National Institute of Business Management

Chennai - 020

FIRST SEMESTER EMBA/ MBA

Subject : Principles of Economics

Attend any 4 questions. Each question carries 25 marks

(Each answer should be of minimum 2 pages / of 300 words)

1. Describe developed, undeveloped and developing Economies.

Developed Economy
A developed economy is typically characteristic of a developed country with a relatively
high level of economic growth and security. Common criteria for evaluating a country's
level of development are income per capita or per capita gross domestic product, the level
of industrialization, the general standard of living and the amount of technological
infrastructure. Noneconomic factors, such as the human development index, which
quantifies a country's levels of education, literacy and health into a single figure, can also
be used to evaluate an economy or the degree of development.

BREAKING DOWN Developed Economy

Examples of countries with developed economies include the United States, Canada and
most of western Europe, including the United Kingdom and France.

Developed Economy Criteria

The most common metric used to determine if an economy is developed or developing
is per capita GDP, although no strict level exists for an economy to be considered either
developing or developed. Some economists consider $12,000 to $15,000 per capita
GDP to be sufficient for developed status while others do not consider a country
developed unless its per capita GDP is above $25,000 or $30,000. The United States' per
capita GDP in 2016 was $57,500.

For countries that are difficult to categorize, economists turn to other factors to
determine development status. Standard-of-living measures, such as the infant mortality
rate and life expectancy, are useful although there are no set boundaries for these
measures either. However, most developed economies suffer fewer than 10 infant
deaths per 1,000 live births, and their citizens live to be 75 or older on average.

A high per capita GDP alone does not confer developed economy status without other
factors. For example, the United Nations still considers Qatar, which had the world's
second-highest per capita GDP in 2017 at $124,900, developing economy because the
nation has extreme income inequality, a lack of infrastructure and limited educational
opportunities for non affluent citizens.

The Human Development Index

The HDI looks at three standards of living criteria — literacy rates, access to education
and access to health care — and quantifies this data into a standardized figure between
0 and 1. Most developed countries have HDI figures above 0.8. In 2015, Norway had the
world's highest HDI at 0.898. The United States ranked 19th at 0.796.

Non developed Economies

Terms such as "emerging countries," "third-world countries" and "developing countries"
are commonly used to refer to countries that do not enjoy the same level of economic
security, industrialization and growth as developed countries. The United Nations
Conference on Trade and Development notes that the world's least-developed countries
are "deemed highly disadvantaged in their development process — many of them for
geographical reasons — and (face) more than other countries the risk of failing to come
out of poverty."

An advanced or developed economy is one, which carries on production with a

large amount of machinery and advanced techniques. An advanced economy employs
its human and other resources to the maximum extent possible. The productive
efficiency of a developed economy is of a very high order; the per capita income is also
high. Consequently, people in these countries enjoy high standards of living. England,
the U.S.A, France, West Germany etc, are advanced economies. These economies are
inhabitated by over one-forth of the entire population of the world.
In an undeveloped economy, production is carried on with a relatively small
amount of capital and with primitive and old techniques. Application of scientific and
technological improvements to agriculture or industry is limited. In these countries, the
level of real income and capital per head of population are extremely low and
consequently people have a low standard of living. Most of the countries of Asia, with
the exception of Japan, the whole of Africa, South America with the possible exceptions
of Argentina, and some countries of eastern and southern Europe could be considered
underdeveloped economies. These countries are inhabited by three-fourths of the entire
population of the world.
All underdeveloped countries are not in the same degree of economic
development. Some are primitive but some have already taken steps towards rapid
economic growth. The latter have commonly come to be known as developing
economies. These economies are presently engaged in utilizing their resources to bring
about rapid economic development. They are no more primitive or backward; nor have
they reached the stage of full economic development. India is a good example of a
developing country.
 2. Define price elasticity of demand and explain the formula for
calculating price elasticity?
The Price Elasticity of Demand (commonly known as just price elasticity)
measures the rate of response of quantity demanded due to a price change. The
formula for the Price Elasticity of Demand (PEoD) is: PEoD = (% Change in Quantity
Demanded)/(% Change in Price)A good economist is not just interested in calculating
numbers. The number is a means to an end; in the case of price elasticity of demand
it is used to see how sensitive the demand for a good is to a price change. The higher
the price elasticity, the more sensitive consumers are to price changes. Very high
price elasticity suggests that when the price of a good goes up, consumers will buy a
great deal less of it and when the price of that good goes down, consumers will buy
a great deal more. Very low price elasticity implies just the opposite, that changes in
price have little influence on demand. Now as mentioned earlier, the elasticity of
demand measures how factors such as price and income affect the demand for a
product. Price elasticity of demand measures how the change in a product’s price
affects its associated demand.
The demand for a product depends on its price, other things being equal. The quantity
demanded will change whenever there is a chance in price. Sometimes, the demand for
a product is so sensitive or responsive that even a small change in price will bring about
a relatively large change in quantity demanded. It is, however, possible that the demand
for product may not be very sensitive, so that even a considerable change in price may
not lead to any appreciable change in quantity demanded. The change in quantity
demanded due to a change in price is known as elasticity of demand or, more correctly,
price elasticity of demand. If a given percentage change in price brings about a larger
percentage change in quantity demanded the demand for the product is said to be
elastic. On the other hand, if a given percentage change in price brings about a smaller
percentage change in quantity demanded, the demand for the product is said to be
inelastic. Thus price elasticity of demand may be defined as the change in the quantity
demanded in response to a change in the price of a commodity.

