AGEC 102:
INTRODUCTION TO ECONOMICS
Instructor: D. P. K. Amegashie
Objective
To provide beginning students with the basic
economic tools that will enable them
appreciate the economic systems of the world
and how an economy works
COURSE OUTLINE
PART 1: MICROECONOMICS
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WHAT IS ECONOMICS?
Scarcity and Choice
Economic Systems
Microeconomics and Macroeconomics
Positive and Normative Economics
Economics and Agricultural Economics
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TECHNIQUES OF ECONOMIC ANALYSIS
Inductive and Deductive Reasoning
Scientific Method of Enquiry
Theory and Hypothesis
Use of Graphs
COURSE OUTLINE (cont’d)
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ANALYSIS OF CONSUMER BEHAVIOUR
Consumer Choice
Concept of Utility
Indifference Curves
Budget Lines
Consumer Equilibrium
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DEMAND ANALYSIS
Demand Schedule
Demand Curve
Demand Function
Change in Quantity Demanded vs Change in Demand
Factors Affecting the Demand for a Commodity
COURSE OUTLINE (cont’d)
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SUPPLY ANALYSIS
Supply Schedule
Supply Curve
Supply Function
Change in Quantity Supplied vs Change in Supply
Factors Affecting the Supply of a Commodity
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ELASTICITY OF DEMAND AND SUPPLY
Concept of Elasticity
Price Elasticity of Demand and Supply
Income Elasticity
Cross Price Elasticity
COURSE OUTLINE (cont’d)
MARKETS
• Types of Markets
• Characteristics of Markets
• Equilibrium of Competitive Markets
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THEORY OF THE FIRM (PRODUCTION ECONOMICS)
Concept of Short-run and Long-run
Fixed and Variable Inputs
Concept of Cost
Fixed and Variable Costs
COURSE OUTLINE (cont’d)
PART 2: MACROECONOMICS
NOMINAL AND REAL VALUES IN ECONOMICS
• Consumer Price Index (CPI)
• GDP Deflator
• Purchasing Power
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NATIONAL INCOME DETERMINATION
Gross Domestic Product (GDP)
Gross National Product (GNP)
Consumption Function
Savings Function
The Multiplier Measurement Problems
COURSE OUTLINE (cont’d)
INFLATION
• Level of Inflation
• Rate of Inflation
UNEMPLOYMENT
• Rate of Unemployment
• Labour Force
Reference Texts:
1.
Kojo Appiah-Kubi (2008): Principles of Macroeconomics, Sundel Services,
Accra
2.
Ruffin, R. J. and Gregory, P. R. (1988): Principles of Economics. Scott,
Foreman and Co. Boston, U. S. A.
3.
McConnell Campbell R & Brue, Stanley L (1999): Microeconomics 14th
Edition. The McGraw-Hill Companies , U.S.A.
4.
Samuelson, Paul A & Nordhaus, William D (1998): Macroeconomics 16th
Edition. The McGraw-Hill Companies , U.S.A.
5. Adeegeye, A. J, and Dittoh, J. S. (1985): Essentials of Agricultural
Economics. Impact Publishing Nig Ltd. Ibadan
Mark allocation:
Continuous assessment
Examination
Total
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30%
70%
100%
There will be two Interim Assessments (6th and 12th weeks) and
unannounced quizzes
GRADING SYSTEM:
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A
B+
B
C+
C
D+
D
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F
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80 – 100%
75 - 79
70 - 74
65 - 69
60 - 64
55 - 59
50 - 54
45 - 49
0 - 44
PART 1: MICROECONOMICS
WHAT IS ECONOMICS?
• Human beings are plagued with wants.
• We need air, water, food, clothing, and shelter.
• We also seek the many goods and services associated, with a
comfortable or affluent standard of living.
• The total of all our material wants is many times greater than
the productive capacity of our limited resources.
• Thus the complete satisfaction of material wants is
impossible.
• This unyielding reality provides our definition of Economics.
WHAT IS ECONOMICS? (Cont’d)
• Economics may be defined as: the study of the
use of scarce resources to produce goods and
services to satisfy unlimited human wants.
• Alternatively, it is the study of the ways in which
human beings allocate relatively scarce resources
among competing uses.
• Economics can aptly be described as the science
of choice.
