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Introduction of Economy
ECONOMY:
An economy is a system by which people get their living.
TYPES OF ECONOMY:
(I) Capitalist economy / Market economy
(ii) Socialist economy / Planned economy
(iii) Mixed economy
CAPITALIST SYSTEM
Capitalism is that profit-oriented system which is characterized by private ownership of objects of
Labour instruments of labour and means of labour. Production is mainly carried out with the help of
labour services rendered by the working class in return for wages and the class of capitalists has the
right to whatever output is produced within the system. Ex.: - Britain; U.S.A.
Characteristics of the capitalist system:
1. Private ownership of means of production: Under the capitalist system anything which helps man
in the production process like machinery, tools, land, raw-materials, etc. is owned by the capitalist
class.
2. Production for the market: Under capitalism business firms produce mainly with the aim of selling
the output in the market. Wherever any good is produced for the market it is termed as a commodity
and any economy in which production is undertaken with the sole object of exchange is call a
commodity economy.
3. Price mechanism: In a capitalist economy neither an individual nor any institution takes decisions in
a planned manner concerning its day-to-day functioning. That is, there is no conscious effort to
arrive at some kind of solution to its central problems.
4. Labour power as a commodity: In a capitalist economy, majority of the people own only on thing
viz., their capacity to work or their labour power.
5. Exploitation of labour: Workers are exploited under capitalism. Very often due to the freedom
granted to the workers at a formal level, many people are wrongly given to believe that the workers by
bargaining in the free market are able to get a fair price in return for their labor power.
6. Growing wealth of the capitalists: In a capitalist economy the wealth of the capitalist class increases
in a sustained manner.
7. Emergence of the working class: Under capitalism the increasing used of machinery leads to
widespread unemployment and an increase in the rate of exploitation of workers which implies a
decline in the share of workers in the national income over time.
8. Class contradiction: Hence, the two major classes found in a capitalist society are those of the
capitalists and the workers. The clash of interests of the capitalists and the workers take the form of
the class conflict with the further development of capitalism.
SOCIALISM
Under socialism not only is there social ownership of the means of production but also the
functioning of the economy is such so as to maximize social benefit rather than private benefit.
Unlike capitalism in a socialist society the market mechanism does not play the all dominating role
of determining the type and quantity of various commodities produces their priority sequence and the
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necessary allocation of resources.Ex.: - China and erstwhile U.S.S.R.
Characteristics (or) Salient features of the socialist economic system:
1. Social ownership of the means of production: In a socialist society private ownership of the
means of production is abolished in the various sectors of the economy.
2. Predominance of public sector: An important precondition for the establishment of socialism is
the existence of the public sector which is founded on the principle of social ownership of the means
of production
3. Decisive role of economic planning: Economic planning under socialism plays exactly the same
role as is played by the price mechanism in a capitalist economy.
4. Production guided by social benefit: In a socialist economy, however, income inequalities are
drastically reduced so that everyone has an adequate amount of disposable income. While
determining the pattern and size of output the planning commission has to see to it that its decisions
in this regard are such that they ensure the availability of commodities for all in the market.
5. Abolition of exploitation of labor: Once the development of human society reaches the stage of
socialism. Exploitation of man by man comes to an end.
MIXED ECONOMY
According to Samuelson, a mixed economy is characterized by the existence of both public and
private institutions exercising economic controls.Ex.: - India.
CHARACTERISTICS OF A MIXED ECONOMY:
1. Private and state ownership of the means of production and profit induced private business:
In a mixed economy people enjoy right of property through constitutional provisions.
2. Decisive role of market mechanism: Market mechanism has a predominant position in a mixed
economy. In such an economy markets exist not only for various products, but also for productive
factors, such as labor and capital.
3. Interventionist role of the state: The market mechanism is a mixed economy may not be entirely
free from state control. Often legislative measures are undertaken to provide a regulatory system for
industrial activity in the country.
4. Public sector activities are supposedly guided by social benefit: Activities of the public
enterprises are considered to be guided by the social benefit. Thus performance of these enterprises is
often judged on the criterion of social benefit and thus most of this enterprise ignore profit
maximization goal.
5. Supportive role of economic planning: The role of economic planning in basically capitalistic
economic framework is supportive. Hence planning in these economies is usually indicative in
nature. Economic planning in developing economies, in which both private and public sectors coexists, has nothing to do with socialism.
