Introduction of Economics
The word economics was derived from the Greek word ‘Oeconomicus’ which
means household management and agriculture management. Economics is social
science which is dynamic in the sense that economics got changed with the
change in time and human civilization. Economics was used in the early time of
human civilization informally because people used to live outside the society.
When the society has developed, increased numbers of family, production in
large scale, exchange, development of market and invention of money to
facilitate the transaction got the importance place in the area of economics. Now,
in the modern times the scope of economics has become very broad and includes
the each and every sectors of the society and hence economy. The overall
development of economics can be divided into the following three periods.
Classical period (1776-1890)
The period between 1776 and 1890 is known as classical period in the history of
economics. In this period, the classical economist, Adam Smith, the leader of
classical school, defined economics as a science of Wealth in his book “Wealth of
Nation”. Adam smith defined the economics as the science for the first time and
gave definite shape to economics in the history of economics. Since he gave
particular definition of economics for the first time, he is known as father of
economics.
Adam smith defines economics as science of wealth. According to him, it is only
wealth to satisfy human needs in the society. So, people must effort for increasing
the volume of wealth. In this period, other economists like J.B Say, Ricardo, and
Malthus etc. were the followers of Smith and they also defined the economics as
science of Wealth. According to J.B say “Economics is that body of Knowledge
which relates to wealth”.
It shows that in classical period economics was related with the study of wealth
and wealth generating human activities. To Smith, only way to increase wealth in
the society is the increase in the productivity of labor which depends on division
of labor. Further, division of labor depends on the extent of market. It means
labor division becomes more possible when market is free and large. Adam
smith’s definition can be explained in the following points.
i)
Study of Wealth
Wealth definition deals with production, exchange, distribution and consumption
of wealth.
ii)
Significance of wealth
According to the wealth definition human beings make all his effort only to earn
wealth and he satisfies all his wants only with wealth. So wealth is very important
iii)
Primary Place to wealth
Adam smith gave first priority to wealth and second priority to man in his
definition. According to him, main goal of every human is to earn wealth and man
is only means. So, man is for wealth
iv)
Study of Economic man
Smith distinguished between economic and non-economic man. In his view,
economics studies only those persons who are directly and indirectly involved in
production and consumption of wealth. Economics does not study non economic
man.
v)
Source of wealth
According to Smith there is only one source of wealth that is employed labor.
Criticism of Wealth Definition
When the time was near of 1890 the classical ideas were bitterly criticized
specially by Ruskin, Morris and Caryel. They abused his economics as bread and
butter. It was criticized by Marshall and other economists in the following way.
i)
Narrow Definition
According to critics Adam smith made the scope of economics narrow. He only
considers wealth and left important aspect mankind and welfare. Similarly it
neglected non material wealth and satisfaction from various services. In this
sense, Smith narrowed down the scope of economics.
ii)
Single source of wealth
To Adam Smith, only employed labor is source of wealth but in reality there are
other sources of wealth like capital, natural resources, socio economic institutions
and entrepreneurs etc. when labor is combined with these sources the only
wealth generation is possible.
iii)
Too much emphasized on wealth
Smith emphasized more on wealth. To him, wealth is goal of every people and to
satisfy human wants only wealth is sufficient. But, he ignores the welfare from the
wealth. Similarly, he neglects satisfaction from various services.
iv)
Secondary Place to man
According to Smith wealth is primary thing which is all in all in the society. He
gave second place to mankind. But, in reality, man is primary subject and wealth
is secondary in the society. Man is centre of every economics activities. So Adam
smith is wrong to consider wealth as primary subject.
v)
Too much emphasis on economic man
Adam smith gave the idea that economics studies only economic man. His
assumption of economic man is wrong. In the sense, it is very difficult to
distinguish between economic and non-economic man. Further, non economic
aspect is also very important aspect of society.
vi)
Overdependence on market
According to smith market economy (free market system) is only way to increase
the wealth in the society. But concept of free market (laissez faire) does not deal
with the problem of underdeveloped countries like Nepal. Because free market
creates gap between rich and poor.
Though classical definition was criticized on some above grounds, it has greater
role in the development of economics. Because Adam Smith brought into
existence s separate science.
