Concept Of Utility In Economics - EconomicSea

The utility is a part of the theory of consumer behavior. Before we start exploring Utility, we need to know that consumer behavior deals with how the consumer allocated his/her income on different commodities.

What is Utility?

In economic terms, the utility refers to satisfaction to consumers after consumption of goods and services. The more they need for the commodity, the greater is the utility derived from the commodity. “Utility” is one of the important indicators to analyze consumer behavior.

•             Utility is subjective, it is based on personal feelings, tastes, and preferences.

•             Different consumers have different levels of utility for the same commodity.

Cardinal Utility Analysis

When utility is expressed on numbers then it is called Cardinal Utility Analysis. And it is the oldest theory of demand. According to cardinal utility, it assumes that utility can be measured. For example, that one chapati gives me 40 units of utility.

Measures Of Utility

1.            Total Utility: It refers to the sum of the utility or satisfaction derived from consuming all units of a particular commodity. For example: if a person consumes Chapati and will get 40 utils of total utility. The first chapati yield 17 utils, from the second yield 14 utils, and from the third chapati yield 9 utils. So, the total utility would be 40 utils.

2.            Marginal Utility: Marginal utility is the change in the total utility from the consumption of one additional unit of the commodity. Suppose a person increases the consumption of chapatis from one chapati to two chapatis, the total utility increases from 17 utils to 31 utils, So, the marginal utility is 14 here of the 2nd chapati consumed.

A table showing the values of total and marginal utility derived from the consumption of different quantities of goods are given.

UNITS	TOTAL UTILITY	MARGINAL UTILITY
1	17	17
2	31	14
3	40	9

The above table shows that when a person consumes no chapati, she gets no satisfaction. Her total utility in case of no chapati is zero, but when she consumes one chapati, she gets 17 units of satisfaction. So, her total utility is 17 and her marginal utility is also 17. As she consumes the second chapati, she gains additional 14 units (MU). Thus, the total utility is 31. Thus, her marginal utility has gone down 17 to 14 utils because now she has less craving for the second chapati. And same in the case of the third chapati, her marginal utility has fallen to 9 utils.            

Ordinal Utility Analysis

In real life, we never express utility in terms of numbers. The ordinal utility approach states that utility cannot be measured, instead consumers can rank different goods. Therefore, it would be possible for the consumer to tell subjectively whether a good derive more or less satisfaction than other goods. Consumer preferences over the set of available bundles often are represented diagrammatically.

This is an Indifference Curve ( will discuss in detail in some other blog), it is a graph which represents two goods that gives consumer equal satisfaction. A, B and C points on the curve show the combination of X and Y goods. 

Positive Vs Normative Economics - EconomicSea

To solve the central problems of the economy (what to produce, how to produce, and for whom to produce), there are various solutions to the problem. Hence positive and normative economics is studied. Now, we will explore both types one by one.

Positive Economics

•          Positive economics is fact-based economics that focuses on the quantification, description, and explanation of economic activities. Simply put, it just explains the relevant facts. In this, we study how different systems work in an economy.

•          It analyses the cause and effect relationship.

•          Positive economics describes what is actually happening in the economy. And this will help policymakers as to what steps should be taken to fulfill the objective.

•          Examples :

1.         The government imposes a tax on cigarettes, this will reduce demand. (For addicted smokers, this statement is not true at all and that is why it is positive economics. But usually, when the government imposes a tax on goods, its demands eventually drop and this can be verified by looking at the figures/statistics.)

2.         If prices of goods fall, demand rises, assuming other factors remain constant. (This is not an opinion and also not a judgment, it is a descriptive statement that can be true or false.)

Normative Economics

•          Normative Economics, try to understand whether this system is desirable or not. It is not based on facts as it is subjective. Normative Economics shows us the picture of “what should be”, the opinions of economists and experts.

•          It focuses on a value judgment, opinion-oriented aimed at the development of the economy.

