Dr.

Ganga Devi T R
HUT 300
Industrial Economics &
Foreign Trade
MODULE 1 (BASIC CONCEPTS AND
DEMAND AND SUPPLY ANALYSIS)
 Scarcity and choice - Basic economic problems- PPC –
Firms and its objectives – types of firms – Utility – Law
of diminishing marginal utility – Demand and its

Dr. Ganga Devi T R

determinants – law of demand – elasticity of demand –
measurement of elasticity and its applications – Supply,
law of supply and determinants of supply – Equilibrium
– Changes in demand and supply and its effects –
Consumer surplus and producer surplus (Concepts) –
Taxation and deadweight loss.
 [CO1:Understand the problem of scarcity of

resources and consumer behaviour, and to evaluate

the impact of government policies on the general
economic welfare.]
INTRODUCTION
 The word economics is derived from a Greek
word “oikonomia” meaning household

Dr. Ganga Devi T R

management. Earlier days Greeks used
economics for managing the affairs of their city
state, hence the name Political economy. Then
it transformed in to a full fledged form as
economics of today with the publication of the
famous book “ An inquiry in to the nature and
causes of wealth of nations by Adam smith the
father of economics in the year 1776 .
DEFINITION
 As a Science of wealth(Adam Smith)
Study of human behaviour in relation to wealth.

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 As welfare of the people(Marshall)

Study of human welfare

 Science of choice(Robinson)

Human beings have unlimited wants but the

means to satisfy the wants are scarce , hence we
make a choice.
SCOPE OF ECONOMICS
 Two branches of economics are : micro
economics & macro economics

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 Micro economics deals with the study of

the behaviour of individual units/ small

units. Eg. Price theory
 Macro economics deals with the study of

aggregates or whole of items. Eg. National

income.
 MODULE-1
 Industrial
economics is that branch of economics
which deals with the economic problems of

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firms and industries, and their relationship with
society.
 There
are two broad elements of industrial
economics1. Descriptive element and 2.
Analytical element
DESCRIPTIVE ELEMENT-

It provides information to the industrialist or

businessman regarding industrial

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organizations, natural resources, factors of
production, industrial climate, trade and
commercial policies of the government
and the degree of competition in the
business in which he operates.
ANALYTICAL ELEMENT-

o Analytical element is concerned with the

business policy and decision making such

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as market analysis, pricing, choice of
techniques, location of plant, investment
planning, product diversification etc.
CONCEPTS
 Scarcity : Absence of productive resources.
 Choice: Human beings have unlimited number of wants but the
means to satisfy wants are scarce. Hence arise the problem of

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choice- priority.
 What are the central problems of an economy?
 Central problems arise from scarcity or shortages of resources.
 What to produce & what in quanties: whether capital goods or
consumer goods to be produced and in what quantities.
 How to produce : The choice of technology- whether capital
intensive technology or labour intensive technology is used for
producing output.
 For whom to produce: Distribution of commodities- PDS (socialist)

or price system(capitalist economy)
PRODUCTION POSSIBILITY
CURVE(PPC)
 Production possibility curve is a graphical
representation of combination of two

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quantities of commodities that can be
produced with a given level of technology
and a given amount of resources . Let us
suppose that an economy can produce two
commodities, wheat and cloth. Also suppose
that the productive resources are being fully
utilized and there is no change in technology.
PPC

Dr. Ganga Devi T R

Fuller utilisation of
resources
 PPC
 PPC slopes downward . PPC is concave to the
origin . Slope of PPC is defined as the
quantity of good Y given up in exchange for

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additional unit of good X. Point A shows full
concentration on production of wheat and E
shows on Cloth. Any points on the curve
shows combination of quantities of two
commodities , A point inside the curve shows
underutilization of resources and a point
outside the curve shows unattainable point.
Point E shows fuller utilization of resources.
SHIFTS IN PRODUCTION POSSIBILITY CURVE