Economics
Economics is the social science that analyzes the production, distribution, and consumption of goods
and services. The term economics comes from the Ancient Greek word oikonomia, which means
"management of a household, administration" (from oikos, "house" + nomos, "custom" or "law", hence
"rules of the household"). Current economic models emerged from the broader field of
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politicaleconomy in the late 19th century. A primary stimulus for the development of modern
economics was the desire to use an empirical approach more akin to the physical sciences.
Fundamental Premise of Economics: - Individuals are capable of establishing goals and acting in a
manner consistent with achievement of those goals
Definition: - Different definitions of Economics are given by different economists, which can be
classified as follows;
Economics as a science of wealth (By Adam Smith);
Economics as a science of material well-being (By Prof. Alfred Marshall);
Economics as a science of choice making (By Lionel Robbins);
Economics as a science of dynamic growth and development (By Paul .A. Samuelson).
Economics as a Science of Wealth: In 1776 Adam Smith’s book, “An Enquiry in to the Nature and Causes of Wealth of the Nation”
published. As the name of the book suggests, Adam Smith defined economics as an enquiry in to the
nature and causes of the generation of the wealth of a nation.
J.B.Say also defined economics as a science which deals with wealth.
Salient Features: - Following the salient features of this definition;
1. Adam Smith’s definition tries to increase the prosperity of the nation: - Adam Smith defines the
economics as a subject, which encourages the people to procure more and more wealth. He believed
that if everybody tries to earn more and more wealth it will lead to the prosperity of the nation.
2. View of economic man: - Adam Smith believed that the only motivation before mankind is to
maximize his profit.
Criticism: - Smith’s definition is criticized on following grounds: 1. Exploitation of labour: - Adam Smith’s definition encourages the selfishness in the society. The rich
peoples tried to earn wealth at the cost of poor people. This leads to exploitation of labour by capitalists
during the industrial revolution in England.
2. Wrong view of economic man: - Adam Smith’s view that the man is purely motivated by the wealth
was also found to be wrong. Though wealth is important for human being he also has a humanitarian
aspect to his nature.
3. It narrows the scope of economics: - Adam smith’s definition narrows the scope of economics by
defining it as a study of wealth.
Adam Smith’s definition increases the selfishness n the society. Critics condemn it as Gospel of
Mammon and Dismal Science. This definition comes to an end towards the end of 17th century.
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Economics as a Science of Material Well-Being: Alfred Marshall rehabilitated the image of economics by shifting the emphasis from wealth to welfare.
In his book “Economics of Welfare”, Marshall says, “it is on the one side a study of wealth but on the
other and more important side a part of the study of man.”
This reveals that the man is more important than the wealth. Though wealth is important, man is more
important because the wealth generated for the material welfare of the human being. In his book
“Principles of Economics” Prof. Alfred Marshall defined ... “Economics is a study of mankind 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 requisite of well being.”
A.C. Pigou gives another important definition under this group. According to him, “The range of our
inquiry becomes restricted to that part of social welfare that can be brought directly or indirectly into
relation with measuring rod of money.”
Salient Features: - The salient features are ~
1. Economics is a social science: - According to Marshall Economics studies only the activities of
human beings living in the society. Hence, it is asocial science.
2. Economics deals only with economic aspect of life: - According to Marshall Economics studies only
the “economic activities” of a man i.e. the attainment and use of material requisites. It studies only that
part of human behavior, which can be measured in terms of money.
3. Science of welfare: - According to Marshall Economics tells us how to produce consumer goods to
maximize human welfare.
Criticism: - The welfare definitions are criticized on the following grounds: ~
(1.) Only material things are considered: - Marshall includes only material things in the study of
economics and ignores the services that are also a crucial part of economic activity. However, the
services are immaterial but they still play a vital role to promote human welfare. Robbins held the view
that those services that have some exchange value must also be included in the study of economics.
(2.) It narrows the scope of economics: - Marshall had included only social humans in the study of
economics. He has ignored those who live outside the society and by doing so; he has narrowed the
scope of economics.
(3.) This definition makes the study of economics subjective: - By using the term welfare meaning well
being i.e.; all those activities which lead to human satisfaction Marshall has made the study of
economics subjective. Different people may think differently about different goods as far as welfare is
concerned.
