Monday, June 11, 2018

Economics Lecture 1– Class Notes

Economics Lecture 1– Class Notes


Determinants of Supply

1.   Cost of production – if it increases, supply decreases

Shifts in the Supply Curve



If cost of production increases, quantity supplied will reduce

  Supply curve will shift leftwards



If cost of production decreases, quantity supplied will increase

  Supply curve will shift rightwards





2.   Taxes



If taxes increase, supply will reduce, and the supply curve will shift leftwards



  Impact of increase in cost of production and increase in taxes will be the same



After the global financial crisis of 2008, government reduced taxes to boost supply



  This shifted the supply curve rightwards





3.   Goals of Firms



Profit is not always the only goal of the firm



  Goal may be sales maximization or social welfare



o In this case, the supply increases, and the supply curve shifts rightwards

  Supply may also increase due to good rainfall leading to increase in agri supply

                                                                                                  4.   Elasticity of Supply



“Responsiveness of the quantity supplied to the change in price”



If the change is steep => high elasticity



Elasticity (Es) = (% change in quantity supplied) / (% change in price)



   If Es>1 =>  supply is elastic

   If Es<1 =>  supply is inelastic



Determinants of elasticity of supply



Overall determinant is choice – more the choice with the firm, higher the elasticity e.g. Perishable quantities – firm has no option/choice to store; has to sell at any price



Similarly for agricultural commodities – inelastic supply



MARKET EQUILIBRIUM



•    Quantity demanded = quantity supply



Equilibrium point = point of intersection of demand and supply curves



Ideal situation – both buyers and sellers derive maximum utility and satisfaction from this point

•    Markets comprise of two groups – buyers and sellers



o Buyers want lower prices to maximize their satisfaction



o Sellers want higher profits





•    Reducing the price below the equilibrium will lead to shortage

  Price will automatically go up, in the interest of both the groups



•    Increasing the price about the equilibrium will lead to over-supply

  Suppliers will reduce the price in order to sell all the stock





   Consumer’s  equilibrium  is  the  situation  where  a  consumer  spends  his  income  on  various commodities in such a manner that he gets maximum satisfaction



   Producer’s  equilibrium  is  the  situation  where  a  firm  produces  that  level  of  output  which provides it maximum profits



Who fixes the price in the market – buyers, sellers, government or nobody?



  It happens automatically through ‘market mechanism’!



  Also called Price Mechanism or the ‘invisible hand’ (Adam Smith)



  Adam Smith is called the father of Economics (Book – An inquiry into the nature and the causes of the wealth of nations, 1776)



  Wealth of nations is the first book on Economics, separating it from Philosophy



  Though Kautilya’s Arthshashtra dealt with Economics, it was primarily about statecraft







                                                                                               

Impact of change in Demand & Supply



   When supply increases, price decreases (e.g. More supply of agricultural produce in the

mandis)



   When demand increases, price increases (e.g. Price of fruits during Navratra) Why are the prices of agricultural commodities volatile?



  Because of inelasticity of demand & supply

o You don’t start eating more just because price is less!



o Producers anyway have to sell of their agri products at any price (perishable goods) Paradox of poverty of farmers



•    If crops fail, farmers have nothing to sell and the farmers lose income



•    But even when there are bumper crops, their income reduces!

o Farmers lose in both the cases



Why do producers prefer to burn or sink the bumper crops, rather than sell?



  Because if they export all, the supply will increase, price will come down, bringing down overall income



Justification of Minimum Support Price by the government



•    If the govt. doesn’t intervene, both farmers and consumers will lose



•    With govt willing to buy ALL quantity at an attractive price (MSP), the farmers won’t be

incurring losses



o It will reduce the fluctuation in prices, even in the case of overproduction



However, MSP is announced only for important crops (24 in number)



  If govt will announce MSP for all (even potato, tomato etc), it will have to buy unlimited quantity of all these



  Not enough storage for all the crops



  Only those crops which are crucial to food security are supported by MSP Difference between MSP & Procurement Price

  MSP = Guarantee to buy unlimited quantity at this price for selected crops



Procurement Price = Guarantee to buy only limited quantity for distribution in PDS & buffer storage



  MSP = Usually below the market price (though not much below) Procurement Price = At or above the market price



  MSP Objective = Protect the interest of farmers in case of overproduction

Procurement Price Objective = Protect the interest of both, the consumers (through PDS)& farmers



MSP announced before sowing

Procurement Price announced after harvest





                                                                                               



  Central  Govt  announces  both  these  prices  on  the  recommendation  by  Commission  of

Agricultural Costs & Prices (CACP); state govts also consulted



Pricing of Shares



Share market is a form of Capital Markets, which comprises of Primary & Secondary Markets



  Security is the general term for all kinds of financial assets; share is also a security

  Primary Market – First time selling of shares - Initial Public Offer (IPO)



o Sold by firms to investors

  Secondary Market – Existing shares are sold again



o Sold by one investor to another

  Shareholders are owners to the extent of the total value of their shares



o They get proportion of the profits (called dividends) in return



o They can’t sell it back to the company (usually)  – can only transfer it to other investors



  Primary Market – price determined by the company



  Secondary Market – price determined by Demand & Supply equations



o The place where the transactions between buyers & sellers happen is called stock exchange



o Money given to the company in order to invest in long term growth



o Enables people to convert the shares into cash (provides liquidity to the existing securities)



  SEBI regulates both, primary and secondary markets

  In a stock market, shares are auctioned



o Buyers created demand, sellers create supply



Demand curves are constructed on the basis of bids placed by interested buyers



Supply curves are constructed on the basis of the willingness of the sellers to sell at a particular price



Impact of positive news on share price



  Buyers will become optimistic about the company’s prospects



  Demand will increase, shifting the demand curve rightwards



  This increases the price

  But fewer sellers will be there because they will hold on to the shares (good future prospects)



  Supply curve will shift leftwards

  Therefore price will go up



Indices of Stock Exchanges



  Shows   performance   of   the   companies   listed   on   that   stock   exchange   through   a representative group of companies (BSE – Sensex, comprising of 30 stocks; NSE – Nifty, comprising of 50 stocks)

  Market Capitalization = Number of shares x Share Price







                                                                                               

  Demand & Supply depends on the perception of the investors regarding future performance of the company



o Perception  of  the  future  depends  on  –



1)  Past  &  current  performance  of  the company,



2) Govt Policy (liberal policy will help the company’s performance),



3) Foreign Investment (if its high, the share price will go up),



4) Global factors (e.g. 2008 Financial Crisis caused a global crash of stock markets),



5) Macro EconomicFactors (GDP, Inflation) and 6) Political Factors



If the Sensex goes up, can we say with certainty that the economic performance of the country will be good in the future?



  We cannot be SURE, but chances are high that the overall performance will be good

  Stock markets are based on perception and sentiments – they are right most of the time, but not all the time!

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