Principles and Fundamentals of Microeconomics - Term Paper Example

of the of the Term Paper on Microeconomics Introduction As economics has many fields or branches, microeconomics is one of such fields, which deals with the study of consumer behavior. The consumer can belong to a household, an industry or a company. Hence, microeconomics relates to the study of allocation of funds by different sections of users, which include domestic households, firms and industries. Their decision making pattern is thoroughly studied to make assessment and observation for the future forecast of market condition, particularly when resources are limited. However, since the buying and selling is common to all participants of economy, therefore microeconomics plays an important role in determining the supply and demand of goods. As this factor is responsible for price fixation of goods and services, the change in supply vs. demand position can lead to change in price. As resources become limited, microeconomics tries to analyze the relationship between market conditions, product prices, as well as the market mechanism which establishes this relationship. Such mechanism has a great role to play in the allocation of resources, in such scenario. Therefore, microeconomics has a significant role in determining the conditions required for a perfect competition. It also studies the conditions which may have led to market failure, when results are not produced efficiently. However, microeconomics can only establish the theoretical conditions, while actually market behavior may be different, sometimes. Accordingly, studies in this field of economy would include decision making ability under uncertain market condition. It also includes the study of market, which may not follow any pattern. This term paper would discuss about the principles of microeconomics, along with its fundamentals, in the following pages. Principles of microeconomics As there is a great relationship between a household and economy; Greek ancestors have correctly named the manager of a household as ‘economy’. Looking at the wider scenario, the household is an economic entity within a larger society. The society must ensure the allocation of funds and jobs to different members, while managing the available limited resources. Therefore the decisions need to be taken, keeping in view certain fundamentals, which are considered as the principles of microeconomics, which help people in making their decisions. Supply and demand In economic terms, demand means willingness, need and ability to purchase certain goods or services. However, desire to purchase may meet the requirement of willingness, but same only cannot generate demand. The purchaser must be able to pay for the specific good or service. The payment method can vary, as sellers except cash, credit cards, deferred payment or lease payments, nowadays. The capacity to purchase the good determines the ability for generating the demand. Readiness to purchase the good, right now, comes after the above two requirements of demand have been met. Once the immediate purchase willingness is confirmed the demand gets generated. (beggs 1) Supply relates to the available quantity of a particular good or service at a point in time, in a particular location. Supply would primarily comprise of two elements. One is the quantity of goods produced by a firm, while other is the combined quantity of same goods produced and offered for sale by different firms, involved in manufacture and trading of that particular item. However, total availability of such goods in market refers to the supply of the same. Supply would relate with the profit to be generated by offering such goods for sale. As companies prefer to sell their products at maximum profit level, this would determine the quantity and quality of goods that the firm can offer at any particular point. Maximum profit is calculated, based on the cost inputs, production costs, marketing costs and other variables. Therefore, all these factors would ultimately determine the supply position a specific good or service from a particular firm. The combined effect of such determinants would finally result in the overall supply of such good or service.(Beggs 2) Various microeconomic theories and models have been developed that help to create market equilibrium. However, the same depends on the achievement of proper supply and demand equilibrium. Hence, the market supply and market demand would determine the equilibrium price of a certain good, at any particular time. Opportunity cost As nothing is available for free, in this world; any one who wants to acquire a product or service of his liking will have to surrender something else which he or she may also like. For example, time is a scarce resource for any student. Therefore time management becomes essential, in such case. The allocation of this resource for different activities, in a wise manner will enable student to use the available time efficiently, while enjoying the activities like TV watching, game playing and studying as well. Looking at other side of this scenario; there may be parents who would like to allocate their limited income in such a manner that they are able to live comfortably, as a family. For meeting such demand, the child may have to sacrifice his or her studies. The student could earn during the period, he/she attends school, thus loosing the money, much needed by the family. Hence, the wages a student would give up to attend the school remains the biggest cost of his/her education. This means that we need to give up one thing to acquire another, although we would like to keep both, given a choice. This becomes the opportunity cost of that item. For example, a sportsman would need to forgo many of the teaching sessions, for attending the sports training program. In such a case, he would weigh both options and then calculate the economy of both, before making any decision.