5 Interesting Concepts of Economics in Real Life!

Demand Curve

It is the graphical representation showing the degree of response to demand & price of a product. It varies from person to person as people (Buyers) respond to an incentive of lower price by buying more and vice versa.

Law of Demand Curve:

It shows an “inverse relationship” exists between the price of a good and the quantity of a good which buyers are willing to purchase in a defined time period (while assuming all other things remain constant). Basically, when price falls, demand rises and vice versa. It is depicted by plotting Price on Y-axis and Quantity demanded on the X-axis of the graph.

Examples:

1. I still remember the time during Durga Puja. All relatives flock together at my place. This results in cooking too many and too much food items for which everyone keeps flooding the vegetable market now and then. As a result, the demand increases for vegetables/chicken/fish/mutton as a result, the price decreases.

2. My friend goes to have Beer at Easy Tiger, M.G Road every weekend and he gets 5 beers for Rs. 100 each. One Friday, he noticed that the Price went ↑ to Rs. 150 each bottle. Then he started ordering only 3 bottles. After a couple of months, the price of the beer went ↑ further to Rs. 200, now my friend started having only one bottle of beer. A further increase might make my friend shift to some other drink (if any substitute is available) buying 0 Beers.

The above example shows that the Demand Curve is always Downward Sloping. The more expensive a product gets (price↑) the less of it is demanded (quantity↓); the cheaper it is (price↓) the more of it is demanded by buyers (quantity↑).

Supply Curve

It is the graphical representation of the relationship between the price and the quantity of a product that a seller is willing and able to supply at the given period of time.

A “direct” relationship exists between the price and the quantity of a product that a supplier is willing and able to supply at the given period of time (while assuming all other things remain constant). Basically, when price increases, demand increases and vice-versa. This is referred to as the Law of Supply.

Suppliers are induced to produce more of a product when the prices go ↑ that they can generate more revenue.

Examples:

1. When a city becomes an industry hub, more & more people move to that city for opportunities. And the price of office spaces or residential spaces goes ↑ as the demand goes ↑.

2. My friend in college gave me a proposal that he will pay me Rs. 200 for each assignment that I would solve for him. I initially decided to do two assignments a month, earning Rs. 400. Now, he later said he will increase the pay by Rs. 300 each time I solve one of his assignments. Now that literally induced me to solve his assignments more than twice a month and make a good amount of cash out of it!

The above example shows an Upward Sloping Supply Curve. As the price goes ↑ the more of it is supplied (quantity↑); the cheaper it is (price↓) the less of it is supplied (quantity↓).

Price Elasticity of Demand

Price Elasticity is the measure of the percentage change in the quantity demanded of a particular good with respect to a percentage change in its price.

Formula for calculating PED: (%change in quantity demanded)/(% change in price)

Examples:

1. My uncle recently planned to buy Maruti Suzuki Baleno which costs around 7 Lakh rupees. But suddenly, the price of the car surged by 30% and therefore, my uncle decided not to buy it and switch to some other car.

Say, the bookings experienced a fall by 20%.

Price elasticity of the car = -20%/30% = -0.67

Thus we can say that for every percentage that the car price increases, the quantity of the car purchased/demanded decreases by 0.67 percentage. So now you might shift to another car that fits your budget within 7 Lakh.

2. Once I had a birthday party at my place. And I needed to buy 100 packets of potato Chips each costing Rs.10. Now I went to the mall and found out that the price of Chips has reduced from Rs. 10 to Rs. 9. So then, I bought 120 packets of chips given the low prices.

Therefore, the price elasticity of chips = dP/dQ * P/Q

= Change in Qantity Demanded/Change in Price * Initial Price/Initial Quantity Demanded

=20/1 * 10/100 = 2%

Thus we can say that the quantity demanded of Chips increases by 2% due to a fall in price by Rs.1.

Consumer & Producer Surplus

Consumer Surplus: refers to the difference between the price consumer is willing to pay & the price consumer actually pays.

Example:

Two months back I went to New Market at Esplanade in Kolkata to shop accessories before leaving for Bangalore. New Market is popular for cheap accessories & clothing. After struggling with several choices and vendors, I finally liked two earrings, which costs around Rs. 180. Now please understand the psychology of shopping here! The shopkeeper quoted me a price of Rs. 180 for both the earrings. Now, I have a budget of Rs. 200 to spend on two earrings, I am still inclined to lessen it further. So I quote the salesperson - Rs. 150 as the cost I am willing to pay for the earrings. Consequently, the salesperson and I got into some negotiation and we finally agreed to settle at Rs. 160.