The formula for calculating price elasticity is:

Percentage change in the demand for a product A

Ep= Percentage change in the price of product A

The demand for a product depends not only on the price of that commodity but also
upon the level of incomes of consumers and the prices of related goods. When the
demand for a product changes due to change in the incomes of consumers, we have
income elasticity of demand. The degree or responsiveness of demand to a change
in the incomes of the consumer is known as income elasticity of demand.
The formula for income elasticity of demand is:

Percentage change in the demand for a product A

Ey = Percentage change in income

When demand for a product changes due to a change in the price of another related
commodity, we have cross elasticity of demand. Cross elasticity of demand refers to
a change in the quantity demanded of product A as a result of a change in the price
of product B.

The formula for cross elasticity is:

Percentage change in the quantity demanded for a product A

Ec = Percentage change in the price of product B

We have stated the elasticity formula in terms of percentages, but we can also state
them in terms of “proportion”. Of the three kinds of elasticity it is price elasticity
which is of great significance in the determination of value. Accordingly, we shall
explain price elasticity of demand in greater detail.
3. Describe the advantages of a Socialist Economy.

The socialist economy attempts to replace capitalism which, according to its

critics, “is fundamentally blind, purposeless, irrational and incapable of satisfying
many of the most urgent human needs.” But there is much confusion over the
definition of socialism, since there is no universally accepted meaning of that word.
However, the definition of socialism, given by H.D. Dickinson in his study Economics
of Socialism is comprehensive and can be taken as one of the best. According to him,
“socialism is and economic organization of society in which the material means of
production are owned by the whole community according to a general economic
plan, all members being entitled to benefit from the results of such socialized
planned production on the basis of equal rights.”

The Advantages of a Socialist Economy

(i) Best utilization of Resources. The socialist economy is essentially a planned

economy. Such an economy ensures the best utilization of economic resources in the
country, though incidentally, that is exactly the claim of the capitalist economy too.
While in a capitalist economy, the best utilization of economic resources is
dependent upon the profit motive and self-interest, in a socialist economy, however,
this is brought about by central planning on the basis of social welfare. The central
planning authority in socialist economy makes an assessment of the economic and
human resources in the
country, estimates he different possibilities of the development of various industries,
fixes priorities of development and finally carries out economic development on the
lines of priorities agreed upon. Through strict planning all wastes and delays are
eliminated. At the same time a socialist economy is not subject to business
uncertainties, over-production and under-production, economic wastes, etc., all of
which are important features of a capitalist-free enterprise system. In the absence of
private profit, production is shifted from more profitable goods to more useful goods
to the community. Again,
while a capitalist economy may not provide adequately for the development of
certain regions or industries on the score of profits, the socialist economy will not
make such mistakes. Even the most backward region will be helped to develop fully.
Furthermore, a socialist economy may be expected to provide for the future far
more adequately than capitalist economy will normally do. The conclusion form
these observations will be that a centrally planned socialist utilities economic
resources in the most efficient manner.
(ii) Better solution of Central Problems. A socialist economy has a better solution to
the problem of what goods should be produced and in what quantities. IT discards
the profit motive and self-interest of private individuals and hence is free to use the
material means of production now owned by the public authorities themselves to
produce goods and services, which are really useful to the people. Production will
not be influenced by effective demand only but by an estimate of people’s real
needs. Many things the consumption of which is considered essential for health and
efficiency may be supplied free or below cost. Further, advertisements will not be
allowed to influence and vitiate people’s tastes and preferences as in capitalist
economies. But, at the same time, consumer’s preferences as in capitalist economies
will definitely influence production in a socialist economy. It is, therefore, maintained
that a planned economy ensures a higher level of consumer satisfaction.

(iii) Smooth working of the Economy. A socialist economy will prevent cyclical
fluctuations in business activity and bring about smooth working of the economy. In
a planned economy, unemployment of all types will be removed, business
fluctuations will be eliminated and stability will be brought about and maintained. In
a backward country, socialist planning will help to remove chronic unemployment
and under-employment and enable the economy to advance steadily and rapidly to a
high level of economic advancement.
Thus, those who support, a socialist economy are of the opinion that, compared to
capitalism, it is a more efficient economy and would bring about higher production
and a better distribution of income.
4. Explain the defects of Capitalism.
An economy refers to the organization of the economic activities of a country
and, therefore, relates to the mode of production of goods and services and
distribution of income between people. At one extreme there are countries where
the government plays, at least theoretically a minor role in the economic sphere; at
the other extreme, there are countries where the government controls and directs
all aspects of economic activity.
Between these two extremes, there are countries, which openly prefer an economic
order, now commonly called the mixed system. Many European countries and also
the United States of America are predominantly capitalist economies. The U.S.S.R,
China and East European countries are socialist economies. India has chosen the
middle path, and it is
known as mixed economy. It would be useful to have a clear idea about these
economic systems, the way they function, their merits and demerits.
The capitalist system is an economic order in which all means of production
(land, labour, capital and organization) are privately owned and managed and in
which production takes place for private profit. The profit motive is the driving force
behind all economic activity in the capitalist system. As the economy is based on free
enterprise and the government does not interfere in the working of the economy,
the system has come to be known as ‘free enterprise economy” or “laissez faire”
economy.