Neo-classical Definition
The period between 1890 and 1932 is regarded as neoclassical definition. When
classical definition was criticized bitterly, Alfred Marshall, a leader of neo-classical
school gave new dimension to economics with the publication of his book
“Principle of Economics” in 1890. He saved economics from disregard and
disrepute and brought from wealth to welfare.
Alfred Marshall defined the economics as a science which on the one hand
studies wealth and on the other hand and more important side studies man and
man’s welfare. Here Alfred Marshall assigned first priority to individual and social
welfare where secondary place to wealth. According to Marshall “economics is
the study of mankind in ordinary business life. It examines that parts of
individuals and social action which is most closely connected with the attainment
and use of material requites of well being”.
Marshall highly emphasized on the study of only material welfare and ordinary
man where to him economics does not studies not material welfare and extra
ordinary man.
Hence, welfare definition defines the economics as the science of material
welfare. It establishes linkage between wealth and welfare (man).welfare
definition can be explained in the following points.
i)
Welfare is Primary Concern
Welfare definition considers that wealth is for material welfare of any individuals.
It rejects the idea that man is for wealth and it gives primary concern on material
welfare and secondary place to wealth. But it does not consider non-material
welfare.
ii)
Study of ordinary man
This definition stressed on ordinary man who earns wealth and uses it to get
material welfare. But it does not study extra ordinary man like mad person,
hermit, sadhu mahatma etc.
iii)
Social science
Alfred Marshall advocated economics as a social science which studies human
behavior and activities in the society. But it does not study isolated person who
lives outside the society.
iv)
Normative Science
Neo-classical definition of economics explains economics as normative science
because it studies with what should be. It means economics studies the causes
after material welfare and talks about what should be done to get material
welfare from wealth.
It can be concluded that welfare definition of economics describes how to get
maximum material welfare with the use of wealth. So, economics is science of
material welfare.
Criticism of Welfare Definition
At the time of early 20th century neo-classical ideas were criticized by modern
economist like Leonel Robbins as follow:
i)
Welfare definition is classificatory
Welfare definition is criticized as classificatory definition but not analytical
because it classified welfare into material and non-material and man into ordinary
and extra ordinary. However, it does not give clear explanation of this concept.
ii)
Narrow scope
Alfred Marshall has limited the scope of economics to ordinary man and material
welfare only. It ignores non- material aspect and extra ordinary man which have
also clear economic meaning.
iii)
Emphasized only on normative aspect
According to Marshall, economics is normative science which deals with what
should be. But he ignores positive aspect of economics that means what is. There
is no meaning of normative science without positive aspect.
iv)
Surfacial definition
Welfare definition is criticized as surfacial definition because it does not study
centre economic problems scarcity and choice.
v)
It excludes human science
To Marshall, economics studies people’s activities and behavior only inside the
society and it does not study behavior and activities of the people outside the
society. But people living outside the society like sadhu, mahatma etc. has also
economic problems and they must be studied by economics.
vi)
Contradictory
Welfare definition is contradictory because on the one hand it talks about
material welfare which is objective and at the same time it talks about utility
which is subjective. Similarly there is contradiction in the meaning of welfare
also because same physical goods like smoking gives satisfaction to someone
and negative welfare to others.
vii)
Welfare cannot be quantitative
According neo-classical economist Pigou, welfare is quantitative and it is
measured by money. But, the welfare from same amount of money differs from
person to person, time to time and place to place. For example, same amount of
money gives higher welfare to poor people and lower to rich people.
Despite several demerits of this definition, it has redefined economic ideas of
classical period and gave the different scope of the economics.
Modern definition of Economics
It has been said that modern period was started in 1932. But, formally it was
started in 1935 with the publication of Robbins’s book “An essay on the Nature
and Significance of Economics”. Modern definition given by Robbins is scientific
and logical in the sense that he explains the basic economic problem scarcity and
choice. Robbins advocates that economics studies the central problem of all
economic agents (producer, Seller, consumers) that is scarcity and choice. So, he
explains economics as science of scarcity and choice. This definition is related
with the problems arising from scarcity like how to make choice. Hence, Robbins
definition can be defined as science of choice. According to Robbins “Economics is
the science which studies human behavior as a relationship between unlimited
ends and scarce means which have alternative uses”. Some other economists like
Stigler also concerned with scarcity and choice.
