced a steep increase in its population. In his book The Enquirer, WilliamGodwin promoted population growth as a means for human beings to attain equality.

According to him, an increased population would create more wealth that would providefood for the whole humanity. Scholars of such school of thought believed that, both manand society could be made perfect. In contrast to this viewpoint, Malthus interpretedoverpopulation as an evil that would reduce the amount of food available per person.

Malthus' theory was based on the assumption that the power of population is muchgreater than the power of the earth to provide subsistence for man. In his own words'passion between the sexes is an inevitable phenomenon' hence, when unchecked,

population would grow at such a high rate that it would outstrip food supply. Accordingto Malthus, disease, food shortage and death due to starvation, were nature's way tocontrol population. He proposed that human beings adopt measures like infanticide,abortion, delay in marriage and strict following of celibacy to check population growth.

According to him, human society could never be perfected. He believed that man is alazy animal, who would lead a satisfied life and procreate as long as his family was wellfed. However, as soon as human population would feel constraints in food supply due toincrease in population, he would again work hard to provide enough for his family. Thismight lead to an increase in agricultural production to provide for all, but at the sametime man would be back to his complacent stage, where all his needs would be fulfilled.

This would start the cycle of overpopulation and food shortage, all over again. Havingbeen a clergy, Malthus validated his theory on moral grounds that suffering was a wayof making human beings realize the virtues of hard work and moral behavior. Such kindof suffering due to overpopulation and food supply was inevitable.

Impact

Malthus' theory had great influence on both Charles Darwin and Alfred Wallace, whoare the co-founders of the modern evolutionary theory. In his own words Darwinacknowledged, that he was already aware of the 'struggle for existence' among differentspecies of plants and animals. However, it was only after he read Malthus' work were herealized that animals in their struggle to survive, retained the favorable features thatwould help them adjust to the environment, and lost those that were of no use to them.Thus the Theory of Natural Selection was born.

By the end of the 19th Century, when living standards improved and birth rates droppedin the Western countries, concerns of overpopulation became irrelevant. However, inunderdeveloped countries which are have agrarian economies, Malthus' theory oftenfinds credibility.


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Criticism

Some critics of Malthus, like Karl Marx, argued that Malthus failed to recognize thepotential of human population to increase food supply. Malthus is accused by many tohave failed to comprehend man's ability to use science and technology to increase food

supply to meet the needs of an increasing population.

Thinkers from the field of social sciences have criticized Malthus for his belief that thehuman society could never be made perfect. Malthus opposed all political, social andeconomic reforms that did not aim at controlling birth rate. His own methods of checkingpopulation growth was criticized as being impractical. Malthus was opposed to the PoorLaws popular in England, which provided relief to the people who qualified as poorunder the laws. According to him, such charity would provide only short term relief tothem and let the poor remain in their state of financial distress. This thought of Malthus,was viewed as misanthropic.

From his writings some have interpreted Malthus as a rigid and pessimistic individual.However, he is also viewed by some as a pragmatic thinker, who put a check on theunbridled enthusiasm of some who viewed increase in population as a means ofprogress.

http://www.buzzle.com/articles/thomas-malthus-theory-of-population.html

The Theory of Wants

Demand and Consumer Behavior

Theory of consumer behavior

1. Law of marginalutility. Utility means satisfaction. Of a consumer whenever heconsumes one more unit of the same good. Consumption of more successiveunits of the same good increases total utility, but at a decreasing rate becausemarginal utility diminishes. For example, 1 cone of ice cream gives satisfaction tothe individual. Consumption of another cone of ice cream of the same kind givesan additional satisfaction. Again he consumes the third cone of ice cream of thesame kind. His total satisfaction has increased by consuming 3 cones of ice

cream in just one sitting. But his additional satisfaction from the third cone of icecream is lesser than his additional satisfaction from the second cone of icecream.

