Economics & Sociology

Unit 1
 What is Economics?
 Economics is a social science. Its basic function is to study
and analyze the choice-making behavior of people as
individuals, house-holds, firms or nations, in-relation to
optimizing the allocation of available limited resources and
opportunities to maximize their gains.Thus, the basic task
of the economy of any society is to allocate or ration the
available goods and services to its consumers to derive the
maximum utility.
 Making a choice, i.e. taking an “economic decision” in the
economic world is often very complex, because most of
these decisions may have to be taken under the conditions
of imperfect knowledge, risk and uncertainty.
 (Ex): Economics studies and analyzes how households with
their limited income decide ‘what to consume’ and ‘how
much to consume’ with the aim of maximizing total utility.
 Micro-economics looks at what happens in particular parts of
the economy. It is concerned with what determines the prices of
individual goods and incomes of particular factors of production.
It studies and analyses the internal issues of individual firms or
business organizations which produce goods or services, at their
operational level.The management of these business enterprises
often makes the choices or takes the decisions related to these
issues, which include:
 (i) Choice of business and nature of the product (what to produce?)
 (ii) Choice of size of the firm (how much to produce?)
 (iii) Choice of technology (how to produce?)
 (iv) Choice of location (where to produce?)
 (v) Choice of market segment (whom to sell?)
 (vi) Choice of price (how much to sell for?)
 (vii) Choice of marketing (how to sell & where to sell?)
 (viii) Choice of sales promotion (how to advertise?)
 (ix) Choice of strategy for facing competition,
 (x) Choice of managing profit and capital,
 (xi) Choice of managing stock and inventory (raw materials and finished
goods)
 (xii) Choice of managing new investments.
 Macro-economics looks at the economy as a whole. It shows what are the causes of
high and low levels of unemployment and economic activity. It studies and analyses
how nations formulate their economic policies and allocate their resources, i.e. men
and material, between competing needs of the society so that welfare of the society
can be maximized. It is concerned with the environmental or large scale issues
related to the economic, social and political atmosphere of a country, in which
individual firms and organizations are operating.
 The way in which the individual firms and business organizations conduct their business is
influenced by these macro-economic factors or business parameters, which include:
 (i) The type of economic system in the country,
 (ii) General trends in national income, employment, prices, saving and investment, etc.,
 (iii) Structure of and trends in the working of financial institutions, e.g. banks, financial
corporations, insurance companies, etc.,
 (iv) Magnitude of and trends in foreign trade,
 (v) Trend in labour supply and strength of the capital market,
 (vi) Government’s economic policies, e.g. industrial policies, foreign trade policies etc.,
 (vii) Social factors like value system of the society, property rights, customs and habits,
 (viii) Socio-economic organizations like trade unions, consumers’ associations, consumer
cooperatives and producers’ unions,
 (ix) Political environment and political system, i.e. democratic, authoritarian, socialist or
otherwise,
 (x) Government’s attitude towards private business, size and working of the public sector and
political stability,
 (xi) The degree of the globalization of the economy and the influence of MNCs on domestic
market.
 Price:
Is the rate at which a goods/service can be exchanged for anything else. Price for
any goods/service is determined in the market because of its usefulness and scarcity
based on the rate of demand of buyers and the rate of supply by sellers in a
competitive market. If scarcity of goods does not exist, there would be no economic
system. Individual prices show which goods are more plentiful and cheaper, and
which are scarcer and more expensive.
 Goods or commodities can be divided into Consumer goods or Capital goods or
Services.
 Consumer goods are eat, wear, burn and consume.
 Capital goods assist in the production of consumer goods.
 The Market:
 A market is a mechanism by which buyers and sellers
interact to determine the price and quantity of a
good or service during a period of time.
 Market for a particular commodity consists of the
buyers and sellers of that commodity who interact to
settle its price and quantity to be transacted during a
given time.
 Every buyer and seller in the market knows what
every other buyer and seller is doing so that the
same price will rule throughout the market at any
given time for a given quantity.
 The buyers and sellers may be individuals, firms,
factories, dealers or agents.
 Functional market concepts:
 A market need not be situated in a particular place or locality.
 All the buyers & sellers should be able to get in touch with each
other whenever the market is open.
 All the available goods are for sale & all buyers have the capacity to
buy.
 Sufficiently large no. of sellers & buyers are available, and all the
products are homogenous.
 Every buyer & seller in the market knows what every other buyer
& seller is doing.
 Buyers do not appear also as sellers & vice versa.
 The Sellers prefer higher prices whereas the Buyers prefer lower
prices. The demand and supply relationship determines the price
for any goods. Supply of any goods depends on the scarcity in
relation to its demand.
 Demand side of the Market:
The demand side of the market for a product refers to all its consumers and the price that
they are willing to pay for buying a certain quantity of the product during a period of time.
The quantity that consumers buy at a given price determines the market size. It is the size
of the market that determines the business prospects of a firm and an industry. The law of
demand is: all other things remaining constant, the quantity demanded of a commodity
increases when its price decreases and decreases when its price increases.The demand
and price are inversely related.

