Chapter 8. Principles of Economics, Macroeconomics and Development
Scarcity and choice. Resources are limited and wants are unlimited, so societies must choose; every choice has an opportunity cost. The production possibility curve shows trade-offs and efficiency [15][16].
Economic systems: market, command and mixed economies [15].
Demand and supply. The law of demand: as price falls, quantity demanded rises. The law of supply: as price rises, quantity supplied rises. Equilibrium occurs where they meet. Changes in income, tastes, related prices and expectations shift demand; costs, technology and taxes shift supply [15][16].
Elasticity. PED = % change in quantity demanded / % change in price. If |PED| > 1, demand is elastic; if less than 1, inelastic. Example: price rises 10%, quantity falls 20%, PED = −2 (elastic) [15][16].
Production and costs. Total cost = fixed + variable cost. Firms maximize profit where marginal revenue equals marginal cost. Market structures: perfect competition, monopolistic competition, oligopoly and monopoly [16].
Market failure. Externalities, public goods, imperfect information and monopoly power can justify government intervention through taxes, subsidies, regulation and provision [15][16].
Macroeconomics
GDP: value of final goods and services produced in a year; GDP = C + I + G + (X − M).
Inflation: sustained rise in the price level, measured by the CPI; inflation rate = (CPI new − CPI old) / CPI old × 100.
Unemployment rate: unemployed / labour force × 100.
Multiplier = 1 / (1 − MPC); if MPC = 0.8, the multiplier is 5 [17].
Money and banking: central banks manage monetary policy, issue currency and regulate banks; fiscal policy uses taxation and government spending [17][18].
International trade and exchange rates. Comparative advantage explains gains from trade. The balance of payments records transactions with the world. A depreciation of the currency tends to make exports cheaper and imports dearer [15][17].
Development. Growth is a rise in output; development includes health, education, freedom and reduced poverty. The Human Development Index measures income, health and education.
Sri Lankan economy. Key sectors include agriculture, apparel, tourism, remittances and services. After the severe economic crisis of 2022, Sri Lanka has pursued stabilization and reform with international support. Use current data from the Central Bank of Sri Lanka and the Department of Census and Statistics [18].
Review: If MPC = 0.75, what is the multiplier? (Answer: 4.)