Scarcity and Choice
• An item is a scarce good if the amount available is less than the amount
people would want if it were given away free of charge.
• Alternatively, a resource is said to be scarce when the use of it by one
person reduces its availability to others.
• The scarcity of resources is relative and exists only because the supply of
resources (land, labour, capital, management) is limited, while the ways in
which resources can be used are literally infinite (limitless).
• Choice is the act of making a selection among alternative goods, services
or actions.
• Since resources are scarce (or limited) it follows that the goods and
services we produce must also be scarce.
• Scarcity limits our options and necessitates that we make choices, because
we cannot have all that we want. There is no ‘free lunch’.
Scarcity and Choice (Cont’d)
• If human desires were to be fully satisfied,
• people would not worry about stretching out their limited incomes
because they could have everything they wanted;
• businesses would not need to worry over the cost of labour or
health care;
• governments would not need to struggle over taxes or spending,
because nobody would care.
• Moreover, since all of us could have as much as we pleased, no one
would be concerned about the distribution of incomes among
different people or classes.
• In such an Eden of affluence, there would be no economic goods,
that is, goods that are scarce or limited in supply. All goods would
be free, like sand in the desert or seawater at the beach. Prices and
markets would be irrelevant. Indeed, economics would no longer be
a useful subject
Economic Systems
• An economic system is a set of organisational arrangements
and institutions that are established to solve the economic
problems of what to produce, who to produce, and for
whom?
Economic systems differ as to:
1. who owns the factors of production, and
2. The method used to coordinate and direct economic
activity.
• On this basis, the following economic systems are identified:
1. Pure capitalism
2. The command economy,
3. Mixed systems, and
4. The traditional economy.
1. Pure Capitalism:
• Pure Capitalism is characterized by private ownership of resources and
the use of a system of markets and prices to coordinate and direct
economic activity.
• It is otherwise known as the laissez-faire capitalism.
• Individuals and private firms make the major decisions about
production and consumption.
• The government keeps its hands off economic decisions.
• A system of prices, of markets, of profits and losses, of incentives and
rewards determines what, how, and for whom.
• Firms produce the commodities that yield the highest profits (the what)
by the techniques of production that are least costly (the how).
• Consumption is determined by individuals’ decisions about how to
spend the wages and property incomes generated by their labour and
property ownership (for whom).
• The result is competition among many small, independent acting buyers
and sellers of each product and resource
2. The Command Economy:
• The Command Economy (or communism) is the polar
alternative to pure capitalism.
• It is characterised by public (or government)
ownership of virtually all property resources and
economic decision making through central economic
planning (planned economy).
• All major decisions concerning the use of resources
and distribution of output are determined by a
central planning board appointed by government.
• Planned systems have the ability to adapt to change
provided that those who do the planning do not
suffer from economic myopia.
3. Mixed Systems
This is a system that exists in real world
economics between the two extremes of Pure
Capitalism and the Command Economy, resulting
in various degrees of private ownership and state
interventions in the operations of the market.
The emergence of the mixed economic systems is
due to reforms of the two extreme economic
systems overtime.
4. The Traditional Economy:
• This is probably the oldest economic system in which
consumption, production and distribution of income are all
sanctioned by custom (i.e. handled by procedures
developed in the past, perfected by trial and error, and
institutionalized by repeated use).
• The basic economic questions are answered by the simple
technique of duplicating the past.
• For example: Tradition may dictate that the young men of a
tribe provide food for those too old to go hunting. Custom
may require that, in return, the aged make the weapons for
the hunt.
• Traditional economies are stable, since they do not have
the ability to adapt to change.
Microeconomics and Macroeconomics
• Micro economics is the study of how individual
producers (or firms/businesses) and consumers
(households) decide on how to use the scarce resources
to produce, consume and exchange in individual
markets.
• It attempts to answer questions about:
• i.
• ii.
• iii.
How the individual producer can minimise costs
of production and maximize profits;
How the individual consumer can maximize his or
her utility or satisfaction; and
How producers and consumers react to economic
situations and how these reactions determine
resource allocation, outputs, distribution of
income and the prices to be charged for goods
and services
Microeconomics and Macroeconomics (Cont’d)
• Macroeconomics, on the other hand, is the study of how society as
a whole decides on how to use scarce resources to produce,
consume and exchange in the market.