The capitalist economy has been strongly criticized as an unjust, inefficient and
wasteful system. Professor. A.P. Lerner, the well-known critic of capitalism, speaks of
three basic defects of capitalist system, viz., in equality of incomes, existence of
monopolies and periodic unemployment.
(i) In equality of Incomes. The free enterprise system led to unequal distribution of
wealth and income. This inequality is the result of the free play of the institutions of
private property, free competition and the system of inheritance. These institutions
will enable the rich to become richer and condemn the poor to become poorer.
Further, as a result of technological changes, the average unit of production has
become so large that it would be impossible for the mass of people to get sufficient
financial resources to obtain control over them. A rich man is able to pass on the
benefits of his wealth to his sons and daughters, through the institution of
inheritance.
Inequality of incomes is not desirable. Morally, there is no justification for the
existence of poverty in the midst of plenty. Economically, inequality is responsible for
lack of proper opportunities to the poor and for much economic insecurity. Socially,
it has been responsible for artificially dividing people into two classes – the ‘haves’
and the ‘have-nots’- and for creating class-consciousness and class conflict among
people. And politically, it has led to concentration of political power in the hands of
the rich who have
used it to protect their rights and their properties and exploit poor.

(ii) Existence of Monopolies. Under the impact of improved technology and large
scale production, the capitalist economy, which is competitive and profit
motivated had developed a natural tendency towards the formation of
monopolies. In their desire to increase profits, competing firms attempt to
eliminate competition. Monopolies are the outgrowth of competitive struggle.
“Monopoly is the annulment of competition and at the same time its logical
conclusion.” But monopoly is the negation of all the values for which capitalism
stands. The substitution of monopoly for competition changes the very nature of
capitalist economy, since it eliminates competition, which is one of the driving forces
of capitalism. At the same time, the other major driving forces, such as self-interest
and profit motive are allowed to flourish un checked. Besides, individual freedom
and private enterprise which form the basis of capitalist philosophy cannot-exist with
monopolistic concentration of economic power. Furthermore, monopoly scarifies the
interest of the community as a whole. There is nothing to protect the consumer
against
the excesses of self-interest. The monopolist has the power to restrict output and
increase his profit by artificially increasing the scarcity of the product. Profitability
does not coincide with productivity. The existence of monopoly removes the self-
generating character of private initiative, and lack of competitive pressures may
prevent the introduction of new techniques. The functioning of the price mechanism
suffers. Monopolies tend to aggravate the inequalities of income.

(iii) Unemployment. Capitalism cannot maintain full employment. Natural resources

as well as capital and labour are wasted and national income is kept below the
potential maximum. As Mrs. Joan Robinson states, “ The modern economic system
fails to provide employment continuously for all who desire to work. This is generally
recognized as one of the major effects of the system. In the unplanned capitalist
system, millions of decisions affecting consumption, saving investment, etc. are taken
indecently by firms and individuals who are free to do so. The pricing system helps
them in taking these decisions and is said to be responsible for making the necessary
adjustments. However, the price mechanism may fail to bring about the
adjustments. Or the price system may not be a proper guide to action in all cases
particularly as regards investment. At the same time, there can be serious
miscalculation, as the whole system depends upon the decisions of millions of
individual units. Accordingly, the economy may not work in a smooth manner but
may be subject to serious fluctuations and
unemployment.
(iv) Inefficient production. Finally capitalism is said to be less productive than
socialist-planned economies. As explained above a capitalist economy is subject to
unemployment and, consequently, a lower level of production. Even if the capitalist
economy can bring about full employment, the level of productivity is expected to be
lower than what a socialist economy can achieve. Frank Oppen heimere, a great
critic of capitalism, states: “In the capitalist economy, production is carried on not for
the purpose of increasing commodity supply but for the purpose of increasing
entrepreneurial wealth. Not the highest product for social economy is the final aim
of production. According to Oppeen heimere, the capitalists are interested in
maximizing their profits and not in maximizing output for the community.
Monopolies create artificial scarcity of goods so as to raise prices and profit
margins. Natural resources are exploited for the short-run profits of firms without
consideration of long-run effects of the economy. Again, under capitalism,
competition may be excessive. Too much competition may not promote productivity
in a country. Instead, it may result in over-production of goods which if not lifted
from the market in time, will end in a business depression and unemployment of
men and materials.
Thus Capitalism is attacked as not being productive enough, even through its
supporters maintain that private initiative and profit motive will maximize
production in a capitalist economy. The general assessment of capitalism, however, is
that it ensures productive efficiency but scarifies distributive justice.

25 x 4=100 marks