Introduction to Economics

Introduction
Instructor: Dr
Alamedin Bannaga

Course outlines

Introduction

Part one: microeconomics
- Demand and supply
- Elasticity
- Production and consumption
- Cost, revenue, profit
- Market structure

Course outlines

Part two: macroeconomics
- Objectives
- National income determination
- Fiscal and monetary policy
- Economic growth and Unemployment
- Inflation
- Exchange rate and balance of payments

Introduction

Microeconomics and
Macroeconomics

Microeconomics: is about individual

behavior: firms (production unit),

households (consumption unit).

Macroeconomics: is about overall
performance: employment, economic
growth, inflation

What is economics?

Is it about:

Financial markets?

Inflation and employment? Growth of LDCs (Less

Developed Countries? Government policies?

Why some people are poor and other are rich?

What are the causes of development and
underdevelopment?

Definition: Economics is the study of how
societies use their scarce resources to produce
their valuable commodities and distribute them
among different people.

Scarcity and efficiency

Scarcity: means limited relative to desire.

Scarce resources are limited in supply i.e. not

sufficient to satisfy all human desires.

Scarcity involves choice and sacrifice

Efficiency: is the most effective use of resources

Producing efficiently: when the economy cannot
make anyone better off without making someone
else worse off.

Opportunity cost

In a world of scarcity, choosing one thing means

giving up something else. The opportunity cost

of a decision is the value of the good or service
forgone.

The three problems of

economic organization:
what to produce?
How to produce?
For whom to produce?

What? how? For whom?

What commodity? Quantity?

How: means of production: by whom to produce,

by what technique?

For whom: distribution of goods and services,
distribution of income and wealth

Different economic systems answer these question
differently

Four economic system: capitalist, socialist, mixed,
Islamic. These are called:

Market mechanism, command economy, mixed
economy and Islamic economy.

What? how? For whom?

1.

2.

3.

In the capitalist system, these questions are

answered through the market mechanism
(discussed in details later).
In the socialist system, it is the government that
determine what to produce and how to produce
and then distribute the production through quota
system or rationing.
In Islamic system, what? How? And for whom
to produce? are determined by free market
guided by Islamic moral and monopoly
prohibition.

Market mechanism

Market is a mechanism through which buyers and

sellers interact to set prices and exchange goods

and services.

Prices represent the terms on which people and
firms voluntarily exchange commodities

When prices fall, customers will consume more.

When prices rise producers will produce more to
make more profit.

Market mechanism

How market mechanism solves the three

questions: (what, how and for whom)

1. What to produce:
- Producers produce the products that
consumers want to purchase i.e. they are
willing to pay their money for.
- Price can be used as a signal to determine
how much to produce.

Market mechanism

How to produce?
- This determined by competition among producers.
- Producers want to maximise their profits, given

market price.
- Producers will adopt the most efficient method of
production in order to reduce their cost.
- To gain competitive advantage in a competitive
market, producers use modern technology to
improve the quality of their products
- This means, market mechanism will lead to
efficient and high quality production.

Market mechanism
3- For whom to produce?
i.e., distribution question
Prices can be used as signal for distribution as
follows:
1. Distribution of goods and services: Goods and
services will be distributed to the person who is
prepared to pay the price for them
2. Distribution of factors of production: these can
be distributed according to their prices (e.g. land
rent; labour wages and salaries, etc).

Adam Smith and the invisible

hand of the market

Adam Smith is the founding father of economics. In 1776,

he wrote his book The Wealth of Nation in which he

called for free market and competition.
For him, government intervention in the market and
monopoly distort the market mechanism and should be
removed.
Free market will distribute goods and services efficiently
and effectively. This allocation process is called the
invisible hand of the market.
To increase the wealth of nations, Adam Smith called for
division of labour and free trade.
Example: division of labour in table manufacturing.

Adam Smith and the invisible

hand of the market

Adam Smith called for international

division of labour to increase the welfare of

the world.

Nowadays: Globalisation is a popular term
that is used to denote an increase in
economic integration particularly increase
in international trade.

Example for solving the three

economic problems: the oil price
shocks

When oil price increases sixfold or tenfold

What to produce:
- Both household and firms will adapt themselves to

oil price increase:

- Production and consumption will shift away from
oil-intensive products by using small cars, using
gas and not oil, individuals will move closer to
city centre.
- Substitutes for oil-intensive product will be
created.

Example for solving the three

economic problems: the oil price
shocks

How to produce?

Artificial substitutes for petroleum inputs will be

developed. Airlines will use more fuel-efficient

aircrafts, electricity will be generated from coalfired generators and solar energy will be used.

For whom to produce?
- For the person who is prepared to pay the price.
More and more of luxury goods will be allocated
to oil-producing countries, necessary goods will
be allocated to poor oil-importing countries.

Inputs and outputs

Inputs: are used to produce output utilising

existing technology.

Inputs are called factors of production: land,
labour, capital

Land is: natural resources

Labour is: human time spent in production

Capital is: goods produced to produce an
other good. E.g. machines