HERCOR COLLEGE

Km. 1 Lawaan, Roxas City, Capiz 5800

ACADEMIC YEAR 2020-2021

MELCS BASED MODULE FOR

APPLIED ECONOMICS
CONTENT
STANDARDS
Economics as an applied science and its utility in addressing the
economic problems of the country.

PERFORMANCE
STANDARDS
Analyze and propose solutions to the economic problems using
the principles of applied economics

MOST ESSENTIAL LEARNING

COMPETENCIES

Examine the utility and application of

applied economics to solve economic
issues and problems

M ODULE 3
CONTENT
ANNIE D. ALBA, MBA
APPLIED ECONOMICS – ABM 12
HERCOR COLLEGE - HIGH SCHOOL DEPARTMENT
CHAPTER 1 [THE WORLD OF ECONOMICS AND ITS SIGNIFICANCE]

DISCUSSIONS
THE CIRCULAR FLOW MODEL
FIGURE 3.1 CIRCULAR FLOW MODEL
Before we proceed further in our discussion, let us first look how resources are utilized by households and the business sector.
This can be illustrated using the Circular Flow Model, shown in figure 1.3, illustrates the flow of resources and output from
households to business and vice versa.

Wages and salaries,

rent, interest, profit

RESOURCE MARKET

Labor, land, capital,

entrepreneurial activity

BUSINESSES HOUSEHOLDS

Buy resources Sell resources

Sell products Buy products

Goods and services

Figure 1.3 illustrates the flow of resourcesRESOURCE MARKET

and payments for their use as well as the flow of goods
and services and payment for these. The household
Consumption sells resources to and buys products
sector
from the business sector, while the business sector buys resources from and sells products to the
expenditure
household sector.

Observe that in the diagram, we group private decision-makers into businesses and households, and then group markets into the
resources market and the product market. The upper half of the circular flow diagram represents the resource market – the place
where resources or the services of resource suppliers are bought and sold. In the resource market, households sell resources
(i.e., land, labor, capital) and businesses buy and use these in the production of goods and services. Households own all
economic resources either directly as workers or entrepreneurs, or indirectly through their ownership of business corporations.
They sell their resources to businesses that need these to produce goods and services. This is represented by the inner grow
pointing from the household sector to the business sector. The funds that businesses pay for resources are considered costs to
businesses, but are also sources of income for households – usually in the form of wages, rent, interest, and profit. This is
represented by the outer arrow pointing from the business sector to the household sector. Productive resources, therefore, flow
from households to businesses, and money flows from businesses to households.

The lower half of the model represents the product market – the place where goods and services produced by businesses are
bought by and sold to the households. In the product market, businesses combine the resources owned by the households to
produce and sell goods and services (e.g., cellar phone, signature shirt, pizza). This is represented by the inner arrow pointing
from the business sector to household sector. In return, the households receive income from selling their resources to buy goods
and services that the businesses produce in the form of consumption expenditure. This is represented by the outer arrow
pointing from the household sector to the business sector. The monetary flow of consumer (household) spending on goods and
services yields sales revenues for businesses. Businesses compare those revenues to their costs in determining profitability and
on whether or not a particular good or service should continue to be produced and sold.

The circular flow model depicts a complex, interrelated web of decision-making and economic activities involving businesses and
households. For the economy, it is the circle of life. Businesses and households are both buyers and sellers. Businesses buy
resources and sell products. Households buy products and sell resources. As shown in figure 1.3, there is a counterclockwise
real flow of economic resources and finished goods and services (represented by the inner arrow in the model) and a clockwise
money flow of income and consumption expenditures (represented by the outer arrows in the model).

THE PRODUCTION POSSIBILITIES FRONTIER

Since scarcity is a fact of economic life, we need to use our scarce productive resources efficiently as possible. If we succeed in
doing this, we can say that we are operating at full economic capacity since all resources are utilized in the production of goods
and services. Usually there is some economic slack, but every so often we manage to operate at peak efficiency. When this
happens, we say we are operating on our production possibilities frontier (or production possibilities curve).

What is the production possibilities frontier? It represents an outcome or production combination that can be produced with a
given amount of resources. For instance, let us say that a very small island country, currently availing itself of 100 hectares of
land, 20 machineries, and 50 workers, is able to produce maximally 500 farm factors and 350 tons of rice. However, it can also,
with the same number of resources, produce 400 tractors and 500 tons of rice. Or it can also produce 300 tractors and 580 tons
of rice. Numerous other combinations, producing fractions of capital goods and consumer goods, are possible. A curve
representing all possible combinations is illustrated in figure 1.4, where “farm tractors” represents capital goods and “rice”
represents consumer goods.