Robbins definition can be explained in the following main points.
i)
Human wants are unlimited
According to Robbins there is multiplicity of wants where fulfillment of one want
creates another want automatically. So we cannot fulfill all our wants at once or
even during our life time.
ii)
Limited Resources
Resources are limited or scarce in comparison to human wants because human
wants are always increasing but resources are not.
iii)
Wants are of varying importance
According to Robbins unlimited human wants are not equally important. Some
are more urgent and some are less. So, choice between them is possible and we
can fulfill more urgent need now and postpone the less urgent wants.
iv)
Alternative uses of resources.
Robbins explains that scarce resources can be used in various uses on the basis of
necessities. It helps to make choice and usefulness of available resources. That
means scarce resources can be best utilized.
v)
Choice is the main problem
Unlimited wants with different priority and limited resources with alternative
uses create the problem of scarcity. So, main problem of economics is choice.
That means how to make a choice among various alternatives is the major
problem.
vi)
Economics is pure or positive science
Robbins explains economics as pure science like Physics and Chemistry which
depends on fact not on value judgment. Similarly, to his economics is positive
science which deals with what is.
vii)
Efficient allocation.
Robbins definition stresses on efficiency in the use of scarce resources to satisfy
different human wants. Efficiency in allocation of resources is necessary to
overcome the problem of scarcity and create efficiency in production and
distribution.
Hence Robbins definition is scientific and universally accepted definition because
his definition is not classificatory and is more analytical. It deals with the problem
of almost all economy that is scarcity and choice.
Criticism of Robbins Definition
Though Robbins’s definition is scientific, logical and universally accepted, some
economists like Barbara Wotton and Frasar etc. have made criticism in the
following ways.
i)
Still incomplete definition
According to critics scarcity definition is incomplete because it only talks about
scarcity and choice but is not able to address burning and current problem of any
economy like poverty, unemployment, inequality, inflation economic growth and
economic development.
ii)
Scarcity is not only problem
Critics say that as Robbins states economic problem does not arise only from
scarcity but also due to the overproduction, inefficient use of resources, and
misuse of resources and mismanagement of economic organizations. These all
create disinvestment and unemployment.
iii)
Wrong assumption of pure science
Robbins says economics is a pure science which is tested on the basis of fact and
statistical tools etc. however, some issues like utility, satisfaction, poverty,
inequality cannot be measured in quantity with the help of scientific tools.
Similarly unlike pure science economics studies human behavior which gets
changed with time. So conclusion of economics cannot be applied as that of pure
science everywhere.
iv)
It neglects the normative aspect
Robbins considers economics as positive science but ignores the normative
aspects. In reality positive aspect is incomplete in the absence of normative
aspect
v)
Similar to Marshall’s definition
Robbins’s definition is similar to Marshall’s definition in the sense of welfare.
Robbins says that scarce resources are used to get maximum satisfaction. Here
scarce resources are similar to the Marshall’s concept of wealth and satisfaction
means welfare.
vi)
Limited on allocation of resources.
Scarcity definition explains only how scarce resources are allocated to get the
maximum satisfaction but Robbins does not talk about the further process like
production, exchange, distribution, consumption and re-utilization of resources.
Critics claim that Robbins definition cannot be applied in rich and socialist country
because problem of rich country is plenty of income and over production but not
scarcity. Similarly, socialist economy focuses on providing basic needs to the
people on the basis of collective choice and in such economy there is no proper
choice between ends and means as Robbins says.
In this way, if we leave some short comments, Robbins’s definition is more
scientific, analytical and practical since it deals with main economic ideas scarcity
and choice.
Similarities between Marshall’s and Robbins’ definition.
i)
Both deal with Scarce resources
According to Marshall, wealth is the thing that is scarce where as Robbins
mentions scarce resources which is wealth.
ii)
Both give importance to man
Marshall was focused on human activities and Robbins is concerned with human
behavior as a relationship between ends and scarce. The centre concern of both is
maximization of human satisfaction.
iii)
Both Concern with welfare
Marshall is mainly interested in material welfare where as Robbins is interested in
satisfaction which means welfare
iv)
Both Explains Rational man
Both of them explain the rational man who aims to maximize welfare\ satisfaction
with given resources.
