good morning class the third and the last
module for this course will be on economics
and before i enter into the finer details
of what i would be handling in this third
module i would like to first confess that
i am not a trained economist myself as i told
you in the beginning of the class the very
purpose of this course is to give you a very
basic understanding of how much as engineers
you should understand you should know what
is happening in the bease business ecosystem
outside
it is with that perspective that this entire
course has been designed and the inputs that
i have given so far in accounting in strategy
are in my opinion enough for you to survive
an interesting conversation with your leadership
team and that is the very purpose as i said
before that this entire course has been designed
in the same perspective the discussions that
we are going to have on this third module
on economics will be enough for you to traverse
the the contours of the economic landscape
and a little bit try to delve into some finer
details of some concepts now while we are
attempting to do this at the end of this module
you will begin to appreciate the various terminologies
that you often hear from economist or you
watch people in debates in either in television
channels or when you read newspapers financial
newspapers like the economic times or others
you will begin to appreciate the various popularly
used to terminologies like a gdp inflation
interest rate macroeconomics and microeconomic
variables
so with that in mind the ah the remaining
classes i will be giving you some inputs on
the fundamentals of economics so that you
can appreciate ah various nuances various
decision-making at the policy level why certain
decisions are been taken this in a particular
way so that you begin to understand the decision
making mind behind the policymakers now with
that perspective i will just give you an outline
of what i am planning to cover in this particular
course
first i will try to give you an understanding
of some basic economic definitions and then
what constitutes a market or what constitutes
a society in which a market plays a very crucial
role and the economic fundamentals which drive
markets some of the economic sectors which
are critical in in strengthening a nation's
output and how is that a nation's output is
measured by way of some quantifiable indicators
and how that a nation's output can grow or
how nation's output contract the consequences
of growth as well as contraction and how this
is all linked to an academic theory that governs
the law of supply and demand and if this law
of supply and demand is go in to govern the
very fundamentals of economics who is responsible
for controlling the supply and demand and
how was that the supply and demand is been
controlled either by a fiscal policy or a
monetary policy
if it is fiscal policy what are the economic
variables that are altered if it is monetary
policy what are the economic variables that
are altered and in the even that various economic
variables are altered what happens in to the
in the economic ecosystem the interrelationship
bet between various variables now if we are
able to understand this entire spectrum then
you will begin to appreciate the nuances of
economics fro for the very limited purpose
of understanding various decisions that are
taken in the economic realms
so let us first begin this discussion by giving
you a very very broad definition of what economics
is now economics to put it in a very simple
form the theoretical definition of economics
there are plenty but to put it in a very simple
understandable manner economics is a study
that understands the behaviour of society
in its managing the scarce resources that
are available in the society so it is a study
of how society manages its scarce resources
now there two important terms that you will
have to understand here the scarcity and secondly
what constitutes the society let us begin
with scarcity scarcity i view it as a tension
between the limited resources that are available
and the unlimited wants and needs of the end
user of such resources now the society constitutes
various stakeholders for an individual the
resources that are limited is the time the
money that is or the skills that the individual
possesses
and for nations the resources that are limited
could be the natural resources that the nation
is endowed with the capital the technology
the labour that is available in a country
so these are various resources either at the
individual level or at the nation's level
but all of them are available only to a limited
extent now when resources are available only
within a limited extent then there arises
a trade-off it is the willingness of the end
user to forego an alternate opportunity that
actually forms the basis on which such scarce
resources are allocated
now different individuals different nations
have different priorities and this priority
differences is the key for allocation of limited
resources suppose i am i have an opportunity
to buy two vcd’s as against one blu-ray
dvd now i have to take a decision whether
i have to forego the opportunity of owning
extra one vcd which could be poor quality
so that i buy only one blu-ray dvd for a higher
price so that i have one movie of very superior
quality
now extending this at various levels the willingness
of individuals different types of individuals
the willingness of nations and different types
of nations to forego on alternate opportunities
that are available is the one that forms the
underlying basis on which various resources
are allocated so a society at large ah behaves
in different ways and how the society behaves
when it comes to managing this scarce resources
that are available
what are the variables within a society that