2. Indifference curve. The word indifference means showing no bias or neutral.Supposing there are five combinations of two products (like meat and fish): thefirst combination constitutes 5 kilos of meat and 1 kilo of fish while anothercombination is composed of 5 kilos of fish and 1 kilo of meat and so on. Since allthe combinations give the same satisfaction or utility, the consumer would be


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indifferent as to which combination he receives. This means any combinationwould be desirable to him.

The Law of Demand and Supply

Dem

and

Demand is the schedule of various quantities of commodities which buyers are willingand able to purchase at a given price, time, and place.

Determinants of demand explained

1. Income people buy more goods and services when their incomes increase.Poor people who become rich naturally purchase more basic goods like food,clothing and shelter; and services like recreation, medicare and education.

2. Population more people means more demand for goods and services. There

are more consumers in an urban community than in a rural community.3. Tastes and preferences demand for goods and services increases whenpeople like or prefer them. Such tastes or preferences are greatly influenced byadvertisement or fashion. On the other hand, if a certain product is out of fashion,the demand for it falls.

4. Price expectation when people expect the prices of goods especially basiccommodities like rice, soap, cooking oil, or sugar to increase tomorrow or nextweek they buy more of these products.

5. Prices of related goods when the price of a certain product increases, peopletend to buy a substitute product (competitor). For example, if the price of tideincreases, consumers buy less of tide and more of the other close substitutes like

breeze.

The law of demand

Consumers are most likely to buy more goods and services as price decreases, andbuy less goods and services as price rises. This is the law of demand. Such generaltendencies of consumers can be explained by two reasons:

1. Income effect. At lower prices, an individual has a greater purchasing power.This means he can buy more goods and services. But at higher prices, naturallyhe can buy less.

2.Sub

stitu

tion effect. Consumers tend to buy goods with lower prices. In case theprice of a product that they are buying increase, they look for substitutes whoseprices are lower.

Validity of the law of demand

The law of demand states: as price increases, quantity demanded decreases, and asprice decreases, quantity demanded increases. Such theory is only true if the


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assumption of ceteris paribus is applied. It means all other things equal or constant.The law of demand is correct if the determinants of demand are held constant; that isthere is no change in income, taste or population.

Changes in demand vs. changes in quantity demanded

Changes in demand refer to changes in the determinants of demand like income,population, price expectation and so forth.

Supply

Supply is the schedule of various quantities of commodities which producers are willingand able to produce and offer at a given price, place and time.

Determinants of supply explained

1. Technology. This refers to the techniques or methods of production. Moderntechnology-which uses a modern machine increases supply of goods.2. Cost of production. In producing goods, raw materials are needed, together with

laborers. If the price of raw materials or the salaries of laborers increase, itmeans higher cost of production.

3. Number of sellers. More sellers or more factories mean an increase in supply.Smaller number of sellers or factories means less supply.

4. Prices of other goods. Changes in the price of goods affect the supply of suchgoods. For example, a decrease in the price of rice may likely encourage a ricefarmer to produce more corn if this gives him more profit.

5. Price expectations. If producers expect prices to rise very soon, they usually

keep their goods and then release them in the market when the prices arealready high.6. Taxes and subsidies. Certain taxes increase cost of production. Higher taxes

discourage production because it reduces the earnings of businessmen.

Law of supply

As price increases, quantity supply also increases, and as price decreases, quantitysupply also decreases. This direct relationship between price and quantity supplied isthe law of supply. Producers are willing and able to produce and offer more goods at ahigher price than at a lower price. However, the law of supply is only correct if we apply

the assumption of ceteris paribus. This means the law of supply is valid if thedeterminants of supply like cost of production or technology are held constant.

The law of supply and demand

In the market, supply and demand interact freely. Supply is represented by producers orsellers while demand is represented by buyers. Producers are willing and able to offer


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more goods at higher prices. This is the law of supply. On the other hand, buyers arewilling and able to purchase at lower prices. This is the law of demand.

Documents

Economics Fundamental Concepts (Prelim)