ALLAMA IQBAL OPEN UNIVERSITY ISLAMABAD

NAME : GHULAM FATIMA

STUDENT ID : 0000507180

COURSE CODE : 9335 (ECONOMICS)

SEMESTER : SPRING 2024

LEVEL : BS (ISLAMIC STUDIES)

ASSIGNMENT: NO :1
Q.1 Discuss the scope and nature of economics. Also define
economics in the light of thoughts presented by Professor Robinson.
ANSWER :

The Scope and Nature of Economics

Economics is a vast and dynamic field that studies how individuals,
businesses, governments, and societies make choices about how to
allocate limited resources. These resources include time, money, labor,
and raw materials. The central concern of economics is to understand how
these resources are distributed to meet the needs and wants of people.

Microeconomics and Macroeconomics

The study of economics is traditionally divided into two main branches:
microeconomics and macroeconomics. Microeconomics focuses on
individual agents, such as households and businesses, and how they make
decisions. It explores how these decisions affect supply and demand for
goods and services, and how prices are determined. Key concepts in
microeconomics include elasticity, market structures (like monopoly and
competition), and consumer behavior. Macroeconomics, on the other hand,
looks at the economy. It examines aggregate indicators such as GDP,
unemployment rates, and inflation. Macroeconomics is concerned with the
overall economic performance and how policies can influence economic
growth, stability, and distribution of wealth. It deals with issues like fiscal
and monetary policy, economic cycles, and international trade.

Positive and Normative Economics

Another way to understand the scope of economics is to differentiate

between positive and normative economics. Positive economics deals with
objective analysis and facts. It aims to describe how the economy functions
without making judgments about whether outcomes are good or bad. For
example, "an increase in the minimum wage will lead to higher
unemployment among teenagers" is a statement of positive economics.
Normative economics, in contrast, involves value judgments and opinions
about what the economy should be like. It deals with the desirability of
certain economic policies or outcomes. Statements like "the government
should increase the minimum wage to reduce poverty" fall under normative
economics because they express a belief about what ought to be done.
Resource Allocation and Scarcity
At its core, economics is about dealing with scarcity. Scarcity means that
there are limited resources to meet unlimited wants and needs. Because of
this, individuals and societies must make choices about how to allocate
resources efficiently. Economics helps to understand these choices and the
trade-offs involved.

For instance, a farmer has a limited amount of land to grow either corn or
wheat. The choice of how much land to allocate to each crop involves
considering factors like potential yield, market prices, and costs of
production. This example illustrates opportunity cost, a fundamental
concept in economics that represents the value of the next best alternative
foregone when making a decision.

Market Mechanisms and Economic Systems

Economics also examines different ways societies organize themselves to
deal with scarcity. Market mechanisms, where prices are determined by
supply and demand, are one such method. In a market economy, resources
are allocated through the decisions of many individual buyers and sellers.
Prices serve as signals to indicate the relative scarcity or abundance of
goods and services.

There are also other economic systems, such as command economies,

where decisions about resource allocation are made by a central authority.
Mixed economies, which incorporate elements of both market and
command systems, are common as well. Each system has its advantages
and disadvantages, and economics helps to analyze their efficiency and
effectiveness.
Definition of Economics by Professor Joan Robinson

Professor Joan Robinson, a prominent economist, provided a unique

perspective on economics.
She emphasized the importance of understanding economic theories not
just as abstract concepts but as tools to address real-world issues.

Robinson's View on Economics

Joan Robinson defined economics as the study of the material conditions of
human beings. She believed that economics should focus on practical
problems, such as unemployment, inflation, and income distribution.
Robinson argued that economics should be used to improve living
standards and address social injustices.

Her perspective was shaped by her work during the Great Depression and
her association with the Keynesian school of thought, which emphasized
the role of government intervention in stabilizing the economy. Robinson
believed that economic theories should be grounded and should be used to
promote social welfare.

Critique of Traditional Economic Theories

Robinson was critical of some traditional economic theories, particularly
those that relied heavily on abstract models and assumptions. She argued
that these models often failed to capture the complexities of the real world.
For example, the assumption of perfect competition and rational behavior
did not always hold true in actual markets.
She also criticized the idea that markets always lead to efficient outcomes.
Robinson pointed out that markets could fail due to various reasons, such
as monopolies, externalities, and information asymmetries. She
emphasized the need for government intervention to correct these market
failures and promote economic stability and fairness.
Contribution to Economic Thought
One of Robinson's significant contributions was her work on imperfect
competition. She introduced the concept of monopsony, a market situation
where there is only one buyer facing many sellers. This idea helped to
explain labor markets where employers have significant power over wages
and working conditions.

