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CHAPTER 1. BASIC CONCEPTS IN ECONOMICS

Ms. Hema
INTRODUCTION
Economics is a social science. Science is defined as a systematic body of knowledge about a particular
subject. There are two main types of sciences. They are Natural science and Social science Natural
science is a branch of science concerned with the description, prediction and understanding of natural
phenomena. Natural science laws are universally acceptable and their validity can be tested in a
laboratory. Natural sciences are also called exact sciences because of their empirical approach to the
study. Empirical approach means
evidence-based approach that relies on real-world data to study and interpret information. Natural
science is again classified into life science and physical science. Important life sciences are botany and
zoology. Anf physical sciences are Physics, Chemistry, Astronomy, Mathematics, etc.
Social science is that branch of science that is concerned with various aspects of human behavior. Human
behavior can neither be empirically tested nor can be studied in the laboratory. Hence the laws of social
sciences are not universal. They are only statements of human tendencies. Important social sciences are
Economics, Sociology, psychology, political science, Ethics, etc…Economics deals with man’s economic
behavior. Psychology deals with man’s mind. Sociology deals with man’s relation with the society,
political science deals with man’s relations with the Government, and Ethics deals with morality.

MEANING OF ECONOMICS. Economics is a social science that deals with man’s economic behavior.
The term economics is originated from a Greek word, “Oikonomia” which means household
management. Household management means the best use of the limited income of the family. Family’s
income is limited. But wants of the family members are unlimited. so it is the duty of the head of the
family to utilize the limited income in a systematic manner, so that the maximum number of wants of the
family members are fulfilled. Economics deals with how human beings satisfy unlimited wants with
limited means. Out of all social sciences, economics is referred to as Queen of social sciences by Prof.
Paul Samuelson
Kautilya’s view on Economics. Kautilya was a great statesman, philosopher, economist, and royal
advisor of Chandragupta Maurya, the first Mauryan emperor. Arthashastra by Kautilya is a
2500-year-old masterpiece on governance, economics, and politics. Artha means wealth and Shastra
means science. So Arthashastra implies the science of acquiring and managing wealth. It is a treatise on
Political Economy in its broadest sense.
Key points based on Kautilya’s views.
1. Important role of state or Government.
2. Focus on creation of wealth as the means to ensure welfare of the state.
3. Need for efficient administrative machinery for good governance.
4. Compilation of political ideas into Arthashashtra.

DEFINITIONS OF ECONOMICS

1. Wealth Definition or Wealth oriented definition – Prof. Adam Smith. Wealth definition is
given by Classical economists. Adam Smith who is also regarded as “Father of Economics”.
In his famous book, “An enquiry into the nature and causes of wealth of
Nations” published in 1776, Adamsmith defines Economics as a Science of
wealth” Key –points of Adam Smith’s Definition.
a) Laissez-faire policy ie non-intervention of Government in economic activities. b) Capital
and wealth accumulation. Capital accumulation makes large-scale production and a greater
degree of specialization possible.and help to increase more income and wealth. c) Nature’s
 law in economic affairs.Adam Smith’s three natural laws of economics are 1. The law of self
interest- people work for their own good.
2. Law of competition – competition forces people to make better products
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3. Law of supply and demand – Enough goods would be produced or supplied at the
lowest possible price to meet the demand in a capitalist economy.
d) Division of labour as an aspect of growth theory.

WELFARE ORIENTED DEFINITION OR WELFARE DEFINITION – Prof. Alfred Marshall

The neo classical economist prof. Alfred Marshall has given the welfare oriented
definition in his book “Principles of Economics” published in the year 1890. According
to him , “Economics is a study of mankind in the ordinary business of life.it examines
that part of individual and social action, which is closely connected with the attainment
and use of material requisites of wellbeing.
Key points of Marshall’s definition.
a) Study of an ordinary man
b) Economics is a behavioural science. According to this definition economics
studies human life.
c) Study of material welfare. To attain material welfare, people should have enough
food, clothing,housing and other possessions to live comfortably.
d) Economics is not simply a study of wealth. Economics enquires how an
individual gets his income and he uses it.
3) SCARCITY DEFINITION OR SCARCITY ORIENTED DEFINITION.—Prof. Lionel Robbins. This
is the most popular and universally valid definition of economics. Robbins in his book, “An Essay on the
Nature and Significance of Economic Science” published in 1932, defines “Economics is a science
which studies human behavior as a relationship between ends and scarce means which have alternative
uses.”
Key –points of Robbins definition.
a) Wants (ends) are unlimited.
b) Means are comparatively limited
c) Wants are gradable on the basis of priority
d) Means have alternative uses.