 With discovery of new stock of resources or

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an advancement in technology, the
productive capacity of an economy
increases. PPC will shift to the right when: (a)
new stock of resources is discovered. (b)
There is advancement in technology. PPC will
shift to the left when a) Resources are
destroyed because of national calamity like
earthquake, fire, war, etc. (b) There is use of
outdated technology.
 Dr. Ganga Devi T R
SHIFT IN PPC
OPPORTUNITY COST& TRADE OFF

 It is defined as the cost for next best

alternative forgone. Moving from Point A to B
will lead to an increase in services (21-27).
But, the opportunity cost is that output of

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goods falls from 22 to 18.
 Therefore, the opportunity cost of increasing

consumption of services is the 4 goods

foregone
TRADE OFF
 Due to the scarcity of resources, human beings
are forced to make a choice. Choice involves a

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trade off between cost and benefits. It means
sacrificing something to obtain some other
things . Opportunity cost is the cost involved in
trade off
 UTILITY

The term utility refers to the want

satisfying power of a commodity. Utility is
essentially a subjective concept depending

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upon the intensity of consumer’s desire or
want for that commodity at that time. Thus,
utility differs from person to person, place to
place and time to time. Utility is a cardinal
concept i.e., it can be measured, the unit of
measurement of utility is utils.
TU & MU
Total Utility (TU)
It is the sum of all the utilities that a consumer
derives from the consumption of a certain amount

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of a commodity.
TUn = U1 + U2 +……+ Un
Marginal Utility (MU)
It is addition to the total utility as consumption is
increased by one more unit of the commodity.
Mathematically, it is calculated as:

MUn= TUn- TUn-1

Or Mun=
CALCULATE MU
No. of items TU MU
1 10 10
2 18 8

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3 24 6
4 28 4
5 30 2
6 30 0
7 28 -2
LAW OF DIMINISHING MARGINAL UTILITY (LDMU) / THEORY OF CONSUMER BEHAVIOUR

 Theory has been developed by Prof. Alfred Marshall. When a

consumer consumes more and more units of a same good, the
additional utility (MU) from each additional units goes on

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decreasing
 Assumptions of the Theory
 Consumer is Rational
 Commodities consumed are identical
 No time gap between the consumption of goods
 No change in taste and preferences
 Income remains constant
 No change in price of the commodity
 Application
 Basis for all other economic laws
STATEMENT
 When a consumer consumes more and more units of a same good,
the additional utility (MU) from each additional units goes on
decreasing. This can be explained with the help of a schedule

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No. of TU MU
Oranges
consumed
10 10
1
16 6
2
20 4
3
22 2
4
22 0
5
20 -2
6
17 -3
7
 Dr. Ganga Devi T R
DIAGRAM
 OBSERVATIONS:
There are three returns

STAGE 1
Increasing Returns
TU, MU increases at an increasing rate

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Stage 2
Diminishing Returns
MU starts falling
TU increases at a diminishing rate.
At the end of second stage, MU reaches zero and TU reaches at its
maximum (Point M)
Stage 3
Negative Returns
After point M, MU becomes negative. TU starts falling.
Limitations
Most of the assumptions are unrealistic & hence they are the limitations of
the law
FIRMS- TYPES
 A firm is a commercial organization operating for profit.
 OBJECTIVES OF FIRMS

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 • 1. Profit maximization • 2. Sales maximization • 3.

Maximum growth • 4. Maximum output • 5. Utility

maximization
 Firms can be broadly classified as : • A) Private sector firms •

B) Public sector firms • C) Joint sector firms

Private Sector Firms
When a firm is solely owned and operated by private
individuals or institutions , it will come under private sector.
The following are the important type of organisation come
under private sector
 PRIVATE SECTOR FIRMS
A) Sole Proprietorship refers to a business enterprise
exclusively owned, managed and controlled by a single
person with all authority, responsibility and risk. (Single