(4.) It creates confusion: - By including production and consumption of only those goods, which can be
measured in terms money, Marshall has created confusion. Since the same activity at one point of time
be measured in terms of money and at another time without money.
(5.) Marshall’s definition is highly classificated: - Marshall classified the activities of human being in
ordinary and unordinary, social and nonsocial, monetary and nonmonetary. Best General Definition of
Economics: -It is the study of Individual and social choice in the face of scarcity.
Economics as a Science of Choice Making: Lionel Robbins in his book named ‘Nature and Significance of Economic Science’ published in 1932,
defined economics as follows: - “Economics is the science which studies human behaviour as a
relationship between ends and scarce means which have alternative use.”
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The following are the important aspects of definition given by Robbins(1) Human wants are unlimited: - The wants of human beings are unlimited; if one want is satisfied
another want crops up. One has to choose between more urgent and less urgent want. That is why the
economics is a science of choice making.
(2) The means to satisfy wants are limited: - There is a scarcity of resources in relation to their
requirements to satisfy wants.
(3) The scarce means are capable of being put to alternative uses: - Although resources to satisfy
unlimited ends are limited, they can be put to alternative uses.
(4) Economics is a positive science: - According to Robbins, economics is a positive science. The
economics is neutral between ends.
Criticism: (1). Robbins has considered the problem of scarcity of resources but some times problem also arise
because of abundance of resources. Robbins has not given any solution to this problem.
(2). Though Robbins does not use the word welfare in his definition but it is implied in it since
optimization of gains is aimed to increase welfare.
(3). Robbins talks of allocation of resources’ but without a growth of resources human wants in the
future will not be fulfilled. Robbins has totally ignored this aspect.
(4). Robbins has enlarged the scope of economics too much by including in it all problems where
choice is concerned.
Economics as a Science of Dynamic Growth and Development: Noble laureate Prof. Paul. A. Samuelson has defined economics as follows: “Economics is the study of how men and society choose with or without the use of money to employ
scarce productive resources which could have alternative uses to produce various commodities over a
period of time and distribute them for consumption now and in the future amongst various people and
groups in society.”
Salient Features: 1. Samuelson agrees with Robbins that economics should deal with scarce resources and unlimited
ends. So that it optimizes the gains.
2. Samuelson however argues that the resources are not static and they can be made to grow over time
through exploration, exploitation and development.
3. According to Samuelson the growth of resources is necessary since not only the present wants of
human beings should be considered but also the increasing wants of increasing number of people
should be taken in to consideration.
4. Like Robbins Samuelson includes all activities in economics whether they can be measured in terms
of money or not or whether they lead to material welfare or not.
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Micro Economic And Macro Economic Analysis: The economic theory is divided under two heads:
Microeconomics and Macroeconomics. These terms were first used by Prof. Ragnar Frisch of Oslo
University.
Micro Economics: Microeconomics deals with a small part or a small component of the national economy of a
country. Microeconomics may be defined as that branch of economic analysis which studies the
economic behavior of the individual unit, may be a person, a particular household, or a particular firm.
It is a study of one particular unit rather than all the units combined together. In microeconomics we
examine the trees not the forest. Since microeconomics splits up the entire economy into smaller parts
for the purpose of intensive study, it is sometimes referred to as the Slicing Method.
Scope of Microeconomics: - In microeconomics we study:Theory of product with its two constituents, namely, the theory of consumer’s behavior and the theory
of production and costs. Theory of factor pricing with its four constituent, namely, the theories of
wages, rent, interest and profit. Theory of Economic Welfare. Microeconomics is sometimes referred to
as Price Theory, the reason being that prices are the main part of microeconomics.
Macro Economics: Macroeconomics is concerned with the economic activity in the large. Macroeconomics may be
defined as that branch of economic analysis which studies the behavior of not one particular unit, but of
all the units combined together. Macroeconomics is the study of aggregates; hence, it is also called
Aggregative Economics.
It is the study of the overall conditions of an economy, say, total production, total consumption, total
savings, and total investment.
Scope/field of Macroeconomics: - In macroeconomics we study: Theory of Income, Output and Employment with its two constituents, namely, the theory of
consumption function and the theory of investment function. Theory of Prices with its constituents of
theory of inflation, deflation and reflation.
