DEFINITION OF ECONOMICS

The modern word "Economics" has its origin in the Greek word "Oikonomos" meaning a

steward. The two parts of this word "Oikos", a house and "nomos", a manager sum up what

economics is all about. How do we manage our house, what account of stewardship can we

render to our families, to the nation, to all our descendants?

There is an economic aspect to almost any topic we care to mention � education, employment,

housing, transport, defence etc. Economics is a comprehensive theory of how the society works.

But as such, it is difficult to define. The great classical economist Alfred Marshal defined

economics as the "Study of man in the ordinary business of life".

This, however, is rather too vague a definition. This is because any definition should take

account of the guiding idea in economics which is scarcity. The great American economist Paul

Samuelson thus defined it as: "The study of how people and society choose to employ scarce

resources that could have alternative uses in order to produce various commodities and to

distribute them for consumption, now or in future amongst various persons and groups in

society. Virtually everything is scarce; not just diamonds and oil but also bread and water. The

word scarcity as used in economics means that; All resources are scarce in the sense that there

are not enough to fill everyone's wants to the point of satiety.

We therefore have limited resources, both in rich countries and in poor countries. The

economist�s job is to evaluate the choices that exist for the use of these resources. Thus we have

another characteristic of economics; it is concerned with choice.

Another aspect of the problem is people themselves; they do not just want more food or more

clothing they want particular types of food, specific items of clothing and so on. By want we

mean; "A materialistic desire for an activity or an item. Human wants are infinite.

We have now assembled the three vital ingredients in our definition, People (human wants),

Scarcity and choice. Thus for our purpose we could define economics as:

"The social science which is concerned with the allocation of scarce resources to provide goods

and services which meet the needs and wants of the consumers"

(ii) The Scope of Economics

The study of economics begins with understanding of human �wants�. Scarcity forces us to

economise. We weigh up the various alternatives and select that particular assortment of goods

which yields the highest return from our limited resources. Modern economists use this idea to

define the scope of their studies.

Although economics is closely connected with such social sciences as ethics, politics, sociology,

psychology and anthropology, it is distinguished from them by its concentration on one

particular aspect of human behaviour � choosing between alternatives in order to obtain the

maximum satisfaction from limited resources.

In effect, the economist limits the study by selecting four fundamental characteristics of human

existence and investigating what happens when they are all found together, as they usually are.

First, the ends of human beings are without limit. Second, those ends are of varying importance.

Third, the means available for achieving those ends � human time and energy and material

resources � are limited. Fourth, the means can be used in many different ways: that is, they can

produce many different goods.

But no single characteristic by itself is necessarily of interest to the economist. Only when all

four characteristics are found together does an economic problem arise.

Resources: The ingredients that are combined together by economists and termed economic

goods i.e. goods that are scarce in relation to the demand for them.

i. Economic Goods: All things which people want are lumped together by economists and

termed economic goods i.e. goods that are scarce in relation to the demand for them.

ii. Free Goods: These are goods which people can have as much as they want, e.g. air.

MICROECONOMICS AND MACROECONOMICS

Overall the study of economics is divided into two halves, microeconomics and

macroeconomics.

(a) "Micro" comes from the Greek word meaning small, and microeconomics is the study of

individual economic units or particular parts of the economy e.g. how does an individual

household decide to spend its income? How does an individual firm decide what volume of

output to produce or what products to make? How is price of an individual product determined?

How are wage levels determined in a particular industry? It thus gives a worm�s eye view of the

economy.

(b) "Macro" comes from the Greek word meaning large, and macroeconomics is the study of

"global" or collective decisions by individual households or producers. It looks at a national or

international economy as a whole, e.g. Total Output, Income and Expenditure,

Unemployment, Inflation Interest Rates and Balance of International Trade, etc and what

economic policies a government can pursue to influence the conditions of the national economy.

It thus gives a bird's eye-view of the economy.

Economic theory

A body of economic principles built up as a result of logical reasoning, it provides the tools of

economic analysis. It is pursued irrespective of whether it appears to be of any practical

advantage or not.

THE METHODOLOGY OF ECONOMICS AND ITS BASIC CONCEPTS

Economics proceeds as an evolutionary discipline, looking at data, developing hypotheses,

testing them and reaching sometimes uneasy consensus on how the economy works. This is

called the scientific method which begins with the formulation of a theory about behaviour. For

example, we may put forward the idea that the demand for a good is determined by its price. On

the basis of this we may reason that as the price is increased, demand goes down, while if the

prices are decreased the demand will go up. This then gives us a hypothesis which can be tested

on observed behaviour. This testing of ideas on the evidence is known as empiricism.

