Micro and Macro Economics | ISC Class 11 Economics Notes

This note covers micro and macro economics at the introductory level: their meaning and difference, basic economic concepts (human wants and their classification, factors of production, utility and its types, total and marginal utility, price, value, wealth, welfare, money, market, capital, investment, income, production, consumption, saving), the business cycle, and aggregate demand and aggregate supply.

What is economics, and how do microeconomics and macroeconomics differ?

Every society faces the problem of scarcity: resources are limited compared with the wants people have, so a choice has to be made about how to use them.

Economics studies how individuals, firms and the economy as a whole deal with this problem of choice. The subject is traditionally divided into two broad branches: Microeconomics and Macroeconomics.

In microeconomics, attention is on the behaviour of individual economic agents, such as a single consumer or a single firm, in the markets for particular goods and services.

The aim is to understand how the prices and quantities of goods and services are determined through the interaction of individuals in these markets.

In macroeconomics, the focus shifts away from individual markets to the economy as a whole, by looking at aggregate measures such as total output, employment and the aggregate price level.

Macroeconomics asks how the levels of these aggregate measures are determined and how they change over time, for example what the level of total output in the economy is, how it grows, whether the economy's resources such as labour are fully employed, and why prices rise.

Definition: Microeconomics. The branch of economics that studies the behaviour of individual economic agents (a single consumer, a single firm, a single market) and how prices and quantities of particular goods and services are determined.

Definition: Macroeconomics. The branch of economics that studies the economy as a whole through aggregate measures such as total output, total employment and the general price level, and how these change over time.

What are human wants, and how are they classified?

Human wants are the desires of people for goods and services that give them satisfaction.

Wants are unlimited in number but each individual want can be satisfied, which is why scarcity of resources compared with the totality of wants is the starting point of economic analysis.

Every individual needs a very large list of goods and services, food, clothing, shelter, transport and various services, and no individual to begin with has all of these; each has only some amount of a few goods and services and must use what she has to obtain the rest.

Human wants are usually grouped, in order of urgency, into three classes: necessaries (the basic goods and services needed to live and work, such as food, clothing and shelter), comforts (goods that add convenience and ease to daily life without being essential for survival), and luxuries (goods that are costly and go beyond comfort, used mainly to display status or for extra pleasure).

This classification helps explain why societies and individuals must choose which wants to satisfy first when resources are limited.

What are the features of human wants?

Wants have a few features that together explain why the economic problem never disappears:

• Unlimited: wants are endless in number, and as one want is satisfied new ones appear, so no individual or society can satisfy all of them.
• Recurring: many wants, such as the need for food, water and rest, come back again and again after they have been satisfied.
• Complementary: some wants are satisfied together, as a pen needs ink and a car needs fuel, so satisfying one want creates a need for another.
• Competitive: wants compete for the same limited resources, so satisfying one want means giving up the satisfaction of another.

How are necessaries sub-divided?

Necessaries are further divided into three kinds, according to the purpose they serve:

• Necessaries of existence: goods and services without which life itself cannot be maintained, such as food, water, clothing and shelter.
• Necessaries of efficiency: goods and services that keep a person fit and efficient for work, such as education, medical care, rest and a balanced diet.
• Necessaries of convention: goods and services that custom or social habit makes it necessary for a person to use, such as a suitable dress for a wedding or a gift on a festival.

The same good can fall into different classes for different people: a car may be a luxury for one household and a necessary of efficiency for a travelling salesperson.

What are the factors of production?

By a resource is meant those goods and services which are used to produce other goods and services, for example land, labour, tools and machinery. These resources, when grouped by their economic role, are called the factors of production.

The four factors conventionally recognised are land (natural resources, including the soil and what lies above and below it), labour (human physical and mental effort applied to production), capital (man-made resources such as tools, machines and buildings used to produce further goods and services) and enterprise or organisation (the factor that combines land, labour and capital, bears risk and takes decisions).

Each factor of production earns a payment, called a factor income, for the service it renders in production: land earns rent, labour earns wages, capital earns interest, and enterprise earns profit.

A family farm illustrates this well: it may own a plot of land, some grain and implements, perhaps a pair of bullocks, and the labour services of family members; it combines these resources to produce corn, consuming part of the produce and exchanging the rest for other goods and services it needs.

What is utility, and what are its types and features?

Utility of a commodity is its want-satisfying capacity. The more the need for a commodity, or the stronger the desire to have it, the greater the utility a consumer derives from it.

