Microeconomics- Meaning | Scope | Importance | Limitations | Uses


    Initially, there was only one "economics." The Great Depression of the 1930s saw the emergence of the area of macroeconomics and after that, the field of economics has been broadly 'split' into two distinct areas of study: 
    1. microeconomics 
    2. macroeconomics.

    The word 'micro' is derived from the Greek word 'mickros' meaning small. 

    It is that branch of economics theory which deals with the behavior of individual economic units in the economy such as individual households, individual firms, industries, etc. Microeconomics deals with small segments of society. 

    It deals with- how individual businesses decide how much to produce and at what price to sell it and how individual consumers decide on how much of something to buy. 

    In other words, microeconomics analyses individual consumer's and firms' market behavior in an attempt to understand their decision-making processes.

    Here problems of individual economic units are studied, such as the equilibrium of a consumer, equilibrium of a firm, and industry. 

    Microeconomics deals with the central problems of an economy 'what, how, and for whom to produce.' Thus instead of studying 'economic forest' as a whole, microeconomics looks at its individual parts (i.e., trees)


    Microeconomics deals with small parts of the economy - Shapiro

    Microeconomics is the theory of the small, of the behaviour of the consumers, producers and markets - Watson


    How a consumer maximizes his satisfaction with his limited income or how a firm maximizes its profits or how the wage of a worker is determined - these are microeconomic questions because they analyze individual parts of an economy rather than the whole.

    Examples of microeconomics are:
    1. Individual income,
    2. The demand of a commodity, 
    3. Supply of a commodity,
    4. The output of a firm, etc. 


    Microeconomics studies how the prices of goods and services are determined in the market. Theories that explain market price determination are called Price Theories. These are the vital components of microeconomics.
    1. Theory of Price - It determines how prices of goods and services are determined in the market through the interaction of market forces.
    2. Theory of Demand - It analyses how a consumer allocates his income to different uses so that he maximizes his satisfaction.
    3. Theory of Supply - It analyses how a producer decides what to produce and how much. The producer focuses on the maximization of profit.

    Since its subject matter revolves around the determination of prices of individual commodities and factors, therefore, microeconomic theory is also called " price theory."

    Microeconomics- Meaning | Scope | Importance | Limitations | Uses

    In microeconomics, economists assume that people are motivated by material self-interest. Their self-interest helps them allocating the resources in an efficient way, which ultimately results in social- interest. Microeconomic theory can, however, accept a broader view of human motivations, including the possibility that someone might care about someone else's well-being.

    One of the objectives of microeconomists is to address the questions related to 'what was, what is, and what will be'; such questions are known as positive questions. Microeconomics mainly answers the questions that come from positive economics.

    Economic units

    There are three economic units in an economy- consumers, producers and government. First two are vital when studying microeconomics. 

    A consumer is an important economic unit in the context of microeconomics. He faces the problem of choice (the problem of rational management of resources). He has to use his resources (income) on the purchase of different goods in a such a manner that he can maximize his satisfaction. Economists have developed the Theory of Consumer Behavior or Theory of demand to study the behavior of a producer. It is an important component of microeconomics.

    A producer is another important economic unit in the context of microeconomics. He also faces the problem of choice. He has to choose the commodity he should produce so that his profits are maximized. Also, he has to choose the technology that minimizes his cost for the production of a commodity. The economists have developed the Theory of Supply.

    Tools of microeconomics

    Economics is a social science. It is social because it concerns human behavior, and science as to when studying behavior, economists follow the scientific method. The method is explained below:

    1. The Scientific Method:
      1. Initial observation- Scientific inquiry starts with the observation of an unexplained phenomenon. Observation leads to economic questions; for instance, an economist might wonder why a consumer chooses to spend his money on a particular commodity, not others.

      1. Theorizing - After observation, the second step is the explanation of the unexplained phenomenon; this explanation is known as a theory. To account for the behavior of consumers why she buys a particular commodity, economists have developed the theory of choice.

      1. Identification of additional implications-  additional implications are the circumstances that cause particular action. Additional implications can either be verified or falsified. Scientific theories imply that there are circumstances under which a phenomenon/action will reoccur. People face tradeoffs when income is limited and can be used to buy different products and services.

      1. Further observation and testing - To determine the validity of a theory, scientists make further observations, gathering data to test the theory's additional implications. 

      1. Refinement of the theory- Sometimes the further observations are inconsistent with some or all of a theory's additional implications. Hence, the economist has to again identify additional implications of the new or modified theory, and put those to the test.

    2. Models and Mathematics: A model is a simplified representation of a phenomenon—a story or analogy that explains how part of the world works. A model establishes the relationship between cause and effect. Most economic choices are quantitative. Economists usually work with mathematical models. Mathematical models provide precision, whereas qualitative theories do not. Mathematical models allow us to be specific about our assumptions and prevents us from relying on loose or incomplete reasoning.
    3. Simplifying reasoning: models are simplified representations of the phenomena. Simplification allows us to understand complex phenomena. 
    4. Data analysis - The scientific method requires us to test our theories with data. Sources of economic data are: 
      1. Records
      2. Surveys 
      3. Experiments.

    Uses of microeconomics/why study microeconomics

    Microeconomics is very useful. Microeconomics offers us a wide variety of principles that can help us making decisions. It can help us to making important decisions. Microeconomic tools are essential for the analysis and evaluation of public policy.  

    1. To understand market and forecast changes: studying microeconomics helps in understanding how markets work and forecasting how various events impact the prices and quantities of products in markets.
    2. For decision-making: We use economic analysis in our day to day life, for instance, to decide how to spend a specified period of time, what career to pursue, and how much to spend and save the money we earn. Similarly, Managers also use economic analysis to decide how and what goods and services to produce, how much to produce, and what should be the price of them. Decision-making requires studying the choices made by households, firms, and government and how these choices affect the markets for goods and services.
    3. To evaluate government policies: Every economy is influenced by government policies. Through economic analysis, we determine how a government performs its roles in the economy. Government policies affect individual firms. The study of microeconomics helps in evaluating the effect of monetary, fiscal, regulatory, and trade policies on individual firms.

    Scope of Microeconomics

    Scope or subject matter of the microeconomics includes the following topics:
    Microeconomics- Meaning | Scope | Importance | Limitations | Uses
    scope of microeconomics

    Importance of microeconomics

    Microeconomics has a lot of importance for managers. The importance of microeconomics is clear from the following points:

    1. Microeconomics helps in formulating economic policies, which improve productivity and results in higher social welfare.
    2. Microeconomics explains the working of a capitalist/free economy where individual units (i.e., producers and consumers) are free to make their own decisions.
    3. Microeconomics explains how, in a market economy, individual units attain equilibrium position.
    4. It helps managers in formulating correct price policies. eg., 
      Customers are... price-sensitive than... previously..., and competitors ... Disney+ are ...undercutting Netflix’s prices - Netflix
    5. It helps in efficient employment/usage of resources by the entrepreneurs.
    6. It helps managerial economist to make conditional predictions and business forecasts.
    7. It is used to describe gains from trade, disequilibrium in the balance of payment and determination of the international exchange rate.

    Limitations of microeconomics

    1. Microeconomics fails to explain how the economy functions as a whole.
    2. It cannot explain the problems such as unemployment, poverty, illiteracy, and other problems prevailing at the country level.

    image: pixabay

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