Robinson's work extended to development economics, where she focused

on issues facing developing countries. She highlighted the structural
problems and power imbalances that hindered economic growth in these
regions. Her ideas contributed to a better understanding of the challenges
of economic development and the role of international trade and
investment.

Conclusion
Economics is a broad and diverse field that examines how societies allocate
limited resources to meet their needs and wants. It is divided into
microeconomics, which studies individual decision-making, and
macroeconomics, which looks at the economy. Economics also
distinguishes between positive analysis, which describes economic
phenomena, and normative analysis, which prescribes policies based on
value judgments.

At the heart of economics is the concept of scarcity and the need to make
choices. Different economic systems, such as market and command
economies, offer various methods for resource allocation. Understanding
these systems and their implications is a key part of economic study.
Professor Joan Robinson’s definition of economics emphasizes its practical
application to improve human living conditions and address social issues.
Her critiques of traditional theories and contributions to concepts like
imperfect competition have significantly influenced economic thought.
Robinson's work underscores the importance of grounding economic
theories and using them to promote social welfare and justice.
In sum, economics is not just about numbers and models; it is a vital tool for
understanding and improving the world we live in.
Q.2 What is the law of satiable wants? Also write a note on the assumptions
and exceptions of this law in detail.

ANSWER :

The Law of Satiable Wants

The law of satiable wants is an economic principle that describes human
desires and consumption patterns. It states that while human wants are
numerous and varied, they are not insatiable. Instead, they follow a pattern
where the satisfaction of one want leads to the emergence of another, but
the intensity of each successive want diminishes over time. This concept is
foundational in understanding consumer behavior and how individuals
prioritize their needs and wants.

Understanding the Law of Satiable Wants

Human wants can be classified into basic needs (such as food, clothing,
and shelter) and secondary wants (such as luxury items, entertainment, and
services). The law of satiable wants suggests that once basic needs are
met, individuals will seek to satisfy secondary wants. However, the
satisfaction derived from these wants decreases as more of them are
fulfilled. This diminishing satisfaction is a key aspect of the law.

For example, consider a person who is extremely hungry. Their primary

want is food. Once they have eaten enough to satisfy their hunger, their
immediate need for food diminishes, and they may then desire a dessert.
After consuming dessert, their desire for more food lessens significantly.
This illustrates how the intensity of wants decreases as each one is
satisfied.
Assumptions of the Law of Satiable Wants
Several assumptions underpin the law of satiable wants, which help to
explain its application in economic theory:
1. Rational Behavior
One fundamental assumption is that individuals behave rationally. They aim
to maximize their utility or satisfaction by making choices that best meet
their needs and wants. This rational behavior is crucial for the law to hold,
as it implies that individuals will prioritize their consumption based on the
diminishing satisfaction
2. Availability of Resources
The law assumes that individuals have access to resources that allow them
to satisfy their wants. These resources include income, time, and goods or
services. Without the availability of resources, individuals cannot fulfill their
wants, making the law inapplicable.

3. Utility Maximization
Another assumption is that individuals seek to maximize their utility. Utility
refers to the satisfaction or pleasure derived from consuming goods and
services. The law of satiable wants is based on the idea that individuals
allocate their resources to maximize overall utility by satisfying they’re most
pressing wants first.

4. Diminishing Marginal Utility

A key assumption is the principle of diminishing marginal utility. This
principle states that as a person consumes more units of a good or service,
the additional satisfaction (or marginal utility) gained from each additional
unit decreases. For instance, the first slice of pizza provides high
satisfaction, but the satisfaction from the fifth slice is much less. This
diminishing marginal utility is central to the law of satiable wants.
 Exceptions to the Law of Satiable Wants
While the law of satiable wants generally holds true, there are notable
exceptions where it may not apply or where its application is limited:

1. Addictive Goods
Addictive goods, such as drugs, alcohol, or certain types of food, can create
exceptions to the law. For these goods, consumption may lead to increased
rather than decreased desire. In such cases, the law of diminishing
marginal utility may not apply, as individuals continue to crave more of the
addictive goods despite already consuming significant amounts.

