Chap 1&2
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Economic Problem We have unlimited Needs and wants and there are limited resources. This is the basic Economic Problem. Limited Resources Resources available on earth to make goods and services to satisfy our needs and want are limited. These resources are also known as factor of production. These can be categorised as • • • •
Land: All natural resources provided by nature such as fields, forests, oil, gas, metals and other mineral resources Labour: The people who are used produce goods and services. Capital: Finance, machinery and equipments needed to produce goods and services. Enterprise: The skill and risk taking ability of the person who brings together all the other factors of production together to produce goods and services. Usually the owner or founder of a business.
Opportunity Cost Because of Unlimited needs and wants and limited resources we have make a choice. When we make a choice we have to give up something. This next best alternative foregone while making a choice is known as Opportunity Cost. Specialisation and Division of Labour Because of the fact that choice involves opportunity cost, the factors of production have to be used in the most efficient way. This is achieved through Specialisation and Division of Labour. This means every individual performs a specific task only so that he can give in the best output. There are advantages and disadvantages related with division of labour Advantages •
Specialisation results in greater efficiency and productivity
•
Time and resources are saved as the workers become for conversant with the process
Disadvantages • Repeatedly doing the same job can result in boredom for the workers •
If a worker cannot complete his or her job on time this may result in a bottleneck for the whole production process
Types of Economies Business which are owned by private individuals and groups are known as Private sector businesses And businesses which are owned and managed by Government are known as Public Sector businesses. Countries or economies which only have private sector businesses are known as free market economies. Economies which only have public sector businesses are known as planned economies. Economies which have both public and private sector businesses are known as Mixed economies. There are no true free market economies or planned economies but quite near to it. USA is an example of free market economy; North Korea is an example of planned economy whereas India can be called a mixed economy What is an Economic System? Because of the fact that there is scarcity of resources and unlimited wants, it is always a problem to allocate resources in an efficient manner. We are constantly facing three basic questions. These are: What to produce? How to produce? For whom do we produce? Every community or country must choose and develop its own way of solving these problems. The way a country decides what to produce, how to produce and for whom to produce is called it Economic System. The three Economic Systems existing are: • • •
Market Economic system Planned Economic System Mixed Economic System
Market Economic System/Free Market Economy or Capitalist Economy The central thought of this system is that it should be the producers and consumers who decide how to utilise the resources. Thus, the market forces decide what to produce, how much to produce and for whom to produce. Features All resources are privately owned by people and firms. Profit is the main motive of all businesses. There is no government interference in the business activities.
Producers are free to produce what they want, how much they want and for whom they want to produce. Consumers are free to choose. Prices are decided by the Price mechanism i.e. the demand and supply of the good/service. Advantages • Free market responds quickly to the people’s wants: Thus, firms will produce what people want because it is more profitable whereas anything which is not demanded will be taken out of production. • Wide Variety of goods and services: There will be wide variety of goods and services available in the market to suit everybody’s taste. • Efficient use of resources encouraged: Profit being the sole motive, will drive the firms to produce goods and services at lower cost and more efficiently. This will lead to firms using latest technology to produce at lower costs. Disadvantages • Unemployment: Businesses in the market economy will only employ those factors of production which will be profitable and thus we may find a lot of unemployment as more machines and less labour will be used to cut cost. • Certain goods and services may not be provided: There may be certain goods which might not be provided for by the Market economy. Those which people might want to use but don’t want to pay may not be available because the firms may not find it profitable to produce. For example, Public goods, such as, street lighting. • Consumption of harmful goods may be encouraged: Free market economy might find it profitable to provide goods which are in demand and ignore the fact that they might be harmful for the society. • Ignore Social cost: In the desire to maximise profits businesses might not consider the social effects of their actions. Planned Economy In a planned economy, the factors of production are owned and managed by the government. Thus the Government decides what to produce, how much to produce and for whom to produce. Features: All resources are owned and managed by the government. There is no Consumer or producer sovereignty. The market forces are not allowed to set the price of the goods and services. Profit in not the main objective, instead the government aims to provide goods and services to everybody. Government decides what to produce, how much to produce and for whom to produce.
