Definition of Economics
Economics refers to choices or decisions made by individuals, businesses, and governments regarding the production, distribution, and consumption of goods and services. It also studies their resource allocation for the same during scarcity. In short, it is a branch of social science dealing with the interaction of people with value.
Scarcity implies the limited availability of resources, such as land, capital, machinery, and labor. Economics examines effective resource utilization for the production of commodities. Also, it investigates the role of government incentives and policies in increasing production and trade efficiency. Based on how people, entities, and nations interact to find ways to meet increasing demands with scarce resources, it could be micro and macroeconomics.
Table of contents
- Economics is the field of social science that deals with the study of the scarcity of resources. It analyzes factors affecting the production, distribution, and consumption of goods and services in an economy.
- It examines the allocation of scarce resources by individuals, businesses, and governments. Besides, it investigates the reasons behind poverty, unemployment, and slow economic growth.
- Understanding market changes and the behavior and performance of an economy can help in resource allocation.
- Micro and macroeconomics are two types of Economics. They differ from each other based on decisions made by individuals, entities, and nations to meet increasing demands with limited resources.
Economics focuses on studying causes of scarcity, ensuring acquisition, allocation, and utilization of scarce resources, and determining how to maximize production efficiency. The rest of the process analyzes proper distribution to and consumption of finished goods by the people.
A country’s economic activity revolves around the production, trade, and consumption of products and services. Labor, land, machinery, and capital are crucial for production. They all work together to enhance productivity. Furthermore, the efficient use of resources and raw materials results in a higher standard of living. Scarcity occurs when demand for products and services exceeds available resources, making it difficult for everyone to meet the needs of the people.
A functioning market involves the decision-making by buyers and sellers, including individuals, families, entities, and societies, to keep moving. These decisions depend on market changes, behavior and performance of an economy, and policies made by the hierarchical authorities. Several factors, including laws, policies, culture, history, and geography, govern an economy.
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Types Of Economics
MicroeconomicsMicroeconomicsMicroeconomics is a ‘bottom-up’ approach where patterns from everyday life are pieced together to correlate demand and supply. and macroeconomicsMacroeconomicsMacroeconomics aims at studying aspects and phenomena important to the national economy and world economy at large like GDP, inflation, fiscal policies, monetary policies, unemployment rates. are the two categories of economics based on scarce resource allocation. While the former focuses on individual and corporate choices, the latter is more concerned with how an entire economy interacts, trades, and makes decisions.
#1 – Microeconomics
It studies the behavior of individual consumers and decision-making by producers in times of scarcity. Other essential functions of it include:
- Examining market structures and how entities interact to create economics systems
- Analyzing the impact of supply or demand in economics on production and price
- Understanding ways to reduce costs and increase profits
- Studying the distribution of scarce resources by individuals and businesses
- Explaining interaction of the people with value
It considers the following factors to understand the behavior and decisions of individuals and firms:
- The elasticity of DemandThe Elasticity Of DemandElastic demand refers to an economic concept which states that the demand for a good or service changes with the fluctuations in its price. If a product has an elastic demand, it will have more buyers when its price goes down and vice-versa. : It refers to the demand and response of consumers to price.
- Law of Supply and Demand: The higher the price, the lower the demand and increased supply. The lower the price, the higher the demand and decreased supply.
- Utility: The ways goods or services are beneficial to consumers.
- Fixed Costs and Variable Cost: These associate with the production of goods and services. Variable cost varies with the volume of production, while fixed cost does not change.
- Marginal CostMarginal CostMarginal cost formula helps in calculating the value of increase or decrease of the total production cost of the company during the period under consideration if there is a change in output by one extra unit. It is calculated by dividing the change in the costs by the change in quantity.: It is the additional cost to increase the production of goods and services.
- Opportunity CostOpportunity CostThe difference between the chosen plan of action and the next best plan is known as the opportunity cost. It's essentially the cost of the next best alternative that has been forgiven.: It incurs upon deciding to allocate a scarce resource and signifies the value or benefit missed when choosing one option over another.
- Market Failure and Externalities: It happens when businesses do not assign prices effectively to consumers. It may lead to negative and positive externalities.
- Market Structures: It comprises perfect competition, monopoly, duopoly, monopolistic competition, oligopoly, monopsonyMonopsonyMonopsony is a market condition with a single buyer and multiple sellers. It is an imperfect market condition—the single buyer is the controlling entity. Similar to monopoly, where a single seller dominates and controls product price. In a monopsony, a single buyer determines the factor price. , and oligopsonyOligopsonyOligopoly is a market structure consisting of a large number of sellers but a few buyers.. These terms explain the competitiveness of the market.
#2 – Macroeconomics
It studies the behavior, performance, and decisions of an economy on the domestic and global levels. Other essential functions of it include:
- Collecting economic data to structure the economy
- Analyzing effects of monetary and fiscal policiesFiscal PoliciesFiscal policy refers to government measures utilizing tax revenue and expenditure as a tool to attain economic objectives.
- Understanding the role of labor, capital, and technology in the economic growth
- Examining the economy and how it interacts with markets
It considers the following factors to understand how an economy measures its domestic production concerning scarcity:
- Business CycleBusiness CycleThe business cycle refers to the alternating phases of economic growth and decline.: It indicates the upward and downward trend of economic growth. It is also the transition of the economy towards the decline and recession. The government manages business cycles by raising or lowering taxes and adjusting interest rates.