It explains the economy as a whole rather than individual producers,
consumers, and markets.
All producers are grouped together to study total investment
spending and total production; all consumers are grouped together
in examining total consumption spending.
• Hence, a study of aggregate economic behaviour of the economy.
• Its concepts are used to analyse, among other things, aggregate
output, aggregate demand and supply, aggregate consumption,
inflation and unemployment in an economy as a whole.
Positive and Normative Economics
• Positive economics is the study of what is in existence,
and explains the existing economic conditions.
• It deals with facts and avoids value judgement.
• For example: Economists generally agree that rising prices
reduce consumption (ceteris paribus);
• they agree that the price of maize rises when there is
drought; etc.
• Questions can be resolved by reference to analysis and
empirical evidence.
• Normative economics is the study of what should be done
(or ought to be done) in an economic situation.
• It tends to be ‘prescription’ and/or policy-oriented.
Positive and Normative Economics (Cont’d)
• There are no right or wrong answers to questions because they
involve subjective (or someone’s) value judgement about what
the economy should be like or what particular policy should be
recommended; and can only be resolved by political debate
and decisions.
• For example: Economists disagree on whether we should have
more employment or more inflation; they disagree over
whether income taxes should be lowered for the middle class,
the rich, or the poor; they disagree on whether free market is
the best way to meet the material needs of consumers; etc.
• Statements involving the word ‘ought’ or ‘should’ in the
sentence denote normative statements.
Economics and Agricultural
Economics
• Agricultural Economics is defined as an applied social science
dealing with how humans choose to use technological knowledge
and scarce productive resources such as land, labour, capital and
management to produce food and fibre and to distribute it for
consumption to various members of society over time.
• It is, therefore, the application of economic principles to
agriculture. It is concerned basically with resource allocation in the
agricultural industry.
• Agricultural Economics as a separate discipline from Economics
arose out of the importance of food and other agricultural products
for human existence and also from the need to take an in-depth
look at agricultural production at a micro level.
TECHNIQUES OF ECONOMIC ANALYSIS
Inductive and Deductive Reasoning
• Inductive reasoning is the scientific method of studying economic
behaviour in which the economists accumulate facts, arrange them
systematically, and analyze them to permit the derivation of a
generalization (or theory).
• The economists move from facts to theory or from the particular to
the general.
• Deductive reasoning, on the other hand, is the scientific method of
studying economic behaviour in which the economists develop a
tentative untested principle (called hypothesis), which is tested
against facts. (e.g. ‘If income rises, people will consume more’).
• The economists move from theory to facts in studying economic
behaviour.
Inductive and Deductive Reasoning (Cont’d)
• To develop a hypothesis economists draw upon casual
observations, insight, logic, or intuition.
• To test the validity of the hypothesis, the economists must
subject it to systematic and repeated comparison with
relevant facts.
• Generalizations derived from either method are useful not
only in explaining economic behaviour but also as a basis for
formulating economic policies.
Scientific Method of Enquiry
• The Scientific Method is the process of formulating
hypotheses, and collecting data through
observation and experimentation to test these
hypotheses.
• Scientific researchers propose hypotheses as
explanations of phenomena, and design
experimental studies to test these hypotheses.
• These steps must be repeatable, to predict future
results
Theory and Hypothesis
• Every experiment in science is aimed at testing a hypothesis which
validates it into a theory.
• A hypothesis is a tentative assumption made in order to test its logical
or empirical consequences.
It is only a conjecture or an assumption which may possibly be the right
explanation, if it fits all the facts, but cannot be established until an
experiment proves it.
It is one of the most important steps of the scientific method of enquiry.
• A theory is a plausible and coherent explanation of how certain facts are
related; and has been validated through experimental verification or
observational evidence to reflect economic reality.
Theory and Hypothesis (Cont’d)
• Theory is known to be consistent with all associated
experimental facts and can successfully predict the
behaviour of a system under consideration.
• While a hypothesis is an unvalidated statement
intended to explain why something happens or exists,
a theory is an established or a validated explanation
of a phenomenon (why things happen or exist the
way they are).
• In short, a hypothesis is a possibility; while a theory is
a possibility, which has graduated to become a fact.
Use of Graphs
• A graph is a pictorial representation of the relationship between two or
more sets of data or variables.