Consumer Demand:
Consumer demand is the basis for all productive activities.The ‘demand’ implies a ‘desire
for a commodity backed by the ability and willingness to pay for it’.
 The consumer wants/needs remain unchanged throughout the market period.
 He has a fixed amount of money available, and he can, if he wishes, spend his money in very small
amounts.
 He is one of the many buyers, and knows the prices of all goods, each of which is homogenous.
 He acts ‘rationally’.

Effective Demand:
A want with three attributes, ‘desire to buy’, ‘willingness to pay’, and ‘ability to pay’.
Market Demand: The aggregate demand of all the individual consumers.
 Supply side of the Market:
 Supply means the quantity of a commodity that its producers or
sellers offer for sale at a given price, per unit of time. Market
supply is the sum of supplies of a commodity made by all its
producers at a given price, per unit of time.The supply of a
commodity depends on its price and cost of its production.
Supply:
 The supply depends on scarcity. Scarcity always means scarce in
relation to the demand. For many goods, the supply is fixed in
numbers, because supply requires at least two or more of factors
of production, i.e. ‘land’, ‘labour’, ‘capital’ and ‘enterprise’, must be
used.
The law of supply is:
The supply of a product increases with the increase in its price
and decreases with decrease in its price, other things remaining
constant.The supply of a commodity and its price are positively
related.
 Market Equilibrium:
It is a state of a market in which quantity demanded of a commodity
equals the quantity supplied of the commodity. The equality of demand
and supply produces an ‘Equilibrium Price’, the price at which the
quantity demanded of a commodity equals the quantity supplied of that
commodity.
 For any goods, ‘normal price’ is the one towards which its actual prices
expect to tend.
 The ‘average price’ for any goods is the arithmetic average of its ‘actual
price’.
 The market system for a product is governed by the laws of demand and supply
for that product, which play a crucial role in determining the price of that
product and the size of its market.
 Impact of Prices –
Buyer side:
There will be some high prices at which no buyer will purchase anything; and
there will be some very low prices at which all buyers will buy large quantities.
Seller side:
When the prices are very high, all the sellers are very keen to sell as much as
goods as possible. When the prices are too low, then the sellers will try to hold
back their supplies, in the hope that the prices will rise. When the prices are
high, more anxious sellers will be trying to dispose off their supplies while the
prices are high.
 ‘Maximum prices’ will lead to shortages whereas ‘Minimum prices’ will lead to
surpluses.
 Any change in the income level of the consumers will have a direct implication on the
demand side, and eventually on the supply side. However, since the income of the
individual buyers is limited, some rise in any essential commodity’s price is likely to have
an impact on the consumption rate of the other less essential goods.
 The prices of the markets of related commodities will tend to follow the same trend,
because of the cascading effect. If meat prices increase, fish prices also tend to increase,
because some of the meat buyers will opt to go the fish because of the rise in the price of
meat. Therefore, market for every goods/service is related in some degree, sometimes
quite great, sometimes very small, to all other markets.
 Purchase Price and Purchase Quantity Selling Price and Sales Quantity
– Factors influencing: (buyer side) – Factors influencing: (seller side)

Usefulness of goods/service Target profit margin & actual profit margin

Divisibility of the good/funds available
Quality of the good
Consumption rate & shelf life of good
Storage space/ transportation required
Scope for collective bargain
After sales service. Warranty, guarantee
Cost price / actual procurement cost
Selling price & volume of sales v/s holding cost
Shelf life of the good & storage space & cost
Market condition & season of the year
Availibility of alternative markets & distance
Selling cost & locality of sales

Conditions for Priice Discriminations:

 Lack of information among the buyers / sellers.
 Irrational thinking of buyers / sellers.
 Price difference is too small to be considered by the buyer.
 Effect of location, scarcity, quality of goods, advertisement, selling environment, quantity of
purchase/sale, available alternatives.
 Money:
Money is the medium of trade, accepted by all. Money became functional
because of the extreme inconvenience of direct barter system, in which
there must always be a coincidence of wants between the buyers &
sellers in the direct barter system. To address this, price system for the
goods has slowly replaced the direct barter system and incomes to the
people are provided in money units.
 All the members of the society are prepared to accept this money good because it
is useful and always is in demand. However, this money good is not edible, wearable
or capable of being consumed in any other way than to exchange for any
goods/services. All the members of the society exchange money for goods and work
for money wages in a law-abiding fashion. Money became the rationing device by
which goods & services are rationed out between the members of the community.
 The basic functions of money are:
 A unit of measurement;
 A medium of exchange;
 A store of value;
 A standard of deferred payments.
 Choice between alternatives:
The quantity of available resources enables one to make any choice between
the available alternatives. The sole aim of economically rationale individual is
to obtain the greatest possible satisfaction from their available limited
resources, by deliberately planning their purchases and choosing one good in
preference to another.This does not necessarily mean that one is behaving
selfishly in any moral sense, but making purchases for the
family/organization/so.
Since all economic goods are scarce, any consumer may not be able to purchase unlimited
quantities for the resources available. The consumer’s basic problem is choosing between
alternative satisfactions. Any consumer may not be rich enough to purchase everything
that (s)he desires because of the limited availability of economic resources. Therefore one
can only buy one thing ONLY if (s)he foregoes another.
While making a choice the questions that usually arise in the consumer’s mind could be:
 (a) how much to pay for the chosen good ?
 (b) is it worth the price?
 (c) what alternatives shall we forgo?
 (d) what would the value of the forgone alternative?
 A consumer is compelled to make a choice between available alternatives. The factors that
influence the decision making in choosing a particular good could be:
 (i) the need for the goods,
 (ii) the cost/price of the goods in consideration,
 (iii) available economic resources,
 (iv) quality of the goods,
 (v) quantity required and packed quantity available,
 (vi) volume discounts, if any,
 (vii) shelf life of the product,
 (viii) value/worthiness of the choice made,
 (ix) the cost/price of the other alternatives,
 (x) satisfaction associated and
 (xi) risks involved.
To any consumer at any time, the range of possible alternatives from which he will be able
to choose will be great, and, by economic rationality, any satisfaction which is deliberately
chosen from this large set of possible alternative satisfactions will clearly be preferred to
each and all of the others.
Economic Rationality:
The consumers seek the greatest possible satisfaction
from spending their money, and the entrepreneurs seek
the maximum money profits by selling their goods, is often
referred as the assumption of economic rationality.
‘A Firm’ is an individual production unit and
‘A Consumer’ is an individual consumption unit.
‘A rational Firm’ aims at earning the greatest possible
money profits.
‘A rational Consumer’ tries to derive the maximum
satisfaction for the money spent.
A ‘Firm’ is in equilibrium when its ‘marginal revenue’ equals
‘marginal cost’, earning maximum profits. Equilibrium in the market
is a state which depends on & satisfies the existing conditions of
demand & supply at any given moment of time.
Consumer’s satisfaction may not be measured quantitatively, but a
firm’s profits can be measured in money units.
 Profit:
A Firm’s profit may be defined as the difference
between its total revenue and its total costs. The
largest profits the firm could make will be earned
when the vertical distance between the total cost
and total revenue is as great as possible. Total
revenue at any output is equal to the selling price per
unit multiplied by quantity sold.
Profit: General profit = Total Revenue – Total Costs.
Profit Maximization:
Any firm would try to maximize its profits because:
 profit is indispensable for a firm’s survival,
 the profit earned is a measure of the efficiency of that firm,
 the growth of a firm depends on its ability to make profit,
 to face and survive at the occurrence of un-insurable risks.
 Cost Minimization:
Whatever the output a firm produces, it always does so as cheaply as possible, given
existing technical production methods. A firm tries to minimize the average cost of
production for a given output of its products.
 For producing any product, every firm incurs some fixed costs and some variable costs.
 ‘Fixed costs’ are independent of quantity produced, and depend only on the ‘passage of
time’. These include payments towards rents for premises, depreciation and obsolescence
charges, insurance charges, interest to capital loans, etc.
 ‘Variable Costs’ are the operational costs of a firm to make production. Also called as
‘working capital’, these include cost of raw material, wages to employees, maintenance of
capital equipment, buildings and offices, transportation, fuel and stationery charges,
employee welfare measures, social responsibility costs, etc.
 ‘Economic profit’ or ‘pure profit’ is a return over and above the opportunity cost of the
capital invested.This opportunity cost is the income which a businessman might expect
from the second best alternative use of his resources. Profit is simply the price paid by the
society for assuming the business risks.
 ‘Marginal Revenue’ is the revenue obtained from production and sale of one additional
unit of output.
 ‘Marginal Cost’ is the cost of increasing the output of the firm’s productivity by a marginal
unit.