Superiority of Robbins definition
Robbins definition is superior in relation to Marshall because of following reasons.
i)
Robbins definition is Scientific
Robbins definition is scientific because he does not classify man as ordinary and
extra ordinary and welfare as material and non material. His definition is
analytical in comparison to Marshal.
ii)
Robbins definition is universally accepted
Marshall has mainly focused on such problem which is applicable for only some
people where as Robbins talks about scarcity and choice which is applicable to all
type of individual, society and economies.
iii)
Wide Scope of Economics
Marshall confined economics into only material welfare, ordinary man and to him
economics only studies man in society. But Robbins includes all of the things and
he clearly mention about the human science.
iv)
Economics as Positive Science
Robbins definition explains economics as exact or objective. Whereas, Marshall
studies normative science which is less exact and reliable.
Scope of Economics
Scope of economics means the area it covers. It means it deals with the range of
things that the economics deals with. It includes,
i)
Subject matter of Economics
ii)
Nature of Economics
Subject Matter of Economic
The issues or things or maters economics covers are known as subject matter of
economics. Subject matter of economics is dynamic in the sense that it changes
with the change in human civilization and thought and ideas. The subject matter
of economics can be defined on the basis of following three bases.
a) On the basis of representative definition
Different economists have given their own definition of economics which specify
the subject matter of economics. According to Adam Smith, the subject matter of
economics is wealth. Whereas, Marshal has defined scope of economics as
material welfare. To Robbins, economics is the science of scarcity and choice
b) On the basis of economic activities
Human being wants to maximize the satisfaction from everything. So, they make
various economic activities in order to obtain it. These economic activities are
subject matter of economics.
i)
Production
Production is the creation of utility. It mainly deals with factors of productions
and laws of productions.
ii)
Consumption
It deals with consumer behavior and utility. Under consumption it explains theory
of demand and law of diminishing marginal utility.
iii)
Distribution
Mainly distribution is related with factor pricing which is share of every factor of
production in national income.
iv)
Exchange
Exchange means transfer of goods and services from producer to consumers with
the help of medium of exchange, money. Under exchange, economics studies the
markets like perfect competition and monopoly.
v)
Public Finance
It studies the income and expenditure of government. It means public finance is
the study of financial activities of government
vi)
International Trade
Mainly it studies the import and export of goods.
C) On the basis of division of economics
In modern times, economics is defined as micro and macro economics.
Microeconomics studies the small economic units such as individual income,
demand, supply, price of particular price and factor, production of firm etc.
Macroeconomic is studies the aggregate economic units such as general price,
total production, aggregate demand, Aggregate supply national savings etc.
Nature of Economics
Is Economics Science or art?
A science is a systematic body of knowledge which makes comprehensive study of
any subject. Science derives the conclusion on the basis of facts and experiments
which establishes cause and effect relationship. Scientific laws are universally
applied. For example we can take law of gravitation law. Similarly Economics is
also a systematic study of knowledge because it studies consumption, production,
exchange and distribution systematically. Like other scientific laws, most of the
economic laws, such as law of demand, establish cause and effect relationship
among the various economic variables and the conclusion is derived from fact and
experiment. As science it arises practical problem. So, economics is science,
however, it is not exact science. It is social science which studies human behavior
which changes from person to person and time and time.
Art is related with the creation of new knowledge and ideas. It is a body of
knowledge that guides an action and teaches how practical problems are solved.
Economics provides solution to problems of economics such as problem of
poverty, unemployment, inequality etc. by making plan, policy and programmes.
So it is also an art.
Hence, we can conclude that economics is both science and art.
Economics as Positive and normative science
Economics as positive science
Positive economics is a systematized body of knowledge that studies what is or
what actually is. It talks about what exists. Positive economics was introduced at
the time of classical period and it is also followed by modern economists.