• Economists often use graphs to illustrate relations between economic
variables, such as income and consumption, because it gives a better
understanding of economic relationships.
•
Some graphs show how variables change over time (trend), while other
graphs show the relationship between different variables:
• Most economic principles or models explain relationships between just
two sets of variables, which can conveniently be represented with twodimensional graphs.
• For example: Income and consumption; price and quantity of good sold
or price and quantity of good bought.
Use of Graphs (Cont’d)
• There are various types of graph including:
Line graphs,
Bar Charts,
Pie Charts,
Scatter Diagram, etc.
• If the graph is a straight line the relationship is said to be linear.
• If the line slopes upward to the right it depicts a direct relationship
between the two variables (or there is a positive relationship).
• This means that both variables change in the same direction.
• In contrast, two sets of data may have inverse or negative
relationship because the two variables change in opposite directions.
Dependent and Independent Variables
• An independent variable is the cause or source
variable; it is the variable that changes first. (e.g.
income)
• The dependent variable is the effect or outcome; it is
the variable which changes because of the change in
the independent variable. (e.g. consumption)
• Economists usually, but not always, place the
independent variable (income) on the horizontal axis
and the dependent variable (consumption) on the
vertical axis of the graph
‘Other Things Equal’
• Factors other than the independent variable (cause
variable) might affect the dependent variable.
• When economists plot the relationship between two
variables, they assume other things equal. (i.e.
• That is the ceteris paribus assumption, implying that all
other factors are assumed to be constant or unchanged.
• In reality, ‘other things’ are not equal; they often change,
and when they do, the relationship represented will
change.
Slope of a Line
• The slope of a straight line is the ratio of the vertical distance
the straight line travels between any two points (rise or drop) to
the corresponding horizontal change (the run).
i.e.
Rise (or drop)
Run
• The slope is used to describe the relationship between two
variables.
• A positive slope shows that the two variables are directly or
positively related; while
• A negative slope implies that the variables are inversely or
negatively related.
Slope of a Line (Cont’d)
• When variables are independent of one another or
unrelated, the slope is either infinite or zero.
• An infinite slope exists when the graph of their
relationship is parallel to the vertical axis, indicating
that the same quantity of the dependent variable
exists no matter the change in the independent (or
causal) variable.
• Similarly, a zero slope exists when the relationship is
a line parallel to the horizontal axis, indicating lack of
relatedness.
Vertical Intercept
• The vertical intercept of a line is the point where
the line meets the vertical axis.
• This intercept means that if independent variable
is zero the dependent variable will not be zero.
• E.g. If current income were zero, consumers
would still be spending through borrowing or by
selling off some of their assets.
Equation of a Linear Relationship
• If the vertical intercept and slope are known a line
can be described succinctly in equation form.
•
In its general form the equation of a straight line is:
Y = a + bx
where Y = dependent variable
a = vertical intercept
b = slope of line
x = independent variable
Slope of a Nonlinear Curve
• The slope of a nonlinear curve at a given point is
the slope of a straight line that just touches, but
does not intersect, the curve at the point of
contact.
• Such a straight line is called a tangent to the
curve.
• While the slope of a straight line is the same at all
points, the slope of a nonlinear curve changes
from one point to another.
Graphs
Y
Y
Slope = positive
Slope = negative
intercept
X
X
Graphs (Cont’d)
Y
Y
Infinite Sslope
Zero Slope
X
X
Y
A
Slope of Curve at point A
X
ANALYSIS OF CONSUMER BEHAVIOUR
• Consumer Choice
• Consumers spend their incomes on a variety of
goods and services; but the consumer is limited
in the amounts of goods he can buy due to his
limited income and the price tag on each good.
• The consumer must, therefore, select or choose
the most satisfying basket of goods and services
among alternatives.
• Consumer Choice (Cont’d)
• The analysis of consumer choice is based on the
assumptions of rational behaviour and
preferences of consumers as follows: that:
1. The consumer makes rational decisions by
trying to use his or her money income to derive
the greatest satisfaction from it.
