Economi CS: (MBA - I)

ECONOMI
CS
(MBA – I)
Page |2
1. Ten Principles Of Economics
I. Introduction
 The word “economy” comes from the Greek word oikonomos meaning “one who
manages a household.”
 This makes some sense because in the economy we are faced with many decisions (just
as a household is).
 Fundamental economic problem: resources are scarce.
 Definition of scarcity: the limited nature of society’s resources.
 Definition of economics: the study of how society manages its scarce resources.
 Definition of efficiency: the property of society getting the maximum benefits from its
scarce resources.
 Definition of equity: the property of distributing economic prosperity fairly among the
members of society.
II. How People Make Decisions
 Principle #1: People Face Trade-offs
 Examples include
 how students spend their time,
 how a family decides to spend its income,
 how the Indian government spends tax rupees.
 Principle #2: The Cost of Something Is What You Give Up to Get It
 Making decisions requires individuals to consider the benefits and costs of some
action.
 What are the costs of going to college?
 We cannot count room and board (at least all of the cost) because the
student would have to pay for food and shelter even if he was not in
school.
 We would want to count the value of the student’s time because he could
be working for pay instead of attending classes and studying.
 opportunity cost: whatever must be given up in order to obtain some item.
 Principle #3: Rational People Think at the Margin
 Economists generally assume that people are rational.
 rational: systematically and purposefully doing the best you can to
achieve your objectives.
 Many decisions in life involve incremental decisions: Should I remain in school
this semester? Should I take another course this semester? Should I study an
additional hour for tomorrow’s exam?
 marginal changes: small incremental adjustments to a plan of action.
 Principle #4: People Respond to Incentives
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 incentive: something that induces a person to act.

 Because rational people make decisions by weighing costs and benefits, their
decisions may change in response to incentives.
III. How People Interact
 Principle #5: Trade Can Make Everyone Better Off
 Consider trade that takes place inside your home. Your family is likely to be
involved in trade with other families on a daily basis. Most families do not build
their own homes, make their own clothes, or grow their own food.
 Countries benefit from trading with one another as well.
 Principle #6: Markets Are Usually a Good Way to Organize Economic Activity
 market economy: an economy that allocates resources through the
decentralized decisions of many firms and households as they interact in
markets for goods and services.
 Market prices reflect both the value of a product to consumers and the cost of the
resources used to produce it.
 Principle #7: Governments Can Sometimes Improve Market Outcomes
 The invisible hand will only work if the government enforces property rights.
 property rights: the ability of an individual to own and exercise control over
scarce resources.
 Government policy can be most useful when there is market failure.
 market failure: a situation in which a market left on its own fails to
allocate resources efficiently.
IV. How the Economy as a Whole Works
 Principle #8: A Country’s Standard of Living Depends on Its Ability to Produce Goods and
Services
 Differences in living standards from one country to another are quite large.
 The explanation for differences in living standards lies in differences in
productivity.
 productivity: the quantity of goods and services produced from each
hour of a worker’s time.
a. High productivity implies a high standard of living.
 Principle #9: Prices Rise When the Government Prints Too Much Money
 inflation: an increase in the overall level of prices in the economy.
 When the government creates a large amount of money, the value of money falls.
 Examples: Germany after World War I (in the early 1920s) and the United States in
the 1970s.
 Principle #10: Society Faces a Short-Run Trade-off between Inflation and Unemployment.
 Most economists believe that the short-run effect of a monetary injection is lower
unemployment and higher prices.
 The short-run trade-off between inflation and unemployment plays a key role in
the analysis of the business cycle.
 business cycle: fluctuations in economic activity, such as employment
and production.
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2. Thinking Like An Economist

I. The Economist as Scientist
 Economists follow the scientific method.
1. Observations help us to develop theory.
2. Data can be collected and analyzed to evaluate theories.
 Assumptions make the world easier to understand

 Example: to understand international trade, it may be helpful to start out assuming that there
are only two countries in the world producing only two goods. Once we understand how
trade would work between these two countries, we can extend our analysis to a greater
number of countries and goods.
 One important role of a scientist is to understand which assumptions one should make.
 Economists use economic models to explain the world around us.
 Most economic models are composed of diagrams and equations.
 The goal of a model is to simplify reality in order to increase our understanding. This is where
the use of assumptions is helpful.
 The Circular Flow Diagram
o
o circular-flow diagram: a visual model of the economy that shows how dollars flow
through markets among households and firms
o This diagram is a very simple model of the economy.
o The flow of arrows shows the flow between govt , households, industry, rest of the world
& financial institutions.
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II. The Economist as Policy Adviser

a. Positive Versus Normative Analysis
 positive statements: claims that attempt to describe the world as it is.
 normative statements: claims that attempt to prescribe how the world should be.
 Positive statements can be evaluated by examining data, while normative statements involve
personal viewpoints.
 Positive views about how the world works affect normative views about which policies are
desirable.
 Eg.
1. Positive – riots are big problem
2. Normative – responsible person should be badly punished.

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ECONOMI

1. Ten Principles Of Economics

 incentive: something that induces a person to act.

2. Thinking Like An Economist

1. Observations help us to develop theory.

2. Data can be collected and analyzed to evaluate theories.

 Assumptions make the world easier to understand

II. The Economist as Policy Adviser

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