determines the behaviour of the society as
a result of which the resources get allocated
and if there is a scientific empirical way
that can define these relationships then this
scientific study is economics as a subject
by itself by a society i meant individuals
as well as nations if you take the fundamental
economic unit i would say that an individual
is the fundamental economic unit
it is an individual or a group of individuals
that constitute a household a group of households
constitute a neighbourhood a group of neighbourhoods
constitute a community a group of communities
constitute a bigger town a group of towns
constitute bigger cities a group of cities
to states and a group of states constitute
a nation so it is these aggregation of small
economic units beginning from an individual
and then going into bigger size economic units
an aggregation of these economic units constitute
a nations ecan ah economy
the way in which we would understand the behaviour
of these economic units constitutes two popular
fragments of economics one could be the macroeconomic
understanding the other could be understanding
economics from a microeconomic point of view
now macroeconomics it looks at the total output
of a nation and how a nation is able to allocate
the resources that it has the limited resources
like land labour capital technology whatever
it is how a nation is able to allocate such
resources constitutes macroeconomics
on the other hand microeconomics also looks
into the very similar issues of allocation
of resources but at a very limited level a
level limited to that of an individual or
of small business firms within an economy
so whether it is macroeconomics or microeconomics
it is the understanding of how any of these
economic units is able to allocate the limited
resources that is available on hand is important
the why and how these allocation of scarce
resources can be done constitutes the economic
theories that have governed the functioning
of nations
and these theories have a lot of history behind
them but fundamentally there are two ways
in which a nation puts its economic principles
in place one could be driven by market economies
the other could be drimen driven by command
economies by market economies i mean a nation
which is capitalist in its thinking which
believes that there is something called a
free hand an unseen hand that operates behind
the market
and it is the market forces left to themselves
that govern the law of supply and demand whereas
command economies on the other hand believes
that an efficient market should not be left
to the total should not be left independent
of market forces to decide on its functioning
but it is the government that actually has
to decide on the allocation of these resources
so that explains two popular theories whether
it is the adam smith's capitalist theory or
the marxian communist theory
and different countries have embraced ah these
two different options ah and today you might
on hindsight feel that the collapse of russia
or eastern europe for that matter or some
parts of north korea which embraced these
command economies where the the government
was supreme it dictated the ways in which
resources could be allocated and used ah and
the fall of these economies signalled the
success of a capitalist driven society
a capitalist driven society that you could
see in advanced economies like the usa or
uk or australia which embraces these market
economies and after two thousand eight another
alternate theory is emerging as a substitute
to these market economies because the feeling
is that market economies themselves have not
proven to be successful thought it is not
accepted but this is the general feeling that
people have begin to have
now my opinion if i am not digressing is whether
it is market economies or command economies
it is only the nature of ownership that is
different both the economies strive hard to
allocate capital and in the process add economic
value it is only the ownership that actually
differs and that is why i always believe that
these two economies are two faces of the same
coin in a market economy the the ownership
is diverse
whereas in a command economy the government
owns the assets other than this both these
economies try to achieve economic value by
allocating capital so you must understand
that different nations have different theories
of economies based on which they allocate
capital either allowing market forces to determine
the allocation or it is the government actually
regulates and allocates these resources
now let us begin to understand the fundamentals
of economics and i would like to give this
understanding by providing a framework or
i call a mind map that will describe the various
variables in our economic system and try to
understand the interrelationships of these
variables ah
now i will just begin by giving you a small
mind map ah so that you will be able to understand
this better now i will begin describing these
interconnected actions by having somebody
called the economic man in the middle of the
economic ecosystem let us understand ah the
three interrelated actions of the economic
man who forms the centre of the economic ecosystem
so if an economic man forms a centre of an
economic ecosystem it is this man who actually
produces the goods and services the production
of goods and services is done by the economic
man by production of goods and services the
economic man creates an economic value from
this production the economic man earns income
by income i mean the value for which others
are willing to pay him so this constitutes
the earning power of the economic man
so he earns income because of the willingness
of others to pay for the economic value that
the economic man creates from his income he
spends for his needs and wants as a result