So, my Consumer Surplus for the purchase of Saree amounts to Rs. (200-160) i.e. Rs. 40.

But, what I conveniently missed there was that a seller would not sell his product for a loss (in a general scenario). So, if the seller agreed to sell the earrings for Rs. 160 instead of its quoted price (Rs. 180) that must mean the Seller is gaining profits in the trade anyways. This concept is formally called as Producer Surplus.

Producer Surplus: refers to the difference between the price producer is willing to sell and the price producer actually sells for.

So, in my case, say the Producer was willing to sell the product at Rs. 140 initially but then he realized that consumers in the market are willing to purchase it for Rs. 180. So he quotes his earrings for Rs. 180. Now, even after bargaining, he received Rs. 160 from me, which is still more than what he was willing to sell it for. Hence his Producer surplus is Rs. (160-140) i.e. Rs 20.

Law of Diminishing Marginal Utility

The Law of Diminishing Marginal Utility suggests that as you consume/obtain more of a product, the marginal utility that the person derives from consuming each additional unit of that product declines.

Examples:

1. Sometimes, I forget drinking water the whole day while working and that makes me immensely thirsty. I practically rush home to drink a glass of water. To my notice, the first glass of water always gives me immense satisfaction. Now if drink another glass of water, this does not give me the same amount of satisfaction as the earlier glass had given me. This is because of the law of diminishing marginal utility. 

2. I really love eating Pizza. But I cannot eat more than three slices. The first slice of the Pizza gives the highest satisfaction/utility. Thereafter,  the satisfaction I derive from Pizza keeps decreasing, and ultimately I reach my saturation point after the third slice.

Credits:

https://www.quora.com/

Seeing The World Through Economics Viewpoint

Understanding 5 Concepts of Economics Via Real Life Examples

Supply and Demand

One of the most important and basic fundamentals of economics. The relationship between supply and demand results in many decisions like a price of an item. This principle is used to understand and learn about allocating and generating resources in the most practical and productive way.
Example for supply:-

• Banana fruits are extremely ample through the span of the year and there is more banana than individuals would ordinarily purchase. To dispose of the overabundance supply, agriculturists need to bring down the cost of banana fruit and in this way, the cost is driven for everybody.
• During dry spell/draught which takes place in India every year. A larger number of individuals need the particular crop. Let’s consider for Maharashtra i.e. soybean. The cost of soybean increments significantly.

Example for demand:-

• Michael Jackson died in 2009. According to Forbes, the artist still comes under top-earning dead celebrities. Interest for his music has been incremented considerably because of rarity and exceptional. Since the demand for his music is increased hence Sony still produces his unreleased songs.
• When the availability of OLAcab in a certain place is low but the number of reservation is more from that place then demand goes up and the price for cab hikes.

The Law of Diminishing Return

The total output initially increases with the increase in variable input like labour, material, inputs and energy at a given time but after some duration, it starts decreasing.

Example:-

• Your first chomp of a dessert may taste delicious. Consequent chomps may taste more pleasant. Be that as it may, subsequent to eating a specific sum, the dessert doesn’t taste as delicious as it was before. Keep eating and soon you fell rebuffed by it!
• If you amend and optimize any work you get diminishing gains. Invest more energy and you get negative returns. Over-tweaking diminishes as opposed to enhancing the work.

Economic Efficiency

Sir Peter F Drucker (1901-2005) defined Economic efficiency as doing things right. Getting the maximum output with minimum input by taking into consideration the present state and focus on the process & work with consistency.

Example:-

Efficiency= Output/Input

SHOP 1 is more efficient i.e. least amount of wastage

Production Possibility Curve

Production Possibility Curve is the conceivable trade-off of creating blends of goods with consistent innovation and assets per unit time.

Example:-

• Imagine an electronic company. Let’s put the principle of Bread Vs Tablet. To produce 50 tablets, we give up 500 pieces of bread. Production of each tablet consumes a certain amount of bread. We have limited resources and we need to use that effectively to obtain a maximum quality. The number of bread is used on workers so the quantity of bread decreases and the quantity of tablet increases exactly an inverse relationship. The graph curve indicates the best production possible for two commodities. If the workforce is mediocre then instead of the curve we will get straight line i.e. first end line at 500 bread and another last end of a line at 50 tablets. Using highly skilled workforce makes the output more efficient and result in the formation of a curve instead of a straight line.