 ‘Marginal Unit’: any unit of the goods/services, which a consumer is momentarily
considering whether the goods / service is worth buying.
 The Law of Diminishing Returns:
Given technological conditions, there will be a point
beyond which the addition of more variable factor(s)
to a fixed factor will bring falling returns per unit of
variable factor employed.
Risk and Uncertainty:
Risk:
 Risk means a low probability of an expected
outcome. Risk refers to a situation in which a
business-decision is expected to yield more than one
outcome and the probability of each outcome is
known to the decision-makers or it can be reliably
estimated.
 Ex: Insurable risks: fire, water, earthquakes, accidents,
buildings, machinery, equipment, employees, etc.
 Uncertainty:
It refers to a situation in which there is more than one outcome
of a business-decision, and the probability of no outcome is
known nor can it be meaningfully estimated.
Uncertainty in business may arise for such reasons as:
 Non-insurable risks:
 o Imperfect knowledge about the product/market
 o obsolescence of a product or sudden fall in prices,
 o non-availability of certain crucial materials,
 o improper planning, forecasting of future demand, etc.
 o introduction of a better substitute by a competitor,
 o Change in policies, governance, law and order problems, etc.
 Monopoly:
‘Monopoly’ is a market situation in which there is only a single
supplier/producer for a particular essential product without a close
substitute.
The ‘Monopolist’ is the sole producer of a particular product.The
monopolist’s firm is not just a firm, but also is the industry for that
product.
 Monopoly may arise due to:
 scale of operations
 sole ownership of certain crucial raw materials
 legal sanction and protection and
 mergers and takeovers.
Monopoly powers include:
 powers to control supply and price to suit himself,
 powers to prevent the entry of competitors by price cutting or other means,
 control over certain input materials.
 ‘Monarchy’ is a single ruler. ‘Oligarchy’ is a small group of rulers.
 Oligopoly:
‘Oligopoly’ is a small group of producers/ entrepreneurs. Oligopoly is defined
as ‘a market structure in which there are a few sellers selling homogenous or
differentiated products’. Oligopoly is the most prevalent form of market
organization in the manufacturing sector of the industrialized nations.
Ex. (homogenous products): cement, steel, petrol, cooking gas, chemicals, sugar, aluminum
etc.
Ex. (differentiated products): Automobiles, Televisions, soaps & detergents, refrigerators,
soft drinks, computers etc.
Oligopoly may arise due to:
 huge capital investment
 economies of scale of operations
 Patent rights, technological advantages
 control over certain raw materials
 mergers and takeovers.
 Strong consumer loyalty
 Price cutting by established firms to prevent entry of new firms into market.
 Competitive Market:
It will have large number of firms in the industry producing the
particular product. Any one firm, making any significant changes
in its production output will have no noticeable impact on the
price and output of the whole industry for that particular
product. All the firms produce ‘homogenous’ product, i.e.
identical units. No firm can raise it price above the general level.
If any one does, customers will buy from the others.
 Total number of buyers is very large, so that each buyer takes a very small
portion of the total sales of any particular goods. No ‘one’ buyer is able to
alter or dictate the price of any goods by his own actions, no matter how
large the quantity willing to purchase.
 All producers must be competing for the limited incomes of the
consumers.
 To supply any goods, first it has to be produced with the factors of
production:
 ‘land’, ‘labour’, ‘capital’ and ‘enterprise’.
 ‘Land’, ‘Labour’ and ‘Capital’ is hirable, but the ‘enterprise’ is not hirable.
Hence the ‘Entrepreneur’ is not hirable.
 ‘The Entrepreneur’ is the owner of a ‘Firm’ or ‘Business’. An entrepreneur is a
special type of factor of production, who hires the other factors of production,
combines and organizes them to earn and always maximize his profits. The
entrepreneur has to take the risk of making the product, decide on the
quantity of production and set the pricing of the product, while considering
the returns on the invested capital is always greater than the market rate of
interest.
 For deciding the levels of a product’s pricing, output and marketing activities, an
entrepreneur bases his actions on the chosen objectives and depends completely on
certain estimated figures of marginal cost and marginal revenue. However the actual
realization of the true nature of the data on which his decisions were based would be
known based on whether he made a profit or suffered a loss. In response to a profit/loss,
his expectations under uncertain market conditions are revised and in-turn influences the
decisions related to the levels of the product’s pricing, outputs and marketing activities for
the next cycle.
 An entrepreneur has to trust his own judgment about the likelihood of profit/loss in
response to the decisions made, I.e. expand or contract the output, raise/lower price,
modify/replace product, etc.
 The real function of an entrepreneur is to take these risks, which are intangible in nature,
yet take the full responsibility of the outcome. Intangible risks are generally non-insurable
risks, which include business losses as a result of misjudging market/commercial losses,
misinterpreting the data/information available on the occurrence of some risks, etc.
 Technological Constraints/Development:
 Technology used in the production of goods or services
is a vital determinant of the economic growth of a
nation.
 Technological development means improving the
technique of production through research and
innovations.
 It results in a larger output from a given number of
men, materials and time.
 Choice of appropriate technology is vital for the
production costs as well as for social welfare.
 A highly labour-saving production technology in a
labour-surplus economy/nation may reduce the
production costs to a large extent, but it would also
lead to high levels of unemployment in the society.
 Budget Constraint: scarce availability of money.