of which there is an expenditure 
an expenditure because he spends from the
income and tha it is this expenditure that
actually stimulates production so his spending
in turn stimulates production so the expenditure
stimulates production so beginning from the
production that provides income and this income
is the one that finances the expenditure and
the expenditure stimulates the production
quick recap
so it is the economic man who produces the
goods and services and it is from the production
he earns the income and from this income he
spends for his needs ah and this expenditure
further simulates more production 
so what do this what is what does this mean
for us to understand it means that an economic
man has to be more productive and in the process
has to create more economic value so that
he can earn more and he can spend more in
terms of better infrastructure better education
better healthcare better food and overall
improve his quality of life
and at the policy-making level we must understand
that it is the generation of economic value
and the process creating higher incomes through
higher productivity is the key for nations
to reduce the poverty levels so at the policy-making
level we need to understand that we need to
generate economic value and also drive higher
productivity that gives higher income so any
public policy any economic public policy must
be to enhance such productivity levels
now we will just try to expand the understanding
of the economic man 
by just trying to add some more into this
basic economic model that we saw earlier
it is a common understanding that local production
is insufficient to meet local needs so we
actually import to support material goods
for production and also to get more goods
for consumption because the local production
is not enough to meet local demand so this
total supply can now be split into two parts
the local production plus imports because
it is this imports that actually expand supply
and similarly if suppose the local income
that i i get is not able to finance the expenditure
that is involved then other external financing
mechanisms foreign financing mechanisms will
supplement local income to finance these expenditures
so local income plus foreign finance and just
as you have imports to supplement the the
local production we also have exports that
cater to outside demand so you have a local
demand and exports hmhmmm so now we understand
that imports expand the total supply that
is available
and then foreign financing 
supplements local income 
so that you could finance additional expenditure
and then exports expand the demand and when
demand is expanded the market for products
also gets expanded so this takes the fundamental
economic model into the the next stage where
it is expanded to include imports and exports
the other form of expansion that is happening
which is very visible nowadays is the effect
of globalisation
now again if we view this from the model that
we just saw before it just means that we are
trying to globalisation means that we are
linking a country's economy with that of the
entire world as a result of which we create
high levels of export high levels of import
and free movement of capital since we are
talking about supply demand as well as financing
it means globally interconnected imports globally
interconnected financing and globally interconnected
exports
now this expansion through globalisation results
in a supply that is interconnected globally
incomes again that are interconnected globally
and markets that are interconnected globally
so this becomes a global supply source 
so this expands supply and production because
now we are sourcing materials from various
countries because we are now viewing world
as a market and here greater incomes and better
financing capacity due to availability
because now a global capital market exists
where access to finance actually transgresses
national boundaries as a result of which the
markets also expand globally markets are global
so the expansion of markets through exports
the widening of the resource base through
imports and the increase in financing through
foreign capital outflows inflows allows incomes
to grow as well
now this economic model which started from
a fundamental level to reach to a global level
is for the understanding that there are three
important ingredients namely the supply which
is viewed as production the income and the
markets which is viewed as the demand so when
markets keep expanding because of this globalisation
imports increase exports increase and there
is movement of capital as well
now what creates these markets how do we understand
the details of this economic model where is
the market created is it in the services is
it in the industry or is it in the agriculture
or is it just in the imports or just in the
exports now to understand these concepts at
a finer level we should understand that the
production or the supply or the expenditure
or the demand or the incomes have amongst
themselves different ingredients that constitute
the production or supply or the expenditures
or the demand or the incomes
so if you want to break down 
the economic model into finer details you
will understand the production or supply is
driven by three main sectors the agriculture
the industry services as well as imports and
the expenditure or demand comes from the consumption
or the investments and the government spending
and exports and incomes again coming from
the savings that we make again consumption
driven or the taxes that the government gets
its income from and also foreign supplemental
incomes now if we just begin to split this
so as i said the production or the supply
we will have agriculture we will have industry
we will have services and imports an expenditure
or demand ah an expenditure represents the