Theory of economic growth.
Interdependence of Microeconomics and Macroeconomics: - Microeconomics and Macroeconomics
are complementary to each other. In fact, they are so interdependent that neither approach is complete
without the other. In the words of Prof. Samuelson, “There is really no opposition between
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microeconomics and macroeconomics. Both are absolutely vital. You are less than half educated if you
understand the one while being ignorant of the other.
ENGINEERING ECONOMICS
It is the application of economic principles to engineering problems. For example, in comparing the
comparative costs of two alternative capital projects.
IMPORTANCE OF ENGINEERING ECONOMICS:
1. Engineering economics is concerned with the monetary consequences (or) financial analysis of the
projects, products and processes that engineers design.
2. Engineers are required to use economic concepts in the major fields such as increasing production,
improving productivity, reducing human efforts, increasing wealth by maximizing profit, controlling
and reducing cost.
3. Engineering economics provides has very important role to play in all engineering decisions.
4. Engineering economics provides a number of tools and techniques to solve engineering problems
related to product-mix, output level, pricing the product, investment, quantum of advertisement, etc.
5. Engineering economics helps in understanding the market conditions, general economic
environment in which the firm is working.
6. Engineering economics provide basis for resource allocation problem.
7. Engineering economics deals with identification of economic choices, and is concerned with the
decision making of engineering problems of economic nature.
APPLICATIONS OF ENGINEERING ECONOMICS
1. Selection of location and site for a new plant-It is concerned with comparing the cost of
establishment and operation of various locations and sites.
2. Production Planning and Control.
3. Selection of equipment and their replacement analysis.
4. Selection of a material handling system.
5. Determination of plant capacity. It is associated with investment of funds such as initial outlay and
operating expenses which determines the capacity of a plant. The capacity is a measure of ability to
produce goods and services or rate of output.
6. Determination of wage structure of the workers.
7. Selection of choice between a concrete structure and a steel structure, between various insulation
thickness, and between prices at which to sell a product.
8. It can be applied by a major corporation to analyze plans for a new manufacturing facility or a
new research and development (R&D) thrust.
CHARACTERISTICS OF ENGINEERING ECONOMICS
1. Engineering economics is a traditional and important part of engineering practice.
2. Engineering economics is concerned with application of economic principles in technical and
managerial decision making.
3. Engineering economics embarrasses both micro and macroeconomic principles when applied to
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engineering problems. For example, the study of demand analysis is mostly concerned with individual
or household as a small unit of study. Whereas, the study of impact of taxes on raw- materials will
influence engineers to look for alternative materials for manufacturing or designing a product or
processes which is of course a macro economic issue. The demand analysis is microeconomic
principle.
4. Engineering economics also take in its fold certain concepts and principles from other fields such
as statistics, accounting, management, etc.
5. Engineering economics aids decision making aspect of an engineer and it avoids the abstract
nature of economic theory.
6. Engineering economics is mostly an application tool, whereas economics is a social science with
broad characteristics.
7. Economic theory conveniently ignores the significant backgrounds which are common to
individual firms but engineering economics take in to consideration the individual firms’
environment of decision making.
8. Engineering economics provides an analytical and scientific approach resulting in qualitative
decisions.
ADVANTAGES OF ENGINEERING ECONOMICS
1. Better decision making on the part of engineers.
2. Efficient use of resources results in better output and economic advancement.
3. Cost of production can be reduced.
4. Alternative courses of action using economic principles may result in reduction of prices of goods
and services.
5. Elimination of waste can result in application of engineering economics.
6. Competitive strength on the part of the firm in adopting engineering economics.
7. More capital will be made available for investment and growth.
8. Improves the standard of living with the result of better products, more wages and salaries, more
output, etc. From the firm applying economics.
MANAGERIAL ECONOMICS
Managerial Economics has been described as economics applied to decision-making. It may be
viewed as a special branch of economics bridging the gulf between pure economic theory and
managerial practice.
CHIEF CHARACTERISTICS
1. Managerial Economics is micro-economic in character. This is because the unit of study is a firm;
it is the problems of a business firm which are studied in it. Managerial Economics does not deal
with the entire economy as a unit of study.