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Ownership ) eg. Printing press
Merits
• Less Legal Formalities • No Sharing of Profit and Loss •
Easy to Form and Wind Up • Quick Decision and Prompt
Action
Demerits •
Limited Resources • Lack of Continuity• Unlimited
Liability • Not Suitable for Large Scale Operation
•Limited Managerial Expertise
PRIVATE SECTOR FIRMS
 B) Partnership
 • ‘Partnership’ is an association of two or more persons who pool their
financial and managerial resources and agree to carry on a business, and
share its profit. Eg. Law firms

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 • • Merits
 • Easy to Form
 • Flexibility in Operation
 • Availability of Larger Resources
 • Better Decision
 • Sharing of Risk
 • Active Participation
 • Benefits of Specialization •
 • Demerits
 • Unlimited Liability • Non transferability of share • Limited capital •
Possibility of conflicts
 PRIVATE SECTOR FIRMS
 C) Cooperative Society
 • It is a voluntary association of persons who work together to promote their
economic interest. It works on the principle of self-help and mutual help.
The primary objective is to provide support to the members. People come

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forward as a group, pool their individual resources, utilize them in the best
possible manner and derive some common benefits out of it. Eg. Amul,
Indian Coffee House Consumer cooperative societies, producers cooperative
societies are two main types of cooperative societies.
 • Merits
 • Voluntary association • Open membership • Democratic set up • Service
motive • Distribution of surplus
 • • Demerits • Limited Capital • Lack of Managerial Expertise • Dependence
on Govt
PRIVATE SECTOR FIRMS
 D) Joint stock company(Limited Company)
• A joint stock company is an organisation which is

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owned jointly by all its shareholders. It is established
under the Companies Act 1956. There are two types
of joint stock companies public limited & private
limited. In a Private Ltd. Company(Max. 50
members) the share is transferable among friends
and relatives, and if the company is public(no limit
to shareholders), then its shares are marketed on
registered stock exchanges. Eg. SBI(Public),
Malabar gold(pvt)
•
JOINT STOCK COMPANY

 Merits• Separate legal existence: It is created by law

 • Perpetual existence: Not affected by the Death, insolvency or change of members

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 • Limited Liability: The liability of every member is limited to the nominal value of
the shares bought by him.
 • Transferability of shares: Shares of public company are easily transferable.
 • Common seal: It is the official signature of the company and it is affixed on all
important documents of company.
 • Separation of ownership and control: Management of company is in the hands of
elected representatives of shareholders known as board of directors

 Limitations:
 • Legal formalities: The procedure of formation of company requires lot of legal
formalities to be fulfilled. • Lack of secrecy: It is very difficult to maintain secrecy in
case of public company, as company is required to publish and file its annual
accounts and reports. • Delay in decision making: Red tapism and bureaucracy do not
permit quick decisions and prompt actions. There is little scope for personal initiative.
(II) PUBLIC SECTOR
 • Government is the investor or owner of a business.
Generally public utilities like Public roads, education,
health etc comes under public sector.

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 • Merits • Welfare of people • Balanced economic

growth • Employment generation

 • Demerits • Evils of bureaucracy- corruption, delayed

decision etc • Extravagance & inefficiency- (Poor

management)
III) JOINT SECTOR
 Joint sector consists of business undertakings wherein the
ownership, control and management are shared jointly by the
Government, the private entrepreneurs and the public at

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large(51% share govt & 49% private).CIAL,Cochin Refinery
etc
 The main characteristics of joint sector enterprises are as

follows: • Mixed Ownership • Combined Management: • Share

Capital
 • Merits

 • Better resources • Share risk • New insight and expertise •

Opportunities for expansion & growth • Demerits • Vague

objective • Great imbalance (asset, investment etc) • Clash of
cultures • Limited opportunities • Lack of clear communication
THEORY OF DEMAND
 It is the desire for a commodity backed by purchasing power. ie,
both ability and willingness to pay.
 Factors affecting Demand
 Price: Inverse relation between demand and price.

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 Income: Direct relation- Higher income higher demand
 Taste & preference :Direct relation between demand and likes
and dislikes.
 Population: Directly related
 Price of substitutes: an increase in price of a substitute
increase the demand for other
 Price of Complementary goods: an increase in price of one
decrease the demand for the other.
 Conditions of trade: During boom, demand is more and during
recession demand is less.
 Government policy- In favour demand is more, against
demand is less.
 Season: Direct relation
 Expectation of a change in price and income
LAW OF DEMAND

 DX = f (PX, PZ,Y, T, E,..)