A consumer usually decides her demand for a commodity on the basis of the utility, or satisfaction, she derives from it.

Utility has two important features. First, it is subjective: different individuals can get different levels of utility from the same commodity, so someone who likes chocolates gets much higher utility from a chocolate than someone who is not fond of them.

Second, utility can change with place and time for the same individual; for example, the utility from using a room heater depends on whether a person is in a cold place or a warm one, and on whether it is summer or winter.

What are the types of utility?

Utility can arise in different ways, and these are usually described as its types:

• Form utility: created when the form or shape of a good is changed so that it satisfies a want better, as when wood is turned into furniture or wheat into flour.
• Place utility: created by moving a good from a place where it is less wanted to a place where it is more wanted, as when vegetables are carried from a farm to a city market.
• Time utility: created by making a good available at the time it is wanted, as when grain is stored and sold in the lean season.
• Possession utility: created when a good passes from the person who has it to the person who wants it, as when a shopkeeper sells a shirt to a customer.

These types show that utility is not only a property of the good itself but also depends on the form, place, time and ownership in which the good reaches the consumer.

What are total utility, marginal utility, and the law of diminishing marginal utility?

Total utility (TU) of a fixed quantity of a commodity is the total satisfaction derived from consuming a given amount of that commodity. More of the commodity usually gives more satisfaction, so TU depends on the quantity consumed.

Marginal utility (MU) is the change in total utility due to consuming one additional unit of a commodity.

If 4 bananas give 28 units of total utility and 5 bananas give 30 units, the marginal utility of the 5th banana is 2 units (30 minus 28).

It is usually seen that marginal utility diminishes as consumption of the commodity increases, because once a consumer has obtained some amount of a commodity, her desire for still more of it becomes weaker.

This is known as the Law of Diminishing Marginal Utility: marginal utility from consuming each additional unit of a commodity declines as its consumption increases, while the consumption of other commodities is kept constant.

Definition: Law of Diminishing Marginal Utility. Marginal utility from consuming each additional unit of a commodity declines as its consumption increases, other commodities' consumption remaining constant.

A worked illustration shows this pattern clearly.

Marginal utility falls steadily, from 12 to 6 to 4 to 2, becomes zero at the 5th unit (where total utility stops rising), and turns negative at the 6th unit (where total utility actually falls). This is why total utility rises at a diminishing rate as more units are consumed.

What is price, and why does it generally rise and fall?

Price of a good is the amount of money that a consumer has to pay per unit of the good she wants to buy.

In a market system, all goods and services come with a price, mutually agreed upon by buyers and sellers, at which exchange takes place, and this price reflects, on average, society's valuation of the good or service.

Prices tend to rise or fall in response to changes in demand and supply. If buyers demand more of a good, its price tends to rise; this signals to producers that society wants more of the good than is currently produced, and producers are then likely to increase production.

Conversely, if demand falls, prices tend to fall. In this way, prices send information across the market that helps coordinate the decisions of many separate buyers and sellers.

What are a general rise and a general fall in prices?

A general rise in prices occurs when the prices of most goods and services in an economy go up together, so that the general price level rises; a sustained general rise in prices is called inflation.

A general fall in prices occurs when the general price level goes down, and a sustained general fall in prices is called deflation.

A general rise in prices reduces the purchasing power of money, since each unit of money buys fewer goods and services, while a general fall in prices raises it; this is why the real value of an income depends on what happens to the general price level.

What is value, and how does real value differ from nominal value?

Value, in economics, refers to the worth of a good or of money expressed in terms of what it can obtain in exchange. A useful distinction is between nominal value and real value.

Nominal value is the face value of money or income, expressed simply in rupees or any currency units, without adjusting for changes in the price level.

Real value is the purchasing power of that money or income, that is, the actual quantity of goods and services it can buy once changes in prices are taken into account.

The distinction matters because a rise in nominal income does not necessarily mean a person is better off: if prices have risen by the same or a greater proportion, the real value of that income, and hence the standard of living it supports, may stay the same or even fall.

Definition: Real value. The purchasing power of money or income, measured by the quantity of goods and services it can actually buy after adjusting for price changes.

What is wealth, and how is it classified?

Wealth refers to the stock of useful, scarce and transferable possessions that have money value, owned by a person or a community at a given point in time.

Wealth may be classified into personal wealth, the possessions of an individual, such as money, property, shares and personal skills that have an exchange value, and social wealth, resources that belong to and are used by the whole community, such as public roads, parks and other public utilities, which no member of the community is excluded from using.