Figure 1.4 shows us that each point on the curve (e.g., Point C = 500 farm tractors and 350 tons of rice) refers to an output
combination that is efficiently produced with 100 hectares of land, 20 machineries, and 50 workers. However, every point inside
the curve (e.g., Point G = 300 farm tractors and 350 tons or rice) represents an output combination that is produced with less
than the available resources being utilized, thus leaving other resources idle (or unemployed), or produced with all the resources
utilized but used inefficiently (or unemployed). Conversely, pints outside of the curve (e.g., Point F) indicate that such output
combination is unattainable considering the limited or scarce resources of the island country.

If an economy is operating at any point along the production possibilities curve, it means that all its available resources are
utilized and these are being employed as efficiently as possible. This condition is referred to as full employment, which means
that all resources available in the economy are fully utilized in the production of goods and services. Therefore, total output is the
maximum combination level that can be produced when the limited resources and technology of the economy are fully utilized. It
followsFIGURE
then that
1.4output cannot increase
PRODUCTION it resources
POSSIBILITIES CURVEand technology remain constant. Thus, Point F is unattainable at this point.

Figure 1.4’s curve shows the range of possible combinations of outputs of tractors and rice from 600 units of
tractors and no rice to 700 tons of rice and no tractors. Any point inside the curve (e.g., point G) means
unemployed resources while at point outside of the curve (e.g., point F) means unattainable production because of
scarce resources.
 When economists discuss the concept of scarcity, they refer to the economic reality that resources are limited and that at any
given point in time, output is also limited. This bring us to the reality that the production of one particular good or category of
goods can increase but only at the expense of decreasing the production of other goods or category (opportunity cost) a trade-
off, therefore, happens. This means that in order for an economy to produce an additional unit output of one good, it has to
forego the production of other goods. For instance, if the island economy in our example wishes to produce 500 tons of rice, it
has to forego 100 units of tractors to attain maximum production. (This is illustrated in the movement from point C to point B in
figure 1.4.)

Over time however, economic growth occur when the economy realizes greater production capabilities to generate capital and
consumer goods. Nevertheless. For this to happen, resources (i.e, land, labor, and capital) must increase and/or technology
must improve.

Observe that most countries experience economic growth because of advances in technology and increases in the capital stock
through new investments (e.g., new machinery, equipment, factories, office buildings, and public infrastructure such as roads
and highways, seaports, and airports). In figure 1.4, economic growth is illustrated by an expansion (or the outward shift) of the
production possibilities curve (refer to the curve as indicated by the arrows). Thus, at this new curve, production expands for both
tractors and rice.

The U.S. and other industrialized country like Japan, Korea, Taiwan, Germany, and recently China and India experienced
significant economic growth in the latter part of the twentieth century and early part of twenty-first century. This simply indicates
that their production possibilities curves have shifted outward considerably, primarily due to increases in their capital stock and
advances in technology =. On the other hand, economies with insufficient capital and poor technology (mostly developing
countries including the Philippines) have experienced less economic growth and therefore less expansion of their production
possibilities curves.
THE CONCEPT OF OPPORTUNITY COST

Because people cannot have everything that they want, they forced to make choices among several options. When making a
choice, people face opportunity cost. In economics opportunity costs refers to the foregone vale of the next best alternative. In
particular, it is the value of what it is given up when one makes a choice. The thing that is given up is called the opportunity cost
of one’s choice.

When you make choices, there is always an alternative that you have to give up. A producer who have decide =s to make shoes
give up other merchandise that he could have produced (e.g., bags) using the same resources. If you buy a book with your
limited allowance, you give up the chance of eating out, watching a movie, or playing computer games.

Opportunity cost is expressed in relative price. This means that the price of one item should be relative to the price of another.
For example if a can of a soft drink is equivalent to 2 cupcakes. Thus if a consumer only has Php 20 and chooses to buy a can of
soft drink, then the opportunity cost of that can of soft drink are the 2 cupcakes, assuming that the cupcakes are the next best
alternative.

Another example is this: if a town wants to produce more houses than rice, when it has to give up the production of 1,000 cavans
of rice priced at PHp1,250 per cavan to produce one house, which is worth the same amount. The opportunity cost, therefore, is
the production of one good in order to produce one unit of another good.

BASIC DECISION PRODCUTION PROBLEMS

Below are some decision problems that households, firms, the government, and society must think about to properly manage
their resources.

Consumption

Members of the society, with their individual wants, determine the types of goods and services they want to utilize or consume
and the corresponding amount that they should purchase and utilize. The choices range from food, shelter, and clothing, to
technological gadgets, travel accommodations, et cetera. There is also choice between privately produced hoods and hose
supplied by the government, such as national security and defense, infrastructure, education, health, or irrigation. Consumption
is the basic decision problem that must always deal with in their day-to-day activities.

Production

The problem of production is generally a concern of producers. They determine the needs, wants, and demands of consumers,
and decide how to allocate their resources to meet these demands. Goods and services may be produced through different
methods of production (i.e., capital –or labor-intensive), depending on the firm’s technological state and its available resources.

Distribution

This problem is primarily by the government. There must be proper allocation of all the resources to benefit all the members of
society. However, in a market or command economy, absolute equality of every member with regard to the distribution or
resources can never be achieved.

