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MICROECONOMICS

(ECO 162)
INTRODUCTION TO
MICROECONOMICS
-Ms. Tai Nyuk Chin-

LEARNING OUTCOMES
At the end of this lesson, the students should be
able to:
i. Define economics and distinguish between
microeconomics and macroeconomics.
ii. Describe basic economic concepts: Scarcity, choices
and opportunity cost.
iii. Explain the basic economic problems.
iv. Explain graphically basic economics concept using
PPC.
v. Distinguish the four types of economic systems.


HISTORY ON DEFINITION OF
ECONOMICS
i. Economics is a science that studies human behavior as a relationship
between ends and scarce means which have alternative uses
L.Robbins (1894-1984) .
ii. Economics is a study of how people use their limited resources to try to
fulfill their unlimited wants and involves alternative or choices K.E.
Case and R.C. Fair.
iii. Economics is the science of how a particular society solves its economic
problems Milton Friedman (1912)
iv. Economics is the study of mans actions in the ordinary business of life;
it examines that part of individual and social action which is most closely
connected with the attainment and with the use of the material requisites
of well-being. Thus it is on one side a study of wealth and on the other
and more important side, a part of the study of man - Alfred Marshall
(1824-1924)
DEFINITION OF ECONOMICS
Economics is a social science study which concern on how
human being allocates the limited resources in order to
fulfill the unlimited needs and demands.
Economic can be subdivided into two branch;
macroeconomic and microeconomic.
Microeconomic analyzes the specific economic units in
details such as households, firms and government.
Macroeconomics, on the other hand, analyzes the
aggregate behavior of the entire economy.

















HOUSEHOLDS
FIRMS
GOVERNMENT
OPEN ECONOMICS
Build more hospitals
or schools?
ECONOMIC CONCEPTS
Three main economic concepts involves;
i. Scarcity (land, labour, capital and enterprise)
Occurs as human wants are always greater than the
available resources.
The most important concept in economics. If there is no
scarcity, then there will be no economics study.
ii. Choice
When scarcity exists, choices are to be made out of the
available alternatives.
iii. Opportunity cost (Second Best-Forgone alternative)
The second-best alternative that has to be forgone for
another choice which gives more satisfaction.

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

THREE BASIC ECONOMIC PROBLEMS
What to produce?
What kind of product/services are going to be produces.
Depends on the type and quantity of goods and services needed by
the countries
How to produce?
What resources are going to be used, what techniques are going to
be used to produce.
Depends on the cheapest method of production (Labor VS
Machine).
For whom to produce?
How will nation distribute income to reduce the gap between rich
and poor.
Depends on the distribution of income in the society.

PRODUCTION POSSIBILITIES CURVE (PPC)

Since with scarcity problem, no country in this world can produce unlimited
numbers of goods.
Therefore, an economy will produce goods depending on various
combinations of factors of production.
PPC shows the various possible combination of goods and services
produced within a specified time period with given technology and
resources.
Assumptions to illustrate PPC includes;
i. Full-employment
The economy is operating in full employment and full efficiency
ii. Fixed resources
The amount of available economic resources or factor of production are fixed
iii. Technology constant
State of technology and method of production does not change
iv. Production of two goods
Assuming that the country is producing only two type of goods



PRODUCTION POSSIBILITIES CURVE

Foods (Million units)
Clothes (Million units)






150
120
90
60
30
10 20 30 40 50
X
Y
A
B
C
D
Figure 1.1 : Production Possibilities Curve
(Unattainable due to scarcity)
ABCD: Attainable and Efficient
points (Choices)
(Attainable but inefficient: Lead
to wastage/unemployment)

PRODUCTION POSSIBILITIES CURVE

i. Point inside the PPC (Point X)
These combinations of foods and clothes are attainable and can be
produced.
However, it shows the resources are not fully utilized and the production
has not reached its maximum level.
ii. Points Outside the PPC (Point Y)
This point which lies outside the PPC is unattainable due to limited
resources
Shows the concept of scarcity.
iii. Points along the PPC (Point A, B, C and D)
Combination are attainable and efficient.
Shows the second basic economic concept of choices.