•          Normative Economics suggests how the economy should operate.

•          Examples :

1.         The government should provide basic education to all the citizens of the country. (This is the right of every individual.)

2.         To reduce inequalities, the government should implement strict tax laws.

Conclusion

After the above observation, we can clearly say that both positive and normative economics complete each other. To create a policy of country both study is needed. And this clear distinction between them can lead to better policy-making of policies based on a balance of positive and normative economics.

Economy- Meaning & Types- EconomicSea

 According to A.J. Brown, "An economy is a system by which people make a living." In general terms, the economy is a system where all economic activities are carrying out for earning a living.

The sole purpose of any economy is to satisfy human needs by utilizing the scarce resources available in the economy.

Types Of Economies

There are basically four types of economies or economic systems:

1.         Traditional Economy

2.         Centrally Planned Economy Or Socialist Economy

3.         Market Economy Or Capitalist Economy Or Free Economy

4.         Mixed Economy

Now, we will discuss them in detail.

1.         Traditional Economy

•          As the name suggests, it is based on ancient rules and a very basic type of economy.

•          It is a system in which the economy operates on an old-fashioned model, for example, agriculture, hunting, fishing, and gathering. It is built on traditions, customs, and beliefs.

•          There is hardly any surplus or deficit in this type of economy, which means that all resources are fully utilized.

•          As a medium of exchange, they use barter instead of money.

2.         Centrally Planned Economy Or Socialist Economy

•          In this economy, all important decisions related to productive economic activities (production, consumption of goods and services) are taken by the government.

•          It is also called Socialist Economy or Command Economy.

•          The promoter of Planned Economy argues that in a free market, monopolist exploits consumers.

•          In this economy, Prices are usually set by price controls rather than demand and supply of goods and services.

•          Centrally Planned Economy associated with greater political pressure.

3.         Market Economy Or Capitalist Economy Or Free Economy

•          A market economy or a free economy is the opposite of a socialist economy.

•          In this economy, all economic activities are controlled by market forces (demand and supply of goods and services).

•          It is also known as a capitalist economy.

•          Simply put, in free markets, tariffs, quotas, taxes, and other interventions are minimal or non-existent.

4.         Mixed Economy

•          A mixed economy is a combination of both a centrally planned economy and a free market economy.

•          In this economy, economic activities are controlled by demand and supply but the market is regulated by the government. So, it has characteristics of both economies.

•          It is also known as the dual economy.

•          India is also considered a Mixed Economy.

•          Existence of Both Private and Public Sectors. Some sensitive areas are controlled by the Government for the welfare of the citizens. For example, transportation, defense, etc. And Private Industries have the freedom to operate their business.

Definition Of Opportunity Cost- EconomicSea

In common language, we usually use the word "cost" which simply means, if you want to buy something, you have to pay money for that particular goods or service. But in the terminology of economics, Economists use "opportunity cost". An opportunity cost is the cost of a foregone opportunity.

What Is Opportunity Cost?

According to the economist, opportunity cost refers to the value of the next-highest-valued alternative use of a resource. In other words, Opportunity Cost is the value of what is forgone in order to have something else.

For example, if you've spent your time watching a TV series, you can't spend that time reading a book. If your next best option for watching a TV series is reading a book, then the opportunity cost of watching a TV series is the pleasure you miss by not reading the book. For you, watching a TV series is more important than reading a book.

In Mathematical Terms:

Opportunity Cost = Return on Forgone Resource – Return on Chosen Resource.

Opportunity cost plays an important role in the determination of PPF as a country will decide how to best allocate its resources according to its opportunity cost.

Real-Life Examples

We cannot have everything we want in life. Our unlimited needs are faced by a limited supply of goods and services. This generates the concept of opportunity cost.

Assume a person has a choice between two telephone services. If he has to buy the most expensive services, he has to reduce the number of times he goes to the movies every month. Leaving these opportunities to go to the movies can cost this person too much, forcing them to choose a less expensive service.