Growth over Time

This is the last basic decision problem that a society must deal with. Societies continue to live on. They also grow in number.
While people have definite life spans, societies exist longer, if not infinitely. All the problems of choice, consumption, production,
and distribution have to be seen in the context of how these will affect future events.
THE 3 Es OF ECONOMIC

There are three E’s in the production of goods and services that need to be considered. These are the following:

1. Efficiency
Efficiency refers to the productivity and proper allocation of economic resources. It also refers to the relationship
between scarce factor input and output of goods and services. This relationship can be measured in physical terms
(technological efficiency) or cost terms (economic efficiency). Efficiency in the production and allocation of goods and
services saves time and money, and increases the firm’s or the economy’s level of output. For instance, in the
production of a commodity, a firm or economy utilizing modern technology can improve the quantity and quality of its
products. This ultimately creates an increase in the revenue and profits or economic growth.

2. Effectiveness
Effectiveness means the attainment of goals and objectives. Economics, therefore, is an important and functional tool
that can be utilized by other fields. For instance, with the use of both means of production like manual labor and
technological advancement, regardless of the output, being effective will enable firms to address the consumption
needs of society and the rest of the world.

3. Equity
Equity means justice and fairness. Thus, while technological advancement may increase production, it can also bear
disadvantages to the employment of workers. Due to the presence of new equipment and machineries, manual labor
may no longer be necessary, and this can result in the retrenchment or displacement of workers.

POSITIVE AND NORMATIVE ECONOMICS

Positive economics is an economic analysis that consider economic conditions “as they are,’ or considers economics “as it is.” It
uses objective or scientific explanation in analyzing the different transactions in the economy. It simply answers the question
“what is?”

Below are some examples of positive statements:

● The economy is now experiencing a slowdown because of too much politicking and corruption in the government.
● The economy is now on a slowdown because the world is experiencing financial and economic crises. Other reasons
include the financial problems of the U.S., higher crude oil prices in the international market, and the lack of
investment capital.

On the other hand, normative economics is an economic analysis that judges economic conditions “as it should be.” It is the
aspects of the economics that is concerned with human welfare. It deals with ethics, personal value judgments, and obligations
analyzing economic phenomena (Kapur 1997). It answers the question “what it should be?” it is also referred to as policy
economics because it deals with the formulation of policies to regulate economic activities.

Below are some examples of normative statements:

● The Philippine government should initiate political reforms to regain investor confidence, and consequently boost the
economy.
● In order to minimize the effect of global recession, the Philippine government should release a stimulus package
geared toward encouraging economic productivity.
CITIRIS PARIBUS ASSUMPTION

In an economic analysis however, we cannot consider all the factors that affect economic situations or phenomena. Therefore,
economists have devised a way of simplifying complex economic phenomena through the assumption of ceteris paribus. This
assumption is important in the study of economics.

Ceteris paribus is a Greek term that means “all other things held constant” or “all else equal.” This assumption is used to analyze
the relationship between two variables while the other factors are unchanged. It is widely used in economics as an explanatory
technique as it allows economists to isolate the relationship between two variables. For instance, economists ask these
questions: what is the impact of a change in the price of rice on the consumption behavior of consumers, ceteris paribus (or
things remaining constant)? If the price of rice increase by 20 percent, how much consumption will there be, assuming there are
no simultaneous changes in other variables (that is, assuming that income, number of family members, population, laws, and so
on all remain constant)?

Setting other factors as constant is what ceteris paribus is about. If other factors are included in the analysis, the situation
becomes complex and it becomes difficult for economists to explain the relationship between price and consumption behavior.

TEST AND EVALUATION OF KNOWLEDGE

TEST AND EVALUATION OF KNOWLEDGE

Direction: In a sheet of yellow paper, answer the following essay questions.

1. Differentiate positive from normative economics using simple examples.

2. Explain opportunity cost using your own example or experience
3. How important is ceteris paribus in studying economics?
4. Explain opportunity cost using your own example or experience
5. What is the importance of the production possibilities frontier?

REFERENCES
APPLIED ECONOMICS: EDILBERTO B. VIRAY JR. AND JESUSA AVILA-BATO

Fundamentals of Economics with Agrarian Reform, Taxation and Cooperatives (Roman D. Leano, Jr., Ronald M. Corpuz)

Rubric for Essay

Excellent (10 pts.) Good (7 pts.) Fair (5 pts.) Not Mastered (2 pts.)

Students’ responses are Student’s responses are Students’ responses are Students’ responses are
correct and offer extra correct, complete with somewhat correct but lack largely incorrect. The
supporting facts. Responses relevant detail and example. relevant detail and answers lacks a clear sense
include some interpretation Ideas and sentences show supporting examples. Ideas, of direction. Responses were
that indicates mastery of the clear understanding of the information and quotes are copied from an article,
topic. topic. explained and properly cited. books, and other online
references.
END of Learning Module