2. Prestige and Status Goods

Certain goods are desired not just for their intrinsic value but for the status
and prestige they confer. Luxury items like designer clothes, high-end cars,
and exclusive memberships often fall into this category. The demand for
these goods can increase with consumption because they serve as symbols
of wealth and status, leading to higher demand even as more of them are
acquired.

3. Cultural and Social Factors

Cultural and social influences can also create exceptions to the law of
satiable wants. In some societies, specific goods or practices hold
significant cultural or social importance. For example, in cultures where gift-
giving is a vital tradition, the desire to give and receive gifts may not
diminish with each occasion. Social norms and cultural practices can
sustain or even amplify certain wants.

4. Technological Goods
Technology and innovation can create new wants that did not previously
exist. For example, the advent of smartphones generated a new category of
wants related to
connectivity, apps, and digital services. As technology evolves, new wants continue
to emerge, which may not follow the traditional pattern of diminishing intensity.
Detailed Exploration of Assumptions and Exceptions
Rational Behavior
The assumption of rational behavior is crucial but not always realistic. While
economic models often assume that individuals make decisions logically to
maximize their utility, real-world behavior can deviate due to emotional,
psychological, and social factors. Behavioral economics, for instance,
studies how cognitive biases and heuristics influence decision-making, often
leading to irrational choices.

For example, people may make impulsive purchases, succumb to

marketing strategies, or prioritize short-term gratification over long-term
benefits. These behaviors challenge the assumption of rationality and
suggest that while the law of satiable wants provides a useful framework, it
does not capture the full complexity of human behavior.

Availability of Resources
The assumption of resource availability is fundamental because it dictates
the ability of individuals to satisfy their wants. Economic disparities, poverty,
and lack of access to essential goods and services can prevent people from
fulfilling even their basic needs. In such cases, the law of satiable wants is
less relevant because the primary concern is survival rather than the
diminishing intensity of wants. Furthermore, economic shocks,
unemployment, and natural disasters can disrupt resource availability,
leading to situations where the law does not hold. Understanding these
limitations highlights the importance of addressing economic inequalities
and ensuring equitable access to resources.

Utility Maximization and Diminishing Marginal Utility

Utility maximization assumes that individuals have clear preferences and
can measure the satisfaction derived from different goods and services.
However, utility is subjective and varies widely among individuals. What
brings satisfaction to one person may not have the same effect on another.
Additionally, people may not always be able to accurately assess their
utility, leading to suboptimal decisions. The principle of diminishing marginal
utility is widely accepted but has exceptions. For some goods and
experiences, satisfaction may increase with consumption, such as learning
a new skill, developing a hobby, or building relationships.
These activities often provide increasing returns in terms of utility,
challenging the notion of diminishing marginal utility.

Addictive Goods and Prestige Goods

Addictive goods represent a significant exception to the law of satiable
wants. Addiction alters the brain's reward system, leading to increased
craving and dependence. Economic models that incorporate addiction
recognize that traditional assumptions about rational behavior and
diminishing utility do not apply. Policies to address addiction often focus on
regulation, treatment, and prevention, rather than relying on market
mechanisms alone.

Prestige and status goods highlight the social dimensions of consumption.

The desire for these goods is driven by social recognition and the need to
signal wealth and status. This desire can grow with consumption, as
individuals seek to maintain or enhance their social standing.
Understanding this behavior requires insights from sociology and
psychology, as well as economics.

Conclusion
The law of satiable wants provides a foundational understanding of human
consumption patterns, emphasizing that while wants are numerous, they
follow a diminishing pattern of satisfaction. This law is grounded in
assumptions about rational behavior, resource availability, utility
maximization, and diminishing

marginal utility. However, exceptions such as addictive goods, prestige

goods, cultural influences, and technological innovations illustrate the
complexity of human wants and the limitations of the law. By exploring
these assumptions and exceptions in detail, we gain a more nuanced
understanding of consumer behavior and the factors that influence it. While
the law of satiable wants offers valuable insights, it is essential to recognize
its limitations and consider broader social, cultural, and psychological
dimensions to fully grasp the dynamics of human consumption.
Q.3 What is meant by indifference curves? Explain with the help of a
diagram. Also write a note on the properties of indifference curves.

ANSWER :

Indifference Curves: An Overview

Indifference curves are a fundamental concept in microeconomics, used to
analyze consumer preferences and the trade-offs they are willing to make
between different goods. They are graphical representations that show
different combinations of two goods that provide the consumer with the
same level of satisfaction or utility.