Ceteris paribus

The economic world is extremely complicated. There are millions of people and firms; thousands

of prices and industries. One possible way of figuring out economic laws in such a setting is by

controlled experiments. A controlled experiment takes place when everything else but the item

under investigation is held constant. This is an essential component of scientific method.

However economists have no such luxury when testing economic laws. Therefore, when

formulating economic principles economists are usually careful to state that such and such will

happen, ceteris paribus which is the Latin expression meaning all other things remaining

constant.

ECONOMIC DESCRIPTION AND ANALYSIS

Economics is used in two important ways today. The first is to describe, explain and predict the

behaviour of production, inflation, incomes etc. But for many, the fruit of such labours is found

in a second task � to improve economic performance.

Thus, we first attempt to describe the hardships of poverty. We then might present programs that

could reduce the extent of poverty. Or we might start with an analysis of how higher energy

taxes would lead to lower energy consumption. We might then conclude that the country should

raise its gasoline taxes.

In each case, we first engage in positive economics, and then in normative economics.

Positive and Normative Economics You may already have strong personal views about what sort

of economic society we should have e.g. whether a free market �capitalist� economy is desirable,

or whether a �communist� command economy is preferable. In our study of economics, one of

the central distinctions is between a value judgement and a factual statement. Positive Economics

is concerned with the objective statements about what does happen or what will happen. It limits

itself to statements that can be verified by reference to facts e.g. How does a higher level of

unemployment affect inflation or how will a gasoline tax affect gasoline usage? A positive

approach is more objective, and more scientific and it is the approach we shall try to take in our

study of economics here.

Normative Economics, on the other hand, appreciates that in practice many economic decisions

involve subjective judgements; that its, they cannot be made solely by an objective appraisal of

the facts but depend to some extent on personal views in interpreting facts � ethics and value

judgements. They can be argued about but they can never be settled by science or by appeal to

facts, e.g. should taxation soak the rich to help the poor? Or should the defence spending grow at

3 or 5 or 10 per cent per year? They involve what ought to be and are settled by political choice.

Economic goals and problems

Whatever political party is in power, four main economic goals are:

• control of inflation
• -reduction of unemployment
• -promotion of economic growth
• -attainment of a favourable balance of payments.

In addition to these generally agreed objectives, more �political� economic policies might be

pursued, such as the redistribution of income.

SCARCITY, CHOICE, OPPORTUNITY COST AND PRODUCTION POSSIBILITY

FRONTIERS AND CURVES

(i) Scarcity

To the economists all things are said to be scarce, since by �scarce� they mean simply �that there

are not enough to fill everyone�s wants to the point of satiety�. Most people would probably like

to have more of many things or goods of better quality than they possess at present: larger houses

perhaps in which to live, better furnished with the latest labour-saving devices, such as electric

washers, cookers, refrigeration; more visits to theatre or the concert hall; more travel; the latest

models in motor cars; radios and television sets; and most women exhibit an apparently

insatiable desire for clothes. People�s wants are many, but the resources for making the things

they want � labour, land, raw materials, factory buildings, machinery � are themselves limited in

supply. There are insufficient productive resources in the world, therefore, to produce the amount

of goods and services that would be required to satisfy everyone�s wants fully. Consequently, to

the economist all things are at all times said to be �scarce�.

(ii) CHOICE AND OPPORTUNITY COST

Because there are not enough resources to produce everything we want, a choice must be made

about which of the wants to satisfy. In economics, it is assumed that people always choose the

alternative that will yield them the greatest satisfaction. We therefore talk of Economic Man.

Choice involves sacrifice. If there is a choice between having guns and having butter, and a

country chooses to have guns, it will be giving up butter to the guns. The cost of having guns can

therefore be regarded as the sacrifice of not being able to have butter. The cost of an item

measured in terms of the alternative forgone is called its opportunity cost.

(iii) PRODUCTION POSSIBILITIES AND OPPORTUNITY COSTS

Limitations of the total resources capable of producing different commodities forces society to

choose between relatively scarce commodities. This can be illustrated quantitatively by simple

arithmetic examples and geometrical diagrams.

Suppose, to take an example, that a society can spend money on two products, guns and butter.

The society's resources are limited; therefore there are restrictions on the amount of guns and

butter that can be made, which can be shown by a "production possibility" or "transformation

curve".

ALTERNATIVE PRODUCTION POSSIBILITIES