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Principles of Economics

There are 10 principles of Economics which are briefly discussed with their examplesbelow.

Principle # 1: People face Trade offsTo gain something we like, we have to give up another thing we like as there isnothing as a Free Lunch.

Example # 1:A student has a five hour job opportunity for Rs.5000 (1000/hr). He also has 3 hoursto study a subject. He decides to do 3 hour job and earns Rs.3000 and spends 2 morehours on that particular subject, so there is a trade off between job and studying asubject of 2 hours.

Example # 2:Suppose a student has 500 rupees to spend. He wants to purchase a piece of pant-shirt

but he also needs some books for his studies. Both books and pant-shirt cost Rs. 500each. Ultimately he decides to purchase books and does not buy pant-shirt and hencethere is a trade off between books and pant-shirt.

Principle # 2: The cost of something is what you give up to get it

Opportunity cost: whatever must be given to obtain some item.

Example # 1:

Government plans to build a hospital and also make a motorway but it has the budgetto make only one thing. Government decides to build a hospital and hence forgo themaking of motorway; hence motorway is the opportunity cost of hospital here.

Example # 2:A person has a choice between his job and a holiday in Murree. He prefers his job ongoing to Murree, as he sees benefit to do a job rather going to Murree, so in this caseforgoing of holiday in Murree is the opportunity cost of his job.

Principle # 3: Rational people think at the margin

In this clause, margin means benefit and this whole clause means that sensible peoplealways seek for maximum benefits while buying or selling something.

Example # 1:It is more beneficial for a student to buy his study books instead of spending thatmoney in getting amusement.

Example # 2:A producer produces a certain good and wants to sell it for 100 rupees where cost of

production of that good was 60 rupees. Now for any reason, no one is ready to

purchase that good for 100 rupees but they want to purchase it for 80 rupees. Now

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producer will also be ready to sell it for 80 rupees because he knows that it is better tosell it for 80 rupees instead of waiting for it to be sold at Rs.100.

Principle # 4: People respond to Incentives

As we know that benefits of a product encourage people to buy that product.

Example # 1:Take an example of companies that provide cellular services. A person while

purchasing a sim card for his mobile phone would purchase the sim of that companywhich gives better and more services to its customers.

Example # 2:A shampoo producing company is offering a conditioner bottle along with shampoo insame price, so the people are going to buy shampoo of that company more ascompared to that of other companies.

Principle # 5: Trade can make every one better off

A single person cannot fulfill all its needs by himself. It is better for him and theothers to do trade with each other.

Example # 1:Pakistan import machinery from Japan and Japan import cotton from Pakistan tofulfill each others needs.

Example # 2:It would not be better for a farmer to grow wheat and just eat himself. He better sell itand get money in reward so that he can fulfill his other needs and other people alsoget wheat from him according to their need.

Principle # 6: Markets are usually a good way to make economic activity

Example # 1:The decentralize decision making by the thousands of firms and millions of households decide what to produce and how to produce when they interact in a market forgoods and services.

Example # 2:A person needs a certain chip for computer. He goes to computer market andexamines different kinds of chips at different prices, so he can easily find and buy achip which can complete his task and suits his pocket as well.

Principle # 7: Government can sometimes improve market outcomesExample # 1:Suppose a Leather manufacturing company is running into loss and hence plans toclose the factory, here government can help that company by giving subsidy and otherreasonable support to carry out the production of leather products.

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Example # 2:To eradicate the monopolistic competition, government of Pakistan had imposed somesanctions on Mobilink (a cellular company), so that new companies could come andinvest in the market.

Principle # 8: A countrys standard of living depends upon its ability toproduce goods and services

Greater is the production of goods and services in a country, higher is the standard ofliving there.

Example # 1:An American earns $34100 per year while a Pakistani earns $650 per year. It is

because America almost produces every goods and services which they need, on theother hand Pakistan mostly import goods and services from other countries.

Example # 2:

Principle # 9: Inflation rises when government prints too much money

Example # 1:As the credit cards is plastic money. A person having credit card is able to buy a

costly product, so he faces high prices. Therefore as the supply of money increases,prices of products increase and inflation prevails.

Example # 2:There came news in a magazine that in Zimbabwe, a person gave $200,000 to buy anice-cream while in America you can buy an ice-cream with in $5. We can see themajor difference here and it is because government in Zimbabwe prints too muchmoney due to which inflation rises and hence prices of products are very high but inAmerica, government prints a reasonable amount of money and hence inflation rate isunder control there.

Principle # 10: There is a short term Trade off between inflation andunemployment

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2-

price Q.d

3- Unit Elasticity

When the %age change in price and the %age change in quantity demanded is in sameratio then elasticity is a unit. In this case elasticity equals 1.

Examples:1- Suppose that a 10 percent drop in the price of chocolate causes a 10 percentincrease in the quantity demanded of chocolate.

price Q.d

2-

price Q.d

4- Inelastic Demand

When a large %age change in price causes relatively a less %age change in quantitydemanded then the demand is said to be inelastic. In this case elasticity is than 1 and ithas a steeper curve.

Examples:1- Suppose that a 10 percent decline in the price of coffee leads to only a 5 percentincrease in its quantity demanded.

price Q.d

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2-

price Q.d

5- Perfectly Inelastic Demand

When there is a change in the price but there is no change in quantity demanded thenthe demand is said to be perfectly inelastic. In this case elasticity equals zero and ithas a curve parallel to y-axis.

Examples:1- Cement is a perfectly inelastic commodity as to construct a building or a home wemust need it, whether its price is high or not.

price Q.d

2- Giffen goods are also perfectly inelastic as they have no effect of change in pricee.g. Diamond is considered as Giffen good as mostly rich people buy diamonds andthey are not concerned about the price of diamond, they just buy it.

price Q.d

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Subject: Micro Economics

Assignment: -Principles of Economics with Examples

-Degrees of Elasticity of Demand with examples

Group Members

Name Roll No.

Ambreen Malik 008

Sadia 060

Muhammad Faris 040

Sufyan 068Zain-ul-Abdain 084

Submitted to: Miss Zainab

Dated: 27/09/2007