- Foreign Direct InvestmentForeign Direct InvestmentA foreign direct investment (FDI) is made by an individual or an organization, into a business located in a foreign country. The host nation receives job creation prospects, advanced technology, a higher standard of living, infrastructural development, and overall economic growth. (FDI): It is the process of international businesses investing money in foreign countries. It can be of horizontal, vertical, and conglomerate types.
- Gross Domestic ProductGross Domestic ProductGDP or gross domestic product refers to the sum of the total monetary value of all finished goods and services produced within the border limits of any country. GDP determines the economic health of a nation. GDP = C + I + G + NX (GDP): It is the measurement to capture and represent the economic output. It refers to the value of goods and services produced by the country in a particular period.
- Inflation: It refers to the price rise of products and services in a period, leading to an increase in the cost of living. It is measured by using the Consumer Price Index (CPI).
- International TradeInternational TradeInternational Trade refers to the trading or exchange of goods and or services across international borders. : It includes tariffs, regulations, and other protection policies that affect trade among nations.
- Money Supply: The value placed on goods or services is money, a medium of exchange. An increase in money supply can lead to inflation, while a decrease can lead to deflationDeflationDeflation is defined as an economic condition whereby the prices of goods and services go down constantly with the inflation rate turning negative. The situation generally emerges from the contraction of the money supply in the economy..
- Scarcity: It indicates the limited availability of resources.
- Unemployment RateUnemployment RateThe unemployment rate formula calculates the share of people who are not working or are jobless of the total employed or unemployed labour force and is depicted as a percentage. Unemployment Rate = Unemployed People / Labor Force * 100 : Unemployment results in zero economic output, which leads to low quality of living and standards.
Apart from the main categories, other sub-branches of economics are:
- Neo-classicalNeo-classicalAccording to Neoclassical economic theory, a governed product or service is valued above or below its production cost. It takes into account the flow of various goods, services, outputs, and income distribution using the demand-supply approach, which assumes the unity of customers in the economy.
- EconometricsEconometricsEconometrics refer to applying economic theories, statistical inference and mathematics for the economic policymaking and forecasting the future trends. It analyzes the historical and real-world data to conduct statistical tests and hypothesis.
Let us look at the real-life economics examples to understand the concept:
Lucy has a limited amount of money in her bank account. She prioritizes and plans what she needs to buy with the available funds. Lucy starts purchasing less expensive utilities instead of purchasing goods of a luxurious brand. It implies that she makes decisions based on the availability of money in her bank account, which is a scarce resource and adjusts her lifestyle accordingly.
Consider a situation where the cost of gasoline is $3 per liter. People can buy 50 liters per week on average at this price. They can buy 60 liters every week if the price drops to $2.5 per liter. If the price is cut more, perhaps to $1.50 per liter, they can buy 100 liters.
Hence, as the price of gasoline decreases, the demand increases. Also, when the price is higher, the requirement declines. It shows an inverse relationship between the price and quantity.
Why Is Economics Important?
Economics studies the scarcity of resources to understand how individuals, businesses, and governments can quantify their allocation to optimize the production, distribution, and consumption of products and services. Besides, it serves many other functions:
- Deals with strategies for allocating scarce resources
- Analyzes changes in the structure, behavior, and performance of an economy
- Evaluates the state of the economy statistically, thereby explaining its significance
- Studies public policies and examines their impact on the economy
- Deals with the distribution of the income in the society
- Understands the extent of the government intervention in the economy
- Provides an idea of the opportunity cost
- Assesses the economic self-efficacy to improve financial decisions and behavior of individuals and businesses
- Investigates reasons for poverty, unemployment, and slower economic growth
- Performs the economic forecastEconomic ForecastEconomic forecasting is a process in which economists take current data from a country (or a group of them) to determine its future economic activity. based on the current situation and helps the government make important decisions
- Provides ideas to deal with the financial crisisFinancial CrisisThe term "financial crisis" refers to a situation in which the market's key financial assets experience a sharp decline in market value over a relatively short period of time, or when leading businesses are unable to pay their enormous debt, or when financing institutions face a liquidity crunch and are unable to return money to depositors, all of which cause panic in the capital markets and among investors.
- Leaves room for applying economic forces on the routine social issues
Frequently Asked Questions (FAQs)
Economics is the study of scarce resource allocation by individuals, businesses, and governments during times of scarcity. It also examines their decisions or choices affecting the production, distribution, consumption of goods and services.
It serves many crucial functions for an economy, such as studying the scarcity, finding ways to optimize production, distribution, and consumption of commodities, analyzing the behavior and performance of an economy, investigating reasons for poverty, unemployment, and slower economic growth, assessing the financial decisions and behavior of individuals and businesses, etc.
Micro and macroeconomics are two categories of economics. While the former focuses on individual and corporate choices in times of scarcity, the latter is more concerned with how an entire economy interacts, trades, and makes decisions on the national and international levels.
This has been a guide to Economics and its Definition. Here we discuss how does economics work along with types, examples, and factors. You may learn more from the following articles –