BRANCHES OF ECONOMICS. There are mainly two approaches to the study of science of
economics .They are micro economic approach and macro economic approach.The study of economics
is broadly classified into two parts,ie, Micro economics, and Macroeconomics. These terms were first
used by Prof. Ragner Frisch of Oslo university during 1933
The term micro is derived from a Greek word “Mikros” which means small. The term macro is derived
from a Greek word “Makros” which means large or aggregate.
A) Micro Economics. Micro economics deals with rthe behavior of the individual variables such as
individual consumer , individual producer, single firm, industry etc..
Kenneth Boulding’s definition of Micro Economics.
“Micro Economics is the study of particular firms, particular households,
individual prices, wages, incomes, individual industries, particular commodities.”

BASIC CONCEPTS OF MICRO ECONOMICS.

1. WANTS. In ordinary language, want means need. But in economics want refers
to an experience or feeling of lack of satisfaction because of absence of a good or
 service. The two basic reasons why human wants have grown in number are
∙ Desire for better living due to inventions and innovations.
∙ Rise in population
Characteristics of wants
1. Wants are unlimited. Human wants are unlimited. There is no limit to the number and variety of our wants. When
we satisfy one want another want arises. Wants go on multiplying in number.
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2. Wants are recurring in nature. Several human wants occur again and again, whi le some might be
occasional.
3. Wants differ with age. Wants and their satisfaction differ according to age.
4. Wants differ with gender. Men and women want different goods according to their needs.
5. Wants differ due to preferences. According to differences in individual taste preference and habit, wants
also will be different.
6. Wants differ with seasons. Wants keep on changing with seasons.
7. Wants differ due to culture. Wants that are related to food, dressing style, etc differ due to differences in
culture.

CLASSIFICATION OF WANTS.
Wants can be classified in the following ways.
i. Economic and non-economic wants.
∙ Economic wants are those where monetary transaction is involved. An individual has to pay price
for them, eg. Food, medicine, etc…
∙ Non-economic wants are those which can be satisfied without making monetary payment for them
eg. Air, sunlight, etc..
ii. Individual wants and collective wants.
∙ Individual wants or personal wants refer to those wants which are satisfied at the individual level. Want to
buy a car, mobile, laptop, etc by individuals.
∙ Collective wants or social wants are those wants which are satisfied collectively.eg. public parks,
public libraries, public wells, train service etc.
iii. Necessaries, comforts and luxuries.
∙ Necessaries are the basic needs of life without which human life is impossible. Eg. Food,
clothing, shelter, education and health.
∙ Comforts are those wants which makr our life comfortable, eg. Washing machine, mixer grinder,
pressure cooker etc..
∙ Luxuries are superfluous wants which are meant for pleasure and enjoyment. Eg. AC car, well
furnished house etc.
2. GOODS AND SERVICES.
∙ Goods .Anything that satisfies a human want is termed as a ‘good’ or commodity. It has material
existence. They are tangible. Eg. Chalk used by a teacher.
∙ Services also satisfy human want but do not have any material existence. They are intangible and
immaterial .eg. service of doctors, lawyers, teachers etc.. \
3) UTILITY.In ordinary sense utility means usefulness. But in economics utility means capacity of a commodity to
satisfy human want or want satisfying power of a commodity is called utility.
4) VALUE.The amount of money that something is worth is known as value. The term value has two approaches in
economics.ie value in use and value in exchange.
∙ Value- in- use. It refers to the worth of a commodity. In simple words, value –in-use means usefulness of a
commodity. Eg. No one has to pay price for air, sunlight etc ,though they are highly important for human
existence. Air , sunlight etc has high value in use. A good which commands no price is called free goods.
 ∙ Value- in -exchange. Value in exchange means rate of exchange of one commodity in terms of another
commodity. When the value of a commodity is expressed in terms of money it is called price. A commodity
which commands a price is termed as an economic good. Eg. TV, Car etc…
∙ Water- Diamond Paradox. (Paradox of Value) some commodities have high value in use but low value in
exchange, eg water, where as some commodities have low value in use but high value in exchange due to its
scarcity. Eg. Diamond. This is called paradox of value or water- diamond paradox