This classification is important because the central problems of an economy, what to produce, how to produce it and for whom, are ultimately about how the scarce stock of wealth and resources of a society is allocated and distributed among its members.

What is welfare, and how is it related to wealth?

Welfare is a broad term for the wellbeing of individuals or of society. Economists distinguish economic welfare, the satisfaction that people derive from the goods and services they consume and that can broadly be measured through income and consumption, from social welfare, the wider wellbeing of society that also includes non-economic factors such as health, education, security and justice, and that cannot be fully measured in money terms.

Wealth and welfare are related but not identical. More wealth generally helps raise economic welfare, since it allows people to consume more goods and services.

However, an increase in a society's wealth does not automatically raise social welfare by the same amount: how the wealth is distributed among people, and whether it is used to meet basic needs or only for a few, affects the welfare that actually results.

Wealth is therefore best seen as a means towards welfare rather than an end in itself.

Definition: Economic welfare. The satisfaction people derive from the consumption of goods and services, broadly reflected in their income and standard of living.

What is money, and how does a money economy differ from a barter economy?

In a barter economy, goods and services are exchanged directly for other goods and services, without the use of money.

This system suffers from the problem of a double coincidence of wants: an exchange can take place only if each party happens to want exactly what the other party is offering, which makes trade slow and difficult as the variety of goods and services in an economy grows.

Money solves this problem by acting as a common medium of exchange that everyone is willing to accept in payment for goods and services.

In a money economy, goods and services are bought and sold using money rather than being bartered directly, which makes exchange, and hence specialisation and division of labour, much easier.

The weaver, for instance, can sell cloth for money and then use that money to buy whatever food, housing and other services she needs, instead of having to find someone who wants cloth and also happens to have exactly the goods she wants in return.

What is a market, and what determines its size?

A market, as used in economics, is an institution, an organisation with some purpose, which organises the free interaction of individuals pursuing their respective economic activities.

In other words, a market is a set of arrangements where economic agents can freely exchange their endowments or products with each other.

This is quite different from the everyday sense of a marketplace: buyers and sellers need not meet in an actual physical location, and interaction can take place through a village chowk, a city bazaar, or through telephone or internet.

The size of a market, that is, how widely spread its buyers and sellers are, generally depends on the nature of the commodity (perishable goods tend to have more local markets, durable ones wider markets), the ease and cost of transport, and the extent of communication between buyers and sellers.

The arrangements that allow people to buy and sell commodities freely, wherever they happen to be located, are the defining feature of a market.

Definition: Market. An institution or set of arrangements that allows economic agents to freely exchange goods, services or endowments with each other, without necessarily meeting in one physical place.

What is capital, and what is investment as a process of capital formation?

Capital refers to man-made resources, such as tools, machinery, buildings and equipment, that are themselves produced and are then used to produce further goods and services. Capital differs from land in that it is not a gift of nature but is created through past production and saving.

Investment is the addition made to the existing stock of capital in an economy over a period of time, for example by building new factories, machines or infrastructure.

Investment is thus the process of capital formation: resources that are not consumed, but set aside as savings, are channelled into creating new capital goods, which in turn raises the economy's capacity to produce goods and services in the future.

Without ongoing investment, an economy's stock of capital would simply wear out over time and its productive capacity would fall.

Definition: Investment. The addition to an economy's stock of capital over a period, through the creation of new capital goods such as machinery, buildings and infrastructure.

What is income, and what are factor incomes?

Income is the flow of money or purchasing power that accrues to an individual, firm or country over a period of time, usually as a reward for supplying a factor of production or from the sale of goods and services.

Income is a flow, not a stock: it is measured over a period, such as a month or a year, and it is received repeatedly as the factors of production are used in production.

Because each factor of production is paid according to the service it renders, income can be broken down into factor incomes: rent to the owners of land, wages to labour, interest to the suppliers of capital, and profit to enterprise.

These four payments are called factor incomes because they arise from the supply of a factor of production to the production process, and each is received by the owner of that factor.

The sum of all factor incomes earned in an economy over a period makes up its national income, so the study of factor incomes is the starting point for measuring the income of the whole economy.

Factor incomes also show how the produce of an economy is shared out among the people who helped to produce it, which is the distribution question every society has to answer.

What are production, consumption and saving?

Production, exchange and consumption of goods and services are among the basic economic activities of life. Production is the process of using factors of production, land, labour, capital and enterprise, to create goods and services that satisfy human wants.