PRODUCTION POSSIBILITIES CURVE

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



B
A
Good Y
Good X
75
50
50 100
PRODUCTION POSSIBILITIES CURVE
v. Shifts of the PPC
a) Outward shift (Increase in output): Due to improvement in the new
technology, increase in resources and technology, economy growth and
increase in population.
b) Inward Shift (Decrease in output) : Due to natural disaster, reduction in
factors of production and

Corn

Corn

Corn


PRODUCTION POSSIBILITIES CURVE

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

Production Possibilities Curve: Increasing
Opportunity Cost

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



Good Y
Good X
Figure 1.2 : Increasing Opportunity Cost
1 2 3 4
2
4
5
6


PRODUCTION POSSIBILITIES CURVE: Constant
Opportunity Cost


Constant opportunity cost means
that when a country produces
more of one good, it has to
forgone the same amounts of
another goods.
Figure 1.3 shows that same
amount of Good Y is forgone for
each additional unit of Good X.
PPC is linear as the opportunity
cost is constant.
6
2
4
2 6 4
Good Y
Good X
A
B
C
D
Figure 1.3 : Constant Opportunity Cost


PRODUCTION POSSIBILITIES CURVE: Decreasing
Opportunity Cost


Decreasing opportunity cost occurs
when a country produces more of
one good, it has to forgone lesser
amounts of another goods.
Figure 1.4 shows that 1 unit increase
in Good X from point A to B involves
two units of Good Y forgone.
An additional increase of Good X
from point B to C forgone 1 units of
Good Y and number of Good Y
forgone continues to decrease.
This is called decreasing opportunity
cost as lesser units of Goods Y are
forgone for additional unit of Good X.
PPC is convex due to decreasing
opportunity cost
Good Y
Good X 2 3 1
1
2
4
Figure 1.4 : Decreasing Opportunity Cost
A
B
C
D
PRODUCTION POSSIBILITIES CURVE
i. Apr 2010 (Part B, Q 2.a)
ii. Apr 2011(Part B, Q2)
iii. Sept 2011(Part B, Q2.a)


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

i. CAPITALIST MARKET SYSTEM
A capitalism is an economic system where individuals without
government intervention take all the main economic decision.
Also known as market economy, free enterprise system and
laissez-faire.
This economy is characterized as economic freedom, where an
individual can act at their own wishes without any control from
the government.
The example of countries practicing the capitalist economic
system are the United States of America (USA), France, Canada,
Japan, and Britain.
CAPITALIST MARKET SYSTEM:
CHARACTERISTICS
i. No government intervention
ii. Private ownership of resources
iii. Consumer is the king concept
iv. High level of competition
v. Price System Invisible hands



CAPITALIST MARKET SYSTEM
ADVANTAGES
i. Production according to the
needs of consumers
ii. Economic freedom
iii. Resources are efficiently
utilized
iv. Varieties of consumer goods
v. Enhance trade, business and
R&D


DISADVANTAGES
i. Inequality of distribution of
wealth and income.
ii. Inflation and high
unemployment rate.
iii. Lack of social welfare.
iv. Unnecessary variety and
wasteful competition.
v. Misallocation of resources.
vi. Social cost.


HOW CAPITALIST MARKET SYSTEM
SOLVE BASIC ECONOMIC PROBLEM
i. What to produce?
In this economic system, production depends on the goods
demanded by the consumer.
An entrepreneur will only produce goods and services where there
is demand from consumer in order to gain higher profit.
ii. How to produce?
Depends on the techniques of production whether to use labor
intensive, capital intensive or combination of both techniques.
Cheapest method of production will be adapted not only to
maximize profit but also to achieve efficiency.
iii. For whom to produce?
This problem will be solve through price system.
Goods and services are obtained by anyone who can afford.
ii. SOCIALIST MARKET SYSTEM
Socialist market system is a centrally planned economy where
government or central authority makes all economic decision.
Any private individual has no right to make their own economic
decisions.
There will be no private property rights since all resources are
owned by government.
Also known as command economy and planned economy.
There are only few countries which practice this economic
system such as Russia, Cuba, Laos, Vietnam and North Korea.
SOCIALIST MARKET SYSTEM:
CHARACTERISTICS
i. Public ownership of resources.
ii. Central planning authority.
iii. Less importance of price mechanism
iv. Central control and ownership