5 WEALTH. wealth refers to anything which has market value and can be exchanged for money. All
economic goods are regarded as wealth.
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A commodity to be regarded as wealth, it should possess the following features or characteristics. 1. Utility .
A commodity to be regarded as wealth, it must have utility, ie capacity to satisfy human want.eg. furniture,
car, house etc..
11 Scarcity. To be regarded as wealth, the commodity must be scarce in supply in relation to its demand. Only
economic goods are regarded as wealth as they are scarce it relation to demand and they command a price. 111
Transferability. A commodity to be regarded as wealth, it should be transferable from person to person as well as
place to place. If the good is tangible or material then only it is possible to transfer it from place to place. Eg.
Vehicle, jewellery etc…
IV Externality., wealth should lie outside the body of a person, so that it can be transferable.internal qualities like,
beauty, intelligence etc are not wealth as they are internal to man.

6 PERSONAL INCOME. Earning received by a person from all sources is called his personal income. 7
Personal disposable income. It is that part of personal income which is left after payment of direct tax such as
income tax, wealth tax etc.
TYPES PF INCOME.
A) FIXED INCOME. income which remains stable over a period of time, eg. rent, wages
etc..
B) FLUCTUATING INCOME. Income which is not fixed , but keeps on changing, eg
.profit. it can be positive, negative or zero.
C) MONEY INCOME. It is the income received in actual currency of the country. In other
words, it is the income in cash. Eg, Rs.10000
D) REAL INCOME. The purchasing power of money income is known as real income.
How much quantity of goods and services the money income can buy is the real income.
E) CONTRACTUAL INCOME This income is paid as per the terms and conditions of the contract. Eg. Rent, wages etc..
F) Residual income. Income which is left over after making payments to all factors of production is called
residual income. Eg. Profit.
G) Earned income. Income earned after participating in the productive activity, eg, rent, wages. Interest, profit.
H) Unearned income. Income received from all sources without contributing to any productive activity, eg.
Windfall gain, lottery prizes, etc…
8. ECONOMIC ACTIVITY. An activity undertaken to satisfy a human want is known as economic
activity.economic activities can be classified into four types which include production, consumption, distribution
and exchange.
a) PRODUCTION. One of the most important economic activity is production. Production means
transformation of inputs into output. Production can also be defined as creation of utility. Human wants
are satisfied with the help of goods and services which possess utility. The process of production is
undertaken to satisfy human wants. Goods and services which have utility are produced with the help of
productive resources
Production is the result of co-operation of all factors of production.
 FACTORS OF PRODUCTION
The resources To produce any commodity we require land, labour, capital, entrepreneur etc..In economics
we call these factors as factors of production which contribute to the production of a commodity are called
factors of production.
I. LAND. In ordinary language, land means the soil which we can see on the surface of the earth. But in
economics land does not mean only that. Land in economics refers to all the natural resources which
are available on the surface of the earth, above the surface of the earth and below the surface of the
earth.
Natural resources which are found on the surface of the earth include soil mountains, forests, water
resources like sea, river, lake etc..
Natural resources which are found above the surface of the earth include rainfall, wind sunshine, climatic
conditions, light and heat etc.
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Natural resources which lie below the surface of the earth include mineral resources and petroleum
products.
Land earns ‘rent ‘ in productive activity.
II. LABOUR. Labour is a human factor of production. Labour refers to human effort, physical or mental
whose object is to create utility , for others and to earn a living.
The reward for labour is wage.
III. CAPITAL. Capital is a produced means of production. It is a man made factor of production which earns
the reward in the form of interest, eg, machinery, technology, factory buildings etc… IV. ENTREPRISE. The
success of a business depends on sound organization. It must be carefully planned and properly executed.
The process of production is stimulated, unified and completed by an appropriate organization or
enterprise.The person who runs the enterprise or organization is called an entrepreneur or organizer.
Entrepreneur is a human factor who organizes the production ie he brings together the other factors like
land, labour and capital in the right proportion for production of a commodity. In modern economy, it is
the entrepreneur who decides what to produce, when, where to produce, how much to produce, where to
sell etc..
Entrepreneur is a person who initiates the process of production by combining other factors. He also
supervises and manages the function and bears the risk of business.An entrepreneur is regarded as the
captain of the industry.
Entrepreneur is the most active factor in the productive process. The rewards of all other factors are
contractual or pre determined, the entrepreneurs’ reward in profit is residual.
b) CONSUMPTION. consumption is an act of using goods and services to satisfy human wants.
Consumption is defined as destruction utility.
c) DISTRIBUTION. Distribution is a process of sharing of national income to the owners of factors
of production in the form of rent, wages, interest and profit.
d) EXCHANGE. Buying and selling of goods and services is known as exchange. In economics,
exchange is necessarily a monetary transaction.