Introducing Production Possibility Frontier(PPF) - EconomicSea

What is Production Possibility Frontier (PPF)?

A tool that explains the opportunity cost, is the production possibility frontier (PPF). The PPF curve represents the points at which an economy produces goods and services most efficiently and, therefore, best allocates its resources. It shows the optimal levels of production of two commodities.

The Production Possibility Frontier shows that the production of one commodity can increase only when the production of another commodity decreases.

It also shows that there are limits to production, therefore, if the economy wants to achieve efficiency, it has to be decided what combination of goods and services can be produced.

If the economy is not producing on PPF, it means that resources are being managed inefficiently.

Graphical Representation Of Production Possibility Frontier

Let us explain with the chart given below. Suppose an economy is producing only two commodities, Rice and Cotton. According to the PPF, the numbers A, B, and C (appearing on the curve) represent the most efficient use of resources by the economy. Point X represents an inefficient use of resources and point Y represents the goal that the economy cannot achieve with its current level of resources.

As we can see from the above graph, in order to produce more rice the economy would have to give up some of the resources it used to produce cotton (point A).

As the economy begins to produce more cotton (represented by points B and C), it will have to divert resources from producing rice and, as a result, it will produce less rice than it produces at point A.

Therefore, by moving production from A to B, the economy should reduce the production of rice by a small amount compared to the increase in cotton. But, if the economy moves from point B to C, the production of rice will drop significantly while the increase in cotton production will be much less.

Any point on the PPF, such as A, B, and C, is said to be efficient and indicates that the economy's scarce resources are being fully employed. This is also called Pareto Efficiency(will discuss in detail in another blog). Point X (which is inside the PPF) means that the country's resources are said to be inefficient, or in other words, the country is not able to produce enough rice or cotton given the potential of its resources. Point Y (which is outside the PPF) represents an output level that is currently inaccessible by this economy. But it may be an objective for the future.

What is Economics & Learn About its Impact on Everyday Life

We are living in a world of limited resources and unlimited human needs. Here comes economics, which helps us to decide how to use these limited resources efficiently and also fulfill the needs and requirements of society. Economics is one of the branches of social science.

Simply put, economics is the study of how a society uses its limited resources and solves the problem of how the goods and services produced should be distributed among its population.

Examples of identifying economic problems are given :

·       Why are some countries poor with very low growth rates while some countries enjoy high living standards and high growth rates?

·       What is the role of international trade in the economic development of the country?

·       What are Global Inequalities?

·       Why are some countries more successful in creating jobs while others are not?

·       What is the best way to tackle poverty?

Economics considers all these problems and much more. Economics deals with the production, distribution, and consumption of goods and services. There are four factors of production in economics, which are land, labor, capital, and enterprise.

To begin our discussion of economics, we first need to understand

1.     Scarcity, and

2.     Two branches of Economics: Microeconomics and Macroeconomics

What is Scarcity?

It is simply a tension between our limited resources and unlimited wants. Or, the demand for goods and services in the economy exceeds the availability of goods and services. For example, for a country, limited resources are capital, labor, natural resources, and technology, etc. Therefore, the government has to decide what goods and services they should buy for the betterment of society.

Therefore, due to scarcity, economies must make decisions about how to allocate their resources efficiently.

Micro And Macroeconomics

Macroeconomics: The branch of the economy looks at the total output of a nation. It deals with the functioning of the entire economy and focuses on unemployment, taxes, inflation rates, interest rates, and growth.

Microeconomics: Microeconomics looks at similar issues but on an individual level. It studies the behavior of individuals or decision-makers (consumers and a firm). Microeconomics analyzes human behavior, how individuals (consumers and a firm) respond to changes in prices and why they demand at particular price levels.

Microeconomics and Macroeconomics are linked, it can help nations and individuals make decisions when allocating resources.