Foundation of Economics

Foundation of Economics

  • Social Science concerned with how resources are used to satisfy wants—the economizing problem.
  • Study of how people and countries use their resources to produce, distribute and consume goods and services.
  • An examination of behaviour related to how goods and services are acquired
  • A study of how people decide who will get the goods and services.


Introduction to Economics – Meaning and Definition

Like any other discipline the definition of Economics has evolved over time.

Adams Smith defined Economics as an inquiry into the native and causes of the wealth of actions this is popular known as the wealth definition.

Other Economists who adopted his view call Economics a science wealth, however this definition was criticized as teaching selfishness and economic was referred to as dismal science.

Alfred marshal the study of man’s everyday business of life that is how man obtain his income how he uses it. This definition was criticized to be too vague in this that man’s activity were not defined and didn’t scarcity was referred to as the material definition of economic

Lord Robbin (1933) discussed Economics as the study of human behaviour as a relationship between ends (wants) and the scarce means (resource) which have alternative uses from this definition there are three implications:

  1. a) Human beings have unlimited wants that can’t be completely satisfied at any one time
  2. b) The means to meet this wants resources must be available to fulfil these
  3. c) Those resources have various alternative and competing

The first two implications resource are said to be that is limited in supply. Scarcity of resources passes a problem of choice that is how to make the best use of the scarce resource.

Economics is defined as the study of how individuals and society choose to use scarce resources. In essence, economics is a study on how individuals make choices.

Economic Perspective

Society’s material wants are unlimited and insatiable; economic resources are limited or scarce.

  • Demand for goods and services exceeds the supply
  • Material wants means that consumers want to obtain products that provide utility.
  • Necessity vs. wants
  • Wants multiply over time with new products and incomes
  • Human wants tend to be unlimited, but human, natural, and capital resources are limited

Resources are materials from which goods and services are produced.

Four types of resources are:

Land —All Natural Resources

  • Gifts of nature – Fields, Forests, Sea, Mineral deposits

Labour— Human Resources

Capital—Means of production

  • Machinery, Tools and equipment, Factories

Entrepreneurship­- a particular type of human resource

  • Business innovator

Opportunity Cost:  All decisions involve trade-offs. Opportunity cost measures the cost of the next best alternative that we give up when making a choice.

For example, when calculating the cost of college, economists think not only about the direct costs such as tuition, textbooks, living expenses, etc, but also the opportunity cost. What is the opportunity cost for going to college? This varies from individual to individual as people have different alternatives to going to college. For many individuals, they could have worked instead of going to college. The wages one could have earned is the opportunity cost of going to college.

Branches of Economics

  • Microeconomics looks at the decision making behaviour of individual decision making units:
  • Macroeconomics looks at the entire (aggregate) economy (Big Picture)

Micro vs Macro

  Production Prices Income Employment
Micro How many Pizza

does Eat More produce ?


What is the price of an

Eat More Pizza?


What are the wages of

the workers at Eat More?


How many workers are

employed at Eat More?


Macro How much goods and

services does the Country Honky Tonky produce

each year?


What is the price of all

consumer goods in the economy?


What are the total

wages and salaries of workers in the economy?


What are the total

number of workers in

an economy?



Method of Study

  1. Positive vs Normative
  • Positive approach: concerned with the investigation of this ways in which different economic agents in the society seek to achieve their goods it relates to statements such as –what is?
  • What was?
  • What will be?

It employs economic theory in explaining circumstances.

The theories are tested against observations and other information and used to construct models from which predictions are made. A theory is a reasoned assumption intended to explain an occurrence or a phenomenon a model on the other hand is a mathematical representation based on economic theory  any disagreement are appropriately settled.

  • Normative approach: It is very subjective and depends on value judgment on what is desirable its concerned with making suggestions about the ways in which society goals might be more efficiently realized it relates to statement such as:
  • What should be?
  • What ought to be?

It’s concerned with alternative policy action that helps to illuminate and sharpen debates.

  1. Descriptive vs Economic Theory

Descriptive Economics complies data that describe economic phenomena and facts. For example the Bureau of Statistics collects unemployment data for the country every month. Economists use that data to analyse the job picture in the economy.

Economic Theory attempts to interpret the data gathered. It is a statement about cause and effect. For example, data has shown that petrol prices often rise during the winter months. Economists have developed theories explaining what causes this rise in petrol prices during the winter.

  1. Economic Theory and Models

Economic models are a formal representation of economic theory.  Economic models follow the principle of Ockham’s Razor which state that irrelevant detail should be cut away.   Like a road map, economic models are simplified generalization of reality that helps explain economic behaviour. Models can be expressed in words, graphs or mathematical equations. Economist use mathematical equations to illustrate relationships between two or more variables. A variable is a measure that can change over time or across observations.

Economists will look at only one variable at a time and try to isolate its effect. This idea is called ceteris paribus (all else equal).  In the economic model, we will assume that only 1 variable is changing at a time and hold all other variables as fixed. By doing this we can clearly analyse the relationship between two variables, by holding all other variables unchanged.