• Suppose I want to feature sets of T-shirt as a giveaway on my YouTube channel. This given chart shows my production possibilities. It shows me the different combinations of T-shirts and videos I can make using all of my resources. It’s showing scarcity, trade-offs, opportunity costs and efficiency. It shows the idea of scarcity because videos on T-shirts cannot be produced anywhere beyond the curve. The graph shows trade-offs because if I decided to start producing videos, I have to give up T-shirts. Opportunity cost is shown by a specific number of T-shirts I give up when I make a video. If I use my resource as fullest the graph will form a curve and this is the idea of the law of increasing opportunity cost. Remember: a straight line production possibilities shows constant opportunity cost and a bowed-out curve shows the idea of increasing opportunity cost.

Externalities

Externalities are defined as the 3^rd party effects that arise from the production and consumption of a good for which no compensation is paid. Externalities can be either positive or negative.

Example:-

Negative Externality

• Negative externality in production. If your house is next to a factory there will be air, water and land pollution.

Image Source Wikipedia

• Negative externality in consumption. Every day when people use their cars they incur private costs like the cost of petrol, wear & tear and so on. Third party effects would be non-user suffering from car exhaust congestion and noise.

Image Source Wikipedia

Positive Externality

• Positive externality in production. Wadhwani foundation tie-up with IBA Bangalore & IBA student's have access to all the entrepreneurship courses, so the benefits of course, extend beyond the firm that finances it.

Image Source Wikipedia

• Positive externality in consumption. Our education provides a no. of benefits. Student receives the private benefits of higher potential income in future. External benefits include an increase in occupation mobility of the labor force which should help to reduce welfare spending.

Image Source Wikipedia

Economics is everywhere, and understanding economics can help you make better decisions and lead a happier life. 
~Tyler Cowen

Incentives and its Impulse of Reward and Menace

This short story tells the tale of a little incentive that was so powerful but came out to be super response propensity. There was an IT security provider name 'Elixir Bytes' whose dev income were at risk. The company developed security software for consumers, servers and cloud computing systems but sparklines of the analytical data show the downtrend in the profit of a company due to the quality of service they provided to customers. The director worked together with directors of security firm services, friends in quality and decision support to establish quality incentive based on core measures of performance.

The incentives involved weekly & monthly patches and bug improvements within 6 hours of report. Special incentives during a pernicious virus outbreak. The developer's group historically succeeded on core measures. The value of company quadruple withing 36 months. Now the birth of super-response propensity takes place. To control a virus infestation across global Elixir's board members passed a bonus package: For every virus who provides an anti-security solution to market, the dev will receive a reward. Yes, many viruses were cleaned & fixed but many were also generated to gain incentives. Employees who did their best and still didn't qualified for incentive became resentful and started giving up less output on projects.

The end of this story is that through the power of this little incentive company drastically changed the dice towards its side but it also turns out to be hollow inside. Incentives should be established on a timely basis with appropriate relevance, measurable by imbibing the work inside the industry under the direct control & action of the manager's full awareness.

Incentives are what motivates you to behave and achieve in a certain way, while preferences are your needs, wants and desires to perform any action.
Four broad classes of incentives:
Remunerative incentives/Financial incentives- It includes material rewards especially money in exchange for action and output in a particular way.
Moral incentives- It exists where a person feels the sense of self-esteem, approval & admiration from the community.
Coercive incentives- It exists where a person is inflicting pain or suffer in punishment. Example: Deduction of salary due to negligence in time efficiency.
Natural incentive- When it comes from inside and is naturally satisfying.

Incentives motivate your staff, increase competition in the market but also create employee resentment and some gain unfair advantages. Incentive must be smart & balanced. Representatives who need to win motivations may do as such in ways that hurt the organization all in all. In the event that manufacturing plant yield is the benchmark, laborers on the shop floor may organize speed and let quality slide. In the event that business volume is the thing that matters, salesmen may offer clients rebates or arrangements that eat into your net revenues.

Are Hype beasts rational?

Before we start on why Hype beasts behave rationally for any product. Let's understand what being Rational means.
The jargon "Rational" has been defined in the Collins Dictionary as:- Thoughts which are based on reasons rather than on emotion.
This means the purchasing pattern of a customer is purely based on various reasons rather than emotion for the product.
As humans, we are very rational about our decisions to be it for a flavour of ice cream or a colour of a car. we tend to find reasons behind buying a particular product. this tendency is very common but the intensity of it increases among the Hype beasts.