 DX = Demand for commodity X
 PX = Price of commodity X

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 PZ = Prices of related goods
 Y = Income of consumer
 T = Taste and preferences of consumer
 E = Future expectation

 Law of Demand

 Other things remaining the same there is an inverse relation

between price and demand. ie, higher the price, lower the
demand and lower the price, higher will be the demand.
THE DEMAND SCHEDULE AND
THE DEMAND CURVE

 Demand Schedule It is a tabular

presentation showing the different quantities
of a good that buyers of the good are willing

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to buy at different prices during a given
period of time.
 Demand Curve is the graphical

representation of the demand function is

called a demand curve.

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DEMAND CURVE
MARKET DEMAND SCHEDULE &
CURVE
 Summation of individual demand gives
market demand.

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

Pri DD( Y Z Mark

ce X) et DD
1 10 1 10 30
0 Z Market
Y
2 9 7 8 24 X DD

3 6 5 6 17

4 1 1 1 3
WHY DEMAND CURVE SLOPES
DOWNWARD
 A) Price effect: When price increase demand
falls & when price falls, demand increases.

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 B) Income effect: As income increases

demand also increases.

 C) Substitution effect: When the price one

increases the demand for is substitute

increases
 D ) Law of diminishing marginal utility: People

prefer more of such units only if it is available

at a low price.
CHANGES IN DEMAND

 2 types of changes in demand

 Change in demand due to change in price –

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Expansion and Contraction of Demand –
Movement along demand curve
 Change in demand due to factors other than

price – Increase and Decrease in demand

 – Shift in demand curve

 Extension of Demand or Contraction of

Demand.
 Expansion or Extension of demand refers to rise

in demand due to fall in the price of the good.

Contraction of demand refers to fall in demand
due to rise in the price of the good
EXTENSION OF DEMAND OR
CONTRACTION OF DEMAND

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SHIFT IN DEMAND CURVE

Shift: Change in Demand

A shift of the demand

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curve is caused by changes
in factors other than price
of the good. A change in
factors causes shift of the
demand curve. It is also
called change in demand.
In a shift, a new demand
curve is drawn. A shift of
the demand curve can
bring about: (a) Increase in
demand, or (b) Decrease
in demand.
EXCEPTIONS TO LAW OF DEMAND
 Giffen Paradox: Giffen goods are inferior goods. In the
case of Giffen goods DD is strengthened with a rise in
price & weakened with a fall in price.

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 Veblen effect:Veblen goods are high priced
commodities. In the case of veblen commodities high
price determines demand.
 Necessaries of life: Necessity determines demand
 Bandwagon effect: A person purchase a new product
because every one in his social group has purchased
it.
 Sheer ignorance : People purchase more at a high
price
 Expectation of a rise in pricein future: Consumers
purchase more at high price
 Speculative goods: Bonds & shares
ELASTICITY OF DEMAND
 Change in demand as a result of change in
price (price elasticity), income (income
elasticity) and change in price of other goods

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(cross elasticity of demand).
 PRICE ELASTICITY OF DEMAND(ep)

 ep= ∆Q/ ∆P* P/Q ie, percentage change in

demand as a result of percentage change in

price.
 Q= change in demand; P= change in price;

P= initial price; Q= initial demand

 FIVE DEGREES OF PRICE
ELASTICITY
Perfectly elastic: ep=∞ Unit elastic: ep=1
 Perfectly inelastic: ep=0 Inelastic= ep‹1,

Elastic= ep›1

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 ep=∞ ep=
1

ep=0
ep‹
1 ep›1
METHODS OF CALCULATION
1. Percentage method: ep=∆Q/∆P* P/Q
2. Expenditure method: TE=Number of