Consumption is the using up of goods and services to satisfy wants; it is the end purpose for which production ultimately takes place, since people produce goods partly for their own use and partly to exchange for other goods and services they need.

Saving is that part of income which is not spent on consumption; it is the excess of income over consumption expenditure over a given period.

Individual saving refers to the amount an individual household sets aside from its own income, while aggregate savings is the sum total of the savings of all individuals, firms and the government in the economy put together.

Aggregate savings is important because it is the source from which investment, and hence capital formation, is financed.

What is the business cycle?

The business cycle refers to the recurring, wave-like fluctuations in the level of overall economic activity, such as total output, employment and income, over a period of time.

A typical business cycle passes through phases such as expansion (output, employment and income rising), a peak (the highest point of activity before a downturn begins), a contraction or recession (output and employment falling), a trough (the lowest point of activity), and then a recovery back into expansion.

During an expansion, firms produce more, more workers are hired and incomes rise; at the peak, activity is at its highest and a downturn begins.

During a contraction, output and employment fall and incomes shrink; at the trough, activity is at its lowest, after which recovery sets in and the economy moves back towards expansion.

These phases recur, though not at regular intervals and not with the same intensity each time, which is why the business cycle is one of the central concerns of macroeconomic study of the economy as a whole.

Because the cycle affects total output and employment together, it is studied with aggregate measures rather than with the price of any single commodity.

What are aggregate demand and aggregate supply?

Aggregate demand is the total demand for all final goods and services in an economy at a given overall price level over a period of time, made up of the spending of households on consumption, firms on investment, the government on goods and services, and net spending by the rest of the world.

Aggregate supply is the total value of goods and services that producers in the economy are willing and able to supply at a given overall price level over the same period.

Together, aggregate demand and aggregate supply help macroeconomists explain how the economy's total output, employment and price level are determined: when aggregate demand is high relative to what the economy's resources can produce, prices tend to rise; when aggregate demand falls short of the economy's productive capacity, output and employment tend to fall, and resources such as labour may remain underused.

Going beyond the syllabus

These ideas extend the unit and are not needed for the questions on it.

How is utility measured?

Cardinal utility analysis assumes that the level of utility can be expressed in numbers, so that a consumer could in principle say "this shirt gives me 50 units of utility".

In cardinal analysis, the law of diminishing marginal utility explains why a demand curve slopes downwards: each extra unit of a commodity is worth less to the consumer than the one before, so she is willing to buy more of it only at a lower price.

Cardinal utility analysis is simple to understand, but it has a major drawback: in real life, people never express utility in numbers.

Ordinal utility analysis, by contrast, assumes the consumer does not measure utility in numbers but can only rank different combinations of goods, called consumption bundles, as giving more, less or equal satisfaction.

Bundles that give the consumer equal utility can be joined to form a curve called an indifference curve, since the consumer is indifferent among all the bundles on it.

Glossary

• Microeconomics — the study of individual economic agents and how the price and quantity of a single good or service is determined.
• Macroeconomics — the study of the economy as a whole using aggregate measures such as total output, employment and the general price level.
• Human wants — the desires of people for goods and services, classified into necessaries, comforts and luxuries by their urgency.
• Factors of production — land, labour, capital and enterprise, the resources combined to produce goods and services.
• Utility — the want-satisfying capacity of a commodity, which is subjective and can change with place and time.
• Marginal utility — the change in total utility from consuming one additional unit of a commodity.
• Law of Diminishing Marginal Utility — marginal utility falls as more units of a commodity are consumed, other things remaining constant.
• Value — the worth of a good or money in exchange; real value adjusts for price changes, nominal value does not.
• Wealth — the stock of useful, scarce, transferable possessions with money value; personal wealth belongs to individuals, social wealth to the community.
• Welfare — the wellbeing derived from goods and services (economic welfare) and the broader wellbeing of society (social welfare).
• Barter economy — a system of direct exchange of goods and services without money, which suffers from the double coincidence of wants.
• Market — an institution or arrangement allowing free exchange of goods, services or endowments between buyers and sellers.
• Capital — man-made resources, such as tools, machines and buildings, used to produce further goods and services.
• Investment — the addition to an economy's stock of capital, the process by which capital is formed.
• Factor income — the payment a factor of production earns: rent for land, wages for labour, interest for capital, profit for enterprise.
• Business cycle — the recurring fluctuations of overall economic activity through expansion, peak, contraction and trough.
• Aggregate demand — the total demand for all final goods and services in the economy at a given price level.
• Aggregate supply — the total value of goods and services producers are willing to supply at a given price level.