2. Managerial Economics largely uses that body of economic concepts and principles which is known
as “Theory of the Firm’ or ‘Economics of the Firm’. In addition, it also seeks to apply Profit Theory
which forms part of Distribution Theories in Economics.
3. Managerial Economics is pragmatic. It avoids difficult abstract issues of economic theory but
involves complications ignored in economic theory to face the overall situation in which decisions
are made. Economic theory appropriately ignores the variety of backgrounds and training found in
individual firms but Managerial Economics considers the particular environment of decision-making.
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4. Managerial Economics belongs to normative economics rather than positive economics (also
sometimes known as descriptive economics). In other words, it is prescriptive rather than
descriptive. The main body of economic theory confines itself to descriptive hypothesis, attempting
to generalize about the relations among different variables without judgment about what is desirable
or undesirable.
5. Macro-economics is also useful to Managerial Economics since it provides an intelligent
understanding of the environment in which the business must operate. This understanding enables a
business executive to adjust in the best possible manner with external forces over which he has no
control but which play a crucial role in the well-being of his concern.
SCOPE OF MANAGERIAL ECONOMICS
1. Demand Analysis and Forecasting: A major part of managerial decision-making depends on
accurate estimates of demand. Before production schedules can be prepared and resources employed,
a forecast of future sales is essential.
2. Cost Analysis: A study of economic costs, combined with the data drawn from the firm’s
accounting records, can yield significant cost estimates that are useful for management decisions.
3. Production and Supply Analysis: Production analysis mainly deals with different production
function and their managerial uses. Supply analysis deals with various aspects of supply of a
commodity. Certain important aspects of supply analysis are: Supply schedule, curves and function.
Law of supply and its limitations, Elasticity of supply and Factors influencing supply.
4. Pricing Decisions, Policies and Practices: The important aspects dealt with under this area are:
Price Determination in various Market Forms, Pricing Methods, Differential Pricing, Product-line
Pricing and Price Forecasting.
5. Profit Management: Business firms are generally organized for the purpose of making profits
and, in the long run, profits provide the chief measure of success. In this connection, an important
point worth considering is the element of uncertainty existing about profits because of variations in
costs and revenues which, in turn, are caused by factors both internal and external to the firm.
6. Capital Management: Capital management implies planning and control of capital expenditure.
The topics dealt with are: Cost of Capital, Rate of Return and Selection of projects.
BASIC ECONOMIC TOOLS IN MANAGERIAL ECONOMICS
1. Opportunity Cost Principle: By the opportunity cost of a decision is meant the sacrifice of
alternatives required by that decision. Thus, it should be clear that opportunity costs require
ascertainment of sacrifices. If a decision involves no sacrifice, its opportunity cost is nil. For
decision-making, opportunity costs are the only relevant costs. The opportunity cost principle may
be stated as under: The cost involved in any decision consists of the sacrifices of alternatives
required by that decision. If there are no sacrifices, there is no cost.
2. Incremental Principle: Incremental concept involves estimating the impact of decision
alternatives on costs and revenues, emphasizing the changes in total cost and total revenue resulting
from changes in prices, products, procedures, investments or whatever may be at stake in the
decision. The two basic components of incremental reasoning are: Incremental cost and
incremental revenue. Incremental cost may be defined as the change in total cost resulting from a
particular decision. Incremental revenue is the change in total revenue resulting from a particular
decision.
3. Principle of Time Perspective: The economic concepts of the long run and the short run have
become part of everyday language. Managerial economics are also concerned with the short-run and
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long-run effects of decisions on revenues as well as costs. The really important problem in decisionmaking is to maintain the right balance between the long-run and the short-run considerations. A
decision may be made on the basis of short-run considerations, but may as time elapses have longrun repercussions which make it more or less profitable than it at first appeared.
4. Discounting Principle: One of the fundamental ideas in economics is that a rupee tomorrow is
worth less than a rupee today. This seems similar to saying that a bird in hand is worth two in the
bush. “If a decision affects costs and revenues at future dates, it is necessary to discount those costs
and revenues to present values before a valid comparison of alternatives is possible.”
5. Equi-marginal Principle: This principle deals with the allocation of the available resources
among the alternative activities. According to this principle, an input should be so allocated that the
value added by the last unit is the same in all cases. This generalization is called the equi-marginal
principle.
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