Positive economics always makes explanation and analyze the economic
variables. It is based on facts and experiment but not on value judgment and
public opinion. Positive economics establishes causes and effects relationship
between economic variables (such as between income and expenditure: when
income increases expenditure also increases).it means positive economics follows
the scientific process. It makes the decisions following scientific processes. The
conclusion is universally applicable, widely accepted and there is no chance of
personal bias. Furthermore it is an objective science which reveals the economic
problems in the economy.
Basically, positive economics develops economic laws and theories assuming
some proposition. Law of demand can be taken as the most important economic
theory of positive economics. The conclusion of positive economics can be
verified with empirical evidences.
Hence, positive economics is a science which makes explanations and prediction
on the basis of facts.
Economics as a Normative Science
Normative economics is the science that studies what should be or what ought to
be. Normative economics studies what is best among the alternatives. It was
introduced in the neoclassical period by Alfred Marshall.
Normative economics is subjective which provides the solution of the existing
problems raised by the positive economics. It derives the conclusion on the basis
of personal opinion, value judgment and ethical consideration. So the conclusion
of normative economics can’t be applied universally and it differs from person to
person. Normative science does not follow scientific process and it does not
establish causes and effect relationship between economic variables. It means
normative economics does not make the explanation and prediction of any
subject. There is the chance of personal bias in the derivation of conclusion.
Normative economics is applied in policy sciences which make plans and policy
such as tax policy, fiscal policy etc. in order to solve the practical problems of
economy. So it is also known as policy science. Its conclusion can’t be verified
tested and proved.
Hence, normative economics is related with the maximization of returns related
to production and consumption.
Microeconomics and Macroeconomics
Microeconomics
The word micro is derived from the Greek word mikros which means a small or
part. So, micro economics is the study of behavior of small or individual economic
units like firm, a person’s income, individual demand and supply, price of
particular product etc. sometimes it studies a small group of individual unit such
as industry, market etc. Microeconomics is the microscopic study of economic
units. Here, micro economics studies tree but not forest.
According to K.E. Buildings ‘ Microeconomics is the study of particular firm,
particular household, individual prices, wages, income, individual industries,
particular commodities.’
The main objective of microeconomics is to study the equilibrium state of
consumer and producer. It deals with the equilibrium of a consumer which means
it is related with how consumer maximizes his satisfaction by given resources. It
deals with the situation of producer’s equilibrium which means it studies how he
allocates his limited resources to get maximum profit. Micro economics tries to
study the market economy where price is very important factor. It means micro
economics explains how price of particular product and factor is determined on
the basis of demand and supply. So, micro economics is known as Price theory.
Microeconomics makes the economic analysis with the help of assumptions like
other things remaining the same (ceteris peribus).
Assumptions of microeconomics
Microeconomics makes the study of individual unit with following points
i)
Full employment in the economy
ii)
Resources are given
iii)
Total output is fix
iv)
General price level is given
Microeconomics makes economic analysis with assumptions like ceteris peribus.
It studies the equilibrium of particular sector assuming other all sectors constant.
So, it is known as partial equilibrium analysis. Microeconomics can be understood
with the following ideas.
i)
Allocation of resources
Microeconomics explains the use of scarce resources to maximize satisfaction or
profit. It deals with the what, how, how much and to whom to produce.
ii)
Theory of price
Microeconomics is related with the determination of price of particular product
and price of particular factor in the respective market on the basis of their
demand and supply.
iii)
Theory of economic welfare
Microeconomics is related with efficient utilization of factors of production and
other resources to attain maximum return.
Hence, microeconomics aims to achieve economic efficiency in production,
consumption, distribution and exchange to increase economic efficiency
Macroeconomics
The word macro is derived from the Greek word micros which means big or
aggregate. It means macro economics is the study of aggregate economic units
such as national income, total product, general price level, aggregate demand and
aggregate supply etc. Macro economics is the study of any subject as a whole. It
means it studies forest not the tree.
The main objective of the macroeconomics is to maintain economic stability
through monetary stability and price stability. Basically, it studies aggregate
demand and aggregate supply where aggregate demand is consumption and
investment expenditure.
According to K. E. Building,’ Macroeconomics is that part of economics which
studies overall averages and aggregate of the system rather than particular unit’.