Advantages • Prices are kept under control and thus everybody can afford to consume goods and services. • There is less inequality of wealth. • There is no duplication as the allocation of resources is centrally planned. • Low level of unemployment as the government aims to provide employment to everybody. • Elimination of waste resulting from competition between firms. Disadvantages • Consumers cannot choose and only those goods and services are produced which are decided by the government. • Lack of profit motive may lead to firms being inefficient. • Lot of time and money is wasted in communicating instructions from the government to the firms. Mixed Economy A mixed economy is an economic system that incorporates aspects of more than one economic system. This usually means an economy that contains both privately-owned and state-owned enterprises or that combines elements of capitalism and socialism, or a mix of market economy and planned economy characteristics. This system overcomes the disadvantages of both the market and planned economic systems. Features Resources are owned both by the government as well as private individuals. i.e. coexistence of both public sector and private sector. Market forces prevail but are closely monitored by the government. Advantages • Producers and consumer have sovereignty to choose what to produce and what to consume but production and consumption of harmful goods and services may be stopped by the government. • Social cost of business activities may be reduced by carrying out cost-benefit analysis by the government. • As compared to Market economy, a mixed economy may have less income inequality due to the role played by the government. Monopolies may be existing but under close supervision of the government. Levels of business activity There are millions of businesses around us. Business can be categorised in three broad categories or stages.
All those businesses which are related with extraction of raw material from Mother Nature such as mining, fishing, farming, and logging are known as Primary Sector businesses. All businesses which manufacture and process the raw materials which can be used by the end consumers are known as Secondary Sector businesses. These include building, construction, compute assembly, shoes factories, textile factories etc. Whereas all the businesses which provide services and assist both the primary and secondary sector businesses can be classified as Tertiary sector businesses. These include transportation, insurance, hospitals, educational institutes, showrooms etc. A business may exist in all the three sectors also. For example. British Petroleum has its own Oil wells and it extracts raw oil, this is primary sector activity, this oil is converted into petroleum and other by products. This is secondary business activity. After processing the oil into useable product BP sells it to end consumers through its network of Petrol pumps. This comes under the tertiary sector. Measurement of Business Size and Growth In the world around us there are some businesses which are small and some are big. But how do we categorize these businesses as big or small. We can consider the following factors: •
• •
The number of employees: but business which use more machinery and technology i.e. capital intensive may have few employees but they still might be big. Example Microsoft has less employees but still it the biggest business on earth. The amount of capital invested: A business which might not use a lot of investment in machinery but and involves less investment may still be big. Take the example of software companies and consultancy firms like McKenzie & Co. The sales turnover: A business may be going through a bad phase and may not have huge sales does it make the business small?
Market share: a business may not be a market leader but still may be huge whereas if the market is itself very small, a major market share won’t make a business big. So while deciding the size of business as big or small a combination of factors needs to be considered. Business Growth Many businesses have an objective and that is to grow in size. Keeping Growth as an objective has its own advantages for the business. These are: Possibility of higher profits More salaries for managers Economies of scale
Business can expand is two main ways: Internal Growth or also known as organic growth where the business expands by opening more outlets/factories/offices gradually by using its profits. External Growth involves buying out other business and making them a part of your business. Examples are takeovers and mergers. Integration can be of three types Horizontal Integration: when one firm merges with another firm or takes over another one in the same industry and at the same stage of production. Example Vodafone and Hutch Vertical Integration: one firm merges or take over another firm in the same industry but at a different stage of production. Vetical Integration can be either forward or backward. Forward Integration is when a business merges or takes over a business which takes it near to the source of raw materials. For example an oil refinery combined with another firm which is into oil driling. Backward Integration is when a business merges or takes over a business which takes it near to the customers. For example, an oil refinery is combined with company which owns Petrol stations. Conglomerate Integration: It is also known as lateral integration. Take over or merge with another firm in a completely different industry. example a shoe manufacturer buys a biscuit producing business. Business Objectives Different businesses have different objectives. Objectives are aims or targets to work towards. These objectives can be summarised as • • • • •
Maximise profit: Common for business owned by private individuals. It involves improving profit margins, improving the rate of return on investment. Grow or expand: It involves increasing the operations of the business, expanding to other regions or countries, gaining the Survival: especially relevant for new businesses Provide a service: especially for public sector businesses whose main objective is to provide services, create employment and welfare of the general public To increase added value: Many businesses want to add more value to their products.
Stakeholders and their objectives
Many people are involved in running a business. Some have direct interest while others have indirect interest in the running of the business. These individuals or groups are known as stakeholders. Stakeholders
Who are they Objectives They invest capital in the business and Profits, growth of the Owners get profits from the business business Employees of the business who give in Job security, job satisfaction Workers their time and effort to make a and a satisfactory level of business successful payment for their efforts Employees of the business who High salaries, Job security, manage a business. They lead and Status and growth of the Managers control the workers to achieve business organisational goals These are the people who buy the Safe and reliable products, Consumers goods and services of the business. value for money, proper after sales service Government manages the economy. Successful businesses, The government charges a tax from the employments to be created, Government business and also monitors the more taxes, follow laws working of businesses in the country Community is all the people who are They expect more jobs, directly or indirectly affected by the environmental protection, The community actions of the business. socially responsible products and actions of the business.