Understanding Indifference Curves

An indifference curve plots all the combinations of two goods that a
consumer considers equally preferable. For instance, if a consumer is
indifferent between having 2 apples and 3 bananas or 3 apples and 2
bananas, both combinations lie on the same indifference curve. The
consumer does not prefer one combination over the other as both provide
the same level of satisfaction.

Diagram of Indifference Curves

To illustrate indifference curves, consider a graph where the quantity of one
good (Good X) is on the horizontal axis and the quantity of another good
(Good Y) is on the vertical axis.

Drawing the Indifference Curve:

On a two-dimensional graph, plot several points where different

combinations of Goods X and Y give the same utility to the consumer.
Connect these points to form a smooth, curved line. This line is the
indifference curve.
Indifference Map:
A collection of indifference curves can be drawn on the same graph,
creating an indifference map.

Each curve represents a different level of utility, with curves farther from the
origin representing higher utility levels.

Properties of Indifference Curves

Indifference curves have several key properties that help understand
consumer preferences:
1. Downward Sloping
Indifference curves slope downwards from left to right. This negative slope
indicates that if the quantity of one good decreases, the quantity of the other
good must increase for the consumer to remain equally satisfied. This
reflects the trade-off between goods.

For example, if a consumer decreases their consumption of Good X, they

must increase their consumption of Good Y to maintain the same level of
utility.

2. Convex to the Origin

Indifference curves are convex to the origin, which means they bow inward.
This convexity reflects the principle of diminishing marginal rate of
substitution (MRS). The MRS is the rate at which a consumer is willing to
trade one good for another while maintaining the same level of utility.

As a consumer consumes more of Good X and less of Good Y, the amount

of Good Y they are willing to give up obtaining an additional unit of Good X
decreases. This diminishing willingness to substitute reflects the convex
shape.

3. Higher Curves Represent Higher Utility

Indifference curves that are further from the origin represent higher levels of
utility. This is because more of at least one good leads to greater
satisfaction, if more consumption generally increases utility.
For instance, a curve representing combinations of 4 apples and 5 bananas
lies above a curve representing 2 apples and 3 bananas, indicating a higher
level of satisfaction.

4. Indifference Curves Do Not Intersect

Indifference curves cannot intersect because it would imply that a particular
combination of goods provides two different levels of utility, which is
impossible. Each indifference curve represents a distinct level of
satisfaction.

If two curves were to intersect, it would create a paradox where a single

combination of goods simultaneously belongs to two different utility levels,
violating the consistency of consumer preferences.

5. Non-Thick Curves
Indifference curves are thin lines. If they were thick, it would imply that there
are multiple levels of utility for the same combination of goods, which
contradicts the definition of an indifference curve.

Practical Application of Indifference Curves

Indifference curves are used to derive the demand curve and analyze
consumer behavior. By combining indifference curves with budget
constraints, economists can determine the optimal choice of goods that
maximizes a consumer's utility given their income and prices of goods.

Diagram Illustration
Here is a step-by-step guide to drawing a basic indifference curve diagram:
Axes: Label the horizontal axis as Good X (e.g., Apples) and the vertical
axis as Good Y (e.g., Bananas).
Plot Points: Choose several combinations of Goods X and Y that the
consumer
views as equally preferable. For example, (2 apples, 3 bananas), (3 apples,
2 bananas), and (4 apples, 1 banana).
Draw Curve: Connect these points with a smooth, convex line. This line is
your indifference curve.
Indifference Map: Add additional curves for different levels of utility. Each
curve should be parallel but never intersect the others.

Here is a simple illustration of indifference curves:

In this diagram, IC1 and IC2 are two indifference curves. IC2 represents a
higher level of utility than IC1, indicating greater satisfaction.

Note on Properties of Indifference Curves

Downward Sloping
The downward slope of indifference curves reflects the trade-off in
consumption. If you consume more apples, you must consume fewer
bananas to stay equally happy. This trade-off is necessary because of the
scarcity of resources.

Convex to the Origin

The convex shape represents the diminishing marginal rate of substitution.
Initially, you might be willing to give up several bananas for one more apple.
However, as you get more apples and fewer bananas, each additional
apple is worth less to you in terms of bananas, leading to a decrease in the
MRS.

Higher Curves Represent Higher Utility

Higher indifference curves signify higher utility levels. If one curve lies
above another, it means the combinations on the higher curve are more
desirable. For instance, having 4 apples and 5 bananas is better than
having 2 apples and 3 bananas.