2. Each consumer has a set of well-defined preferences for
goods and services available in the market. The consumer
must be able to rank different baskets of goods and services
to determine the order of preference among them.
i . For any two baskets of goods A and B, either A is preferred
to B (A˃ B); B is preferred to A (A ˂ B); or the consumer is
indifferent between A and B (A ≡ B).
ii. Preferences are transitive. That means if A is preferred
(or indifferent) to B and B is preferred (or indifferent) to C,
then A
is preferred (or indifferent) to C
i.e. A˃ B; B˃C, then A˃ C ;
A ≡ B; B ≡ C, then A ≡ C
3.Each consumer has a fixed, limited amount of
money income at any point in time. Thus, all
consumers face a budget constraint.
4.Every good and service carries a price tag and
each consumer can purchase only a limited
amount of goods because of his or her limited
income and the prices of products
• Concept of Utility
• Utility is the satisfaction that a person enjoys or derives
from the consumption of goods and services. A given
collection of goods gives a certain level of utility. If another
collection gives a higher level of utility then that collection
is preferred to the first.
• A consumer is indifferent between the two collections of
goods if they both give him the same level of utility. While
a consumer can tell which of the two baskets of goods he
prefers based on the utility derived, he cannot
communicate how much utility is derived. This means that
utility cannot be measured. It is purely subjective
depending on the individual consumer
• Indifference Curves
• An indifference curve is a graph which shows all
alternative combinations of two goods that yield
the same level of total satisfaction (or total
utility) to a consumer and among which the
consumer is indifferent. It tells us how much of
one good a consumer is willing to give up in trade
for one unit of another good without
experiencing a loss in total satisfaction (i.e.
substitution of one good for another).
An Indifference Schedule
Combination
Units of X (e.g fish)
Units of Y (e.g kenkey)
A
1
6
B
2
3
C
3
2
D
4
1
An Indifference Curve
Y
6
3
2
1
I
0
1
2
3
Quantity of X
4
An Indifference Curve (Cont’d)
• Every point on the curve I represents some
combination of goods X and Y, and all those
combinations are equally satisfactory to the
consumers. That is, each combination of X
and Y on the curve yields the same total
utility.
Indifference Map
• A set of indifference curves reflects different
levels of total utility and is called an
indifference map. Curves farther from the
origin indicate higher levels of total utility.
Thus, any combination of X and Y represented
by a point on I3 has greater total utility than
any combination of X and Y represented by a
point on I2 and I1
Indifference Map
Y
I3
I2
I1
0
1
2
3
4
X
Properties of Indifference Curves
1. They are downward sloping because more of one product
demanded by a consumer implies less of the other product if total
utility is to remain the same.
2. An indifference curve is convex to the origin because the quantity of
a product that a consumer is willing to give up to obtain an
additional unit of a second product diminishes as more units of the
second product are added. This means that it has a diminishing
slope or diminishing marginal rate of substitution.
3. The consumer is better off as he moves up to a higher indifference
curve
4. Curves do not intersect.
5. An indifference curve does not move (or shift) as a result of
marginal changes in income or prices
Properties of Indifference Curves
Y
A
D
E
C
B
0
1
2
3
I = 2000
I =1000
4
X
Budget Lines
• A consumer’s budget is an estimate of what
he can buy with his income. A budget line
shows all the combinations of two goods that
a consumer can buy with a particular money
income and given prices of the goods.
Budget Lines (Cont’d)
• For two goods X and Y with known prices Px and Py respectively,
and income M (to be spent completely), the budget equation can
be expressed as:
Px. X + Py. Y = M
Py Y = M – Px.X
Y = M/Py - Px/Py. X budget line
• This is a straight line with M/Py as intercept and –Px/Py as slope of
the budget line
• Hence slope of budget line equals ratio of prices
Budget Lines (Cont’d)
M/Py
-Px/Py
(unattainable)
Y
(attainable)
X
Budget Lines (Cont’d)
1. The budget line has a negative slope equal to the ratio of product
prices
i.e. Change in Y/Change in X = -Px/Py.
Negative slope implies that buying more of one good results in
buying less of the other good if M is constant
2. An increase in(or decrease) in the money income of the consumer
will shift the budget line to the right (or left) without affecting its
slope
3. An increase (or decrease) in the prices of both products shifts it to
the left (or right).
