Introduction to economics

Last updated November 20261 sectionabout 11 min read

Microeconomics is the study of the individual decision: the household choosing what to buy, the firm choosing what to produce and how, the market where the two meet and a price emerges. This chapter builds that machinery one piece at a time, from scarcity to market structures, and every later topic in the paper, national income included, is an application of the tools introduced here. The examiner tests it two ways: definitions and diagrams in the short questions, and a numerical or diagrammatic analysis of a market event (a tax, a drought, a price control) in the long ones. Both are covered, and every curve the syllabus names is drawn.

Economics exists because wants exceed the means of satisfying them. That single fact, scarcity, forces every person, firm and government to choose, and every choice gives something up. The section defines the discipline, its methods and the systems societies use to make those choices, and it ends with the consumer, who in a market economy is supposed to be sovereign and in practice is not quite.

Defining economics

The social science that studies how individuals, firms and societies allocate scarce resources among competing and unlimited wants. Lionel Robbins's definition, still the one examiners expect, is the study of human behaviour as a relationship between ends and scarce means which have alternative uses. Every phrase in it does work: ends (wants) are many, means (resources) are scarce, and the means have alternative uses, which is why choosing is necessary and costly.

Basic economic concepts

Economic resources are the four factors of production:

• Land: every natural resource, from the soil of Kenya's farms to Turkana's oil.
• Labour: human effort, physical and mental.
• Capital: produced means of production: machines, roads, buildings, not money, which is only a claim on them.
• Entrepreneurship: the organising and risk-bearing that combines the other three.

Human wants are unlimited and recurring. Scarcity is the gap between the two, and it forces choice. The opportunity cost of a choice is the value of the next best alternative given up, not the money spent: a student who spends a Saturday revising economics gives up the wages of a day's work, and that is the cost of the revision. Wealth is the stock of assets with value at a point in time; welfare is the wellbeing those assets and the goods they produce actually deliver, which is why a richer country is not automatically a happier one.

The production possibility curve

The production possibility curve (PPC, also frontier, PPF) is the first diagram in the paper and the one that makes scarcity, choice and opportunity cost visible at once. It plots the maximum combinations of two goods an economy can produce in a period with all its resources fully and efficiently employed and its technology fixed. Kenya's economy is reduced to two outputs, maize and manufactured goods, so the trade-off between them can be drawn.

• A point on the curve: full employment and productive efficiency; the economy cannot make more of one good without less of the other
• A point inside the curve: unemployment or inefficiency; both goods could increase at no opportunity cost, which is why a recession is described as a move inside the frontier
• A point outside the curve: unattainable with present resources and technology
• An outward shift of the whole curve: economic growth, from more resources (a larger labour force, new capital such as the Standard Gauge Railway) or better technology; a shift on one axis only means growth in that industry alone
• The slope at any point: the marginal rate of transformation, the opportunity cost of one more unit of the good on the horizontal axis measured in the good on the vertical axis

Scope of economics

Microeconomics studies the individual units of the economy, a consumer, a firm, an industry, a single market, and the prices and quantities that emerge in each: this chapter. Macroeconomics studies the economy as a whole, the aggregates of national income, the general price level, total employment, the balance of payments: the macroeconomics chapters of Part B. The two are the same subject at different magnifications, and the boundary is porous: inflation (macro) is millions of individual price rises (micro).

Methodology of economics

Positive economics describes and predicts what is, in statements that evidence can confirm or refute: a rise in the fuel levy will raise matatu fares. Normative economics prescribes what ought to be and rests on a value judgement no evidence can settle: the government should cap matatu fares. Economics uses the scientific method, observation, hypothesis, deduction of testable predictions, and testing against data, and it uses models that simplify with the ceteris paribus assumption, other things being equal, so that one cause can be isolated.

It remains a social science: its subject is people, who learn, anticipate and change their behaviour when the policy changes, so its laws are tendencies, not the certainties of physics, and controlled experiments are rarely possible.

Economic systems

Every society must answer three questions: what to produce, how to produce it, and for whom. A planned (command) economy answers them through the state, which owns the means of production and directs resources by plan, as the Soviet Union did and as North Korea still does; it can mobilise resources for chosen ends but lacks the price signals that tell it what people actually want, and it dulls incentive.

A free market (capitalist) economy answers them through private ownership and prices: consumers signal what to produce by what they buy, competition decides how, and income decides for whom; it is efficient and responsive but produces inequality, instability and the market failures the macroeconomics chapters address. A mixed economy combines the two, and every real economy is one.

Kenya's is a market economy with substantial state provision and regulation: private firms and prices allocate most goods, while the state supplies public goods, regulates prices in a few markets (fuel through EPRA, minimum wages under the Labour Institutions Act, 2007) and owns state corporations from KPLC to Kenya Railways.

Consumers' sovereignty and its limitations

In a market economy the consumer is said to be sovereign: what is produced is ultimately decided by what consumers spend their money on, because a firm that makes what nobody buys fails. The sovereignty is real but limited:

• Advertising and branding shape the preferences it is supposed to express.
• Unequal incomes mean a shilling votes, not a person, so the wants of the rich carry more weight than the needs of the poor.
• Monopoly power lets a single seller restrict the choice and set the price.
• Consumers lack the information to judge quality in complex goods such as medicines and financial products.
• Some goods, public goods such as street lighting and defence, would not be produced at all if left to individual purchase.

Each limitation is a reason the state intervenes.