Introduction to Economics

At the beginning of humanity, the man was a hunter and gatherer and nature provided food in surplus for entire humanity. But there were seasons of distress when rain was insufficient or trees didn’t bear fruits. Man learned that there are some fruits which can be kept in a cave or a hole in the tree while he gets it in surplus, and use it during the distress season. He understood that if one person has mangoes in surplus and other has grapes in surplus, both of them can exchange the surplus to have some amount of both. This household transactions and habits was beginning of the discipline called Economics. Unsurprisingly, the word Economics comes from greek words meaning ‘household management'(‘Oikos’= Family, Household, Estate; ‘Nomos’= Custom, law) and essentially means management of resources which are scarce. Economics is a logical application of intelligence to human choices about utilisation of resources and it encompasses activities of production, distribution, trade and consumption of goods and services.

In the first case, when the man kept a little of the surplus he got, in a cave he was making a choice about when to use the resource. He had various options like eating all the surplus then and there, not picking up the surplus, or deciding to keep it safe for using later. If he is not picking up the surplus, he may come back and use it later when he needs it, but no one guarantees him that it will remain there. Some animals or other humans may eat it and you can understand from common sense that it is not a logical choice if there are other options. He can eat the entire surplus then and there. But it may not be possible because he cannot eat that much, or he may not prefer it because he knows that the season is not good enough, and this is the only tree bearing fruits in this season. If he abandons the produce or uses it up, he may not find food on next day and he will be hungry. So the natural choice is not to use the surplus, but to keep it safe for tomorrow. In Economics this is a choice between consumption and saving. Saving is nothing but a choice not to consume the produce now and so that it can be consumed later. Simply, ‘Saving’ can be defined as postponement of consumption(It may not be always that simple and we will come into the details later).

In the second case, he was bored with the taste of mangoes he had and wanted a change of taste. He found out that his neighbour has a surplus of grapes and he is bored of the taste of grapes. He exchanges a few mangoes with his neighbour for few bunches of grapes. Both of them are happy that their issue of boredom is solved. This exchange of goods was the first form of trade and was called ‘Barter System of Trade’. But there were some problems associated with this type of trade. What if the neighbour is having a surplus of grapes but the first man has some health problem due to which he cannot eat grapes? Or if he dislikes grapes? Or if the person who has a surplus of grapes dislikes mangoes and he is in need of bananas?
Trade cannot take place in such conditions because the exchange of goods with other goods depends on the needs and surplus of both the persons. In other words, needs of one person should coincide with a surplus of the other and the surplus of the first person should coincide with the need of the second person. Hence, we can see that Barter system can work only when there is a ‘double coincidence of needs’.

The want of ‘double coincidence of needs’ to facilitate the trade was overcome by using some products which were needed by everyone. Food grains are needed by all men in the society. So if everyone gets some food grain from the person having a surplus of it, they can use it as a common medium of exchange for any product. In some ancient societies, when the beliefs developed, the things considered sacred had a persisting demand and such things were used as a medium of exchange. For an example, the tooth of dead cattle was used as money among some tribes. Slowly it developed into precious metals like gold and silver. These were called ‘material money’. In due course of time a system of governance and an institution of government evolved and a paper in which the authority promises a fixed value was considered as a universally acceptable medium of exchange throughout the community or society. This is called token currency as it doesn’t have any real value and this is the money which we are using now. Barter system got phased out by ‘Money Economy’ in a step by step manner starting with material money and then to token currency. Money is nothing but a universally accepted medium of exchange used in the trading of things.

As the human life got more and more complicated and professions got specialised, there evolved a concept of sale of services apart from the sale of goods. People may go to a priest to get some rituals done and pay a fee for the same, they may go to a doctor to get treated for the disease etc. In such instances, the doctor is taking a fee, but not selling any material product to you. He is giving a service and receiving money in return. Thus came the concept of sales of services and all the definitions in the economy and concepts were changed to add services along with goods. Hence trade is the exchange of goods and services for other goods and services, or a medium of exchange called money, which can be converted into any good or service when and where required.

Both in Money Economy and in Barter System, fixing the value of goods and services is a huge issue. For argument, if 1 sack of rice costs 40 mangoes, or 30 apples in the barter system, who fixes it, or what are the principles on which it gets fixed? It may seem to be a lesser issue in money economy as everything is valued by same money, yet the fixation of value is a problem and that price even fluctuates every now and then.

We will examine a condition when you have an urgent need of apples. You will go to the shop and asks the price and you will buy it at the cost quoted by the seller. But if you are not in urgent need, but you prefer to buy some apples. You will go to the seller and you will bargain with the seller to get apples at a lower cost. So the level of need in you for a product influences the price. Suppose while you go to the shop to buy apples, everyone is doing the same, all are in urgent need of apples. Seller understands that there are more customers, and he quotes a higher price. In this case level of need in the entire society is very high and they are willing to pay a higher price. This is called ‘demand’. The price of apples increased because there was a greater demand for apples in the market.

The seller, sensing the demand orders for two truckloads of apple, and load reaches the shop and the shop is filled with apples and some are kept in the corridor outside the shop. Now the people who come to purchase apple sees that the seller is under pressure to sell those boxes kept outside, before the evening, or else he will have to arrange for their safekeeping at a nearby shop for a charge. So customers bargain more and seller compromises more and the price comes down. This is called ‘supply’ and, the price of the apples came down as the supply increased. If another shop opens up to sell apple seeing the increased demand, supply further increases and customers have more choice. Price again comes down.

What we can see from the example is that the equilibrium between demand and supply determines the price of things. If demand increases, the price also increases leading to increased production ultimately resulting in increased supply and the prices will come down. There is a ‘demand-supply equilibrium’ which tries to keep the price of all goods and services constant. Any mismatch between supply and demand either artificial or natural leads to fluctuations in the price.

These are the basic concepts which you should know before exploring the discipline of economics in details, which you should remember if you have to understand the rest. Next, we will come up with details about concepts of Economic Growth and Development.

Summary:

  • Economics comes from greek words meaning ‘household management'(‘Oikos’= Family, Household, Estate; ‘Nomos’= Custom, law).
  • Economics is a logical application of intelligence to human choices about utilisation of resources and it encompasses activities of production, distribution, trade and consumption of goods and services.
  • Saving is the postponement of consumption.
  • Trade is the exchange of goods and services for other goods and services or a medium which can be converted into other goods and services.
  • Money is the universally accepted medium of exchange used in the trade of goods and services.
  • The equilibrium between demand and supply determines the price of things.
  • If demand increases, the price also increases leading to increased production ultimately resulting in increased supply and the prices will come down and vice versa. There is a ‘demand-supply equilibrium’ which tries to keep the price of all goods and services constant.
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