Indifference Curves Do Not Intersect

Non-intersecting curves ensure consistency in consumer preferences. If two
curves intersected, it would imply contradictory preferences, which cannot
happen under rational behavior.

Non-Thick Curves
Thin curves maintain the clarity of representing a single level of utility. If a
curve were thick, it would suggest that a range of utility levels applies to a
single combination of goods, which contradicts the principle of unique utility
levels for specific combinations.

Conclusion
Indifference curves are a vital tool in microeconomics for analyzing
consumer preferences and behavior. They depict how consumers make
trade-offs between two goods to maintain the same level of satisfaction. By
understanding the properties of indifference curves—such as their
downward slope, convexity, representation of higher utility levels, and non-
intersection—economists can gain insights into the choices consumers
make and how these choices affect demand in the market. These curves,
combined with budget constraints, provide a comprehensive framework for
analyzing and predicting consumer behavior, aiding in the development of
economic theories and policies.

Q.4 (a) What is meant by point elasticity and arc-elasticity? Explain

with help of diagrams and formulas.
ANSWER :
Point Elasticity and Arc Elasticity
Elasticity measures the responsiveness of one variable to changes in
another variable. In economics, it often refers to how the quantity
demanded or supplied of a good respond to changes in price. Two primary
types of elasticity are point elasticity and arc elasticity.

Point Elasticity
Point elasticity measures the responsiveness of quantity demanded or
supplied to a small, infinitesimal change in price at a specific point on the
demand or supply curve. It is used when the change in price is very small.

Formula for Point Elasticity

The formula for point price elasticity of demand is:
(b) Given the supply and demand equation:
Qs = 50 + 4p
Qd = 200 − 2p
Estimate
(I) Equilibrium price and quantity
(ii) Elasticities of demand and supply at equilibrium position.

ANSWER :
1. Equilibrium price and quantity
Q.5 Write a note on the following:
a) Price elasticity of demand.
b) Demand curve in case of inferior goods.
c) Income effect of a price change.
d) Equilibrium of a consumer and money.
ANSWER :

a) Price Elasticity of Demand:

Price elasticity of demand (PED) measures how responsive the quantity
demanded of a good is to a change in its price. It's calculated as the
percentage change in quantity demanded divided by the percentage
change in price (PED = (%Change in Quantity Demanded) / (%Change in
Price)). Here's a breakdown of interpretations:
PED > 1 (Elastic Demand): A large change in quantity demanded for a
small price change. Consumers are very responsive to price changes.
PED = 1 (Unit Elastic Demand): A proportional change in quantity
demanded to a price change.
0 < PED < 1 (Inelastic Demand): A smaller change in quantity demanded
for a given price change. Consumers are less responsive to price changes.
PED = 0 (Perfectly Inelastic Demand): No change in quantity demanded
regardless of price changes. (e.g., insulin for a diabetic)
PED = -∞ (Perfectly Elastic Demand): Infinite change in quantity
demanded for any minimal price change. (This is rare in real
markets)

b) Demand Curve in Case of Inferior Good:

An inferior good is a good for which demand decreases as income rises.
This is the opposite to normal goods where demand increases with income.
The demand curve for an inferior good slope downwards and to the right.
This means as the price goes down (moving down the curve), the quantity
demanded increases, but unlike a normal good, as income rises the entire
curve shifts leftward, indicating a decrease in demand at all price points.

c) Income Effect of a Price Change:

The income effect refers to the change in a consumer's demand for a good
due to a change in their purchasing power caused by a price change. There
are two main cases:
Price Increase: For a normal good, the income effect is negative. A price
increase reduces purchasing power, leading consumers to buy less.
Price Decrease: For a normal good, the income effect is positive. A price
decrease increases purchasing power, allowing consumers to buy more.
However, for inferior goods, the income effect works in the opposite
direction. A price increase might lead to consumers buying more of the
inferior goods (substitution effect) to save money, even though their
purchasing power has decreased (negative income effect).

d) Equilibrium of a Consumer and Money:

A consumer is in equilibrium when they have achieved the optimal

allocation of their limited budget to maximize their satisfaction. This point is
reached where the marginal utility per dollar spent on each good is equal.
Money itself doesn't provide utility, but it allows consumers to acquire goods
that do. Consumers aim to get the most "bang for their buck" by distributing
their money across goods until the last
A dollar spent provides the same level of satisfaction as the last dollar spent
on any other good.

“THE END”