(Deviak 5) Marginal costs and benefits Changing market and economic conditions would need people to make small amendments to their set plans. Making such marginal changes is necessary, and requires our rational thinking. For example, the student described above may like to continue for more years in college to earn Phd degree. The rational people would take a decision while comparing the marginal costs and benefits. The student can very well evaluate the costs incurred in spending extra years at college and benefits derived from same. This can help the student to reach a rational decision. Similarly; a transport company has projected a break-even cost per seat, for a certain journey to be, say $100. This means that they would not let anyone take his journey on less than $100 cost. However, at the last moment, there are many seats vacant and company bus has to leave as per schedule. The transport administrator may adjust the price marginally to get substantial benefit, as compared to letting the bus ply with vacant seats and loosing the revenue. The additional passenger may be allowed to travel by paying only $80.This is an example of adjustment with margins, while evaluating the overall change in the economic scenario. The marginal cost of carrying an additional passenger will be minimal as compared to the marginal benefits the company will derive from this action. Therefore, rational thinking makes economic sense, when the marginal benefits outweigh the marginal costs, as in the above example.(Deviak 6-7) Indirect incentives Although the direct incentives are more visible, there are indirect incentives that add to the economic behavior and pattern. As all of us familiar with schemes offering incentives, discounts and ‘buy one get one free’ offers; the consumer behavior certainly changes with such periodic announcements, which brings substantial change in demand and supply relationship and the prices. However, indirect incentive would mean to incur a cost which may indirectly lead to an invisible huge savings, later. For example the cost of automobile accidents for drivers was very high, before the law to wear ‘seat belts’ was passed. Although the drivers needed making small investment in purchasing and fixing the seat belt for their cars, they could realize that the savings, in terms of lesser number of accidents, would mean fewer expenses towards meeting such unfortunate obligations.(Mankiw 6-7) Another example of incentive driven microeconomic conditions could be the additional cost of having an earth quake resistant foundation, while constructing a house. Although having such change in the design, architecture and construction of the building would mean use of additional equipment and material, the savings could be huge. Here, the savings can be calculated, based on the lives saved, in case of an earth quake, apart from cost involved, if the building devastation happens. Deals for a win-win situation We need to realize that trades do not mean ‘one party looses, while other wins’, because trading is not like playing any game, where either of the participants looses or wins. In economic terms, the trade agreements are made between different nations, where all gain by entering into such a deal. A small example, here, could involve different households in a society. If one unit has the expertise of producing small products for daily consumption, the other unit may be expert in providing services required by all members of the particular society. Hence, an agreement between the two units or households can result in a situation, where both the parties would be gainer and happier. Similarly, China has the advantage of having enormous skilled and unskilled man power, which they use for producing goods in bulk quantity. This results in much less production cost of such goods, which, in-turn can be sold at most competitive prices in other countries. While China gains with such economic engagement, the importing country also would gain by getting goods at lesser cost.(Menkiw 7-8) Government intervention helps The common feature observed in global markets is the ‘market failure’. Simply speaking, this happens when markets are not able to allocate resources efficiently. Hence, the government intervention becomes essential for markets to correct. Such interference in the working of markets is mainly to promote allocation of resources in an efficient manner that would benefit one and all, on equal terms. However, sometimes there are external factors that cause market failure. One such factor could be the result of an action by any person or firm, which can cause harm to others, although they are not at any fault. For example, rivers in many developing and under-developed countries are polluted by the waste thrown into them by manufacturing units. However, the cost of cleaning the river, or even small canals, would be borne by all, as the public funds allocated for same belong to tax payers. To maintain equity in the market, government intervention is able to suppress the monopolistic trends, being followed by a particular group. For example, a firm manufacturing a premium brand of oil, whose demand is heavy, can cause artificial scarcity of this product by hoarding the same. The main goal of such manufacturer remains to sell the goods on much higher price, at a little later stage. The governmental action, in terms of raid and other corrective measures can remove such artificial scarcity and bring the required efficiency in the market. (Mankiw 10) Microeconomic conditions and living standard Living conditions are directly