demand for goods or services and they can
be classified as expenditures for they can
be classified as expenditures for consumption
expenditures for investment 
government spending or exports exports represents
expenditures by foreigners when they buy our
products and services and then lastly the
incomes which is again through consumption
through taxes
when domestic incomes are insufficient to
finance expenditures then you have foreign
financing 
and domestic savings so when domestic savings
are inadequate to finance expenditures you
have foreign financing and in the process
if you find that the imports are greater than
the total exports then the country is spending
more than what it is earning internationally
so that is why you have a trade deficit or
a current account deficit when actually the
imports is more than the exports
so all this put together let us understand
the total economic model
where again beginning with the economic man
in the centre 
production or supply which constitutes 
mainly driven by agriculture industry services
as a result of which there is a consumption
there is savings and income derived from taxes
not only domestic savings you also have foreign
savings which drives expenditure that creates
demand 
which is consumption driven or gives rise
to investments government spend or exports
now we will begin understanding this first
we should understand that it is this investment
that expands production capacity so it is
investment that expands production and countries
with high investment rates tend to grow faster
and then the savings is the one that finances
investments so private savings basically finance
private investments and a high savings rate
is needed to support a high investment rate
but in addition to these domestic savings
we also have the foreign savings either through
loans equities or grant aids ah
so foreign savings will be needed if domestic
savings are not sufficient to finance domestic
investments and in addition to this you also
have the taxes from government that finance
government expenditure 
when taxes are in insufficient to finance
the government expenditure the government
draws on domestic private savings and and
when this happens it is crowding out of capital
actually it crowds out private borrowers from
getting access to capital
and or even it draws on foreign savings as
well when the taxes are inadequate to fund
to finance the government expenditure so if
you look at the total economic model that
i just draw here drew here you will understand
that it is the investments that expand the
production capacity and countries with higher
investment rate tend to grow faster and the
private savings actually constitute the source
for private investment and economies that
incentivise savings so that there is more
savings will have higher investment rates
and if that is inadequate there is also access
through foreign savings and government expenditure
is taken care by taxes that actually finance
government expenditure and when taxes are
insufficient to meet government expenditure
then the government also accesses finance
from the domestic savings as a result of which
it crowds out private borrowers because it
is private borrowers plus government again
trying to fight fro for a capital from the
domestic savings
so this is the total economic model and all
this is done to create a supply to produce
output either in the agriculture or the industry
or the services or it is also through imports
now all of this has to be measured in some
form or the other now these measurements the
agriculture output or the industry output
or the services output they have to be quantified
and the extent to which they are quantified
determines the strength of a nation’s output
and it is this nation's output that forms
the heart of macroeconomics now the total
economic model that we saw had in itself certain
amount of goods and services and the extent
to which a country can produce these goods
and services constitutes the budget constraints
of the country and we need to understand that
nation economies must produce volumes of output
and that is more important than large quantities
of money a layman thinks that you can print
more money and make everybody millionaire's
but without creating additional output mere
printing of currency does not serve the economy
any good it is the national output that is
measured by the large volumes that has been
created that characterises a nation's strength
so we need to understand that we need to measure
a nation's output how do we measure a nation's
output how is that the output that comes from
the agricultural or the industry or the services
sector can be quantified and these can come
in the form of tangible goods or services
that the end-user uses
and all of this needs to be quantified and
the extent to which a nation's output is quantified
determines the economic strength of a nation
nations with higher output will have a higher
quantifying indicator nations with lower volumes
of output will have a lower measure of this
national output then what constitutes the
national output is what we will be seeing
in next class and this is commonly referred
to as the gross domestic produce of a country
of a nation and we call this as the gdp
so the gdp of a nation is very important because
it is that gdp which actually measures the
economic strength of a nation and there are
different ways of calculating the gdp and
we need to understand at the very fundamental
level what is gdp why is it important and
how is it calculated understanding gdp how
it is calculated and what constitutes the
economic flow that is used to calculate the
gdp these three are very important to understand
the national output as measured by its gdp
we will see this in the next class thank you.