It can be said that macroeconomics studies functioning of economy as a whole. It
is related with the formulation of macroeconomic plans and policies like fiscal and
monetary policies. So, it is known as policy science.
Fiscal and monetary policies
are economic tools that help to solve practical problems of economy.
Assumptions
Macroeconomics assumes individual economic units given and studies aggregate
of all individual variables.
i)
Individual price and wage are given
ii)
Individual income is given
iii)
Employment of individual factor is constant
Since, macroeconomics studies equilibrium of all economic variables or sectors at
a time together it is known as general equilibrium analysis. Macroeconomics can
be understood with the following features.
i)
Theory of income and employment
It deals with the determination of total income and total employment in the
economy with the help of aggregate demand.
ii)
Theory of general price
It studies the average price of the whole economy assuming individual price
constant. Similarly, under the theory of general price level it deals with the
inflation, deflation, money and banking etc.
iii)
Theory of economic growth
Economic growth refers to the change in rate of growth of primary, secondary
and tertiary sectors as a whole. It requires increase in the living standard of
people. Macroeconomics formulates fiscal and monetary policies for economic
growth.
iv)
Modern theory of distribution
It is related with the determination of aggregate price of factors of production in
the form of rent, wages, interest and profit. It determines the relative share of
factors in national income. So, it is known as distribution theory.
Thus, macroeconomics is related with the economic system as a whole.
Importance of Economics in economic analysis
Importance of microeconomics
Micro economics is the study of individual economic units and has following
importance
i)
To understand working of economy
It helps to know how an economy operates by the study of behavior of micro
economic variables like individual income, production of single firm, price of
particular firm etc.
ii)
To solve current economic problem
Micro economics helps to solve the current economic problems such as poverty,
pollution, inequality etc.
iii)
Efficient allocation of resources
Microeconomics develops economic theories like theory of cost, production,
exchange etc. Which helps to make productive use of resources that brings
efficiency in the economy.
iv)
Price determination
Microeconomics helps in the determination of price of particular product and
price of particular factor in the respective market on the basis of their demand
and supply.
v)
Policy formulation and implementation
Microeconomics helps to formulate and implement the policies like price policy,
trade policy etc. with the study of individual units.
vi)
To understand the macroeconomic variables
To understand some macroeconomic variables like national income, general price
level, aggregate demand, and aggregate supply etc. microeconomic variables are
necessary. For example, to know about NI we must know the individual income.
Importance of Macroeconomics
Macroeconomics which studies aggregate economic variables has the following
importance.
i)
To know the functioning of economy
Functioning of the economy is studied with the study of behavior of the aggregate
economic variables like NI, AD, AS, etc.
ii)
Formulation of Economic policies
Macroeconomics is known as policy science because it is mainly related with the
policy formulation. In modern period, it helps to formulate policies like
investment policy, trade policy, fiscal policy etc.
iii)
Economic growth and economic development
For economic growth and economic development it requires higher rate of
increase in total production and income. Various macroeconomic plans and
policies help to promote investment, production and hence economic welfare. It
makes economic development ultimately.
iv)
Economic stability and monetary stability
Macroeconomics analyzes money supply and general price level and helps to
control inflation deflation etc. it leads to economic and monetary stability.
v)
To solve various problems
Macroeconomic helps to solve the various socio economic problems of the
society with the formulation of accurate macroeconomic policies.
vi)
To understand microeconomic variables
Every individual unit is explained and measured with the help of aggregate of that
unit. For example, price of a particular product explained or determined by
general price level and wages of single labor depends on national wage policy.
Similarly macroeconomics helps to determine the relative share of factors of
production in national income. It means it helps to distribute NI
Distinguish between micro and macro economics
Though Micro economics and macroeconomics seem interdependence to each
other, they have some distinct features. They are
 Microeconomics focuses on allocation of resources assuming full
employment in the economy where macroeconomics focuses on
achievement of full employment in the economy.
 Under microeconomics market equilibrium is determined by individual
demand and supply where in macroeconomics such equilibrium is
determined by AD and AS
 Micro economics is static analysis because it explains equilibrium at
particular time. Where macro economics is dynamic analysis which deals
with rate of change
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