Land: All natural resources provided by nature such as fields, forests, oil, gas, metals and other mineral resources Labour: The people who are used produce goods and services. Capital: Finance, machinery and equipments needed to produce goods and services. Enterprise: The skill and risk taking ability of the person who brings together all the other factors of production together to produce goods and services. Usually the owner or founder of a business.
Opportunity Cost Because of Unlimited needs and wants and limited resources we have make a choice. When we make a choice we have to give up something. This next best alternative foregone while making a choice is known as Opportunity Cost. Specialisation and Division of Labour Because of the fact that choice involves opportunity cost, the factors of production have to be used in the most efficient way. This is achieved through Specialisation and Division of Labour. This means every individual performs a specific task only so that he can give in the best output. There are advantages and disadvantages related with division of labour Advantages •
Specialisation results in greater efficiency and productivity
•
Time and resources are saved as the workers become for conversant with the process
Disadvantages • Repeatedly doing the same job can result in boredom for the workers •
If a worker cannot complete his or her job on time this may result in a bottleneck for the whole production process
Types of Economies Business which are owned by private individuals and groups are known as Private sector businesses And businesses which are owned and managed by Government are known as Public Sector businesses. Countries or economies which only have private sector businesses are known as free market economies. Economies which only have public sector businesses are known as planned economies. Economies which have both public and private sector businesses are known as Mixed economies. There are no true free market economies or planned economies but quite near to it. USA is an example of free market economy; North Korea is an example of planned economy whereas India can be called a mixed economy What is an Economic System? Because of the fact that there is scarcity of resources and unlimited wants, it is always a problem to allocate resources in an efficient manner. We are constantly facing three basic questions. These are: What to produce? How to produce? For whom do we produce? Every community or country must choose and develop its own way of solving these problems. The way a country decides what to produce, how to produce and for whom to produce is called it Economic System. The three Economic Systems existing are: • • •
Market Economic system Planned Economic System Mixed Economic System
Market Economic System/Free Market Economy or Capitalist Economy The central thought of this system is that it should be the producers and consumers who decide how to utilise the resources. Thus, the market forces decide what to produce, how much to produce and for whom to produce. Features All resources are privately owned by people and firms. Profit is the main motive of all businesses. There is no government interference in the business activities.
Producers are free to produce what they want, how much they want and for whom they want to produce. Consumers are free to choose. Prices are decided by the Price mechanism i.e. the demand and supply of the good/service. Advantages • Free market responds quickly to the people’s wants: Thus, firms will produce what people want because it is more profitable whereas anything which is not demanded will be taken out of production. • Wide Variety of goods and services: There will be wide variety of goods and services available in the market to suit everybody’s taste. • Efficient use of resources encouraged: Profit being the sole motive, will drive the firms to produce goods and services at lower cost and more efficiently. This will lead to firms using latest technology to produce at lower costs. Disadvantages • Unemployment: Businesses in the market economy will only employ those factors of production which will be profitable and thus we may find a lot of unemployment as more machines and less labour will be used to cut cost. • Certain goods and services may not be provided: There may be certain goods which might not be provided for by the Market economy. Those which people might want to use but don’t want to pay may not be available because the firms may not find it profitable to produce. For example, Public goods, such as, street lighting. • Consumption of harmful goods may be encouraged: Free market economy might find it profitable to provide goods which are in demand and ignore the fact that they might be harmful for the society. • Ignore Social cost: In the desire to maximise profits businesses might not consider the social effects of their actions. Planned Economy In a planned economy, the factors of production are owned and managed by the government. Thus the Government decides what to produce, how much to produce and for whom to produce. Features: All resources are owned and managed by the government. There is no Consumer or producer sovereignty. The market forces are not allowed to set the price of the goods and services. Profit in not the main objective, instead the government aims to provide goods and services to everybody. Government decides what to produce, how much to produce and for whom to produce.