MACRO ECONOMICS. macro means large or aggregate or total. Macro economics is therefore the study of
aggregates covering the entire economy such as total employment, national income, national output, total
employment, total saving, total investment, total consumption, aggregate supply, aggregate demand, general
price level,etc…
According to Prof. K.E. Boulding, “Macro economics deals not with individual quantities as such but with
the aggregate of these quantities, not with individual income but with the national income, not with
individual price level, but with the general price level, not with the individual output but with the national
output.”
Basic concepts of Macro economics.
1. National income. . The economic performance of a nation is evaluated with the help of national income.
National income is the total income of a country. In economic sense , national income is the aggregate 4
”money value of all final goods and services produced in an economy during a year.
Definition by National Income Committee) “ A national estimate measures the volume of commodities
and services turned out during a given period counted without duplication.
2. Saving. Saving is that part of income which is set aside to satisfy the future needs by forgoing current
consumption.
Y = C+S
S= Y-C
Saving is that part of income which is not spent on current consumption.
3.INVESTMENT.investment means creation of capital assets through mobilisation of savings , Eg.
Machinery, equipments etc…According to Keynes, investment means increase in the stock of capital. It is
the expenditure on purchasing and making of capital goods .it is also known as capital formation. It is
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nothing but conversion of saving into productive assets. In real terms investment is the part of savings which
is used for further production or creation of new capital assets such as machineries, tools, equipments,
factories, plants etc.. Investment expenditure thus refers to the expenditure incurred on the creation of new
capital assets ,eg. when a new factory is built , it is a new investment .
4. TRADE CYCLE. Fluctuations in business activities is known as trade cycle or business
cycle. They are ups and downs in overall economic activities.
Ups and down means fluctuation caused by inflation and depression respectively.

Inflation is a continuous rise in general price level

Depression is a continuous fall in overall prices and lowering down of economic activity in general.
 5. ECONOMIC GROWTH economic growth implies a rise in national income, Economic growth is quantitative
in nature and it is measured in terms of real national income of a country. Real national income refers to a
country’s total output of final goods and services produced during a year. Economic growth is the rate of
growth of Gross Domestic Product. GDP refers to money value of all goods and services produced in the
domestic territory of a country in one year. In simple words economic growth means, an increase in real
national income of a country over a long period of time
6. Economic development. The term economic development implies more than economic growth. It would
include important economic and social goals such as reduction in poverty, improvement in the quality of life,
enhanced opportunities for better health and education, provision of basic needs like housing, sanitation, safe
drinking water, adequate nutrition safe environment and so on.
Thus economic development implies more than just a rise in real national income or real per capita
income. Economic development goes much beyond economic growth. Thus Economic development has a
qualitative dimension. Apart from a rise in output, it involves changes in the composition of output, shift in
the allocation of resources and reduction in poverty, inequalities and unemployment.
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Distinguish between economic growth and economic development

1.economic growth means an increase in the real national income of the country
Econmic development indicates economic growth plus progressive changes in certain important variables which
determine well being of the people.
2. Economic growth is narrow and quantitative
Economic development is broader and qualitative
3. Economic growth is possible without economic development.
Economic development is not possible without economic growth
4. Economic growth is a unidimensional concept.
Economic development is a multidimensional concept.
5. Economic growth is spontaneous and reversible
Economic development is deliberate and irreversible.
6 . Economic growth is measured in terms of national income and per capita income
Economic development is measured in terms of agricultural productivity, industrial productivity, quality of
human life etc….

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I have taken the notes on your book however, I still have questions.