What is a Hype beast you may ask?
As defined by the Urban Dictionary as:-
A person that collects clothing, shoes, and accessories for the sole purpose of impressing others.
These are those kinds of customers who only buy a product to impress others. their behaviour is very rational as they will buy anything that will provide a good reason to brag about in front of peers and friends.

Brand such as BAPE, SUPREME, OFF-White, etc. are living off this kind of rational customers as they sell a limited amount of articles such as t-shirts, shoes, hoodies etc. creating a huge demand for the product.

In Economics we know a seller increases the supply to meet the demand of its customers. However, this mechanism is not adopted by this brands as they intend to supply less to a market filled with hype beasts. These brands are well aware of the rational behaviour of its customers and hence it focuses on selling a limited amount of product.

An American streetwear brand by the name SUPREME had taken a huge advantage of this phenomenon in the recent year. SUPREME is known for making ridiculous items such as hammers, axe, baseball bat, etc. which isn't its main article of trade. However, there is a running joke in the streetwear community that a customer of SUPREME will buy anything that is sold by them. Playing on that joke SUPREME launched a brick with its logo in a very limited quantity and for one time only.

The response of such tactics was they sold out the brick in about 5-10mins of the portal opening. This explains clearly, how a customer is rational about buying things and this was a classic example of how a hype beast behaves in terms of buying a product with the reason of showing off behind the purchase.

The study of economics

Economics is a social science concerned with the production, distribution and consumption of goods and services. It studies how individuals, businesses, governments and nations make choices on allocating resources to satisfy their wants and needs, and tries to determine how these groups should organize and coordinate efforts to achieve maximum output.

The theories, principles and models that deal with how the that deal with how the market process works. It attempts to explain how wealth is created and distributed in communities, how people allocate resources that are scarce and have many alternative uses, and other such matters that arise in dealing with human wants and their satisfaction.

Economics focuses on the behaviour and interactions of economic agents and how economics work.

The Altering Power of Income on Consumer Demands

Like everyone else, you go to work every day, do your job, and collect your paycheck at the end of every month! However, one of the months you suddenly noticed that the salary paid to you is significantly higher than usual. You've been given a raise! Now, since your income has increased, aren't you capable of spending more on goods or services than usual? This is referred to as an Income Effect. In other words, how changes in income affect the consumer decisions of purchasing any goods or services and ultimately, affecting the Demand.

Change in Income Influences Consumer Demands

The income effect principle implies how a consumer spends money influenced by an increase or decrease in his income. An increase in income results in demand for more goods and services and thus spends more money. A decrease in income results in the exact opposite. Businesses are generally affected by the effect when incomes are lower, and consequently, less spending occurs. But this is not the case always. 

The income effect can have both positive as well as negative effect on a business! 

For instance: A small-scale business that specializes in the production of goods that are purchased when incomes have decreased, it might see a boom in profits. Examples of such businesses include discount stores and retailers who sell goods in bulk. 

 

REF: https://www.youtube.com/watch?v=J6qBu0LreAI&t=377s

 

An additional factor to consider is the Substitution Effect, which occurs when the price for a product changes and consumers have an incentive to consume more of the good with a relatively lower price and less of the good with a relatively higher price.

 

Here Price plays a crucial role! 

The typical response to an increase in prices is that buyers choose to consume less of the products at higher prices.

So, how the change in Prices relate to Income? 

For Example: Consider the price of milk goes down by Rs.20. Now, the decrease in the price of milk increases the amount of money left with you that is also known as free money. This means you can either buy more milk, or other products. While higher prices make buyers feel like they have less money on hand, and therefore, causes them to buy less. On the other hand, lower prices make buyers feel a little content and cause them to purchase more. 

Another very important thing to consider is the vast inequality in the distribution of income that also has a power over Market Demand.

 

Effect of Income Inequality on Demand 

Higher income inequality means that the incomes of the rich keep increasing and those of the poor keep decreasing, which affects the overall demand and consumption of a product.

However, it also depends on the product. If it is an essential commodity which is available without any constraints in supply then there may not be any change in demand. For Example, edible salt. It is an essential commodity and perhaps difficult to replace in our daily life. The demand for salt does not go up when the consumer income goes up. Also, a decreasing income does not cut consumption since the supply is enough at a very stable inflation-adjusted price. An effect on demand might happen only if there is a severe shortage of supply due to which prices go up significantly.

Therefore, Demand does significantly depend on Income. Higher income means the more purchasing power. Therefore, with the increase in income people can afford to buy more. This is why an increase in income has a positive effect on the demand for a good.