SOCIALIST MARKET SYSTEM:
ADVANTAGES
i. Production according to
the basic of society
ii. Equal distribution of
income
v. Social welfare

DISADVANTAGES
i. Lack of incentives and
initiatives by individuals
ii. Loss of economic
freedom of consumers
iii. Absence of competition
iv. Waste of economic
resources


HOW SOCIALIST MARKET SYSTEM
SOLVE BASIC ECONOMIC PROBLEM
i. What to produce?
In this economic system, planning authorities decides what to produce.
The Central Planning Authority will collect detailed statistics on the
resources availability and fix up with national priorities.
ii. How to produce?
The Central Planning Authority will also decides on what techniques to be
used in the production of goods and services.
The choice is between traditional or modern techniques.
iii. For whom to produce?
The distribution of national product is decided by Central Planning
Authority.
The distribution of various commodities is done through a set of
administered fixed prices. (Necessities good are fixed at lower price while
luxurious good are fixed at higher price)
This is to ensure low inequalities in the distribution of income among
societies.

iii. MIXED MARKET SYSTEM
Mixed market system is an economic system which
has a mix of capitalist and socialist systems to solve
basic economic problems.
A mixed economy is where both public and private
sectors play their roles in the economy.
Most of the countries in the world practiced this type
of economic systems. This includes Malaysia,
Singapore, Thailand, Germany, South Africa and many
others.
MIXED MARKET SYSTEM:
CHARACTERISTICS
i. Public and private ownership of resources.
ii. Price mechanism and economic plan used to
make economic decisions.
iii. Government intervention.


MIXED MARKET SYSTEM:
ADVANTAGES
i. More stable economics.
ii. Lower social cost.
iii. Narrow gap between
rich and poor.
iv. Social welfare.

DISADVANTAGES
Higher cost in conducting
regulation requirements.
Unsuccessful government
regulation may paralyzed
the system.
High level of bureaucracy.

HOW MIXED MARKET SYSTEM SOLVE
BASIC ECONOMIC PROBLEM
i. What to produce?
In this economic system, what to produce decided by the public and private
sectors.
The goods and services produced depends on the consideration of social
welfare as well as economic growth.
ii. How to produce?
The private sector will choose the most efficient and cost-effective
techniques of production (labor intensive vs. capital intensive) while
government will enact laws to combat inefficiencies arising from
externalities.
iii. For whom to produce?
The distribution of goods and services is also decided by the public and
private sectors.
Price mechanism is not fully functional in mixed economies.
Government intervene directly through price control and indirectly
imposing indirect taxes and subsidies.

iv. ISLAMIC MARKET SYSTEM
Economic activities in Islam are not seen from the materialistic
aspect only but also the spiritual aspect in this world and the life
hereafter.
The only objective of the Islamic Economic System is to achieve
Al-Falah, which means success in ones life in the world and also
the life hereafter.
The basic philosophical foundation in the Islamic Economic
System includes;
a) Tauhid
b) Rububiyyah
c) Tazkiyyah
d) Khalifah
e) Ukhuwwah
HOW ISLAMIC MARKET SYSTEM
SOLVE BASIC ECONOMIC PROBLEM
i. What to produce?
In this economic system, what to produce are decided through the
principles of Syariah as been stated in Al-Quran and As- sunnah.
The goods and services produced must be permissible (halal) and in
accordance with the classification of goods in Islam.
ii. How to produce?
The producer will choose the most efficient and cost effective methods
of production. (labor vs. capital intensive)
iii. For whom to produce?
In distributing the goods and services, the need of the poor should
come first instead of the rich.
This, however, does not mean that the needs of rich are being ignored.
It just that the production of luxury goods for the rich should come
later than the need of the poor.

ECONOMIC SYSTEMS
i. Apr 2011 Part C, Q.1b
ii. Sept 2011 Part C, Q.1b


END OF CHAPTER 1
THANK YOU