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units consumed*price
 a) If total expenditure increase with a fall in

price and decrease with a rise in price ep›1

 If total expenditure remains same

irrespective of a change in price ep=1

 If total expenditure decreases with a fall in

price & increase with an increase in price ,

then ep‹1
ELASTICITY ON A STRAIGHT LINE DEMAND
CURVE

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FACTORS AFFECTING PRICE
ELASTICITY
i) Nature of the commodity
Luxury items: Elastic Demand

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Necessaries: Inelastic Demand
ii) Number of uses: More uses goods – elastic
demand
iii) Time: Long run: elastic ; Short run: inelastic
demand
iv) Income Spend: Larger income spend –
more elastic demand
v)Availability of substitute: more elastic
demand
USES
 Useful for govt to impose tax on inelastic
demanded goods to increase income

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 Useful for producers to fix price for

commodity- a high price for inelastic

demanded goods
 Useful to the policy makers:

 Useful for trade union in bargaining wages

INCOME ELASTICITY & CROSS
ELASTICITY
 Income elasticity of demand is the
percentage change in quantity demanded
divided by the percentage change in income.

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 ei= ∆Q/ ∆I* I/Q

 Cross Elasticity of Demand

ec= ∆Qx/∆PY* PY/QX

ec= percentage change in demand for X as a
result of a percentage change in price of Y
 4.50 5
 60 70
 10/.5*4.5/60
INCOME ELASTICITY
 At an initial advertisement expenditure of
Rs.50000, the demand for a firm’s product is
80,000 units. When the advertisement

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budget is increased to Rs.60000, the sales
value increased to 90,000 units, Calculate
advertisement elasticity of demand.
 Suppose a consumer purchases 10 units of a

commodity when his monthly income is Rs.

20000. When his monthly income increases
to 25000 he purchases 12 units of it.
Estimate income elasticity of demand and
interpret the result
CROSS ELASTICITY
 A consumer purchases 50 units of commodity X
when its price is Rs.8/ per unit. In the next month
he purchased 60 units at the same price. This

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was due to an increase in the price of another
commodity Y from Rs. 10 to 12. Calculate cross
elasticity of demand and interpret the result.
 Define cross elasticity of demand. A tea
manufacturing company was able to sell 8000 kg
of tea when the price of coffee was Rs.70 per kg.
Later they were able to sell 9000 kg when the
price of coffee became Rs.80 per kg. Calculate
the cross elasticity of demand for tea. Are the
two commodities substitutes or complements?
Give reason.
THEORY OF SUPPLY

 Supply means quantity offered for sale in the market at a

particular price

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The important factors affecting supply are :
Price: Directly related
Goal of the firm: Profit, sales, max market etc
Price of inputs (cost): minimum cot maximum profit
Price of other commodities: If the price of other goods are
high then production and supply of them become
attractive
State of technology: directly related
LAW OF SUPPLY
 Law of Supply states that there is a direct
relation between price and supply of
commodities keeping other factors constant.

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
Price 1 2 3 4 5 6

Suppl 5 10 15 20 25 30
y
SUPPLY CURVE
 Supply curve is an upward sloping one
showing the positive relation between price
S
and supply.

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EXPANSION AND CONTRACTION IN
SUPPLY
 Increase in price leads to increase in
supply(expansion) & decrease in price leads
to decrease in supply (contraction)

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P1 S

P
P2

Q Q1
Q2
INCREASE AND DECREASE IN SUPPLY

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Original
ELASTICITY OF SUPPLY
 es= percentage change in supply as a result
of percentage change in price.

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es=0 es=1
es=∞

es‹1
es›1
EQUILIBRIUM PRICE
 Price at which demand equal to supply is
the equilibrium price.

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Price 1 2 3 4 5

Demand 500 400 300 200 100

Supply 100 200 300 400 500

S
P

Q
 EFFECTS OF CHANGES IN DEMAND AND SUPPLY ON
EQUILIBRIUM PRICE

Increase in Demand
When demand of a commodity increases, while

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supply remains constant, equilibrium price
will increase. At the same time, quantity sold
and purchased will also increase.
DECREASE IN DEMAND
 Decrease in demand is given by leftward shift
of DD curve to D1 D1 . This creates excess
supply of AE units at price OP.