Advantages • Prices are kept under control and thus everybody can afford to consume goods and services. • There is less inequality of wealth. • There is no duplication as the allocation of resources is centrally planned. • Low level of unemployment as the government aims to provide employment to everybody. • Elimination of waste resulting from competition between firms. Disadvantages • Consumers cannot choose and only those goods and services are produced which are decided by the government. • Lack of profit motive may lead to firms being inefficient. • Lot of time and money is wasted in communicating instructions from the government to the firms. Mixed Economy A mixed economy is an economic system that incorporates aspects of more than one economic system. This usually means an economy that contains both privately-owned and state-owned enterprises or that combines elements of capitalism and socialism, or a mix of market economy and planned economy characteristics. This system overcomes the disadvantages of both the market and planned economic systems. Features Resources are owned both by the government as well as private individuals. i.e. coexistence of both public sector and private sector. Market forces prevail but are closely monitored by the government. Advantages • Producers and consumer have sovereignty to choose what to produce and what to consume but production and consumption of harmful goods and services may be stopped by the government. • Social cost of business activities may be reduced by carrying out cost-benefit analysis by the government. • As compared to Market economy, a mixed economy may have less income inequality due to the role played by the government. Monopolies may be existing but under close supervision of the government. Levels of business activity There are millions of businesses around us. Business can be categorised in three broad categories or stages.
All those businesses which are related with extraction of raw material from Mother Nature such as mining, fishing, farming, and logging are known as Primary Sector businesses. All businesses which manufacture and process the raw materials which can be used by the end consumers are known as Secondary Sector businesses. These include building, construction, compute assembly, shoes factories, textile factories etc. Whereas all the businesses which provide services and assist both the primary and secondary sector businesses can be classified as Tertiary sector businesses. These include transportation, insurance, hospitals, educational institutes, showrooms etc. A business may exist in all the three sectors also. For example. British Petroleum has its own Oil wells and it extracts raw oil, this is primary sector activity, this oil is converted into petroleum and other by products. This is secondary business activity. After processing the oil into useable product BP sells it to end consumers through its network of Petrol pumps. This comes under the tertiary sector. Measurement of Business Size and Growth In the world around us there are some businesses which are small and some are big. But how do we categorize these businesses as big or small. We can consider the following factors: •
• •
The number of employees: but business which use more machinery and technology i.e. capital intensive may have few employees but they still might be big. Example Microsoft has less employees but still it the biggest business on earth. The amount of capital invested: A business which might not use a lot of investment in machinery but and involves less investment may still be big. Take the example of software companies and consultancy firms like McKenzie & Co. The sales turnover: A business may be going through a bad phase and may not have huge sales does it make the business small?
Market share: a business may not be a market leader but still may be huge whereas if the market is itself very small, a major market share won’t make a business big. So while deciding the size of business as big or small a combination of factors needs to be considered. Business Growth Many businesses have an objective and that is to grow in size. Keeping Growth as an objective has its own advantages for the business. These are: Possibility of higher profits More salaries for managers Economies of scale
Business can expand is two main ways: Internal Growth or also known as organic growth where the business expands by opening more outlets/factories/offices gradually by using its profits. External Growth involves buying out other business and making them a part of your business. Examples are takeovers and mergers. Integration can be of three types Horizontal Integration: when one firm merges with another firm or takes over another one in the same industry and at the same stage of production. Example Vodafone and Hutch Vertical Integration: one firm merges or take over another firm in the same industry but at a different stage of production. Vetical Integration can be either forward or backward. Forward Integration is when a business merges or takes over a business which takes it near to the source of raw materials. For example an oil refinery combined with another firm which is into oil driling. Backward Integration is when a business merges or takes over a business which takes it near to the customers. For example, an oil refinery is combined with company which owns Petrol stations. Conglomerate Integration: It is also known as lateral integration. Take over or merge with another firm in a completely different industry. example a shoe manufacturer buys a biscuit producing business. Business Objectives Different businesses have different objectives. Objectives are aims or targets to work towards. These objectives can be summarised as • • • • •
Maximise profit: Common for business owned by private individuals. It involves improving profit margins, improving the rate of return on investment. Grow or expand: It involves increasing the operations of the business, expanding to other regions or countries, gaining the Survival: especially relevant for new businesses Provide a service: especially for public sector businesses whose main objective is to provide services, create employment and welfare of the general public To increase added value: Many businesses want to add more value to their products.
Stakeholders and their objectives
Many people are involved in running a business. Some have direct interest while others have indirect interest in the running of the business. These individuals or groups are known as stakeholders. Stakeholders
Who are they Objectives They invest capital in the business and Profits, growth of the Owners get profits from the business business Employees of the business who give in Job security, job satisfaction Workers their time and effort to make a and a satisfactory level of business successful payment for their efforts Employees of the business who High salaries, Job security, manage a business. They lead and Status and growth of the Managers control the workers to achieve business organisational goals These are the people who buy the Safe and reliable products, Consumers goods and services of the business. value for money, proper after sales service Government manages the economy. Successful businesses, The government charges a tax from the employments to be created, Government business and also monitors the more taxes, follow laws working of businesses in the country Community is all the people who are They expect more jobs, directly or indirectly affected by the environmental protection, The community actions of the business. socially responsible products and actions of the business.