Common errors and misconceptions

• Misconception: Microeconomics and macroeconomics study completely unrelated things. Correct: Macroeconomic aggregates are built up from the behaviour of the individual markets that microeconomics studies; the two branches are closely linked.
• Misconception: Marginal utility and total utility always move in the same direction. Correct: Total utility can still be rising even while marginal utility is falling; total utility only falls once marginal utility turns negative.
• Misconception: A rise in nominal income always makes a person better off. Correct: Only a rise in real value, that is, purchasing power after adjusting for price changes, improves what a person can actually buy.
• Misconception: Wealth and welfare mean the same thing. Correct: Wealth is a stock of possessions with money value; welfare is the wellbeing that wealth may or may not translate into, depending on how it is used and distributed.
• Misconception: Money satisfies wants directly, in the way that goods and services do. Correct: Money is a medium of exchange that solves the double coincidence of wants problem of barter; it satisfies wants only indirectly, because it can be exchanged for goods and services.
• Misconception: Saving and investment are the same activity performed by the same people. Correct: Saving is income not spent on consumption; investment is spending on new capital goods, and aggregate savings provide the funds from which investment is financed.
• Misconception: The business cycle means output always grows steadily. Correct: The business cycle describes recurring ups and downs, expansion, peak, contraction and trough, rather than steady growth.
• Misconception: Every necessary good is a necessary of existence. Correct: Necessaries also include necessaries of efficiency, such as education and medical care, and necessaries of convention, such as customary festival gifts.

Exam-style questions with model answers

Q1. A consumer's total utility from cups of tea is 10, 18, 24, 28, 30 and 30 for the first six cups. At which cup does marginal utility begin to diminish? (a) 1st cup (b) 2nd cup (c) 4th cup (d) 5th cup [1 mark]

1. Marginal utility is the change in total utility from one more cup: 10, 8, 6, 4, 2 and 0 for the six cups in turn.
2. It falls from the second cup onwards, so the correct option is (b) 2nd cup.

Q2. Given below are two statements marked Assertion and Reason. Choose the correct option. Assertion: A rise in nominal income need not raise a person's standard of living. Reason: Nominal income does not adjust for changes in prices. (a) Both Assertion and Reason are true, and Reason is the correct explanation of Assertion. (b) Both Assertion and Reason are true, but Reason is not the correct explanation of Assertion. (c) Assertion is true but Reason is false. (d) Both Assertion and Reason are false. [1 mark]

1. (a) Both Assertion and Reason are true, and Reason is the correct explanation of Assertion.
2. Nominal value is only the face value of income in currency units; real value, which is purchasing power after adjusting for price changes, is what determines how much a person can actually buy.
3. If prices rise by as much as or more than nominal income, real value and the standard of living it supports do not improve.

Q3. Define individual saving and aggregate savings. [2 marks]

1. Individual saving is the part of an individual's or household's income that is not spent on consumption over a given period.
2. Aggregate savings is the sum total of the savings of all individuals, firms and the government in the economy taken together.

Q4. Distinguish between microeconomics and macroeconomics on the basis of scope and the key variables each studies. [4 marks]

1. Microeconomics studies individual economic agents, such as a single consumer or a single firm, in the markets for particular goods and services.
2. Macroeconomics studies the economy as a whole through aggregate measures such as total output, total employment and the aggregate price level.
3. The key variables in microeconomics are the price and quantity of a single commodity, determined by the interaction of individuals in that market.
4. The key variables in macroeconomics are aggregate output, aggregate employment and the general price level, and macroeconomics asks how these levels are determined and how they change over time.

Q5. Explain the types of utility, giving one example of each. [4 marks]

1. Form utility is created by changing the form of a good so that it satisfies a want better, as when wood is turned into furniture.
2. Place utility is created by moving a good to a place where it is more wanted, as when vegetables are carried from a farm to a city market.
3. Time utility is created by making a good available at the time it is wanted, as when grain is stored and sold in the lean season.
4. Possession utility is created when a good passes to the person who wants it, as when a shopkeeper sells a shirt to a customer.

Q6. Explain barter economy and money economy, stating one problem of the barter system that money solves. [4 marks]

1. In a barter economy, goods and services are exchanged directly for other goods and services, without the use of money.
2. In a money economy, goods and services are bought and sold using money as a common medium of exchange rather than being bartered directly.
3. Barter suffers from the problem of a double coincidence of wants: an exchange can take place only if each party happens to want exactly what the other is offering.
4. Money solves this problem because it is generally acceptable in payment, so a seller need not find a buyer who happens to want exactly the goods the seller has to offer in return.