4. An increase (or decrease) in the price of the product whose
quantity is measured horizontally (the price of the other product
remaining constant) the lower end of the line turns clockwise (or
anticlockwise)
Consumer Equilibrium
• Consumer equilibrium is the utility maximizing combination which
lies on the highest attainable indifference curve. The rational
consumer wants to get to the highest indifference curve, given the
budget constraint. At this point the budget line is tangent to the
indifference curve. (Tangent is a straight line that touches a curve
but does not cross it).
• The indifference curves show how the consumer ranks different
market baskets; the budget line shows what the consumer is able to
buy. Combining the information represented by the indifference
curve and the budget line shows what combination the consumer
will buy.
• That is, Slope of budget line = slope of indifference curve.
Consumer Equilibrium (Cont’d)
Y
e
I3
I2
I1
X
Consumer Equilibrium (Cont’d)
Slope of Budget line = Px
Py
• Slope of the indifference curve = marginal rate of
substitution (MRS) of one good for the other
• The consumer is in equilibrium where MRS = -Px/Py
• The marginal rate of substitution is equal to the price
ratio
DEMAND ANALYSIS
• Demand is the amount of a good that people are
willing to buy under specified circumstances at a
given point in time. There exists a definite
relationship between the market price of a good
and the quantity demanded of that good, other
things held constant. This relationship is
represented differently as the demand schedule,
demand curve or demand function.
.
Demand Schedule
Demand schedule can be defined as a table that shows the
quantities of a product that a consumer is willing to buy at
various prices at a specified period of time
• A Hypothetical Demand Schedule for Plantain
Price per kg
Individual
Individual
Individual
Market
A
B
C
(Total)
2
20
20
10
50
4
15
10
6
31
6
10
5
3
18
8
8
1
1
10
10
4
0
0
4
Demand Schedule (Cont’d)
• When price is raised buyers tend to buy less of
the plantain, hence negative (or inverse)
relationship. The market demand is the
horizontal summation of the demands of all
individual in the market for that good.
Demand Curve
• Demand curve is a graphical representation of the
relationship between quantity demanded and price of a
product
P/kg
10
8
6
4
2
0
•
•
5
10
15
20
Kg of Plantain
5
10
15
20
5
10
15
10
20
30 40 50
Demand Function
• The demand function is the algebraic (or symbolic)
representation of the price-quantity relationship of
demand.
• Qd = f(p)
• (Read as Qd equals ‘f of p’which means Qd is a function of
p or Qd depends on p)
• Where Qd is the quantity demanded
p is the unit price
f is a functional notation.
Demand Function (Cont’d)
• Other letters can be used to denote a function e.g. D (p), g(p), etc.
•
• It can be shown that quantity demanded of a good is a function
price and other factors that also determine demand
•
• Qd =f (p u, v, x, y, z)
•
• Where u, v,x,y,z are other factors.
• Very often in order to simplify analytical understanding the quantity
demanded is looked at only in relationship with price with all the
other determinants held constant (i.e ceteris paribus).
Change in Quantity Demanded vs
Change in Demand
• Quantity demanded is the amount of a good people are
willing to buy at different prices at a given point in time,
other things being equal. A change in quantity demanded is
the increase (or decrease) in the quantity of good to be
purchased in response to a price decrease (or increase) of
that good. It depicts a movement along a given demand
curve from one point to another. It is downward moving
when there is a decrease in price and vice versa.
• A change in demand is a shift of the entire demand curve to
the right (an increase) or to the left (a decrease). It occurs
when there is a change in one or more of the determinants
(factors) of demand, other than price.; e.g. income.
Factors Affecting the Demand for a
Commodity
• The quantity demanded of a product cab be influenced by several
factors which can be classified into price and non-price factors.
The non-price factors may include:
1. The price of related goods (substitutes such as beef and chicken;
and complements such as gari and beans)
2. The level of income
3. Tastes, Religion, Fashion and Preferences
4. Price expectations of consumers
5. Number of buyers (Population)
6. Government Policy (e.g. reduction in taxes, increase in subsidies,
restrictions, etc)
7. Weather conditions and seasons
8. Inventions and innovations
SUPPLY ANALYSIS
• Supply is the amount of a good that producers
are willing to offer for sale under specified
circumstances at a given point in time. There
exists a definite relationship between the
market price of a product and the quantity
supplied of that product, other things held
constant. The supply relationship is also
represented differently as the supply
schedule, supply curve or supply function.