Fundamental principles of economics

1. The
Fundamental
Principles Of
Economics

2. There are ten fundamental principles of economics
These principles of economics have been divided under the
three categories as given below.
1 -
• How People Make Decision
2 -
• How People Interact
3 -
• How the economy as a whole
works

3. How People make decision
Under this category, there are four
principle as given below.
1- People face trade-off
2- Cost of something is what you
give up to get some thing
3- Rational people think at the
margin
4- people respond to incentives

4. 1-People face trade offs
Trade off means balancing two
things that we need or want but
which are opposite to each other.
In our real life we always face trade off while making
decision about some thing. It is because to get one thing
that we like, we usually have to give up another thing that
we like. So making decisions requires trading off one goal
against another.
2- Cost of something is what
you give up to get some thing
People face tradeoffs, so making
decisions requires comparing the
costs and benefits of alternative
courses of action. When you spend a year listening to
lectures, reading textbooks, and writing papers, you cannot
spend that time working at a job. For you, the wages given
up to attend school are the cost of your education.

5. The opportunity cost to attend school or having education
are the wages given up.
So the opportunity cost of an item is what you give
up to get that item. When making any decision, decision
makers should be aware of the opportunity costs.
3- Rational people think at
the margin
In economics it is assumed that
people are rational and rational
people make the best decisions by
thinking at the margin (edge)or comparing additional cost
for extra benefits.
Suppose you have been to market for shopping from your
housebybusbypayingRs.50bus-fare.Thereisalsocircus-showat
onecornerinthemarket.Youliketowatchitbutwhethertowatch
it today or come to the next day to watch it, to decide it, you
compare the cost for coming in next day Rs.50 bus-fare + Rs.20
circus charge against benefit or utility from watching circus today
orthenextday.

6. 4-People respond to
incentives
Incentive means something that
encourages people to do
something. People make decisions
by comparing costs and benefits,
their behavior may change when the costs or benefits
change. That is, people respond to incentives. When the
price of an apple rises, for instance, people decide to eat
more pears and fewer apples, because the cost of buying an
apple is higher. At the same time, apple orchards decide to
hire more workers and harvest more apples, because the
benefit of selling an apple is also higher. Thus people
respond to incentives.

7. How People interact
Under this category, there are three
principle as given below.
5- Trade can make every one better
off
6- markets are usually a good way
to organize economic activity
7- Government can sometimes
improve market outcomes

8. 5-Trade can make every one
better off
Either we talk about individuals,
society or countries, trade can
make everyone better off. If there
were no trade, we would make every thing that we need
by ourselves. Perhaps we would lack to get much that we
require but it is trade that allows individuals, firms or
countries to specialize in that what they do best and enjoy
a wider variety of goods. Therefore, trade is the one that
can make everyone better off.
6-Markets are usually a
good way to organize
economic activity.
Markets are usually good way to
organize economic activity. Today,
most countries that once had
centrally planned economies have abandoned this system

9. and are trying to develop market economies. In a market
economy, the decisions of a central planner are replaced by
the decisions of millions of firms and households. Firms
decide whom to hire and what to make. Households decide
which firms to work for and what to buy with their
incomes. These firms and households interact in the
marketplace, where prices and self-interest guide their
decisions of making economic activities. Thus markets are
usually good way to organize economic activities.
7- Government can
sometimes improve
market outcomes
Markets are usually a good way to
organize economic activity. It is
true if only govt. play a crucial role
to settle markets. Govt. provide legal safety to the
economic agents i.e. producers, firms and consumers.
Importantly, markets work only if property rights are
enforced. For example, a farmer won’t grow food

10. if he expects his crops to be stolen, a restaurant won’t
serve meals unless it is assured that customer will pay
before they leave. We will rely on govt. provided police &
courts to enforce our rights over the things we produce.
And sometimes markets fail to work due to some
external effects. There is less efficiency, less equality, lack
of efficient allocation resources. In such a condition govt.
can intervene and improve market outcomes by its public
policy.
• Country’s standard of living depends on its
ability to produce goods and services.8-
• Prices rise when government prints to much
money9-
• Society faces a short-run trade-off between
inflation and employment10
How the economy as a whole works

11. 8- Country’s standard of living depends on its ability to
produce goods and services.
The living standard of a country or its people
primarily depends on its ability to produce goods and
services. The more the ability to produce goods and
services, the more the people can enjoy required goods
and services and maintain high standard of living.
Conversely, where there is low productivity, most of the
people are compelled to spend a miserly life.
9- Prices rise when government prints to much money
The variation in prices of goods and services also
depends on the quantity of money supply in the economy.
When the govt. creates large amount of money and let
them go in the circulation, the value of money goes down
and prices of goods and services rises. The continuous and
sustained rise in price level in called inflation. If such a
situation is not timely checked, it brings an adverse effect
in the economy.

12. 10- Society faces a short-run trade-off between
inflation and unemployment,
There is a short-run trade off between inflation and
unemployment. With the increase in quantity of money
supply, the demand for goods and services goes up. It is
because there is more amount of money in the hand of the
buyers. Consequently, there is an increase in price level
(inflation) and in the meantime it also encourages them to
increase the quantity of goods and services they produce.
So the producers employ more workers to produce those
goods and services. It is, employing more workers means
lower unemployment. Thus there is a short-run trade off
between inflation and unemployment.
Thank You!