related to the quality and quantity of production of goods and services by particularly country. Hence, productivity must be boosted to ensure that sufficient goods are produced, efficiently. For this purpose, policy makers ensure that workers are provided with adequate facilities that can enhance their productivity. This would require providing best education to workers, while making available the best technology and tools to them. Therefore, the wellbeing of the nation would begin from taking care of the living standard of its working force. The competition faced by any country from the other countries, in terms of import, would not have much effect, if its domestic productivity remains in a healthy state. Therefore, states authorities have a role to play here, as well; while formulating budget policies and tackling account deficit. (Mankiw 12) Market reforms make better sense, in such scenario, as governments tend to increase the local production, with quality, by inviting goods from other countries. However, the authorities need to examine the issue of completely killing the local production, as they remove the protection cap from certain industrial sectors. Relation between inflation and unemployment Simply speaking, inflation means high prices. State authorities intervene when the prices shoot up. This is natural as the consumers and buyers would not be able to buy goods, required to maintain their standard of living. Hence, the well-being of a nation remains at stake, as its people strive to purchase products that they are not able to afford. Most national governments tackle high inflation by reducing the quantity of money supply. This means that people would have lesser money to spend. Since the prices are high and money is not available to the buyer, the result is less sales for the firms that manufacture such goods. In such a scenario, the manufacturer cannot push the products, as the market is already flush with the same. This would mean reducing the production targets for future months, as no firm can afford to have high inventory of unsold goods, lying at their warehouses for a longer period. Companies hire workers after due consideration about the quantity of production that has been projected for a period of time. When inventories are lying idle and market is not able to absorb the produced quantity, the projected estimates fail. (Mankiw 13) Immediate effect of reducing the production figures is the lay-off of workers, who have been hired to complete a certain target. This causes overall unemployment. Hence, inflation has a direct trade-off with unemployment. By reducing the money supply, governments try to control the prices and inflation. However, it takes much longer time, sometimes years, to achieve the results. Increasing interest rates for reducing inflation and money supply is a common tool used by economic advisers of most governments around the world. However, this directly results in loss of future investments and expansion by industries. Hence, no new employment could be generated, while old workers loose their jobs. The overall result of such scenario is the decrease in level of living standard that people start noticing. This can cause serious psychological problems. People who have lost their jobs are seen to be prone to depression, which may take long time, sometimes many years, to be cured completely. Conclusion As discussed above, microeconomics is about adjusting to the present market and economic conditions. Such adjustment is required from all participants, including households, manufacturing industries, trading firms and other market players. We all are dependent on each other for every type of goods and services, required for our well-being. The economy starts from home, as it follows the proverb that “charity starts from home”. In a household of, say, 10 members; each person can contribute something or the other which has economic value. The student members are contributing their time and effort, which is an investment for future, as it would give dividends in later years. Similarly, the house-maker has an important role, as she allocates funds for various needs of the family, every week or month. She needs to be aware of the market conditions, particularly the prices, so that she can adjust her budget accordingly. The demand and supply relationship shows its effect, in such household as well. Similarly, for companies manufacturing goods, it is important to keep track of input costs and production costs. The competition faced from other domestic manufacturers and foreign suppliers also determines the economic conditions of the particular manufacturer and industry sector, as well. Further, it is essential to maintain the market equilibrium. This requires that resources are allocated efficiently and equally, among the needy. Monopolistic tendencies and hoarding by traders disturb such equilibrium, very dangerously. Therefore, it is necessary to distribute the national as well as household income, efficiently, as per the need of the people, while utilizing the economic potential of every member of the society. Works Cited Beggs Jodi, “Microeconomics 101”, about.com Guide, Retrieved on April 20, 2013 From: http://economics.about.com/od/economics-basics/u/Microeconomics-101.htm Doviak, Eric, 2005, “Lecture Notes on the Principles of Microeconomics”, 3rd edition retrieved on 20 April from: http://www.doviak.net/microbook_3e.pdf Mankiw, Gregory, “Principles of Microeconomics”, 1998, Florida, USA, The Dryden Press, 1998, web, retrieved on April 20, 2013 from: http://books.google.co.in/books?id=xoztFMavGCcC&printsec=frontcover&dq=what+is+microeconomics&hl=en&sa=X&ei=lCxyUZLcCYXnrAfRl4GQCg&ved=0CDkQ6AEwAA#v=onepage&q=what%20is%20microeconomics&f=false Read More