Q7. Explain the relation between wealth and welfare. [8 marks]

1. Wealth is the stock of useful, scarce and transferable possessions with money value owned by a person or a community at a point in time.
2. Welfare is the broader wellbeing of individuals or society, and economists distinguish economic welfare from social welfare.
3. Economic welfare is the satisfaction people derive from the goods and services they consume, and it can broadly be measured through income and consumption.
4. Social welfare is the wider wellbeing of society and also includes non-economic factors such as health, education, security and justice, which cannot be fully measured in money terms.
5. More wealth generally helps raise economic welfare, because it allows people to consume more goods and services.
6. An increase in a society's wealth does not automatically raise social welfare by the same amount, since how the wealth is distributed among people affects the welfare actually experienced.
7. Whether wealth is used to meet basic needs or only for a few also decides how much welfare it produces.
8. Wealth is therefore best seen as a means towards welfare rather than an end in itself.

Q8. Distinguish between aggregate demand and aggregate supply. [4 marks]

1. Aggregate demand is the total demand for all final goods and services in the economy at a given overall price level over a period of time.
2. Aggregate supply is the total value of goods and services that producers in the economy are willing and able to supply at a given overall price level over the same period.
3. Aggregate demand reflects the spending plans of households, firms, the government and the rest of the world, while aggregate supply reflects the production decisions of firms across the economy.
4. The relationship between the two helps explain changes in the economy's total output, employment and price level: when aggregate demand exceeds what the economy's resources can produce, prices tend to rise, and when it falls short, output and employment tend to fall.

Q9. A household's money income rises from ₹40,000 to ₹44,000 a month, while the general price level rises by 20 per cent over the same period. Has the household's real income risen, fallen or stayed the same? Give a reason. [2 marks]

1. Nominal income has risen by ₹4,000, which is 10 per cent of ₹40,000.
2. The general price level has risen by 20 per cent, which is more than the 10 per cent rise in nominal income.
3. Real income, the purchasing power of the income, has therefore fallen, because prices have risen faster than money income.

Key takeaways

• Microeconomics studies individual markets and agents; macroeconomics studies the economy as a whole through aggregate measures.
• Human wants are unlimited, recurring, complementary and competitive, and are classified into necessaries, comforts and luxuries.
• Necessaries are of three kinds: of existence, of efficiency and of convention, according to the purpose they serve.
• The factors of production are land, labour, capital and enterprise, earning rent, wages, interest and profit respectively.
• Utility is subjective and changes with place and time; marginal utility usually diminishes as consumption of a commodity rises.
• Price is the amount paid per unit of a good, and it rises or falls with changes in demand and supply; a sustained general rise in prices is inflation and a sustained general fall is deflation.
• Real value measures purchasing power after adjusting for price changes, unlike nominal value, which is simply a money figure.
• Wealth is classified as personal wealth (an individual's own possessions) or social wealth (resources shared by the community).
• Economic welfare and social welfare are related to wealth, but wealth is a means to welfare, not an end in itself.
• Money, by solving the double coincidence of wants of barter, makes exchange and specialisation much easier.

Test yourself

What is the central cause of every economic problem?

Scarcity of resources compared with the unlimited wants of individuals and society, which forces a choice between competing uses.

Name the four factors of production and the income each earns.

Land earns rent, labour earns wages, capital earns interest, and enterprise earns profit.

Why does marginal utility usually diminish as more units of a commodity are consumed?

Because once a consumer has obtained some amount of the commodity, her desire for still more of it becomes progressively weaker.

What is the key problem of a barter economy that money solves?

The double coincidence of wants, where exchange requires each party to want exactly what the other offers; money removes this requirement.

Give one example of personal wealth and one example of social wealth.

A person's own house or savings is personal wealth; a public road or park used by the whole community is social wealth.

How are aggregate savings related to investment in an economy?

Aggregate savings, the combined savings of individuals, firms and government, provide the funds from which investment in new capital goods is financed.

Name the four phases of a typical business cycle.

Expansion, peak, contraction or recession, and trough, after which the economy moves into recovery and a new expansion.

Give one example each of a necessary of efficiency and a necessary of convention.

Education or medical care is a necessary of efficiency; a customary gift on a festival is a necessary of convention.