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INCREASE IN SUPPLY
 If the supply of a commodity increases, while
demand remains constant, equilibrium price
will fall.

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DECREASE IN SUPPLY
 If the supply of a commodity decreases,
while demand remains constant, equilibrium
price will increase. There will be excess

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demand of EB units at price OP.
CONSUMER SURPLUS
 Consumer surplus is defined as the difference between
the consumers' willingness to pay for a commodity and
the actual price paid by them. A surplus occurs when the

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consumer’s willingness to pay for a product is greater
than its market price. Consumer surplus always increases
as the price of a good falls and decreases as the price of a
good rises. P

P1 Consumer Surplus
PRODUCER SURPLUS
 Producer surplus is defined as the
difference between the amount the producer
is willing to supply goods for and the actual

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amount received by him when he makes the
trade.
PRODUCERS & CONSUMERS SURPLUS
The point where the
demand and supply
meet is the
equilibrium price. The

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area above the supply
level and below the
equilibrium price is
called product surplus
(PS), and the area
below the demand
level and above the
equilibrium price is
the consumer surplus
(CS) Social surplus=
Consumer surplus+
producers surplus.
TAXATION & DEAD WEIGHT LOSS
 Taxes are mandatory contributions levied on
individuals or corporations by a government entity
—whether local, regional, or national . The term

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deadweight loss of taxation refers to the measurement
of loss caused by the imposition of a new tax.
 In the absence of tax market is in equilibrium when PE is
the price and QE is the quantity is traded in the market. In
this situation consumer surplus is A+B+C and producer
surplus is D+E+F. Here the social surplus equals
A+B+C+D+E+F. When tax is imposed the price that
consumers have to pay increases to PC and quantity
traded decreases to QT and price received by sellers
decreases to PS. Because of the tax consumer surplus
decreases to A and producer surplus decreases to F. Tax
revenue is B+D. After the tax total surplus is A+B+D+F.
There is a loss in social surplus equivalent to C+E, this is
the dead weight loss.
Dr. Ganga Devi T R
QUESTIONS
 Prepare a utility schedule showing units of consumption,
total utility and marginal utility, and explain the law of
diminishing marginal utility. Point out any three

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limitations of the law
 Define Iso quant curve. Explain the properties of

Isoquant curve.
 The total sales of a manufacturing firm are Rs20000

ItsvariablecostsareRs8000whileitsfixedcostsareRs6000for
that year. Findthebreakeven point of thisfirm.
 Bep= f/p/v

 p/v= c/s=s-v/s=20000-8000=12000/20000=0.6

 6000/.6=10000
QUESTIONS
 What should be the percentage change in
price of a product if the sale is to be
increased by 20 percent and its price

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elasticity of demand is 2?
 Ep=[Link]/per change in

price=2=d/20= 10%
 What are the central problems of an

economy?
 Scarcity of resources-

 Explain underutilization of resources, fuller

utilization and unattainable point with the

help of a ProductionPossibilityCurve.
 PRICE ELASTICITY
 1. What should be the percentage change in price of a product if the
sale is to be increased by 20 percent and its price elasticity of
demand is 2?
Ep=[Link]/per change in price=2=d/20= 10%

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2. A mobile manufacturing company is able to sell . 10000 mobile
phones when the price of a mobile phone is 4500. When they decrease
the price to 4000 sales increases to 12000 units. What is the price
elasticity of demand for the mobile phones?
b) Suppose the company wants to increase the sales by 50% , to what
percentage its price is to be reduced
3. The demand function of a commodity is given as Dx= 10-2p. What
is the elasticity of demand of the product when price of the product is
Rs. 4
4. Suppose a company produces electric bulbs and its demand curve is
given as P=500-0.1Q. If the company wants to sell 4500 bulbs what
price would be charged by the company? At that price what will be the
price elasticity of demand?(Q= 5000-10p)
4500=5000-10p